By Nick Stainthorpe on Monday 4 July 2016
By Nick Stainthorpe, Partner, Reed Smith LLP
Alternative capital providers are generally non-bank lenders or intermediaries to lending by non-banks. Some are regulated; while others are not. Alternative finance embraces lenders from the smallest participants in peer-to-peer platforms to multibillion dollar global alternative lending funds. They cover product areas such as leveraged finance, real estate finance, factoring, leasing, consumer lending and trade finance.
The referendum has two key consequences for the alternative finance industry.
The first is economic. Alternative lenders are not funded by deposits, central banks or short-term wholesale funding tools such as commercial paper or the overnight repo market. As a result, they need higher returns and tend to operate where banks cannot. Financial stress in the short-term funding markets could cause banks to stop or delay lending to some borrowers who are otherwise perfectly sound. Credit rating downgrades (both to the UK itself and potentially to UK-based banks) are also likely to have a much greater impact on the traditional financial sector, both in terms of their funding costs and the investments they can make. However, the referendum is unlikely to affect the health of many businesses for some time, even within the UK, provided they are not dependent on new investment. For example, the construction industry is being affected immediately, but the food and beverage industry is less likely to see immediate issues. Where there is increased demand from stable businesses for funding, alternative capital providers can move fast to provide short-term, secured finance where needed. This in turn offers attractive returns to investors and helps SMEs through difficult times.
The second is regulatory. It is possible that the UK leaving the EU (depending on how negotiations progress) would make it more difficult for UK-regulated financial institutions and funds to invest in or raise capital in other EU states. In any event, there must be a degree of regulatory and political uncertainty as to how easy it will be for financial services businesses established in the UK to access EU markets. Alternative capital providers are either unregulated, or at least much less regulated, than banks. This could create opportunities for lenders who have less reason to be concerned about regulatory pressure or political interference. Even some highly regulated jurisdictions such as France, where banks have a traditional monopoly on lending, offer opportunities for unregulated lenders in the form of private placements and mini-bonds. At the very least, an alternative lender may need to spend less time and resources than a bank on studying what the regulatory impacts could be.
When it comes to capital raising, there could be more challenges. This is becoming an increasingly protectionist area, even within the EU. However, some less regulated financing tools, such as securitisation vehicles or raising capital in the form of loans from institutional investors, may provide attractive alternatives. It remains to be seen whether the Capital Markets Union project, an initiative originally pushed by the UK to increase the access of European businesses to capital markets funding, will continue to progress.