Enough stick! Where’s the carrot for SMEs to go green?

SMEs are falling behind in the race to net zero. The threat of a regulatory ‘stick’ hangs over them, with companies likely to face repercussions in future if targets are not met. Understandably, there are also fears of being accused of 'greenwashing'. Indeed, more than four months on from COP26, and with rising demand to tackle carbon emissions, there remains no UK government strategy to incentivise small businesses to address the issue. 

Without enough capital currently available to make it a priority, smaller businesses lack encouragement. The majority do not yet measure their greenhouse gas (GHG) emissions and have not developed an emission reduction strategy, of which access to debt funding would be an important enabling factor. To expedite the latter, there is growing advocacy within the ecosystem for the government to offer guaranteed green loans to SMEs as they grapple with the net zero transition. 

A need for solid financial support

Accounting for 99.2 percent of the business population, SMEs generate just over half of all turnover in the private sector. Significantly, they are also responsible for 30 percent of all current UK greenhouse gas emissions, and around half of total emissions from businesses. It’s clear, then, that SMEs have a critical role to play in helping the country reach its target of reducing emissions by 78 percent by 2035, and achieve net zero emissions by 2050. 

Although climate commitments such as those outlined by the government are becoming more prevalent among businesses, research by the British Business Bank (BBB) found that only around half of smaller businesses consider decarbonisation or reducing their environmental impact to be a near-term priority. For more than a third of SMEs (35 percent), the reason for this reticence is the cost associated with making the net zero transition – larger firms have a much deeper pot of capital to dip into to help their cause. 

According to Catherine Lewis LaTorre, chief executive of BBB, “action to mitigate the impacts of climate change is at a tipping point, and it is crucial for smaller business owners to feel empowered, informed and supported in making the relevant steps to decarbonising their business if the UK is going to meet its wider net zero objectives by 2050”.

Some progress has already been made - hundreds of UK SMEs have made a significant commitment to net zero via the SME Climate Hub and the Department for Business, Energy, and Industrial Strategy’s ‘Together For Our Planet’ campaign. However, efforts to achieve net zero emissions will soon start to waver without solid financial support and policy changes from the government. 

Only one in 10 SMEs measure their carbon footprint

There is a direct correlation between economic productivity of the UK’s small businesses and the nation’s carbon emissions. To reverse this, businesses require the infrastructure and support to help embed sustainability considerations into their operations, products and services. Although 75% of SMEs are aware of the government’s commitment to reach net zero by 2050, one in four said they did not know how the goal would affect them. An even higher proportion, 85%, do not see reaching net zero as an opportunity for investment.

A poll conducted by O2 and the British Chambers of Commerce (BCC) last summer surveyed over 1,000 businesses - 94 percent of which were SMEs. Only one in 10 said they were currently measuring their carbon footprint. 

There is currently no legal requirement in the UK for SMEs to measure and report emissions. In contrast, larger businesses, with at least 250 employees and an annual balance sheet total over £18m, or an annual turnover greater than £36m have to conform with the Streamlined Energy & Carbon Reporting (SECR) framework.

It surely won't be long before we see measures announced for the SME community. 

But the drive to net zero among SMEs will remain in stasis without the provision of green finance to enable them to make the changes required. Nearly a quarter of businesses (22 percent) said they were prepared to access external finance to “support net zero actions” in the next five years, according to BBB research. Yet financial products that marry both commercial competitiveness and ESG-related benefits have not been forthcoming. 

There are several reasons for the limited array of green finance solutions on the market. On the supply side, there is a lack of knowledge and expertise among lenders, although we are beginning to see more lenders joining our green finance marketplace to deliver products and services which support independent businesses.

A specific and agreed framework for SMEs to make a determination of what constitutes greener practice has also been lacking. Those that measure GHG emissions typically use a framework based on standards developed by organisations such as the GHG protocol. There are also guidelines available that help to define what is a 'green' activity and what isn't. For example, there is the EU taxonomy, Green Bonds Principles and Green Loan Principles (syndicated loan markets). In fact, HSBC's sustainability team actually used the Green Loan Principles framework to develop the SME green loan fund. But there is no SME green loan framework that incorporates the nuances that exist for them or an accredited training scheme that can enable SME credit and product departments to upskill to understand green finance better.

Finally, there is a lack of capital for lenders to create competitively priced green finance products. 

Proposing green finance measures

So what’s the answer? The government needs to combine regulatory measures with two green finance initiatives which provide the right incentives to encourage smaller businesses to act. 

Firstly, a government-backed guarantee of up to 50 percent of losses, in respect of eligible ESG-related lending to small businesses, should be administered through the state-owned BBB in a similar manner to the Bounce Back Loan or Coronavirus Business Interruption Loan schemes. Secondly, there needs to be a £1bn ESG Lending Pool of capital, again run by BBB and match-funded by institutional private capital, to be used by lenders to originate loans to ESG-oriented businesses and for ESG-related purposes. 

With a lack of financial support the biggest impediment to reaching its 2050 goal of net zero, the government must do more to incentivise those companies for whom cutting carbon emissions can prove too costly. We hope that proposals such as those set out above will go some way to providing the UK’s SMEs with the funding and encouragement they need to keep pace with their larger peers in the race to net zero. 

SMEs are the economic backbone of the UK and so providing access to the best financial options will allow them to implement more sustainable processes, business models and consumption patterns, paving the way for a green future.