Innovative financing to promote SMEs

Innovative financing to promote SMEs Sameer Goyal Seoul Center for Financial Sector Development Finance and Markets Global Practice The World Bank Group, Republic of Korea Innovation Policy and Creative Economy KDIS WB CAG Policy Forum November 10, 2015, Seoul, Korea

Outline Why are SMEs important? Constraints to SME development The SME financing gap Innovative Financing Opportunities for SMEs Broad Policy Recommendations for Facilitating Innovations Role of International Financial Institutions like WBG

Why are SMEs important? Most formal jobs in emerging markets are SME jobs [7 in 10 formal jobs provided by SMEs, rises to 9 in 10 in some low income countries]; SMEs are estimated to create 4 out of 5 new formal jobs in emerging markets although their net contribution may well be lower due to job churn ; 600 million new jobs are needed over the next 15 years to absorb a growing workforce and tackle unemployment; SMEs can be important channels for supporting increased economic participation by women and youth; Competitive SME sectors create more diversified, agile and resilient economies improving productivity and competitiveness; A vibrant SME sector can enhance innovation; SMEs can also be a key channel for supporting other development goals such as food security, better geographic dispersion of development, better health and education and a reduction in climate change 3

4 SMEs and Employment

Job creation in EMs is stunted by lack of finance, electricity, business climate & skills Percent of Enterprises citing biggest obstacle (SMEs between 5-100 employees) Source: Enterprise Surveys database 2014 In 71% of countries, SMEs cite Access to Finance as the biggest obstacle Access to Electricity, Informality, Tax Rates and Political Instability are also factors 6

SMEs consider access to finance and power as the leading constraints Access to finance is cited as the leading constraint for SMEs, more so than large firms Large firms and SMEs in low income countries cite power as the most important constraint Informal sector competition, taxes and workforce skills are also key constraints Source: Small and Medium Enterprise Finance: New Findings, Trends and G 20/Global Partnership for Financial Inclusion Progress, IFC, 2013

Outline Why are SMEs important? Constraints to SME development SME financing gap Innovative Financing Opportunities for SMEs Broad Policy Recommendations for Facilitating Innovations Role of International Financial Institutions like WBG

SME Financing Options 9

SMEs Need a Mixture of Debt and Equity to Grow Firms need different types of financing which evolve as they grow. For instance, most MSMEs commence operations with own funds or money from friends, family and fools. Locked out of bank financing many enter the Valley of Death and die unless equity support, trade finance, or even small amounts of bank (or other financial institution) finance is made available. These graphs depict the typical life cycle of an SME firm as well as the share of funding types used globally by SMEs taken from the Enterprise Survey data (for both investment and for working capital). The reliance on own funds is significantly higher in developing countries a factor which, in the absence of alternative funding modalities, stunts their growth and overall economic development. FINANCING OF INVESTMENTS ALL COUNTRIES FINANCING OF WORKING CAPITAL ALL COUNTRIES Equity or stock sales 4% Supplier credit 5% Banks 14% Other sources 5% Banks 11% Supplier credit 11% Other sources 4% 10 Internal funds 72% Internal funds 74%

55-68% of formal SMEs in emerging markets are unserved or underserved Formal SMEs use of financial institution loans and financing constraints 1 Percent of total enterprises in emerging markets (i.e., excluding high income OECD) 27 33 100 35 43 20 25 8 10 Well served: Have a loan and/or overdraft and no financing constraint Underserved: Have a loan and/or overdraft but financing constraints Unserved: Do not have a loan or overdraft but need a loan Do not need a loan Total formal SMEs in emerging markets 1/ The number of SMEs unserved or under served is calculated based on SMEs access to bank loans and overdraft only (i.e., not including SMEs access to trade financing, leasing, factoring and other forms of credit) Source: IFC Enterprise Finance Gap Database (2011) 11

Estimated Total Credit Gap (Formal & Informal Enterprises) = $2.1-2.6 Trillion (in 2012) Source: IFC Enterprise Finance Gap Database (2011) 12

SME financing innovations There is a range of innovative financing options for SMEs Digital finance (electronic payments particularly G2B and B2B payments and other innovations in factoring or Crowd Funding models); Early Stage Innovation Financing (angel, seed, venture, etc); Securitization of SME loans Value Chain Financing particularly warehouse receipts for farmers Franchising Models; Social Impact Bonds/Development Impact Bonds; Impact/Social Investing and SME support; Challenge is to identify options aligned to you specific country needs

Some good examples of Financial Product Innovation NAFIN s web based platform for factoring (Mexico) FOGAPE s partial credit guarantee for SME s (Chile) Central Credit Reference Information System (Malaysia) Credit Scoring of BDC (Canada)

Focus on FinTech solutions SOURCE: The Future of FinTech A Paradigm Shift in Small Business Finance, World Economic Forum The Global Agenda Council on the Future of Financing & Capital, October 2015

SME Financing Barriers and Constraints Lack of understanding of SMEs limited data, informality Capacity issues at SMEs financial education, knowledge of innovative financing options, tax policies, export markets etc Financial infrastructure constraints Business Environment Legal, regulatory and accounting framework issues 18

Broad Policy Recommendations /1 Harmonized Data Collection on SME Finance and its enabling environment. Support initiatives that increase knowledge of the main obstacles to SME finance Identify good practice benchmarks for SME finance (local and international) and make them widely available Leverage Big Data and look at crowd financing and other big data mining innovations Informs policy making and improves access to financing through innovative products 19

Broad Policy Recommendations /2 Strengthen Financial Information & Market Infrastructure Credit information / Credit Registry (coverage and reliability) Improve the legal regime for secured transactions by broadening the use of movable assets as collateral in loan contracts Electronic payments (speed, security, access) reduced costs for financial institutions to assess SME ability and willingness to repay and broadens the range of assets SMEs can use to support their borrowing 20

Improved Financial Infrastructure & SME Promotion: China s Experience 21

Broad Policy Recommendations /3 Build capacity of stakeholders SMEs Financial Institutions and other financiers Government program providers/ policy makers Better financial education and literacy and product knowledge more positive and rapid absorption of innovative financing 22

Broad Policy Recommendations /4 Business Environment and Market Reform Improve judiciary system Reducing the time to repay creditors in the event of business failure, Allowing a clear and transparent process for business reorganization Improve the quality of public policy interventions (state owned banks, partial credit guarantees, and SME advisory services) Rationalize and designing effective government support 23

Outline Why are SMEs important? Constraints to SME development The SME financing gap Innovative Financing Opportunities for SMEs Policy Recommendations for Facilitating Innovations Role of International Financial Institutions like WBG

SME Finance is Directly Linked to WBG Twin Goals Reducing Poverty and Increasing Shared Prosperity SMEs play a major role in employment generation and economic development. Studies indicate that formal SMEs contribute up to 45% of employment and up to 33% of GDP in developing economies*. Jobs represent much more than income they boost liv ing standards, raise productivity, and foster social cohesion. Jobs provide a major source of income, thus determining living standards and consumption possibilities. Jobs are also the principal way out of poverty. The associated increase in income allows consumption of basic goods and services above poverty thresholds: as average household incomes rise by 2 percent per year, poverty rates are reduced between 1.2 and 7 percent, depending on country circumstances (1). SMEs are significant sources of employment and job growth. SMEs employ on average 65% of the workforce and account for 75% of total gross job creation, though with significant variation across countries. *These numbers are much higher when one takes the informal sector into account. (1) World Development Report 2013. (2) Data from the OECD across 18 countries and over 10 years

Supporting SMEs is a Part of the Joint Action Plan of the WB & IFC Goal by 2030: Bridging at least US$500 million of the existing SME Financing Gap and Supporting the Creation of 300 million Jobs World Bank IFC Joint Targets/Goals Bridge $1 trillion financing gap for SMEs and help create/support 600mn jobs What We do GP offers LOCs for on lending to FIs to reach SMEs, risk sharing facilities, and AS including diagnostics, strategies and capacity building in credit bureaus, collateral registries, regulations, and supervision assistance. FIG supports FIs with equity, debt and guarantees that support the SME business. Equity investments are often supported with Board seats and governance advice, as well as technical advice on SME lending. IFC Funds Group invests in SME PE Funds. Collaboration Priorities Focus Regions/Countries Top 3 Joint Transactions SME Finance Forum to support peer to peer learning for IFC clients (inter alia); ramping up FI lending supported by new secured collateral registries and leasing regulations; improved coordination and policy alignment across IFC and WB SME on lending programs; joint work around innovations for early stage capital for SMEs; collaboration on measuring results and data on SMEs and Jobs; strengthening SME analytics in SCDs and FSAPs; policy framework and investments on technology platforms supporting SME finance ALL REGIONS Sub Saharan Africa, Latin America, East Asia, South Asia, Middle East, Central and Eastern Europe Projects to scale SME lending as a result of secured collateral registries moving online. Structured bonds, LCY capital market support for long term capital financing for SMEs. Leads/Team Size Simon Bell, Axel Peuker (WB TRE) Wendy Teleki, Keshav Gaur (IFC TRE) Portfolio Size and Project Count IS $3.7 bn, 43 Projects ASA $170 mn 268 Projects IS $7.5 bn 446 Projects AS $31 mn 59 Projects 26

Share of the SME Financing Gap in the Top 24 Countries India 29% China 51% Brazil 79% Nigeria 71% Turkey 49% China 14.2% Brazil 10.0% Indonesia 72% India 5.9% Vietnam 52% Mexico 38% Chile 69% Colombia 83% Malaysia 34% Cote d lvoire 87% Peru 66% S. Africa 39% Turkey 3.1% Pakistan 47% Mexico Egypt 2.7% 57% Nigeria 1.2% Tanzania 0.8% 82% Malaysia Vietnam 1.0% > 5% 1 5% < 1% Philippines 40% Kazakhstan59 % Thailand 2.8% Congo, 1.7% D.R. 84% Indonesia 1.2% Peru Chile South Africa 0.6% Pakistan 0.5% Senegal 73% Kazakhstan 0.5% Egypt 0.5% 0.7% Bangladesh 0.4% Colombia 1.5% Congo D.R. 0.4% Philippines 0.5% Myanmar 0.5% Côte d'ivoire 0.3% Senegal 0.1% Tanzania 0.1% 27

Proposed 24 focus countries (descending by gap size) 24 Priority Countries for SME Finance (with share of total MSME financing gap) 24 countries represent over 50% of the gap in SME financing globally 400.00 350.00 300.00 250.00 200.00 100 90 80 70 60 50 Number of Countries per Region 1 7 6 150.00 40 100.00 50.00 30 20 10 2 3 5 US$ Billion 338 237 140 72.8 65.9 63.6 39.6 35.7 27.7 27.5 24.7 19.4 17.5 13.4 12.1 11.7 11.1 11.1 10.9 10.6 10.4 96.0 2.5 2.32 % 51 79 29 49 38 69 83 71 72 52 34 66 39 47 40 59 57 84 87 82 73 28 China Brazil India Turkey Thailand Mexico Chile Colombia Nigeria Indonesia Vietnam Malaysia Peru South Africa Pakistan Philippines Kazakhstan Myanmar Egypt $US bn % of MSMEs not served (0 indicates no information) Congo, Dem. Rep. Bangladesh Côte d'ivoire Tanzania Senegal 0 EAP LAC SAR ECA AFR MENA This list has been composed of countries with the largest absolute and relative SME financing gaps but reality checked against the assessments of regional Practice Manager s. We will, nevertheless, need to interpret this priority list flexibly while recognizing that progress may be made in other countries which may well substitute for slower progress in some of the countries in this group

Thanks you! Sameer Goyal Sgoyal@Worldbank.org