COLUMNS - 17 AUG 2015

Banking on MSMEs

Banking on MSMEs
Banking on MSMEs

During election season, everything an incumbent does seems politically motivated. So, when Goodluck Jonathan inaugurated the Development Bank of Nigeria (DBN) five days before the March 28 presidential elections, it was easy to write the news off as little more than a gambit to garner more votes. Perhaps the timing of the announcement was a deliberate effort to complete something that was already in the works, in case the elections didn't go in Goodluck's favour, with a boost in the polls as a possible bonus, or perhaps it was merely incidental as all the preparations just happened to fall into place at that point. Nevertheless, the motivation behind the establishment of a new national development finance institution (DFI) is secondary to the larger question on people’s minds: what can DBN bring to the table?

A Bank of Industry duplicate?

Does Nigeria really need another federal government-owned development bank? Of Nigeria’s five national DFIs already in existence — Bank of Agriculture (BOA), Bank of Industry (BOI), Federal Mortgage Bank of Nigeria, Nigeria Export Import Bank (NEXIM), and the Infrastructure Bank, DBN appears to have the most in common with BOI. They both aim to provide low interest, medium to long-term financing for the industrial sector and micro, small and medium scale enterprises (MSMEs). In fact, when the news of DBN’s impending establishment came out, there were expectations that BOI and BOA would be dissolved or subsumed into the new bank.

However, it is now clear that DBN will be working alongside, and not replacing, its predecessors. For one thing, there is a key difference in its functions. While loans to MSMEs formed less than 10 percent of BOI’s ₦823 billion portfolio over the last 13 years, MSMEs are DBN’s primary targets, with a goal of disbursing over 200,000 new loans to MSMEs within its first five years of operation. DBN will channel some of this funding through other financial institutions, including BOI, BOA and commercial banks. Therefore, DBN was set up to be integrated into the existing system, plugging glaring MSME funding gaps, rather than an extraneous element.

The MSME Movement

More importantly though, the establishment of the DBN is the federal government’s reaction to a wave of optimism surrounding MSMEs. In theory, supporting these smaller firms of less than 100 employees makes good sense for development — diversification of the economy, inclusive growth, and making a dent in the high rate of unemployment. But it has been hard to deny the appeal of large companies that are better able to overcome many of infrastructural, bureaucratic and legal challenges that come with Nigeria’s weak institutions. After all, Dangote makes better headlines than a small hand-soap manufacturer.

Then came the 2010 report on MSMEs released by the National Bureau of Statistics. It gave some concrete figures about these firms, and provided a rallying cry for MSME advocates. Now, the oft-cited statistic is that there are 17 million MSMEs across the country which employ over 32 million people while contributing over 45 per cent to Nigeria's Gross Domestic Product (GDP). Given this information, it only stands to reason that if MSMEs are already contributing so much to GDP even without adequate access to finance, then there must be high potential for growth if this problem is surmounted, right?

Too small to succeed?

When we take a closer look at the numbers, it’s obvious that there is lot more going on. Of the 17 million MSMEs, about 99.8 percent are micro enterprises in the informal sector. A large chunk of these firms (76.9 percent) have a monthly turnover of less than ₦50,000, which is why they contribute only 26 percent of GDP, while the small and medium enterprises that form only about 0.2 percent of MSMEs generate as much as 20 percent of GDP.

For micro enterprises to really become drivers of growth, they need to move into the more productive small and medium enterprise categories. A big hurdle to their expansion is their fragility — they have relatively short lifespans, and cannot weather shocks in the economy. This has also made them unattractive to private lenders. About 84.6 percent rely on personal savings to run their businesses, while only 9.2 percent use loans. A major impediment to them accessing loans from the DBN and other DFIs is the inability to understand the application process. A large number of the owners of these micro enterprises never successfully completed their secondary school education. If the DBN is serious about offering them loan facilities, then it also needs to demystify the loan application and repayment process. Relationship banking would be key to getting loan applications high and keeping default rates low.

All hands on deck

For now, the movement appears to be in full swing. The DBN is slated to begin full operation within nine months with support from other countries and international bodies including the World Bank, Africa Development Bank, German Development Bank and French Development Agency which donated $500 million, $450 million, $200 million and $130 million respectively towards the DBN’s initial capital of $1.5 billion.

At the same time, a flood of finance is pouring into the MSME sector from other quarters. In 2014, the Central Bank of Nigeria (CBN) began operating a ₦220 billion MSME Development fund (almost as large as DBN’s starting capital) disbursed at a 9 percent interest rate through five commercial banks: United Bank of Africa (UBA), Skye Bank, GTBank, Zenith Bank and Fidelity Bank. The Dangote Foundation and BOI have also established a ₦10 billion MSME Fund with an interest rate of 5 percent.

The Political Angle

In Nigeria, when we start talking about such large amounts of money moving around, politics and corruption invariably come up. BOI is owned by the federal government through the Ministry of Finance and Central Bank of Nigeria with each holding ownership shares of 59.54 and 40.36 percent respectively, leaving private investors with 0.1 percent. Consequently, the bank’s reputation is very closely linked with that of the government. Last year alone, it faced two probes: the first by the House of Representatives over its disbursement of the ₦300 billion Power and Airline Intervention Fund (PAIF) and then by the Financial Reporting Council (FRC) over discrepancies and misleading information in its released accounts. 

When the Jonathan administration launched DBN, little was said about the new DFI’s ownership structure other than general claims that it would be “private sector driven”. One potential shareholder is the European Investment Bank (EIB), which has pledged $20 million in equity. A different ownership structure for DBN with more private investors may help it run a tighter ship and avoid controversy. Given President Buhari's anti-corruption reputation, the bank may benefit from greater scrutiny. The Buhari administration will have a say in the leadership of DBN, and if it makes sound choices, it may lend Nigerian entrepreneurs more confidence in the transparency of the institution’s loan disbursement processes.

The Bigger Picture

DBN may turn out to be the answer to the MSME sector’s prayers, or it could fade into obscurity as a pet project of a past administration. Going forward, the bank’s leadership will have to move beyond loan disbursement targets; it cannot measure its success only by how many businesses it is able to lend money to. Rather, there needs to be greater emphasis on understanding the nature of its customer’s businesses and providing a full spectrum of services that will translate these loans into expansion, increased productivity, and a greater capacity to repay debt.

At this juncture, it is necessary to point out that financing development can only go so far. We need to remember why private sector interest rates are high in the first place. One glaring truth is that interest rates are responding to the high levels of insecurity, rent-seeking, bureaucratic inefficiencies, and poor enforcement of contracts by a weak judiciary, which make long-term investments in Nigeria very risky. DBN may help to alleviate the problem of access to finance but these underlying institutional deficiencies will always impose a limit on the level of industrialisation obtainable in this economy.


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Ebehi Iyoha

Ebehi Iyoha

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