When Did Borrowing Less Become a Mistake?

I have a particular distaste for simplistic advertisements dressed up as research. Businesses are entitled to promote their services, but a commercially convenient conclusion does not acquire the authority of research simply because it is accompanied by calculations.

In development finance and commercial mortgages, I am particularly sceptical of the suggestion that borrowing less must mean missing an opportunity. The argument runs broadly as follows: lenders differ substantially in how much they will advance, so borrowers obtaining less commit more of their own capital, undertake fewer projects and achieve less than they otherwise could.

There is a useful observation within that argument. There is also a considerable amount left unexplained.

Different lending amounts establish that different financing options may exist. They do not establish which option best serves the borrower, whether additional projects would be commercially sensible, or whether the borrower could support them through completion. Treating those conclusions as though they follow from the loan comparison reduces a multidimensional decision to a single, marketable number.

My work is to arrange finance. I want borrowers to understand the options available to them. But a borrower can investigate the market thoroughly and still conclude that the smaller facility is appropriate.

That is not necessarily a failure to identify an opportunity. It may be the result of understanding it.

Why do property finance lenders offer different loan amounts?

A lending market is not simply a collection of interchangeable providers, some of whom have failed to offer enough money. Different lenders serve different commercial niches. Even within a single institution, the assessment can vary by property type, borrower experience and repayment structure. Published commercial mortgage criteria demonstrate these distinctions, including different requirements for experienced operators, first-time buyers and particular property sectors. ^[1]

Consider the difference between financing a fully let building and financing one whose proposed income depends on refurbishment and a successful letting programme. The second requires additional judgements about expenditure, execution and future demand.

A lender specialising in that work may understand the proposition better than a generalist. It may also require a different return or additional protections. The amount offered does not tell us which explanation applies.

The same distinction arises when lenders assess an identical development differently. One may be more comfortable with the developer’s experience, the proposed construction method or the anticipated exit. Another may take a more cautious view of the valuation or the resources available to meet overruns.

Neither position should be accepted without examination. The more cautious lender may have misunderstood the opportunity, but it may also have identified a vulnerability which deserves attention.

Finding someone willing to lend more does not, by itself, resolve that vulnerability. It establishes that another institution is prepared to consider the exposure on its own terms.

For a broker, understanding that difference is more important than ranking the amounts offered.

Does higher leverage mean higher borrowing costs?

A larger loan in pounds is not necessarily a more highly leveraged loan. The relevant comparison is the debt relative to the value or costs supporting the transaction, alongside the income and resources available to repay it.

Where additional borrowing increases leverage against the same asset, the margin between the debt and the value supporting it becomes smaller. Under otherwise unchanged assumptions, a fall in value then has less distance to travel before the lender faces a shortfall.

That exposure can influence pricing. Lending rates may include compensation for expected credit losses, alongside funding costs, capital requirements and other commercial considerations. Central-bank research distinguishes these influences rather than attributing every pricing difference to credit risk. A higher rate is therefore not a direct measure of an individual borrower’s probability of failure, but neither should its risk component be ignored. ^[2]

To the extent that a premium compensates for credit risk, it is payment to the lender for accepting that risk. It does not protect the borrower from the consequences.

This is where the language of finance can become detached from the experience it describes. An expected loss is a financial estimate. When that loss arises from a failed development or a business unable to meet its obligations, the consequences for the borrower are practical and personal: exhausted capital, lost control of a property and, in some cases, the end of the business.

Higher-leverage lending has a legitimate role. The point is not to condemn it, but to recognise what its price may represent. Presenting the additional advance as an opportunity while overlooking the exposure being accepted is not a complete commercial assessment.

A lender’s manageable loss may end the borrower’s business

A sufficiently diversified and capitalised lender may be able to absorb losses on individual transactions while continuing to operate. Banks hold capital partly to provide that loss-absorbing capacity, although it does not make them immune to failure. ^[3]

The borrower may have no comparable capacity. A developer’s available wealth may be concentrated in a small number of schemes. A commercial borrower may depend on one trading business, with the premises and personal financial position closely connected to it.

The same transaction can therefore present acceptable exposure to the lender and potentially terminal exposure to the borrower.

The loan has been repaid, but the borrower has lost the capital committed to the investment. An assessment based solely on lender recovery would miss the significance of that outcome.

There can also be consequences before a default occurs. The Bank of England distinguishes lender resilience from borrower resilience, recognising that indebted businesses may reduce investment or employment to meet debt payments. Continuing to repay a loan does not necessarily mean that the borrowing is leaving the business in a healthy position. ^[4]

Where personal guarantees have been given, exposure may extend beyond the borrowing company. The Insolvency Service warns that a guarantee can expose a director’s personal assets to claims. The extent of that exposure depends on the agreement and circumstances and should be considered with appropriate legal advice. ^[5]

A lender’s willingness to accept an exposure is not evidence that the borrower can afford the corresponding loss.

The parties have different financial positions, protections and capacities to recover.

The Kelly principle: why the largest loan may not support long-term growth

In my earlier article, Sixty Percent, I examined property leverage through the Kelly principle. The distinction matters here: seeking the highest expected return from a transaction is not the same as allocating capital to maximise long-term compound growth.

Under the illustrative model, additional leverage can increase the expected return on equity while reducing estimated long-run growth. The financing may therefore look more attractive when viewed as a single transaction than when considered as part of the borrower’s continuing business.

For a developer planning several projects, the relevant assessment includes what an unsuccessful scheme would leave available for those that follow. For a commercial borrower, it includes whether the business could continue operating and investing after a period of weaker income. Counting opportunities enabled by additional debt without examining how losses affect that sequence is incomplete.

The Kelly principle does not establish 60% as a universally correct loan-to-value ratio. The earlier article’s model is illustrative, and its result depends on its assumptions. Its contribution is a discipline for assessing exposure, not a prescribed lending limit.

A claim that additional borrowing enables more projects must examine its effect on the borrower’s capacity to continue, not merely the number of initial equity contributions they can afford.

Development finance: does borrowing more mean completing more projects?

For a developer, reducing the equity committed to a scheme can be valuable. A funding structure which consumes every available pound at the outset may leave the business unable to respond to an unexpected requirement.

However, retaining the released capital and committing it to another development are different strategies. One preserves resources; the other adds obligations. An argument that moves from “less equity required” to “more projects completed” needs to examine what happens between those two points.

I would begin with the combined cash requirements. Can the developer support each project when expenditure is earlier than expected, receipts are later, or both occur together? Is money genuinely available to meet an immediate demand, or does access depend on satisfying a drawdown condition?

An undrawn facility balance should not be treated as an unrestricted cash reserve. Where the agreement makes funding conditional on completed work or other requirements, those conditions must be reflected in the cash-flow assessment. I have examined the distinction between funded build costs and cash actually available in a separate article.

The relationship between projects also matters. Different sites may spread certain risks, but separate addresses do not establish independent exposures. Developments relying on similar buyers, selling conditions or refinancing assumptions can encounter difficulties at the same time.

Suppose several exits are delayed together. The developer may then face overlapping requirements for interest, holding costs and additional expenditure, all drawing on the same remaining resources. The ability to fund the initial equity contributions tells us little about the ability to meet that situation.

A persuasive case for expansion must examine those obligations. Counting the projects that could be started is not a substitute for establishing how the business would complete them.

Commercial mortgages: should you borrow the maximum?

For a business buying its premises, the smallest deposit is not a complete commercial objective. Retaining cash for stock, wages, equipment or an interruption in trading may justify additional borrowing. But the cash preserved on completion must be considered alongside the future income committed to repayments.

The question is whether the combined property and trading position is stronger, not simply whether the purchase requires less cash.

For a commercial property investor, additional debt does not, by itself, increase the rent generated by the existing building. Released capital may produce income elsewhere, but the merits of that investment must be assessed rather than assumed. The extra borrowing cannot be credited with a future return before the proposed use of the money has been examined.

Repayment capacity is also a separate consideration from security value. Allica’s published commercial mortgage criteria, for example, include debt-service-cover requirements, which assess income against debt payments, and distinguish between fixed-rate and variable-rate repayment assessments. Satisfying a loan-to-value requirement does not remove the need to examine the income supporting the payments. ^[1]

In assessing a commercial mortgage, I would also want to understand the resources available for a vacancy, substantial expenditure or a weaker refinancing position at maturity. A structure which depends on every assumption being achieved leaves the borrower with little room to respond when circumstances change.

Additional borrowing may remain the appropriate choice after that work. Its justification, however, must extend beyond the deposit saved.

How should borrowers compare property finance offers?

The starting point is to establish what each facility actually provides, when the money becomes available and what the borrower must do to obtain it. A total facility figure is not a substitute for a funding schedule.

The next question is what the additional borrowing changes. Does it preserve essential liquidity, replace more expensive debt or enable a commercially sound transaction? What additional interest, fees, repayments, security or guarantees accompany it?

Those questions connect the financing to its purpose. Without them, the comparison risks measuring the size of the loan rather than its usefulness.

A difference between the highest and lowest lending amounts is a range. It is not a measure of money lost by the borrower choosing less.

To establish a missed opportunity, the analysis would need to identify a realistic alternative, explain what the additional capital would achieve, account for its cost and assess the resulting obligations. It would also need to distinguish finance which appears available in a model from a facility actually offered on terms the borrower can meet.

There is a similar problem when selected lending outcomes are used to compare methods of sourcing finance. Assigning the largest advance to one approach and the smallest to another illustrates two outcomes. It does not establish that the sourcing methods caused them.

Percentage returns can obscure the issue further. Reducing the equity committed to a project can increase the percentage return on that equity even where additional financing costs reduce the profit in pounds. That trade-off may be worthwhile, but its value depends on what happens to the capital retained.

Research must allow borrowing less to be the better answer

Commercial research can be useful. A business may hold valuable data and have a legitimate reason to analyse it. My objection arises when the definition of success already contains the proposition being promoted.

Rank facilities by amount advanced and the largest loan will win. That tells us which loan is largest. It does not independently establish which borrower is better off.

A meaningful analysis must be capable of finding that the smaller facility is preferable. If its method excludes that possibility, it has not tested the decision to borrow less.

This is where, in my judgement, research becomes a sales pitch. The commercial preference is placed inside the measure of success and then presented as though the analysis discovered it.

Repeating the conclusion in a newsletter or news article does not supply the missing evidence.

When does borrowing less become a mistake?

Borrowing less can be a mistake. It may commit cash which the business needs elsewhere, prevent a sound transaction from proceeding or leave the borrower unable to respond to foreseeable demands. An assessment which ignores those consequences would be equally incomplete.

But the recommendation to borrow more carries its own burden of explanation. It should establish the purpose of the additional debt, the value of the capital retained and the borrower’s capacity to meet the obligations under less favourable conditions.

That is the judgement I regard as central to a broker’s work. Searching the market informs it; the largest result does not settle it.

My distaste for advertising presented as research is therefore not simply a complaint about presentation. It concerns a commercial decision being made to appear easier, and more conclusive, than the evidence allows. The omitted considerations may be precisely those which determine whether the borrower survives a setback.

A lender may be able to price and absorb the possibility of failure. The borrower must consider whether that failure would leave a business to carry on with.

Borrowing less becomes a mistake when a properly assessed alternative would have served the borrower better. Not when a search produces a larger number.