; SME Finance in South Africa - tips
Learning Center
Plans & pricing Sign in
Sign Out

SME Finance in South Africa - tips


  • pg 1
									Financing of SMEs in South Africa
Results of a Survey of SMEs and Financial Institutions

World Bank, Africa Region, October 2011

•   Introduction
•   Insights from existing studies and data sources
•   Survey results
•   Policy considerations
•   Discussion points

• During 2010, the World Bank undertook a survey of the supply-side and
  demand-side of SME finance
  ▫   Important contribution of SMEs to employment, income and growth in SA
  ▫   Access to finance cited as a major constraint for small business development
  ▫   Challenging macroeconomic conditions of 2007-2009
  ▫   Linking the demand- and supply-sides of the market

• Supply-side survey was conducted with 8 institutions including the Big
  4, niche banks, non-bank FIs and DFIs
• Demand-side survey of 234 SMEs originally interviewed as part of the
  2008 Enterprise Survey

Key messages of study
• Access to finance for SMEs worsened as a result of the economic
  ▫ Sharp worsening of perception of access to finance as obstacle for SMEs
  ▫ Tightening of credit standards and decrease in successful loan

• Private sector is committed to this space and large in scale relative
  to the public sector
  ▫ Engine for future growth and profitable business in own right
  ▫ Some innovations (e.g. around credit scoring and provision of BDS)

• BUT banks remain cautious about lending to the sector
  ▫ Income driven by deposits and transactions, not credit
  ▫ Perception that SMEs higher risk and more costly to serve
  ▫ Lack of information about potential borrowers and concern about skills
    of potential entrepreneurs

• Therefore there is an important role for public policy
  ▫ Harness private sector expertise rather than competing directly with it
  ▫ Support the broader credit environment to overcome obstacles to lending

What does existing data say about
banks’ lending to SMEs?
           Exposure to SMEs                  Credit impairments (all)

Source: SARB returns (BA120, DI200, BA200)


 Demand-side: firms’ perception of
 finance as obstacle for business
           Is finance an obstacle for business?




Demand-side: worsening perception is
supported by quantitative data
• Decrease in proportion of investment projects financed
  through commercial banks
  ▫ Decrease from 27% to 21% for small firms

• Decline in proportion of working capital financed through
  customers / suppliers (halved)... at same time, increase in
  share of working capital financed through commercial banks

• Percentage of applications rejected in 2010 increased slightly
  from 18 percent to 22 percent
  ▫ Main reason: lack of appropriate collateral
  ▫ However decrease in percentage of loans requiring collateral from
    68% to 45%, and lower average collateral requirement

Supply-side: some quantitative insights
• Large banks constitute significant players in the market for SME
    ▫ Large banks: ~95% of all exposures to SMEs in 2009
    ▫ Institutions with development mandate: ~2.5%
    ▫ Niche banks, non-bank FIs and public FIs also named as important

• Average ratio of loans to deposits of 58% for SMEs and 49% for SEs1
• Contribution to profits of SEs large (5.7%) compared to size as
  measured by loans (1.7%)
• Over the economic downturn
    ▫ Decline in loan applications (by 23%) and loan approval rates (from 61% to
    ▫ “Pricing for risk”: difference between best interest rate for large and small
      enterprises increased from 2.5% to 3.8%
    ▫ Credit quality: NPLs for SEs remained flat at 4%, while NPLs for MEs tripled
      to 5%
1. For the Big 4 aggregated (all business areas) the ratio is 100% (source annual reports).

Supply-side: Drivers and Obstacles to
Banks’ Engagement with SMEs
Drivers                                              Obstacles
•   A feeder for future business                     •   Macroeconomic factors
    ▫ Important to develop healthy pipeline of           ▫ Most significant constraint cited
                                                         ▫ Reflective of character of boom & nature
        MEs                                                of SME market
    ▫ Evidence of reorganisation to support
        this migration                               •   Bank-specific factors
                                                         ▫ Capacity to assess credit risk of SEs
•   A profitable and resilient business in its own
    right…                                           •   SME-specific factors
                                                         ▫ Significant information gaps (e.g. financial
                                                           statements) & lack of SME credit bureau
•   … but mostly transaction and deposit-led             ▫ Lack of basic business and financial skills
    model, not credit
                                                     •   Regulatory & policy constraints
•   Public programmes matter only to a very              ▫ Concern of judicial processes required to
                                                            recover a debt & R7,000 limit on small
    limited degree                                          claims court
     ▫ FSC: limited impact on lending volumes            ▫ Companies Act: concern over ‘business
     ▫ Khula guarantee scheme: volumes low                  rescue provisions’
Credit represents a small proportion of
total revenues
                          Proportion of credit revenues, Big 4, 2009

                               Innovation in new
                               credit technologies
                               may increase share

Source: Based on authors’ analysis of survey results

                                 Impact of public policy
                                 Impact of Government programmes                                Could Government increase appeal
                                       on willingness to lend                                         through the following?
Percentage of commercial banks

                                                                   Percentage of institutions

Policy themes identified
                     Issue                                       Recommendation
•   Banks large in scale relative to DFIs but take   •   Improve effectiveness of partial credit
    cautious approach to SME lending                     guarantee scheme

•   Performance of direct public lending             •   Review cost effectiveness and objectives of
    schemes is mixed                                     schemes

•   Entrepreneurs lack business and financial        •   Support development of BDS market
    skills but how to supply effective BDS?              through public research

•   Lack of credit information on SMEs               •   Support development of market credit
                                                         information for SMEs (e.g. sharing of
                                                         information & support for credit bureaus)

•   Lending to SMEs is costly and risky, and         •   Subsidize R&D on lending technologies to
    information is lacking                               overcome information gap (e.g. challenge

•   Some regulatory & judicial issues identified     •   Review impact of these issues
    (e.g. collateral enforcement & impact of
    business rescue in Companies Act)

Khula experienced declining
volumes over downturn
                                                New credit indemnities (Khula)
• Khula Credit Indemnity:
  volumes declining
• Banks raised concerns
  ▫ Complicated to administer

                                   Value (Rm)

  ▫ Dual credit assessment
  ▫ Long recovery times
• Concerns being addressed by
  Khula & implementing
  portfolio indemnity scheme
• Will new structure reverse the
  trend in volumes?

Appropriately designed PCGs can
increase access to finance
                 • Banks do engage with SMEs but
                   mostly for transactional revenues
                   and deposits
                 • They take a more risk averse
                   approach to credit where risk
                   parameters unknown
                    ▫ “Get to know you” periods
                    ▫ 80% perceive SMEs to be more
                      risky and less profitable
                    ▫ SME information gaps cited as
                      major constraint
                 • Credit guarantees can be used to
                   expand set of SMEs with access, but
                    ▫ Be prepared for some loss
                    ▫ Allow banks to asses the risk
                    ▫ Ensure banks face sufficient risk
                    ▫ Streamline administrative
                    ▫ Payout quickly

  Some features of PCG scheme design
Feature                              Considerations                       International comparison (Beck
                                                                          et al): 46 countries
Loan-level versus portfolio          • Staff of scheme any advantage in   • 72% loan-level
guarantee                              assessing risk?                    • 23% portfolio or combined
(Typically loan-level involve        • Administration costs               • Government involvement in credit
guarantor in reviewing eligibility                                          decisions related to higher losses
and risk profile)
Coverage ratio                       • Incentives of institutions to      • Many schemes offer 50%
                                       assess risk and recover            • Median coverage ratio of 80%
                                     • Economic attraction of scheme
Fees                                 • Sustainability versus uptake       • 63% per-loan fee vs 30% annual fee
                                     • Administration costs               • 25% adopt fee based on risk of
Payout timelines                     • Incentive for intermediaries to    • 34% after borrower defaults
                                       collect                            • 42% when bank initiates recovery
                                     • Economic attraction of scheme      • 14% when bank writes off loan
Targeting                            • Additionality                      • 95% have target restrictions
                                     • Verifications costs and limit      • Specific sectors, new businesses,
                                       uptake                               geographic region, economic

It is also important to review the
performance of direct credit schemes
• Performance of DFIs involved in direct credit provision varies
  greatly but all face challenges
  ▫   Unclear mandates
  ▫   Not pushing the risk envelope (e.g. holding large deposits)
  ▫   Profits derived from non-core activities (e.g. money market investments)
  ▫   Poor portfolio quality

• Achieving well performing and sustainable direct credit schemes is
  not straightforward and it dependent on:
  ▫ Capacity to assess credit
  ▫ Operational efficiency

• Scale of private sector involvement (>95% of SME lending) suggests
  that best option for government would be to harness private sector
  expertise, not compete with it

Other potential areas for
Government support (1/2)
Policy area                                 Comments
Support development of BDS market through   • BDS can help to address some of intrinsic
public research                               weaknesses in SMEs
                                            • Banks remain vexed how to provide BDS
                                              efficiently and how to ensure it is
                                              appropriate and of a high enough standard
                                            • Government may have a role both as a
                                              provider of BDS and in promoting good
                                              practice and standards across the sector
Support development of market credit        • Challenges for credit bureau to capture all
information for SMEs                          credit information relating to SMEs (e.g.
                                              from trade suppliers)
                                            • Two potential areas for government support:
                                              1) refinements to legal & regulatory
                                              framework to improve incentives to share
                                              information among lenders, and 2)
                                              education campaign promoting value of
                                              credit bureaus to SMEs and vice versa

Other potential areas for
Government support (2/2)
Policy area                                    Comments

Subsidize R&D regarding lending technologies   • Technologies have potential to reduce the
to overcome the information gap (e.g.            issues of high transaction costs and risk
challenge fund)                                  profiles of potential borrowers (e.g. from
                                                 microfinance sector)
                                               • Evidence of innovations occurring in SA
                                                 (e.g. relating to credit risk assessment)
                                               • However the sector is still experimenting
                                                 and room for innovation
                                               • Establishment of new “window” of credit
                                                 guarantees specifically to stimulate the use
                                                 of automated scoring techniques?
Address any regulatory, judicial and legal     • In general, not highlighted as significant
obstacles                                        constraints in SA
                                               • However, still areas identified: e.g. issues
                                                 registering and enforcing collateral, and
                                                 concerns over the business recovery
                                                 provisions in the new Companies Act

• In principle, the term “SME” encompasses a very wide range
  of businesses: from a one-person business to firms with
  hundreds of employees

• No consistent national definition
  ▫ National Small Business Act: based on 3 measures of size
    (employees, turnover, asset value) but differs by sub-sector
  ▫ Financial Sector Charter: annual turnover range R500,000 to

• Used in this study
  ▫ Demand-side: small (5-19 employees), medium (20-99), large
    (100+ employees)
  ▫ Supply-side: institution definitions of small and medium
    enterprises (typically based on turnover ranges R0.5 – 100 m)

Demand-side methodology
• World Bank’s South Africa Enterprise
  Survey of 2008 complemented by              Size distribution of
  second round in 2010                          sampled firms
• Written questionnaire conducted
  through face-to face interviews with firm
• Information on four broad areas:
  managers’ ratings of business
  environment; objective indicators of
  business environment; business
  information; business characteristics
• 2008: 1,057 establishments sampled
  from four locations: Johannesburg, Cape
  Town Port Elizabeth and Durban
• 2010: 234 of the original establishments
   • Sample compositions very similar

 Supply-side methodology
  • Specially designed questionnaire, administered to selected banks via on-site

  • Institutions chosen both to represent the major players actively involved in
    SME finance

  • Institutions included both the Big 4 private-sector commercial banks,
    Sasfin, Business Partners, Khula1, IDC and NEF

  • 9 institutions surveyed, representing 89% of banking sector assets

  • 72 questions focussed on:
       i.       Extent of bank’s involvement with SMEs
       ii.      Determinants of SME bank financing
       iii.     Bank’s SME business model (including products and credit risk management)
       iv.      Effect of the economic downturn and international financial crisis
1. Discussions were also held with Khula, although as a wholesale funder, this institution was not asked to complete the full
  written survey.

To top