Where Does SME Finance Program Fit?
Commercial banks mainly have provided loans to Small and Medium Enterprises (SMEs). Most of these loans are given to enterprises that have a relatively solid bottom line and sufficient financial data.
On top of this, collateral (being most important) is required for these loans in principal. Therefore, this type of loan is only available to some of the higher-performing SMEs. Consequently, many are disillusioned by the name and definition when looking for help with a small business loan through SME.
There is another financial system, Microfinance. Microfinance is generally defined as micro loans for realizing poverty reduction. It targets low-income groups. Microfinance has such features as non-collateral loans and mutual guarantee.
Here you can see there is a financial gap that is not covered by the two financial systems. The enterprises, which belong to this gap, have a potential to grow their businesses and create employment and grow in size.
How SMEs Finance Program Work
The economic and social importance of the Small and Medium Enterprise (SME) sector is well recognized in academic literature. It is also recognized that these actors in the economy are underserved, largely in terms of finance (not articles about personal finance).
This has led to significant debate on methods to serve people and/or groups. Although there have been numerous schemes and programs in different economic environments, SME finance can be summarized by two main approaches which are stated here.
Collateral based lending is offered by traditional banks and finance companies, make up a combination of the following:
Information based lending:
A substantial portion of the SME sector doesn’t have sufficient collateral required for collateral based lending and does not have high enough returns to justify the risks taken by venture capitalists.
In addition to these regulatory issues, there is ample evidence that SMEs are significantly under financed. A study of other countries SME programs, report that only 3-18 percent could obtain financing from banks.
The public sector, as well as the non-governmental organizations, tend to focus their attention on more prominent enterprises that individually pose a greater environmental risk. But their lack of engagement with SMEs ignores an equally important and widely dispersed threat.
This is mainly because of the logistical difficulties inherent in lending money to small businesses. Banks tend to offer loans to SMEs on unfavorable terms because of the high-fixed costs associated with these transactions.
Finally, SMEs are considered to be at a greater risk of failure, partially because company directors may have less collective management experience of business expertise than larger companies. Check this out: personal finance newsletter.
Also, many investors often shy away from investing in emerging economy SMEs because of unfavorable investment climates and the uncertainty of sufficient returns. The result is that often they secure financing only by agreeing to a high amount of collateral and shorter payback periods while the rest must rely on their personal networks or high interest rates.