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IntroductionSMEs have the capacity to achieve rapid economicgrowth, while generating a considerable extent ofemployment opportunities (Reddy, 1991). Theimportance of SMEs in Kenya was first recognised in theInternational Labour Organisation report on‘Employment, Income and Equity in Kenya’ in 1972.The report underscored SMEs as an engine foremployment and income growth. SMEs create about85 percent of Kenya’s employment (African EconomicOutlook, 2011 report).1 While the subsector constitutesclose to 85 percent of employment, it only contributesabout 20 percent of the total GDP. This implies dismalperformance of the subsector. The developmenttrajectory of the subsector thus requires a systemwhich holistically fosters SME development.

The current constitutional framework and the newMicro and Small Enterprise Act 2012 (MSE Act, 2012)provide a window of opportunity through which theevolution of SMEs can be realised through thedevolution framework. However, the impact ofdevolution on SMEs development depends on thearchitecture of the regulatory and institutionalframework inclined to support SMEs in an economy(Kiggundu, 2000). It is thus imperative to appraise theregulatory and institutional framework for SMEs giventhe existing devolved government system in Kenya. It isagainst this background that this study was undertakento assess the regulatory and institutional framework inthe SMEs subsector vis-a-vis the emerging devolvedgovernance system in Kenya.

SMEs Development in theDevolved Governance System

Policy Options for Institutional and Regulatory Reforms in Kenya

Policy BriefNo. 1/2013

– David Ong’olo & Samson Odhiambo

Small and Medium Enterprises (SMEs) is an important sub sector for the Kenyan economy likemany other developing countries, since it employs about 85 percent of the Kenyan workforce(about 7.5 million Kenyans of the country’s total employment). The current Constitution providesa new window of opportunity to address SMEs related issues through regulatory and institutionalreforms under a new, devolved governance system as well as the Micro and Small EnterprisesAct 2012. CUTS undertook a study to assess existing and potential institutional and regulatorychallenges which impede SME development, at the county level. Evidence was gathered fromSMEs engaged in the following sectors: Irish potatoes, dairy, fishing, pineapples and oranges,to build the evidence base. It emerged that current challenges include poor coordination of theSMEs activities; inadequate private and public dialogue at the county level; poor enforcementof regulatory legislations; and knowledge gap about national and county-level policies’ interface.

The study recommends the need to initiate inclusive private-public dialogues; support theestablishment of stronger business associations at the county level; formulate specific countyled SMEs policies aligned with the overall national SMEs policy framework; establish tailoredtraining institutes for SMEs at the county level; develop SMEs oriented financial institutions incounties; establish an import and export bank for SMEs; need for the central government tocoordinate the SMEs issues in the country and establish a SMEs development organisation.

1. See http://www.afdb.org/fileadmin/uploads/afdb/Documents/Publications/Kenya%20Full%20PDF%20Country%20Note.pdf

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MethodologyThe study was conducted in Homabay, Kwale, Kiambuand Bomet counties. Case studies of Irish potatoes,dairy, fishing, pineapples and oranges were used tounderstand the various institutional and regulatorychallenges facing the SMEs in Kenya.

The research team examined relevant secondarydocumentation which included reports, various policydocuments and internet sources. The review alsoincluded a comparative case analysis of more advancedeconomies in SMEs development like India and Republicof South Africa (RSA). The study adopted theParticipatory Competitive Advantage (PACA)methodology to collect the primary data. Focus groupdiscussions were conducted in Homabay, Kwale, Bometand Kiambu counties. In-depth interviews were heldwith key informants through questionnaires. Commonpolicy positions were deduced from the fieldworkfindings and literature review analysis.

FindingsProduction ChallengesComparative analysis across the five subsectorsconfirmed common production challenges likeinadequate inputs and lack of production technologyfor better crop and livestock production. Productionchallenges were attributed to limited access to financefor SMEs, despite the existence of various financialinstitutions. This was primarily due to stringentconditions set by the financial institutions. For instance,the Kenya Industrial Estates requires that the SMEsshould be in a registered association or group, to beable to access loans. However, most of the SMEs do notqualify to access the loans as they do not belong to anyof the producer associations.

Comparative analysis in the case of India and RSA iscontrary to the situation in Kenya. For instance, thereis the South Africa Micro Finance Fund and the SmallIndustries Development Bank - in South Africa andIndia, respectively. The Indian government has alsoestablished the Export-Import Bank to assist the SMEunits in placing their products in the internationalmarkets.

Table 1: Subsectors and Counties

County Subsector

Kiambu and Bomet Dairy and Irish potatoes

Homabay Fishing and pineapple

Kwale Oranges and fishing

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Marketing & Value Addition ChallengesThe implication of limited access to finance was alsoaffirmed by various participants to have variousimplications on marketing and value addition. High costof acquiring cooling plants; processing infrastructureand storage facilities were cited by farmers. Otherchallenges include limited trainings facilities on farmproduction, inadequate entrepreneur skills and limitedtechnical knowhow on processing.

It was also felt that most SMEs players do not havethe relevant skills to facilitate value addition activities,thus promoting exploitation by middlemen. It was alsoestablished that the Kenya Industrial Research andDevelopment Institute (KIRDI) impacts on valueaddition are yet to be realised in most of the counties inKenya as farmers still market unprocessed produce atrelatively low prices.

Regulatory & Institutional Challenges(a) Poor coordination of SMEs activities: Closer

analysis of the key study findings and literaturereview confirms existence of multipleinstitutions and departments handling SMEsissues in Kenya. For instance, the Ministry ofTrade, the Ministry of Industrialisation and theMinistry of Labour have departments related toSMEs. There is lack of coordinated strategiesand approaches to stimulate SMEs

development in Kenya. However, the scenariois contrary in the case of India and RSA. Forinstance, the Ministry of Micro, Small andMedium Enterprises in India and theDepartment of Internal Trade and Industry inSouth Africa are designated line ministriesresponsible for the overall coordination of theSMEs related activities in these countries.

(b) Inadequate private and public dialogue at thelocal (County) Level: Even though the private-public dialogue has been emphasised at thecentral level, through the Kenya Private SectorAlliance (KEPSA), most stakeholders citedlimited consultation at the ground-level duringpolicy making processes. Such limitedconsultation was attributed to lack of strongsector-specific associations of SMEs at the locallevel. Some of the existing associations areweak and lack funding to participate inrelevant policy related discussions. On theother hand, a comparative case analysis fromIndia and RSA affirms a formal institutionalstructure for SMEs development. The existingregulatory structure depicts institutionalisedsystem for private and public dialogue for SMEsconsultation, framework for stronger SMEsassociation and stronger institutional linkagesand coordination.

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(c) Poor enforcement of regulatory legislations:The findings affirm limited coordination inthe implementation of the SMEs-relatedprogrammes and policies in Kenya. Forinstance, the implementation of the LegalNotice No.44 in the potato industry hasbeen inadequate due to limitedcoordination between the Ministry ofAgriculture and the Local Authorities in thecounties. The same scenario is also evidentin the fishing industry where theimplementation of the regulation on thebeach management units has not beenrealised as per the intended objectives.There are also institutional challenges inregulation of the dairy industry, where theregulator (Kenya Dairy Board) does not haveintensive presence at the county level.

(d) Knowledge gap on National and Countypolicies’ interface: The extent to which thenew county system contributes to SMEsdevelopment depends on how best theoperationalisation of the current MSE Act,2012 factors in the necessary administrativechanges as outlined in the currentConstitution of Kenya.

Implications and PolicyRecommendationsThe research findings from the field affirm commonchallenges facing the SMEs in the counties and atsub-sector level. The challenges are related toproduction, marketing, institutional and regulatoryissues. Most of these challenges are county-specificin nature. However, the challenges are alsocommon especially in those counties that aredominated by agricultural activities.

The challenges require a strategy that wouldpromote easy access to credit and farm inputs,promote value addition activities and establish awell-coordinated and effective institutional andregulatory framework. There is also a gap in termsof information available regarding theoperationalisation of certain institutions/agenciesat the country level.

Other key policy issues arising from the researchfindings are pegged on the fact that there is lack ofa formal institutional framework both at thenational and local level, dedicated to SMEsdevelopment. The institutional deficiency hascontributed to unclear consultation mechanism atthe local level between the private sector and thegovernment.

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Policy RecommendationsThe new Constitutional dispensation and theinstitutional framework proposed under the newSMEs Act are important developments that canlead to further evolution and success of SMEs inKenya, if properly implemented. Some of thefindings and related recommendations of thisreport will help in such actions.

In the context of Kenya, SME developmentrequires a cross-cutting strategy that touchesupon many areas, which can help the sector toimprove and create a niche for itself in theKenyan economy. A set of measures in thisregard has been suggested below:

Establish an inclusive Private-Publicdialogue: A formal and organised SMEsstructure would provide direction on howthe county government should establish aformal coordination structure. Thesecould include national consultative panels;regional and local panels; explicit andopen policy development processes; andtransparent government activities.

Support establishment of strong SMEsassociations (county level): The overalland county specific government policiesfor SMEs should emphasise on buildingalliances in the various SMEs sub sectors.

The government should provide support toenhance legitimate representative organisationsat the county level. Such networks/associationswould assist in lobbying and policy advocacythrough the county assembly and citizens’ fora.Associations of SMEs engaged in the sameproduct should be promoted, especially atcountry levels.

Formulate specific county led SMEs policiesand programmes: There is need for each countyto evolve its own policies and packages ofincentives based on the county’s economiccompetitiveness. Such policies should beinformed by diagnostic studies undertaken toidentify the ‘competitive advantage’ of aparticular county in the SMEs sector. However,for the sake of stronger coordination, the centralgovernment should remain to be the overalloverseer of all the SMEs strategies in eachcounty to assist in the promotion of the SMEsactivities.

Establish tailored training Institutes for SMEs(in Counties): Even though there aregovernment institutions providing courses onSMEs issues, it would be important for thegovernment to establish SMEs specific traininginstitutes especially in each county based on thecounty’s competitiveness and its productionoutput.

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© CUTS Nairobi 2013. CUTS Nairobi, Yaya Court, Second Floor, Room No. 5, Ring Road, Kilimani, Nairobi, Kenya.Ph: +254-20-3862149. Fax: +254-20-3862149, E-mail: nairobi@cuts.org, Web: www.cuts-international.org/ARC/Nairobi

This Policy Brief has been prepared by David Ong’olo & Samson Odhiambo of and for CUTS, Nairobi under the project entitled,‘Assessment of the Regulatory and Institutional Challenges Affecting SMEs Development in Kenya’ implemented by CUTSNairobi with the support of Trust Africa (through the Investment Climate and Business Environment Research Fund). The views/opinions expressed herein are those of the author and do not necessarily reflect the views of Trust Africa.

CUTS Policy Briefs are meant to inform and educate readers and provoke debate on specific issues. Readers are encouraged toquote or reproduce material from this paper for their own use, but as a copyright holder, CUTS request due acknowledgement anda copy of the publication.

ReferencesILO (1972). “Employment, incomes and equity: a strategy of increasing productive employment in Kenya”. Geneva:International Labour OrganisationReddy, R.J.P. 1991. Problems and Development of Small Scale Industries In India, New Delhi: Discovery PublishingHouse.

Establish SMEs oriented financial institutions(County level): There is need for specific SMEsoriented banks to facilitate the promotion,financing and development of the small scaleindustries. The financial institution should offer awide range of financial products either directlyor indirectly. The financial institution for SMEsshould be established in each county to enhanceeasy access for potential and existing SMEs.

Establish an Import-Export Bank for SMEs:The government should also considerestablishing an import and export bank forSMEs. The bank should focus on SME exportersas its target beneficiaries. The bank shouldproactively assist the SME units in establishingtheir products in international markets anddeveloping the markets within the value chain.

Central coordinating institution: The proposedMicro and Small Enterprises Authority under theMSE Act, 2012 should focus on policyarticulation, promotion, development andprotection of SMEs. It should also monitor theexecution of the formulated policies and theeffectiveness in their implementation. It mustwork directly with the relevant departments atthe county government and should facilitate theestablishment of a SMEs One-Stop-Centre whereall the national issues regarding SMEs areaddressed.

Establishing a single window for SMEs: Thegovernment should develop requirements andcriteria for SMEs operations where strictregulations for SMEs entry and exit should beestablished to ensure that only the skill-basedSMEs are permitted to operate in the market.

Cross county knowledge sharing andexchanges: The findings confirm diversity interms of resources, experiences and sub sectorperformance across different counties. There isneed to promote cross county collaboration bysharing experiences and skills through field visitsto understand cross county experiences.

ConclusionThis study has shown that there are differences incounty specific and sectoral needs of SMEs inKenya. These supportive needs across the differentvalue chains should be provided. Even though thenew institutional structure of the countygovernment after the recent elections is now areality, it is generally agreed that its fulloperationalisation will take some time.

Meanwhile, there will be need for the TransitionalAuthority to work closely with the newlyestablished Small and MediumEnterprise Development Authority, Kenya toidentify county and value chain specific needs forSMEs. It is only by recognising this that the SMEswill be able to efficiently provide a source ofemployment and income for millions of Kenyans.

(Courtesy: Pictures are taken from the internet)