Loan Repayment Performance in Community Development Finance Institutions in the UK William K. Derban Jane M. Binner Andy Mullineux ABSTRACT. This paperidentifiesthe key institutional factors that influenceloan loss rates in Community DevelopmentFinance Institutions in the UK. Tradi- tional bank credit assessment puts the blame of poor loan performance largely on the borrower.This is the first study of its kind to examine institutional character- istics of 16 CDFIs in the UK and assess their influence on the loan loss rates.The resultsshow that 8 out of the 13 institutionalcharacteristics examined significantly influence loan repayment performance. Although a vast body of literature supports the view that borrower char- acteristicsare highly influential, our results provide strong evidence to show that institutionalcharacteristics are equally important and both factors need to be taken into account if loan repayment performance isto be improved. 1. Introduction The importance ofmicro businesses in the UK economy has received attention both from Gov- ernmentand researchers (Parkhouse and Drury, 1994; Bank of England, 2000; Collin et al., 2001).Small, micro and socialbusinesses espe- cially in deprived areas in particular, potentially face more difficulty in obtaining credit from the traditionalbanks than larger businesses (Bank of England,2000)despite the factthat they have been identified as key to the Government’s regen- eration and neighbourhoodrenewal agenda (Social Exclusion Unit, 2000). The financialgap between what small,micro and socialbusinesses in deprived areas need and what the banksprovide isworsened by a 29% reduction in bank branches in the UK between 1989 and 1999 (BBA, 2000). These businesses pro- vide income, security,a way outof poverty and help supportthe localeconomies in which they operate. In response to these concerns, the Labour government in 1998 setup Policy Action Teams (PATs). 2 The PAT 3 report (1999), which focused on enterprise promotion in deprived areas, identi- fied high-perceived risks of borrowers not repaying the loan either on time or at all as one of the key factors that make it difficult for small and micro businesses to raise finance generally and particu- larly influence the banks’ unwillingness or inability to lend to deprived businesses. Another important related factor is high transaction costs. We how- ever, concentrate on the former. In recentyears,increasing attention has been given to alternative ways of providing financial services,particularly loans, to micro businesses in deprived areas that cannot receivebank finance.One of the alternativessupported by Small Business Economics (2005) 25: 319–332 Springer 2005 DOI 10.1007/s11187-004-6483-y Final version accepted on January 29, 2004 William K. Derban Centre for Growing Business Nottingham Business School Nottingham Trent University Burton St. Nottingham NG1 4BU UK Jane M. Binner Aston Business School Aston University Aston Triangle Birmingham B4 7ET UK E-mail: j.binner@aston.ac.uk Andy Mullineux Birmingham Business School University of Birmingham Edgbaston, Birmingham B15 2TT UK