FINANCING SME TO

FUEL FASTER
DEVELOPMENT.
Islamic Microfinance
Summit. 26-27
September 2016 ,UAE.
Khalfan Abdallah Salim.
Manager (Head), PDSC.
Gulf African Bank, Kenya.

SME and Development.

Small and Medium Enterprises (SMEs) play a major role in
most economies, particularly in developing countries.
Formal SMEs contribute up to 45 percent of total
employment and up to 33 percent of national income (GDP)
in emerging economies.
These numbers are significantly higher when informal SMEs
are included. According to estimates,600 million jobswill
be needed in the next 15 years to absorb the growing
global workforce, mainly in Asia and Sub-Saharan Africa.
In emerging markets, most formal jobs are with SMEs,
which also create 4 out of 5 new positions.
Source: World Bank.

The Challenge Facing SMEs.

Access to finance is a key constraint to SME growth;
without it, many SMEs languish and stagnate.
Fifty percent of formal SMEs dont have access to formal
credit.
While the gap varies considerably between regions, its
particularly wide in Africa and Asia. The current credit gap for
formal SMEs is estimated to be US$1.2 trillion; the total credit
gap for both formal and informal SMEs is as high as US$2.6
trillion.

Improving SMEs access to finance and finding solutions to

unlock sources of capital is crucial to enable this
potentially dynamic sector to grow and provide the needed
jobs.
Public entities and Private entities have come up with
initiatives to bridge the financing gap associated with
access to finance.

Public Sector (Govt) Initiatives to SME.

There are number of government-backed schemes
designed to help small and medium-sized enterprises
(SMEs) access finance, be it loans or grants or guarantees.
Main two UK-wide initiatives - the Enterprise Finance
Guarantee (EFG) scheme and Enterprise Capital Funds (ECFs).
UAE initiatives Khalifa Fund (www.khalifafund.ae) and
Mohammed Bin Rashid Fund For SME (www.sme.ae)
Tanzania-National Entrepreneurship Development Fund.
Kenya-Youth Enterprise Development Fund.
http://www.youthfund.go.ke/

Private Sector (Govt) initiatives to SME.

Local and International Financial institutions.
Local and International NGOs.
Private Equity Investment.
Initiatives focus around.
Access to finance.
Capacity enhancement and building.

Old Approach to SME Finance.

Old approach
Debt financing. Bank lending is the most common source of external
finance for many SMEs and entrepreneurs, which are often heavily reliant
on straight debt to fulfill their start-up, cash flow and investment needs.
Bank loans, overdrafts, credit lines and the use of credit cards- are the most
common source of external finance for many SMEs and entrepreneurs.

What is the weakness of this approach?

impose costs, as loans to companies that already have considerable amounts
of debt tend to have higher interest rates, and increase the risk of financial
distress and bankruptcy.
Often ignores the different financing needs that SMEs encounter along their
life cycle.

New Approaches to SME Finance

Asset based finance.

Alternative debt.
Equity instruments.
Hybrid instruments.

Suitability and risk profiles for each approach

differs with each other.

Asset Based Finance

This involves instruments/products such as:

Asset-based lending/ financing Factoring or invoice discounting or
bills encashment Purchase Order Finance /LPO Finance Warehouse
Receipts /CMA Leasing

A firm obtains cash, based not on its own credit standing, but on the value that a
particular asset generates in the course of its business.
Working capital and term loans are thus secured by assets such as trade accounts
receivable, inventory, machinery, equipment and real estate.
Risk and Challenges:
The costs incurred and/or the complexity of procedures may be substantially higher
that those associated with conventional bank loans, including asset appraisal, auditing,
monitoring and up-front legal costs, which may reduce the firms levels of profits.
Also, funding limits are often lower than in the case of traditional debt.
Asset-based lending has been expanding in many countries.
Among asset-based instruments, factoring has been supported as a means to ease
SMEs access to finance and promote their inclusion in value chains.

Alternative Debt.
Investors in the capital market, rather than banks, provide the financing
for SMEs. These include direct tools for raising funds from investors in
the capital market, such as corporate bonds, and indirect tools, such as
securitized debt , private placements, and crowd funding (debt) such as
pre-selling, donations among others. With alternative debt, the SME does
not access capital markets directly, but rather receives bank loans, whose
extension is supported by activities by the banking institutions in the
capital market.
A financial institution as trustee is given fiduciary power by a bond issuer
to enforce the contract terms. In practice, the trustee is responsible for the
registration and transfer of the bond, and for the timely payment of the
coupons and principal.
Risk and Challenges:
The limited knowledge, lack of standardized documentation increases the
issuing costs and inhibits broader usage of these instruments by SMEs.

Equity Instruments.
Equity finance refers to all financial resources that are provided to firms in
return for an ownership interest. Equity investors participate in the
entrepreneurial risk, as no security is provided by the investee company, and
the investment return is entirely determined by the success of the firm.
Investors may sell their shares in the firm, if a market exists, or they may get a
share of the proceeds if the firm is sold.
The main categories of equity finance are private equity and public equity.
Risk and Challenges:
Reputation risks , regulatory barriers to seed and venture capitalists. Investors
may exercise strong control on the management and even drive or impose
changes in top management

Hybrid Instruments

Hybrid financing instruments lie in the middle of the investors risk/return

spectrum, from pure debt to pure equity, combining features of both
debt and equity into a single financing vehicle. These instruments differ
from straight debt finance, in so far as they imply greater sharing of risk
and reward between the user of capital and the investor.
Instruments are; i) subordinated debt (loans or bonds/Sukuk); ii)
participating loans or financing (Musharakah) with profit or earning
participation mechanisms; iii) silent participation (Mudharaba) among
others.

Educating SMEs.

The limited awareness and understanding about alternative instruments

on the part of start-ups and SMEs have limited the development of these
markets.
Proposed initiatives are:
Supporting SMEs in developing a long-term strategic approach to business
financing, that is, understanding how different instruments can serve their
different financing needs at specific stages of the life cycle, the different
advantages and risks implied, and the complementarities and possibility to
leverage these sources.
Improve the quality of start-ups business plans and SME investment
projects, especially for the development of the riskier segment of the market.
It is time for public and private sector to co-ordinate training and mentoring
programmes for SMEs in order to address lack of entrepreneurial skills and
capabilities.

Thank You.
References

New approaches to SME AND Entrepreneurship Financing

https://www.oecd.org/cfe/smes/New-Approaches-SME-full-report.pdf