SMEs in Africa – Crying out for Finance
Unless SMEs in Africa can get improved access to finance, economic growth in Africa – which many believe will power the next phase of global economic growth – might just grind to a halt.
Across almost every measure of economic growth and development, Africa is on the up. And, better still, the economic transformation of Africa is being propelled by indigenous forces – particularly the committed body of small and medium-sized enterprises (SMEs) throughout the continent. In fact, there’s a lot to suggest that continued growth in Africa depends on the continued growth of its SME sector. So far, so good – but there are some problems. If the SME sector in Africa is to progress further, it needs better access to energy, expertise and skilled labour. More than anything else, however, it needs money.
As a whole, Africa already has a collective GDP of more than $2,000 billion. Seven of the fastest-growing economies in the world are in Africa. And according to the IMF, it’s on course to achieve economic growth of around 6 percent in 2014. Some say that Africa’s emergence as an economic force will fuel the next phase of global economic growth. This is why all eyes are on Africa’s SME sector.
It’s generally acknowledged that the SME sector tends to be the engine behind economic growth, regional development, employment and innovation in most economies. And when it comes to alleviating poverty and improving living standards, the contribution of a robust and active SME sector generally exceeds that of the multi-national corporation (MNC) sector. This is certainly the case in Africa. For instance, SMEs are behind more than 80 percent of production and employment in most African states. They are also the most likely source of future growth, diversification and job creation.
“It’s generally acknowledged that the SME sector tends to be the engine behind economic growth, regional development, employment and innovation in most economies.”
Similar to what occurred in other developing economies throughout the world, the SME sector in Africa has ‘grown up’ in recent years. African SMEs have become more efficient and more professional, and many have established themselves as serious contenders to the larger national – and even international – players. From small-time players dabbling in informal production not so long ago, they are now the backbone of many African economies, leading growth in employment and output. Alongside the economic benefits, there are social benefits, too. A strong SME sector lays the foundation for the emergence of a strong middle class, for example. It also solidifies democracy and the rule of law.
Given what’s at stake, the problems experienced by SMEs in Africa when it comes to raising finance are a source of particular frustration. Worryingly, around 50 percent of companies in Africa say that the difficulty accessing finance significantly hampers their ability to do business. For the most part, commercial banks and other mainstream finance-providers simply won’t offer finance to SMEs in Africa. Most deem SME financing in Africa to be riskier than it’s worth, while others point to the inability of applicants to meet collateral requirements. And when finance is available, it costs far more in Africa than anywhere else. Often, the cost is simply prohibitive.
World Bank data confirm that the level of SME financing in Africa is far lower than in other developing regions. The problem is particularly acute in the Sub-Saharan region where it is estimated that around 70 percent of microenterprises (small, often family-run businesses employing just one or two others) and SMEs require financing – but just can’t get it. Some estimates value the level of frustrated demand in the region of $150 billion. Why are things so bad?
On the one hand, the issue is supply. The financial sector isn’t equipped to meet the needs of the SME sector. Aside from the lack of financial capacity, there is an information deficit, which invariably results in high-risk assessments when this may not genuinely be the case. Supply is also restricted due to the lack of collateral and the absence of collateral registries. Collateral is a necessary precondition for a credit market to function. For potential borrowers unable to offer land or buildings as collateral, which is generally the case among African SMEs, it is essential that movable collateral (things like inventory, accounts receivables, crops and equipment) can be used instead. This, however, requires a trustworthy collateral registry. Finally, inadequate legal protection of creditors inevitably affects willingness to lend.
On the other hand, however, demand is also an issue. Many SMEs lack the business expertise and skills necessary to put together a persuasive business plan. And many lack the business nous to capably identify the need for investment.
At current growth rates, the collective African economy will double in size between now and 2030. This represents a massive opportunity – not only for Africa itself but for the worldwide economy, too. Is it possible to sustain this level of growth? Yes, it’s possible, but it’s by no means assured. Continued economic growth in Africa depends on the continued success of the SME sector. And that sector needs cash.