Draft Business Contract Terms (Assignment of Receivables) Regulations 2018
(Limited Text - Ministerial Extracts only)
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The Parliamentary Under-Secretary of State for Business, Energy and Industrial Strategy (Kelly Tolhurst)
I beg to move,
That the Committee has considered the draft Business Contract Terms (Assignment of Receivables) Regulations 2018.
It is a pleasure to serve under your chairmanship, Mr Sharma. This is the first time I have served on a Committee as a Minister, and I am extremely pleased to bring forward these positive draft regulations. I am also pleased that the shadow Minister, the hon. Member for Sefton Central, is on the Committee, because he is a Medway person, too—we grew up in the same area. It is great that there are two people on the Committee who know Medway well.
Britain’s 5.7 million small and medium-sized enterprises are the backbone of the economy, accounting for more than half of turnover and 60% of employment in the private sector. Finance is the lifeblood of those businesses, yet many of them are denied by their customers the ability to access one particular finance option. That is the anomaly that the draft regulations will put right. In future, SMEs will, if they choose, be able to raise finance on their invoices more easily.
The most recent figures for asset-based finance show that total advances stand at £22 billion, of which more than £20 billion is invoice finance. Around half that is to large businesses, so invoice finance advances to SMEs amount to approximately £10 billion. In comparison, bank loans and overdrafts to SMEs were £165 billion at the end of 2017.
Invoice finance has real advantages—it is flexible, immediate and supports businesses to grow—so why is take-up so low? The answer is that many customers prohibit their suppliers from assigning invoices—or, more accurately, receivables: the right to receive the proceeds from an invoice. That assignment is essential for invoice finance to operate. Such restrictive terms are found in many purchase contracts. An SME supplier is typically unable to negotiate changes. If it wants a contract, it had better just accept the standard terms, otherwise the work will be offered to a competitor.
Why do those contract terms persist? Some such clauses are written as a general catch-all to prevent suppliers from subcontracting services. However, those standard terms are so wide that suppliers are equally prevented from assigning their invoices to finance providers. In other cases, customers may not want to deal with an invoice finance company. They know that the imbalance of power means their small suppliers are unlikely to act against them if they impose long payment terms or simply pay late. A finance company is a different proposition. Whether such onerous terms exist through inertia or deliberate intent, their effect is the same: they prevent suppliers from accessing the finance they need to thrive and grow.
The draft regulations will put an end to that situation for SME suppliers making routine supplies of goods and services. They will allow providers to offer invoice finance even where restrictive contract terms are in place, knowing that those terms will have no effect. The draft regulations do not require any contract to be redrafted, nor are they in any way retrospective. Existing agreements will continue to be enforceable, and the same standard drafting, including clauses prohibiting assignment, may still be used for contracts entered into on or after 31 December this year. Those clauses will simply have no effect. Therefore, the impact of the draft regulations will be felt gradually, as new supplier relationships are created. This is a simple mechanism with no compliance or reporting burden.
To offer invoice finance, providers will simply need to assure themselves that the supply contract was entered into on or after 31 December this year and that none of the exemptions apply—for example, that the supplier is not a large enterprise. The change will also unlock additional finance for existing clients where advances are currently restricted due to prohibitions on assignment imposed by some of the SME’s customers. The position for both supplier and finance provider will be simpler and more certain, which will help to create the significant benefits that are expected to flow from the regulations.
Two direct benefits are described in the impact assessment, which reflect the two elements of a typical invoice finance arrangement. The first benefit is a reduction in the discount fees charged to suppliers, which reflects the reduced risk that the finance provider will be unable to collect payment because the assignment was not valid. The annual savings to business from lower discount fees are assessed at £13.7 million. The second benefit is a reduction in the service charge based on turnover. That benefit is assessed at £46.1 million. Both benefits result from the reduced costs incurred by finance providers being passed on to SMEs in a competitive market.
Finally, there will be significant indirect benefits from additional finance becoming available and allowing suppliers to take advantage of new business opportunities. Those benefits are assessed at £84.6 million. All those benefits are calculated from survey evidence and follow-up research, as set out in the impact assessment. The overall outcome is a net present benefit to business of £966 million, which I am sure all hon. Members will welcome.
As with any intervention, it is important to ensure that the benefits do not give rise to unintended consequences. Acting to make contract terms ineffective is a powerful measure, which is typically used where there is an imbalance of power between the parties that cannot be corrected in any other way. After the consultation, and even after an earlier version of the regulations was laid, the legal profession raised concerns about the potential impact of the regulations on the use of English law. As hon. Members will know, English law is one of this country’s most valuable exports and forms the basis for contracts in areas as diverse as aircraft leasing, project finance and infrastructure.
We listened carefully to those concerns and my predecessor, my hon. Friend the Member for Stourbridge (Margot James), withdrew the instrument so that they could be properly considered. Following extensive discussions, I am glad to say that these regulations incorporate changes that meet those concerns. I thank all those involved from the City of London Law Society and the trade body UK Finance who have ensured that the original aim was met without putting at risk the position of English law as the leading choice of governing law for international agreements.
The regulations will set suppliers free to access invoice finance when they wish, without being prevented from doing so by their customers. They will do this while preserving the attractiveness of English law overseas and they will bring significant benefits, with a net present value to business of £966 million.
Fiona Bruce (Congleton) (Con)
On a point of order, Mr Sharma. Having heard the introduction to the debate, I draw hon. Members’ attention to my entry in the Register of Members’ Financial Interests. I am a member of an SME LLP firm, but it has had no involvement with invoice finance in relation to its own contracts during the whole of its existence.
Kelly Tolhurst
I am grateful for the Committee’s consideration of the regulations, and to the hon. Gentleman for his contribution to this important debate. I will touch on a number of the elements he rightly brought up.
The hon. Gentleman is absolutely correct that there are two types of benefit to invoice financing: a factoring element and a discounting element. He is also right that it is one tool within the overall finance packages from which businesses are able to draw. The measures before us will aid the growth of invoice financing so that where suppliers want to enter into a contract agreement with invoice financing, nullifying the term allows them to do so. However, invoice financing on its own does not solve the problems with accessing finance. It is one tool—the regulations try to widen the scope for businesses to access it, but there are two different elements.
It is true that many small businesses have applied for finance with banks, but many have not. They decided that they would rather stunt their growth than borrow because of the fears around long-term borrowing. We know, however, that they will often be willing to improve their cash flow, which enables them to grow and invest. Without the ability to access invoice financing, many small businesses would not be able to take up the contracts that they want to, which enable them to grow.
Rushanara Ali (Bethnal Green and Bow) (Lab)
The Minister will be aware that there is a shortfall in lending to SMEs of £35 billion relative to the pre-crisis period. She referred to just under £1 billion that would be made available through this policy, which is welcome, but is a drop in the ocean compared to the bigger challenges facing SMEs. SMEs have created 2 million jobs since 2010 and power our economy. With the uncertainty of Brexit, life will get worse for SMEs. Will she say something about the broader picture of what the Government will do to address the pre-crisis gap of £35 billion? That is the bigger question that the Government need to address. Lots of work had been done to address the lending issues facing small businesses, but as she knows from her impact assessment, it has not happened to the extent that it needs to.
Kelly Tolhurst
The Government are looking at many different ways to increase small businesses’ access to finance. Having run a small business, I know how crucial that is. While this statutory instrument represents just under £1 billion of net present benefits, it is a gain. Because we are making this decision, this element of finance will be available to more SMEs, which can only help. It will also aid the ability of new invoice financers to come into the marketplace, which we welcome, because that brings more jobs and more receipts into the Exchequer.
I have covered the cash-flow issue. Many businesses will not now take an overdraft. Instead they can take out finance invoice and manage their business needs as a small business. It is difficult for small business owners to get access even to what we might regard as small sums, so many suppliers will use this as an ongoing tool. Factoring may suggest that a company has been in financial difficulties. That factoring can now take place on a private and confidential basis, so that customers are not aware of that financing on their faced invoices.
The hon. Member for Sefton Central mentioned the small business commissioner, whom I was pleased to meet for the first time last week. He is doing wonderful work with small businesses in the battle against late payments to ensure that they can receive some of the moneys they are owed. The hon. Gentleman is right to mention the prompt payment code, particularly in relation to Carillion. However, he will know that we are looking to consult widely on late payments. Since I have been in my post I have been particularly concerned about that, so I have been looking at it personally. I look forward to launching that, so that we can assess it and, as a Government, take forward more measures to help small businesses.
We all agree that businesses should be able to access the finance they need, choosing whatever options are most suitable for them. The Government are committed to ensuring that businesses can secure the finance they need to invest and grow. It is not about favouring one type of finance over another. Invoice finance will not be the right choice for every business, but that should be a decision made by individual entrepreneurs, not made for them through onerous terms imposed by their customers. The regulations ensure that restrictive terms will no longer apply to SMEs while protecting freedom of contract for large enterprises. That change will allow thousands of small businesses to access invoice finance for the first time and will reduce the cost for existing and new clients alike. I commend the regulations to the Committee.
Question put and agreed to.