Cost of credit weakens SME demand for it - 'no surprise' with punitive fees and charges.

The Confederation of British Industry (CBI) and the Institute for Turnaround (IFT) agreed yesterday that economic conditions will continue to be tough, especially in the first half of the year. However, when the CBI's economic forecasters predicted that growth will restart early this year, the IFT sounded a note of caution.

Today, we read the unsurprising news, in the Bank of England's report on Project Merlin lending to SME's, that banks' total lending to small businesses (SME's) has missed the agreed target by around £1bn. It should be stressed that some lenders have performed well.

As IFT-accredited turnaround professionals in all UK regions know, the reasons for this are not rocket science. Why would any sensible SME business owner or manager want to take on bank lending if interest is charged at above the odds and arrangement fees are punitive?

Banks are businesses too and it is their business to make a respectable profit from lending. Equally, SME's want to minimise their costs and they will opt for finding finance elsewhere if they need to. The problem will come when (in the fullness of time) order books start to fill and working capital becomes pressurised. There is a gap in the market for SME finance that should be the province of relationship managers up and down the country - but at the moment, they cannot take it as a 'given'.

There is a further, underlying issue that is acting as a drag on lending and on the economy too. Recent IFT research underlines the extent of the problems being caused by zombie companies whose potential is locked inside banks and is with institutions that hold the economic interest. 'Zombies' are unable to repay debt and may not fundamentally be viable businesses. Those zombie companies that could be viable busineses are gradually becoming weaker and lack development capital on affordable terms as well as lacking a viable business plan that they are capable of implementing.

The IFT is aware of zombie companies that are sapping business from outside companies including SME's. First, zombie companies may be competing on unfair terms because they are not fully paying back the principal due on debts (such as those owed to the Inland Revenue) and second, the presence of 'zombies' makes other companies reluctant to invest their cash reserves because zombies perpetuate the current climate of uncertainty.

Deal with the zombies; and review lending terms. Then, perhaps, a more widspread march down the road of economic recovery and growth, can begin in earnest.