MSME FUNDING - IS AFRICA GETTING IT RIGHT?

As Africa continues to rigmarole in its quagmire of self induced economic mess, all eyes seem to suddenly focus on the vastly ignored micro, small and medium enterprise sector. As research upon research continue to reveal the yeoman’s capabilities this sector shoulders, it has become increasingly imperative for the continent to take very seriously the contributions it makes to the economic growth and stability of the continent. From Addis Ababa to Accra, Capetown to Casablanca, it has become very glaring that, MSMEs contribute more that 50% of employment and GDP  in a number of countries. Yet the potentials of this sector had been so downplayed by a continent that continues to seek foreign direct investments with so much vigour. This neglect has led to the high mortality rate of small enterprises across Africa. Adequate finance is the recognized biggest factor stifling the growth of this most important sector and this continues to be the big problem.

ccess to finance is disproportionately difficult for smaller firms in the least developed countries; with 43% SMEs in these countries reporting access to finance as a major constraint to their growth and development compared to 31% in middle-income countries and 17% in high-income countries. Among emerging market regions, Sub- Saharan Africa
lags behind the rest of the world with only 5% of SMEs catered for by the major banks (top 5) in the region.
In addition, 52% of MSMEs in low income countries cited electricity as the most critical concern for growth (World Bank Enterprise Survey). Challenges such as these often
have multiplier effect and adversely impact economic growth.
  Besides poor infrastructure and financing constraints, taxation, corruption and regulatory bottlenecks are other issues that impede growth in the MSME segment. For
instance, India imposes a number of indirect taxes on transit of goods from one state to the other within the country. While the government has made effort to introduce a uniform pan-India tax on goods and services, long bureaucratic processes and political compulsions have not let that happen so far.
  Many of these problems are faced by MSMEs in developed economies as well, albeit in different order of severity than their emerging markets counterparts. These challenges alsovary by region, sector and size of the firm.
The European Commission and National Governments provide a structural, Europe wide support to the MSME segment under the Small Business Act (SBA). SBA was
adopted in 2008, driven by challenges faced by the MSMEs in Europe following the global financial crisis. Based on the outcome of the survey conducted by European Commission on the needs and requirements of MSMEs,
several policy measures were introduced to assist the segment.
  For most MSMEs in Africa, access to finance and poor infrastructures continue to be a major impediment. Electricity, poor road networks and insufficient storage facilities continue to hamper growth, especially in the vast MSMEs involved in the agricultural sector, which has the potential of being a major pedestal for the continent’s economic growth.
  The issue of infrastructure as well as revolutionalising MSMEs financing to bring it up to date with global standards needs the input of governments across Africa. It is important to note that enabling environment and favorable government policies have a direct impact on the ability of MSMEs to access finance.The MSME segment is defined differently in various countries. While businesses in this segment play a critical role in most economies, with significant contribution to employment generation, GDP, per capita income, etc., they share some common concerns across the various jurisdictions. Access to finance, poor infrastructure and stringent regulatory requirements are some of the most critical and common challenges that MSMEs face in emerging markets. While governments in many emerging market continues to establish support mechanisms and dedicated institutions to support small and medium enterprises; approximately50-60% remain unserved or under-served.
  For instance, in Nigeria, to encourage greater bank led financing, the Central Bank of Nigeria (CBN) has
increased its focus on the MSME sector through several lending and credit facilitation programs. In 2010, CBN established a N200 billion($1bn) Small and Medium Enterprises Credit Guarantee Scheme (SMECGS) for promoting access to credit to SMEs in Nigeria. As a part of another initiative, the apex bank introduced Small and Medium Industries Equity Investment Scheme (SMIEIS) in conjunction with the Bankers' Committee - an umbrella body comprising the CBN, Deposit Money Banks (DMBs)
and Discount Houses, to provide long term financing. Furthermore, the CBN also earmarked N200 billion ($1bn) for the refinancing/restructuring of bank's existing
loan portfolios to the Nigerian MSME / manufacturing sector.
  In addition, the Nigerian government launched
a US$500 million agric-focused fund to support a sector that boasts of very many micro and small enterprises. However, given the significant demand-supply constraints, the financing chasm has grown and MSMEs
continue to face significant funding challenges
to meet their business requirements. Many SMEs still find it hard to access these funds which most of the banks left lying fallow in the CBN for years, due to the perceived risks and the low interest yields.
  In Ghana, SMEs provide about 85% of employment in the manufacturing, retail, agricultural, IT, fashion and beauty and others sectors and were noted to contribute about 75% to the country’s GDP until the commencement of the country’s oil production.
In light of the above, it is no debate then that all efforts geared towards enhancing the development, growth and productivity of these businesses will go a long way to reduce the country’s economic woes and improve the living standards of Ghanaians.It is however unfortunate that SMEs are still enormously challenged by myriad factors and so are not able to perform as they should, with one of the main challenges being access to finance.
  In Ghana, the focus of policy interventions for the promotion of SMEs have generally been on supporting entrepreneurial training and labour skills development; promoting the transfer and use of appropriate technology within the SME sector; establishing linkages between small industries and large industries; and also increasing SME access to sources of funds, decreasing the strong dependence on collaterals in credit disbursements, as well as providing safeguards for the credit delivery system.
As part of efforts to bridge this SME financing gap, there have been several attempts by governments (both previous and existing) and other private institutions (both financial and non-financial) to fuel the flow of funds to these businesses.SME financing in Ghana over the years have taken place in two forms; either as an official scheme (that through which finance is provided to SMEs by government and or other international agencies); or financing provided by financial institutions   Some of the funds under these government schemes include the Business Assistance Fund, EDIF, Ghana Investment Fund, Ghana SME fund and recently, Microfinance and Small Loans Centre (MASLOC). The other channel through which money flows to the SME sector in Ghana is the private financial sector, particularly in reference to lending by the banks and non-bank financial institutions as well as private equity to SMEs.
  Contrary to the expectation of seeing an improvement in SME financing  in the presence of the different sources of finance, SMEs still do not get the required support they need because of factors such as inadequate institutional frameworks to regulate financing in the SME sector, inadequate legal and regulatory systems, SME managerial capacity issues and lack of training, inappropriate risk management, moral hazard and adverse selections.
 As banks and other financial institutions in Ghana have sought to broaden their loan portfolios, SMEs have become an increasingly attractive customer group. However, financial institutions in Ghana have been cautious with lending to SME groups because of high default rates and risks associated with the sector. Issues of moral hazard, the possibility of borrowers (SME owners) using the funds that they access from financial institutions for purposes other than the ones stated to be the basis for accessing the facilities; and cases of adverse selection, which relates to the paucity or inadequacy of information requirements of a lending contract, often make it difficult for lenders to extend funds to SMEs. In order to mitigate their risks, financial institutions still dwell much on provision of collateral as a requirement for lending to SMEs and also charge higher interest rates on loans as a safeguard for the lots of funds they are likely to lose through default.
  Now in regard to the effectiveness of government financial schemes, business owners who access funds from the government financial support schemes often do not fulfill their obligations of paying back in due time or even in certain instances do not or are not able to repay the loans at all. This leaves the schemes consistently in short supply of funds to support other businesses and sooner or later runs into extinction. Complaints of the disbursement of funds from these schemes characterized by nepotism and cronyism are also rampant. There have not been enough fairness and clarity in the disbursement and administration of these funds to businesses and this has left many SMEs which really need financial support out of the circle of support. On the other hand the lack of medium term to long term loans from non bank financial institutions which have been specifically tailored towards the needs of SMEs is a major impediment to growth in this sector.
  Kenya's financial sector has expanded rapidly over the last decade and lending to businesses—including small and medium size-enterprises has played a big part. As the Kenyan economy is enjoying a period of relatively high growth, the financial sector's ongoing ability to channel credit affordably and efficiently to SMEs will be needed to underpin inclusive and sustained economic development.
  The involvement of Kenyan banks in the SME segment has grown remarkably between 2009 and 2013 and that the growth has been driven mainly by domestic banks. The total SME lending portfolio in December 2013 was estimated at KSh332 billion, representing 23.4% of the banks' total loan portfolios. (The USD equivalent is USD 3.84 billion, based on the exchange rate on December 31, 2013. ) Furthermore, in the context of general growth of the financial sector, SME financing represents a growing share of the commercial banks' lending portfolios: in 2009 and 2011 the total SME portfolio represented 19.5% and 20.9% of overall lending, respectively. 

 Microfinance institutions are popular source of finances to SMEs in Kenya. They are more flexible with their lending requirements. Their growth is actually closely linked with that of the SMEs. There are three main types of business model that Kenyan banks use: the corporate oriented business model, the supply-chain oriented business model, and the microenterprise-oriented business model.
Banks that were identified as having a “microenterprise-oriented business model” were the most prominent players in this space. These banks tend to have extensive outreach networks due to their move from the mass retail/microfinance market into the SME space, and they have a large network of bank branches equipped with loan officers who are in a position to assess SME loans. Additionally, these institutions have embraced alternative outreach models such as agency banking and mobile banking.
   Despite positive developments over the last few years, the cost of credit for Kenyan SMEs remains high, and there is still considerable room for product innovation in the SME finance space. The large majority of SME loans are overdrafts. While overdrafts can be useful in getting money quickly, they expose SMEs to interest rate and liquidity risks, particularly if overdrafts are used to finance longer term investments. Agricultural SME lending remains very limited as well, representing a small percentage of the total portfolio, even though the sector is the backbone of the Kenyan economy.
   As is the case in many emerging economies, the high cost of credit is largely driven by underlying structural issues. These include the limited use of positive information sharing about borrowers in the market, inefficiencies in the collateral registration process, the cost of the judicial process, and high overhead costs. The collateral registry could be made more efficient in terms of the speed and the range of items accepted as collateral. Resolving the legal and regulatory challenges, especially regarding the contractual environment, will require significant reforms over a period of several years. Innovation in the SME financing space could also be driven by the development of factoring and financial leasing.
  Generally, SME financing has improved tremendously across sub-saharan Africa, especially with the introduction and massive promotion of financial institutions that are primarily targeted and fashioned out to attend to the peculiar needs of that very important sector of the African economy. However these microfinance and savings and loans institute have not been able to service the MSMEs very effectively despite huge private and institutional funds committed to them. The mortality ratio amongst MSMEs remains alarmingly high across sub Saharan Africa and this is also as a consequence of the high mortality rates of micro finance institutions. For example in Nigeria, the mad rush to set up microfinance as well as savings and loans institutions to service MSMEs that characterized the early 2000s has ebbed drastically, close to 75-80% have gone under in the past decade. There are some reasons for this. These reasons are invariably the bane of microfinancing in sub saharan Africa.
First many of these institutions operate on extremely hugh overhead costs, acquiring massive properties, vehicles and staff thus eating heavily into operations funds. Secondly, like their commercial banks counterparts, they lacked information on the peculiarities of the MSME sector. Thirdly the interest rates were such that its was practically impossible for many SMEs to service such loans and this is linked to the short term loan structures which in most cases are not realistic.
Today in Nigeria, only a handful of the initial micro finance institutions are remaining, who are financing a minute percentage of Nigeria’s 17.3million estimated MSMEs. However the short term nature and high interest rates is still a constant feature of these MFBs, despite the fact that they operate on a high volume of institutional funds from the likes of IFC. The major problem to the economy is that nearly 98% of SMEs in the real sector; agriculture, manufacturing, service etc do not have access to these funds since the structure only favours MSMEs in the retail trading sector.
These scenarios are common features in MSMEs financing in most countries all over Africa.
  It has become increasingly important for MSME finance to be revolutionalized across board. Long term funds need to be generated fo fund the sector, such that loans to this sector MUST not exceed 5-8% per annum. This invariably makes it mandatory for the loans to this sector to be medium term and long term in order to drastically reduce the risks involved in funding this sector. There is also the need for operators in this sector to drastically cut down on its overhead and operations costs in order to meet profit projections and continue in business.
  Finally, it has become a matter of necessity for policy review of the guidelines setting up to include pegging of interest rates, insistence on medium and long terms facilities  and other important strategies as the ways out, or the present problems will continue to mitigate against the growth of MSMEs in sub Saharan Africa.