Society is diverse and therefore made up of diverse needs. Business enable diverse needs to be met, although among others they in turn create an uneven wealth and income distribution among members of society. Aside from meeting societal needs, business are key drivers of economic growth in world over. Micro, small, medium and even large companies sprout to create products and services to meet various needs of the population. The importance of MSMEs, especially, in developing countries cannot be overemphasized. Apart from providing products and services for consumption, these entities also contribute significantly to both formal and informal employment. Micro, Small, Medium Enterprises (MSMEs), however, across the country face many and varied challenges to their growth and operations. One of such major challenges is the limited access to finances.
Lending is a business like any other, where a comfortable balance between risk and reward must be met. Lenders will only be willing to do business with clients where there is “acceptable risk” in anticipation of earning commensurate interest off the loans issued. This model has largely favored large borrowers who easily afford to provide collateral as requested by the banks and backed up by mature business with low chances of collapse and the micro businesses where the lenders are locally based and have taken the time to fully understand their potentials borrowers. For micro businesses, different models have been developed such as group lending which provide comfort to the lenders. Commercial banks, Micro Finance Institutions, (as service providers) have played a significant role in offering financial products and services to larger companies and individuals. On the other hand, Savings And Credit Companies (SACCOs) and Village Savings and Lending Associations (VSLAs) have equally played an important role in enabling access to finance to the individuals, especially the unbanked sector at the bottom of the financial pyramid. However, due to the nature of the services offered, SMEs are less likely to access loans from banks and other financial institutions because their financial needs are too big for the VSLAs, SACCOs and MFIs and yet too small for the commercial banks.
From the above, it now becomes clear that in the financing industry, there is a category of business which find it hard to access financing. These are the small and medium enterprises which are vulnerable to external shocks and largely operating independently to enjoy social support from peers. And on the other hand, these business have shallow assets bases and often times are not in position to offer collaterals to lenders. This category has often been referred to as the missing middle.
Although my focus today is on the SMEs and less on the individuals, the missing middle is not only made up of SMEs. Educated youth and skilled workers who lie between the large industrial credit seekers at one end and very poor small borrowers like low income households, farmers at the other end of financing spectrum are equally hardly catered for in terms of credit facilities.
Although not one particular reason can sufficiently explain the limited financing options for SMEs, some key reasons have been put forward for banks being reluctant to offer loans to SMEs such as;
- Lack of a credit history
- Failure to meet requirements for lending such e.g. a clearly developed Business Plan
- High potential risk of not paying back, in case the business collapses
- Lack of collateral or security
- Lending institutions generate lesser profits on smaller loans, thus are reluctant to provide such loans
- A good number of SMEs operate informally, making them unattractive to credit providers.
Interventions such as Mobile Money have aided money movement but have not significantly tackled the challenge that the SMEs are facing in regard to access to financing. Digital financial solutions (“fintechs”) such as the recently launched MoCash by MTN still are more relevant to the individuals at the bottom of the financial pyramid because of the size of loans offered. Other interventions such as competitive grants have only supported a few SMEs, and their impact is yet to be felt within the economy as a whole. With SMEs being key drivers of economic growth in the economy, a key question to ask is how can SMEs attract affordable financing to meet their financial needs?
Banks and other lending institutions have started giving more attention to SMEs and tailoring financial products to meet their financing needs, which is a step in the right direction because of their ability to drive economic growth. To a greater extent however, SMEs need to;
- Understand the lending criteria for their target lenders and ensure you meet them.
- Develop highly scalable business models for the business
- Keep proper records and prepare financial statements
- Understand how to separate business and personal finances
- Seek support in developing business plans
- Seek professional support to guide them through the loan application process and many others.
Key questions to ask yourself before the decision to borrow are;
- Do we really need to borrow? Or can you manage the current cash flows more effectively?
- For what purposes will the capital be used? Any lender will require that capital be requested for very specific needs.
- How does your financing need fit within your business plan?
Answering these key questions among others and taking the initiative to increase your attractiveness will be critical to get the financing your business requires to accelerate forward.
By Sarah Achiro
Sarah is our Business Analyst . She is a growing consultant with BLEGSCOPE and has 3 years’ experience in consulting for SMEs and in the service sector. She is keen on strategy, finance and procurement. She has previously worked for Riham Foods and MTN. You can follow her on twitter >> @achirosarah