Introduction to SME financing importance of SME’s to the economy
The Ministry of Finance defines SMEs as businesses with a turnover of less than N100 MM per annum and/ or less than 300 employees. Studies by the IFC show that approx. 96% of Nigerian businesses are SMEs and SMEs represent about 90% of the manufacturing/ industrial sector in terms of a number of enterprises. In Nigeria, SMEs are distributed by clusters within regions. PWC adjudges that SMEs contribute 48% of national GDP, account for 96% of businesses and 84% of employment of Nigeria. According to the World Bank, Small and Medium Enterprises (SMEs) play a significant role in most economies, particularly in developing countries. SME’s represent about 90% of businesses and more than 50% of employment worldwide. Globally it is more of the same. According to a World Bank report, there are more than 600 million jobs will be needed by the year 2030, and SME’s have been identified to be pivotal to the creation of these needed jobs. Thus, the development of SME’s worldwide has been placed on a pedestal of high prominence and importance. Thus, it will not be wrong to call SMEs the lifeblood of any thriving economy.
However, it is not all rosy; any SME business owner will tell you that running a business is back-breaking, blood-curdling, patience-driven work. A detailed conversation with several small business owners revealed that some of the problems that keep them up at night include:
- Accessing finance
- Uncertain Regulatory environment
- Difficulty in scaling organically
- The Economy
- Tax Compliance
- Cash Flow and money management
- Not Diversifying Client Base
- The battle between Growth vs Quality
- Founder Dependence
- Staying Passionate in difficulty
The development of SME’s is tied to the critical factor of access to finance as it has been reported to be the second biggest obstacle facing SME’s with the unbanked adults being the biggest obstacle. This discussion will thus focus on the issue of financing MSMEs in Nigeria
Importance of obtaining financing
Finance apart from being a key factor of production is also the elixir or glue that enables the business to expand, grow and flourish. Therefore, the means of obtaining finance is pivotal to making key business decisions such as the ability to employ staff, ability to purchase goods, acquire licenses, intellectual property or expand on services provided. Similarly, certain types of businesses are exposed to peculiar risks, and as such, the peculiar risk in the sector should play a factor in deciding the means of financing a business.
Conventional sources of SME financing
Conventional sources of SME financing are financing schemes that are offered by recognised financial institutions or banks and which are not guaranteed by governments. Instead, conventional finance sources are provided according to governmental regulations. The most conventional form of financing an SME is through obtaining a bank facility (Loan). The loan may be taken in the name of an SME if it is a company or by the proprietor if it is a business name. For most SMEs, this conventional method of financing is not as favourable as they may desire to stimulate growth in SMEs properly. The International Finance Corporation (IFC) estimates that 65 million firms, or 40% of formal micro, small and medium enterprises (MSMEs) in developing countries, have an unmet financing need of $5.2 trillion every year,
In Nigeria, the situation is dire. The first problem is that the majority of Nigerian Adults (60%) are unbanked currently. For those that are banked, they face a daunting task of obtaining double-digit interest rate loans from most conventional. As a result of this and other problems. Most commercial banks statistically fund SMEs in Nigeria. To help increase the lending culture in Nigeria, the CBN increased the loan to deposit ratio for commercial banks. This has been adjudged a success by the Apex bank as it is now reported that there has been an increase in lending to SMEs
Some initiatives on SME financing
In Nigeria, the Development Finance Project supports the establishment of the Development Bank of Nigeria (DBN), a wholesale development finance institution that will provide long-term financing and partial credit guarantees to eligible financial intermediaries for on-lending to MSMEs. From statistics, as at May 2019, the DBN had provided credit line to PFIs for on-lending to MSMEs has disbursed US$243.7 million, reaching nearly 50,000 end-borrowers, of which 70% were women, through 7 banks and ten microfinance banks.
Other government initiatives include:
- FGN special intervention fund for MSMEs (National Enterprise Development Programme) through the Bank of Industry – Amongst other things provides subsidised loans to Micro, Small and Medium Enterprises (MSME) at single digit (9% per annum) all-inclusive interest rate. In total, there are over 20 funds that SMEs can take advantage of available with BOI. The interest rates range from 5 to 14 per cent per annum.
- Agricultural Small Medium Enterprise Scheme (AGSMEIS) – This is a financing programme created by the CBN in collaboration with the bankers’ committee to support the Federal Government’s “effort and policy measures for the promotion of agricultural businesses and small and medium enterprises. The scheme can fund an SME up to two billion Naira for a maximum tenor of 10 years.
- Lagos State Intervention NGN25 Billion Fund for SMEs.
- Micro, Small and Medium Enterprises Development Fund (MSMEDF) – This is a CBN initiative launched in 2013 to bridge the existing financial gap in the SME sub-sector of the economy. SMEs can access loans from N500,000 to N50 million to fund their businesses.
- FG Social Intervention Fund for artisans and micro businesses which is at the rate of 3% but limited to a maximum of NGN100,000
- BOI Graduate Entrepreneurship Fund (GEF) which is for serving NYSC Corp candidates. Candidates submit proposals and can obtain between NGN500,000 to NGN2,000,000 funding.
Other private funding platforms include the Tony Elumelu Foundation with its $10,000,000 per year fund for 10,000 SME’s and Oxfam’s entrepreneurship fund.
Novel ways of financing in Nigeria today
As it has been so challenging to access finance conventionally, many SMEs have taken to finding new ways to obtain finance. They include-
Consumer Lending- As a result of the difficulty accessing financing conventionally through banks, we now have SME’s obtaining funding through consumer lending platforms. They offer unsecured (Zero collateral) loans to small and medium-sized businesses at competitive interest rates with attractive payback periods. However, today, we now see a situation where banks are offering similar interest rates to consumer lenders.
The low-interest rates and comfortable loan sizes are tailored to the needs of SMEs. As such, consumer lenders gained significant market share from microfinance banks and other retail-banking divisions of traditional banks. In the past five years. Consumer lending regulated by the Banking and Other Financial Institutions Act, the CBN Act and various CBN published guidelines.
Crowdfunding- Crowdfunding is an offer to finance a project or business on a web platform. It was long the position that crowdfunding was prohibited as only public companies under the extant laws could raise capital from the public. However, the Securities and Exchange Commission (SEC) earlier this year released a proposed regulation permitting crowdfunding by companies with a minimum paid-up capital of ₦100 million. Additionally, the proposed regulation will also close the legal loophole previously utilised to bypass the restriction on crowdfunding. This shuts the door on this alternative means of lending to SME’s as the high paid-up capital will exceed the ability of most SME’s.
Loans under the Secured Transactions and Moveable Assets Act 2017- These are loans that one uses moveable assets as collateral. This goes a long way as statistically; the average Nigerian adult does not possess immovable assets.
Major SME financing issues in Nigeria and brief recommendations
- Discrimination from financial institutions that are averse to the risk of lending SMEs especially start-ups.
- SME’s lack of knowledge on how to package appropriate bankable business proposals.
- The multiplicity of regulating agencies, taxes and levies that result in a high cost of doing business and discourage entrepreneurship due to the absence of a harmonised tax regime.
- Widespread corruption and harassment of SMEs by some government agencies over unauthorised levies and charges.
- High-interest rates charged by banks and other financial institutions on loans
Most of these problems will be solved by increasing the banked population of SME owners. The remainder will be solved by a vibrant policy to encourage lending and a proper regulatory environment that is business-driven seeing that SMEs are the backbone of the economy
In summary, SMEs play a pivotal role in the Nigerian and the global economy. Thus their financing and operations are gaining increased focus. Conventional and novel means of funding must be examined and applied to unlock the many advantages and benefits from SMEs. Therefore, governmental policies are increasingly required to be tailored towards the enhancement of SMEs to foster holistic development. Each of the finance method identified alone may not be a ready solution for the financing of SMEs, but with a hybrid approach of utilising various forms of financing, SMEs can be bolstered and utilised to solve the issue of employment and economic underdevelopment.