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SME Finance: How to Raise Capital for Small Businesses

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Like all businesses, raising and securing a solid capital base presents a huge challenge to small and medium-sized enterprises (SMEs). Even the best ideas thought up by the smartest entrepreneurs will remain just an idea until some sort of funding is available to bring about its execution and maintenance.  Finance is a crucial element for the advancement of SMEs, especially putting into consideration the vast potential for sustainable development held by SMEs within any country and the fact that throughout the life cycle of an SME, they would invariably have different needs for funds to carry out certain projects.

While funding is evidently not the only setback militating against the growth of the SMEs, it certainly is the most daunting. Sas Aruwa, in his paper on Financing Options for Small and Medium Scale Enterprises in Nigeria, says, “The accessibility to funds and the cost of raising them have remained issues limiting the in-capitalisation requirements leading to premature collapse of the enterprises.” Several factors have been tagged as responsible for this challenge. Lack of sufficient credit for SMEs traceable to the disinclination of banks to extend credit to them is one of such factors. This reluctance by banks can be as a result of poor documentation of project proposals as well as insufficient collateral by SME owners. There is also the issue of banks wanting to reduce their risk profile.

The factors are not all external; the entrepreneurs are not without responsibility in their lack of funds. Typical SMEs have, over time, displayed poor management and accounting habits as well as poor maintenance culture. This has hampered their ability to raise or keep finance. Despite these challenges, several SMEs are still coming up and finding ways to generate the funds with which to run their businesses.

Miss Oteri Faith of Unity Bank Head quarters, Victoria Lagos Nigeria, has this to say on financing: On a large scale, most financing options fall into one of the following two categories:

  • Debt Financing: Debt financing according to Entrepreneurs Small Business Encyclopaedia is a method of financing in which a company receives a loan and gives its promise to repay the loan. It includes both secured (collateral) and unsecured loans (often based on trust, credit reputation, etc, but no collateral is involved).  Debt financing can be largely grouped into two main types: long term debt financing and short-term debt financing. They differ largely in terms of their level of risk to the company and the cost of servicing. Overdrafts and bank loans are the most common types of debt financing
  • Equity Financing: This involves, but is not limited to, obtaining finances from potential investors, family and friends, business angels or issuing an Initial Public Offer (IPO). Equity finance enables the generation of share capital from external investors in return for a share of the business. It often eliminates the hassle of debt repayment and interests as associated with debt financing.

Other methods of funding SMEs include commercial mortgages, factoring, mezzanine finance, internal financing, etc.

In Nigeria, the situation isn’t different until recently when the bankers’ committee intervened in 1999 with a scheme themed “Small and Medium Industries Equity Investment Scheme” (SMIEIS). The scheme requires all banks in Nigeria to set aside 10 percent of their profit before tax (PBT) for equity investment in small and medium industries. It however did not commence till June 19th 2001. Also available is the N220 billion SME Fund recently launched by the Central Bank of Nigeria (CBN) that small business owners can tap into.

 

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