Small and Medium Enterprises (SME) financing is a key driver of growth and ING Vysya has developed a highly successful model in that segment with growth at close to 30 percent per annum, and gross NPA of less than 0.5 percent.
The difficulties faced by SMEs in getting finance, especially in the developing world, have been well documented. The causes are equally well known. First, traditional bank financing (secured or cash-flow based) is often not available due to the lack of adequate collateral or the opaque modus operandi of many SMEs. Also, financial markets may not be sufficiently well developed to facilitate traditional private equity (PE) financing of SMEs. A typical private equity (PE) firm or fund requires controlling positions in a company it invests. But in Sub-Sahara Africa, most small business people are both owner and operator of lifestyle businesses and have little interest in letting go of control of their company. Another constraint to the traditional PE financing model is the lack of exit channels such as a well-functioning initial public offering (IPO) or merger and acquisition (M&A) market.
Our hands-on experience has revealed a number of mistaken assumptions about SME finance. I’ll highlight three core myths about SME finance:
What is so “alternative” about lending to small businesses? As a provider of SME lending technology, I have heretofore generally accepted the classification of our company, Advanced Merchant Payments (AMP, for short), as one of the burgeoning class of “alternative lenders”. (See, for example, this insightful piece from Forbes Magazine). This growing awareness of “alternative lending”, therefore, has me wondering just what is so “alternative” about lending to small businesses.
Before going further, some context is in order. At AMP, we provide to financial institutions an outsourced processing platform which supports large portfolios of small business loans secured by their electronic cashflow (e.g.: card transactions) on a profitable and efficient basis. To further the efforts, we operate our own direct lending portfolios in Hong Kong, Singapore, and the Philippines, wherein we have collectively issued more than US$16MM in loans to small businesses, with a very low default rate and a respectable rate of return. Our average loan size is approximately US$30,000, and is determined relative to the business’ provable monthly free cashflow. Significantly, every borrower has at least one commercial bank account.
In short, our borrowers are precisely the sort of business to which you would expect a bank to lend; and yet, they have not done so. Which raises, to me, the question, what is so alternative about AMP lending to these small businesses? The term (defined as “the choice between two mutually exclusive possibilities”) suggests that the small business borrower has a choice, as between borrowing from a more “traditional” source - to wit, a bank – and the “alternative” lender. In reality, it is largely a Hobson’s choice.
According to a survey of AMP borrowers, almost 80% said they did not bother to apply to their bank before making application directly to AMP. Initially, this result surprised me, as I had expected SMEs to apply to us only after being declined by their bank. Upon investigation, we discovered that many borrowers viewed the process of applying for a bank loan as largely a “waste of time”, owing to what is perceived as onerous documentation requirements, time spent in the bank branch to discuss the loan application, and the relatively scant chance that the loan would anyway be approved. For the small business borrower, time is money, and the burgeoning market for alternative lending shows their willingness to pay a premium over nominal bank pricing for the convenience of relatively quick and hassle-free access to the loan.
This “convenience” factor seems, to my mind, very often overlooked in discussions about the availability of loans to small businesses. It also helps to explain the perception gap between those banks which proudly boast of their SME lending capabilities, and the numerous SMEs which feel shut out from traditional sources of finance. What enables alternative lenders to lend to these small businesses is the ability to leverage new forms of data from which to render credit decisions and manage risk on an efficient and scalable basis across large portfolios.
In time, we expect that banks will embrace these new methodologies, employing outsourced platforms such as ours to offer loans to their SMEs, at which point, “alternative” lending will indeed have become mainstream –at least until some newer model comes along with better ways to service some significant niche of small business borrower, once again creating an alternative to the traditional banks. In this context, then, perhaps there is nothing alternative about alternative lending at all, and it is simply a matter of evolution? I invite your views.
Among the major constraints to SME growth worldwide, lack of finance is considered to be one of the greatest hurdles. On average, 30% of SME owners in Sub-Saharan Africa see their credit application rejected by formal financial institutions due to lack of “suitable collateral” (real estate collateral or cash), and another 25% do not even bother to request a loan under the assumption that the request will be rejected due to lack of appropriate collateral. These constraints can be even more severe if the owner of the SME is a woman.
When seeking financing, lack of collateral is among the most widely cited obstacle encountered by SMEs and the primary among women. According to the World Bank’s Enterprise Surveys, 78% of the of the assets of the average SME will be composed of movables property (inventory or stocks, equipment and accounts receivable) and only 22% of real estate assets. Women are particularly disadvantaged due to the fact that they own less real estate property than men. Globally, financial institutions’ portfolio of loans with women owned SMEs tend to be significantly lower than the share of women owned SMEs in their target markets would suggest, as indicated by IFC and GPFI in their latest study on Access to Finance for women owned SMEs.
An efficient secured transactions and collateral registry regime can help overcome some of these hurdles. Collateral regimes expand the types of assets that can be used as security to all tangible (inventory, crops and livestock, vehicles, machinery and equipment, etc) and intangible (accounts receivable, shares, deposit accounts, intellectual property rights, etc.) assets and support more efficient enforcement mechanisms for lenders.
Examples of how robust collateral regimes can help in practice are founds in Ghana and China. In Ghana, after the establishment of the Collateral Registry by the Bank of Ghana with the support of IFC, financial and non-bank financial institutions, especially MFIs, have expanded their lending operations to the MSME segment. More than 10,000 women entrepreneurs have been granted loans secured with movable property, mostly business equipment, household assets and vehicles. Women’s World Banking (WWB) has become one of the main users of the collateral registry services.
The People’s Bank of China (PBOC), also with support of IFC undertook a reform of the secured transactions legal framework with the passing of a new Property Law and the establishment in 2008 of a nation-wide online registry for security interests in accounts receivables. Since then, thousands of SMEs have been able to access credit using accounts receivable as collatersal. More than US$ 3 trillion in financing secured with receivables has been facilitated by financial and non-bank financial institutions after the reform. A recent independent evaluation of the impact of this project on access to credit has indicated than almost 60% of the businesses that have obtained loans secured with receivables had female ownership and 20% were majority owned by women.
These are very encouraging examples of the potential impact that secured transactions and collateral registry reforms can have in expanding access to finance for women, but the question is: how can we gather more evidence to convince policy makers about the importance of it? And how can we make a strong argument for financial institutions to seize these opportunities and start lending more to women entrepreneurs?
VIDEO: IFC and World Bank help Ghana introduce Africa's first collateral registry
Inez Murray, CEO of Global Banking Alliance for WomenInez Murray is the CEO of Global Banking Alliance for Women, a global consortium of financial institutions driving women's wealth creation. Its 29 member institutions work in 135 countries to build innovative, comprehensive programs that provide women entrepreneurs with vital access to capital, markets, education, and training.
I'll be disappointing anyone who's expecting something on the present Italian political situation...that's beyond my pay grade...but was in Italy last week for 2 very interesting meetings, the first on retail and "corporate" payments, the second on SME credit information. At both were a number of regulators (mostly central bank officials), industry representatives (from the likes of VISA, MasterCard and the private credit information industry), and colleagues from the World Bank and IFC. In the former meeting we focused on how to bridge the currently huge gap between EU and OECD countries and emerging market countries in electronic payments use (well over 100 transactions/person per year versus fewer than 1/person in sub-saharan Africa, for example). While the gap is formidable, the innovations taking place are very encouraging. We received an update on the universal ID program in India, for example, which already has captured more than 300 million people, and will serve as a bridge for electronic means for government to person, government to business, business to business, and business to person payments. At the same time, new research coming from the Gates Foundation suggested, to me anyway, that even in cases like M-Pesa, payments services by themselves don't make money, and the business case must depend on additional services that piggy-back on top of the electronic payments - such as further sales or purchases generated at the electronic transaction points, or new credit markets developed through the payments platforms (whether by financial institutions or by supply/value chain participants). "Corporate payments", which doesn't mean electronic payments services for large corporations, but covers a range of issues affecting electronic payments options for all enterprises, is an area that hasn't received as much attention as government or consumer electronic payments - but it's an area ripe for growth and attention, and it was clear from hearing from the likes of VISA, JP Morgan, Citi and others that the potential is huge. An estimated market of $109 trillion/year was mentioned...so it was clear that the problem was not potential demand, but transforming business processes and incentives to encourage more commercial payments to take electronic channels. This transformation will require transforming firms' internal systems - a particular challenge for smaller firms. If this challenge can be overcome, it will greatly reduce costs for finance and other services for smaller firms, and it may open up new ways to encourage small firms to formalize with respect to tax, labor and other obligations...but this raises further issues on tax administration systems and other legal/policy matters that presently may discourage change in these areas. The meeting on SME credit information highlighted the particular challenges of getting reliable, useful information from this segment - and, in particular, the importance of tapping into sources beyond banks to overcome these obstacles. Getting information from other payments behavior, and trade payments, in particular, is a key gap to close. The problems are less technical than policy/regulatory, as it's rules, rather than technology, that block this access. As this group has a number of senior regulators, and a track record of having produced the General Principles for Credit Reporting, I'm very hopeful that it will be finding ways to overcome these barriers.all in all, a most interesting few days in Italy...watch both these groups for more of great interest to SME Finance! matt
There are significant disparities along gender lines in how adults save, make payments, borrow money and manage risk. Worldwide, 55 percent of men report having an account at a formal financial institution, while only 47 percent of women do. The gender gap is largest among lower middle income economies as well as in South Asia and the Middle East and North Africa.
The Global Gender Gap Report, introduced by the World Economic Forum in 2006, provides a framework for capturing the magnitude and scope of gender-based disparities around the world. The index benchmarks national gender gaps on economic, political, education- and health-based criteria and provides country rankings that allow for effective comparison across regions and income groups and over time.
Was at a very interesting meeting of the Alliance for Financial Inclusion (AFI) last week. AFI is a group of policymakers concerned with financial inclusion, and this meeting was to focus on the SME finance dimension of this larger picture. The policymakers rightly see that it's not just important that individuals get access to the financial services they need, but also small businesses, who create the jobs that really make economies grow and improve peoples' lives. But to date, AFI hadn't focused on this topic in its network of senior central bankers and other policymakers from over 80 emerging market countries. The meeting discussed various issues and country experiences in SME Finance - while it certainly didn't resolve the issue of what to do (no one solution works for all countries, anyway), it confirmed strong interest in the topic, and AFI formed a new working group led by Pakistan and Indonesia to develop useful tools and other knowledge for the netwrok. We had a number of knowledgable speakers at the meeting, including Professor David Storey of Sussex University. David presented to us the interesting concept of "discouragement", as a focal point for setting priorities in SME Finance policy. By this he meant that we should figure out what's most discouraging small firms from getting the finance they need. For example, is it that they feel unwelcome at banks? is it that they don't like pledging their homes in exchange for relatively small amounts of short term finance? etc... the answers differ country to country - Professor Storey argued that policy reform priorities should reflect the strongest "discouragement" factors in a given case. Interesting food for thought...it is certainly useful to get empirical information on what are the major obstacles SMEs perceive. at the same time, I also think we can point to common issues and reform priorities, such as improving financial markets infrastructure to reduce the costs of getting sufficient information about smaller firms to support sound, prudent underwriting. I haven't been in an emerging market country where there isn't more to be done in this area - particularly in the relatively neglected electronic payments area, which I've blogged about before...but credit information and movable assets reform also are high priority.matt
