Financing Micro, Small and Medium Enterprises (MSMEs): Reaching the Grassroots

Financing for Development (FFD): Unlocking Investment Opportunities

A digital artifact aimed at proposing an innovative financing solution to public sector agents with the objective of improving access to credit for the most financially excluded and unbanked owners of micro, small and medium enterprises in Nigeria

Despite limited access to financing, MSMEs contribute a significant 45 per cent to the national economy. If these institutions could have reliable access to working and investment capital at low cost, the multiplier effect on economic growth and job creation would be significant

Kemi Adeosun Minister of FinanceFederal Republic of Nigeria

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Blended Country (IBRD and IDA

eligible)

Population (2015 est): 182 million

Economic Growth Rate 2017 Forecast:

-1%

Economic Growth Rate: -1.6% (2016)

Source: World Bank, Nigerian Ministry of Budget and National Planning, International Monetary Fund (IMF)

Mono-product economy Crude oil =

>90% of forex earnings >70% of govt. revenue

Poverty rate: 72%2017 Fiscal Deficit:

almost US$10 billion

Lower Middle Income

GDP (2015): US$ 481 billion

Global Oil Prices hit a 12 year low at $27 in January 2016 after falling steadily from about $100 a couple of years before

Nigerian government revenues and public spending fell accordingly and by mid 2016, Nigeria was officially in a recession

A study – Makama, R. (2008) using IMF and British Petroleum data from 1960 to 2008 recorded a 95% correlation between Nigeria’s oil price and GDP and Government Revenue respectively

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Along with the economic recession, inflation rates increased, the Nigerian Naira depreciated and monetary controls led to scarcity of forex

Government created an Economic Recovery and Growth Plan (ERGP) detailing initiatives which would turnaround the economy

• Driving industrialization focusing on Small and Medium Scale Enterprises

• Leverage on the private sector by providing a business friendly environment

Key proponent of social inclusion

Key driver of economic growth

Focusing on MSMEs as a key component in the growth of the economy is a laudable plan

45 percent of total employment in

developing economies

33 percent of GDP in emerging economies

(45% in Nigeria)

Create 4 out of 5 new jobs in emerging

marketsSource: World Bank, Nigerian Ministry of Finance

MSME

Environment fraught with high operational

costs, overlapping regulatory agencies,

ineffective tax policies

Nigeria’s Doing Business Indicators:

Ranked 169/189

Credit gap estimated at between US$1.2 trillion

to US$2.6 trillion

MSME

Of the 365 – 445 million MSMEs

estimated in emerging markets, 78% are

informal

70% lack access to credit

Access to credit defined as the number one issue for MSMEs in

NigeriaSource: World Bank, Nigerian Ministry of Finance

But there are numerous issues that need to be resolved in order to achieve the potential MSMEs have

All these issues can be captured in two major groups;

Lack of credit to MSMEs

1

Unfavorable business

environment

2

Cascades (Private Sector Involvement)

What can the Private Sector do about the lack of credit to MSMEs?

• As it stands, not much• Poor availability of information in the sector• Lack of an identity management system• Lack of credit bureaus for gauging credit worthiness• Little collateral available to secure loans• Potentially high debt collection costs which will mitigate returns• Highly informal nature of the sector

In short, there is too much risk and the potential returns are not commensurate with the risks. Consequently, private sector continues to abstain as there is not incentive to lend to MSMEs

Cascades (Public Sector)

How about the Nigerian government?

The Nigerian government has tried to solve the credit issue through creation of several National Development Banks which are mandated to on-lend public funds to MSMEs. The most dominant of these banks is the Bank of Industry (BOI) whose mission is:

“To transform Nigeria’s industrial sector by providing financial and business support services to enterprises”

Despite BOI’s best efforts, access to credit continues to remain the number issue for MSMEs as these funds remain inaccessible to a large band of MSMEs. This is mainly due to the stringent and rigid criteria for accessing these funds; there is no flexibility for type of product or service, industry, location etc. in which the MSME operates. In addition, since the funds are administered through the formal financial services industry, it excludes most MSMEs who operate informally.

Cascades (Development Assistance)

Considering the unwillingness of private sector to provide credit lines to MSMEs and the Nigerian government’s less than impactful initiatives, it is safe to say Official Development Assistance (ODA) and other forms of development aid will be required to mobilize direct investments in the sector and serve as catalyst for MSME growth.

ODA Solutions are two-fold:

Technical Assistance

1Address policy issues that affect the business environment:• Provide policy review and capacity building support to the

Nigeria Investment Promotion Council (NIPC), the Ministry of Industry, Trade and Investment as well as other agencies with oversight of MSMEs e.g. Standards Organization of Nigeria (SON), Small and Medium Enterprise Development Agency of Nigeria (SMEDAN)

• Advisory services to the Central Bank and Ministry of Finance on the establishment of credit bureaus. Credit bureaus will build lender confidence and increase access to credit

• Work with the Inland Revenue Service to create a progressive tax policy that allows MSMEs to grow

• Provide assistance in creating a framework for the implementation of Nigeria’s Collateral Registry to secure loans on movable assets

• Provide diagnostic review of BOI structure and services and develop more effective operating model

Financial Support

2 • The World Bank’s International Finance Corporation (IFC) to provide equity to start (or shore up) a development bank in Nigeria. The corporate governance standards set by IFC participation in such an organization will mobilize funds from other Multilateral Development Banks (MDBs), the Nigerian government and the private sector. This development bank will specifically target MSMEs taking into account the key peculiarities and risks inherent in the sector.

• Before the impact of the Technical Assistance is felt in de-risking the sector, the World Bank can engage private philanthropy funds since this source of financing is more risk tolerant. This should take the form of provision of grants for building capacity of MSMEs in basic business and financial management skills. This will enable them successfully seek credit and better manage loans received

Financial Support

2 • Private philanthropy funds may also be engaged in a results based financing scheme. Disbursements to lenders under this initiative will be tied to milestones such as signing up a certain number of MSMEs or disbursing a certain dollar amount of loans. The development bank may also enter into agreements with private philanthropy funds to buy-down debts after meeting certain performance thresholds. MDBs may also mobilize government funding through matching programs.

Reaching the first ‘M’ in MSMEs

Financial Support

2 • Innovative Financing Solution to specially reach micro-entrepreneurs:• Even within the MSME group, there are divisions –

micro enterprises are even more disadvantaged as their owners are usually unbanked, financially excluded and uneducated. So even when credit is taken to the farthest reaching microfinance level at the grassroots, micro enterprises remain excluded since they do not have access to basic financial services

• A solution to that can be employed by the development bank is mobile money services. Benchmarking Kenya’s successful deployment of mobile money where unbanked citizens had access to financial services through their mobile phones, Nigeria can build upon this by expanding the payments services to include loan disbursements.

Financial Support

2 • Innovative Financing Solution to specially reach micro-entrepreneurs:• The potential and infrastructure is on readily

available. Mobile telephony penetration in Nigeria is amongst the highest in Africa. Cellular services also have a wider reach than formal financial services. This mobile lending initiative will serve as a stepping stone to drawing in micro enterprises in the informal sector to the formal sector. This is because their funds will be channeled through a platform in the financial services sector and which can be monitored

A high-level schematic of ODA solutions

IFC

Development Bank of Nigeria

X% equity

Other Investors

1- X% equity

Financial Services

Providers

Mobile Money

Services

MSME Unbanked MSME

Wholesale lending

Private Philanthropy

On-lending On-lending

Direct lending

Wholesale lending

Debt buy-down

IDA

Business Service

Provider

Government of Nigeria

Capacity building and skills training

World Bank

Technical Assistance

Grant

Favorable Business

Environment

1 Financial SupportTechnical Assistance 2

The impact of this two-pronged approach to encouraging MSME growth will be widely felt:• It is in line with the Nigerian government’s plans for economic growth and recovery.

MSMEs will serve as fuel to not only grow the Nigerian economy, but develop it since the sector is an employer of labor and pro-poor due to the relative minimal capital requirements. This type of growth is inclusive and would help reduce wealth discrepancies amongst classes of Nigerians

• This program will work to create a favorable business environment which not only aids MSMEs but increases other types of investments which would further aid Nigeria’s recovery

• In time, MSMEs outside of the formal sector will become formalized. This aids government’s revenue generation, policy making and public expenditure decisions

• Reduced intervention required to fund MSMEs as they will have better access to finance due to resources unlocked as a result of improvements in the business environment as well as drawing power of DFIs

The impact of the proposed solution in the context of the Sustainable Development Goals (SDGs)