8 December 2022: For many South African entrepreneurs, credit provides an effective way of financing an SME (small and medium enterprise) through its early stages or into its next phase of growth. But while traditional forms of credit may appear to be the intuitive “go-to” for small business owners, bank loans tend to be notoriously difficult to secure.
Jeremy Lang, Chief Investment Officer at Business Partners Limited has extensive experience with providing tailored finance solutions to SMEs. As he explains: “As an SME financier, we deliberate over small business finance in less of a ‘tick-box’ manner and more on a ‘case-by-case’ basis, taking into consideration not only top-level metrics like cashflow and financial viability, but also the skillset and business acumen of the entrepreneurs we work with.”
Recent statistical data by the South African Reserve Bank revealed that bank loans to SMEs currently only equate to 25% of total business loans. Loans and advances to businesses contracted during 2020, falling by almost 6% in early 2021, with credit conditions reflecting the uncertainties of the mid-pandemic economic climate.
The Organisation for Economic Co-operation and Development attributes this relatively low level of credit deployment to SMEs, to the fact that banks are by their very nature, risk averse and governed by stringent underwriting criteria.
Entrepreneurs – and particularly those who are starting their first businesses – represent a substantial risk, compared to the lower risk associated with larger, more established companies with commercial credit histories. On the other end of the spectrum, micro-businesses that employ five or fewer people have better access to personal lending facilities, microfinance funding and government grants.
A significant percentage of South African SMEs, however, fall within the earning bracket of between R1 million and R100 million (in turnover), with staff complements of between one to 35 people. These ventures are what McKinsey & Company refer to as the “missing middle,” and find themselves in a position of being neither small nor large enough to be viewed as valuable prospects for traditional lenders.
Currently, non-bank, independent SME financiers, and angel investors are filling this prevailing “credit gap”, which, according to an International Finance Corporation 2019 report was estimated at US $30 billion for South Africa. In future, non-bank lenders and players, primarily within the emerging FinTech sector will continue to play a significant role in providing entrepreneurs with access to funding.
And, as Lang asserts, SME financiers like Business Partners Limited are also positioned to go beyond “rands and cents” in providing support for SME owners. As the most recent Business Partners Limited SME Index illustrated, there is a growing need for SME-specific information, resources and support in areas such as funding and business strategy.
In light of this, education and mentorship initiatives can play a key role in helping fledgling entrepreneurs navigate the often-complex arena of financing, and more importantly how to use responsible lending to grow and develop an SME.
Institutions will have different requirements that determine whether entrepreneurs qualify for credit. Financiers will also have their own objectives such as industry preferences, transaction sizes, collateral requirements, impact and/or commercial return expectations, amongst others. Finance from Business Partners Limited, for example, can be used to expand an SME via increased working capital requirements, to finance an asset purchase, to finance a business takeover, to buy commercial property or renovate an existing commercial property, or even to buy a franchise.
Although the documentation required to apply for business credit will also vary from lender to lender, basic financial documents will be requested as a standard requirement. These will include a business plan, cashflow history and projections as well annual financial statements and up to date management accounts.
The entrepreneur’s personal documents such as their ID and marriage certificate (where applicable) will also be requested. And finally, the lender will request admin-related documents including company and tax registration documents, office leases, shareholder agreements, business licenses and the like.
A recent assessment of the local small business landscape by industry body, SME South Africa, revealed that some of the main reasons why entrepreneurs are denied funding include inaccurate or incomplete financial statements, inadequate proof of a healthy cashflow and bad credit scores.
“Non-bank SME financiers like Business Partners Limited are generally nimbler and more adaptable to different levels of types of risk when compared to banks. But this does not mean that our due diligence is not as thorough as traditional lenders. As a first port of call, we will establish the financial viability of the small business, so entrepreneurs are advised to ensure that their business plan, forecasts and cashflow documents are professionally presented and detailed.
Applying for funding can be a daunting task, which is why preparation is key – do research, ask for advice from experts and lean on the experience of successful entrepreneurs,” concludes Lang.