Characteristics of Kenyan MSMEs Relevant to the Proposed Kenya Credit Guarantee Scheme
Globally, there is no standard definition for Micro, Small and Medium-Sized Enterprises (MSMEs). However, key attributes that are considered when defining them include the number of employees, turnover and capital. In Kenya, MSMEs are variously defined in different contexts. They are defined as enterprises that have 1-99 employees. Micro enterprises have less than 10 employees; small enterprises have 10-49 employees while medium sized enterprises have 50-99 employees.
MSMEs play a pivotal role in Kenya’s economy. They contribute to over 90 per cent of total labour force and play a key role in poverty reduction and economic development. They are also a source of innovation, competitiveness, goods and services, and entrepreneurial skills. There are over 7.4 million MSMEs employing approximately 14.9 million Kenyans in various sectors of the economy. In addition, the MSMEs cover a wide range of establishments in almost all sectors of the economy. It is also worth noting that most MSMEs operate informally. Moreover, the important role of MSMEs in promoting GDP growth and employment is underlined in Kenya’s Vision 2030, the country’s long-term development blueprint and the “Big Four” agenda under the manufacturing agenda.
Despite the critical role they play in the economy, MSMEs are frequently confronted with market imperfections. They have difficulties in accessing adequate, affordable and timely credit; face ineffective marketing due to inadequate resources and non-availability of skilled manpower; and most of them are unable to integrate into large-scale business relationships due to lack of international standards and quality controls. Most MSMEs operate without any type of certification, which greatly reduces their prospects of developing backward linkages with large enterprises. Additionally, it is important to note that a large body of literature identifies access to credit as the most important challenge faced by these types of enterprises.
The Government has introduced policies and initiatives to address these failures in access to finance and markets with varying degrees of success. In 2013, the Government under the Access to Government Procurement Opportunities (AGPO) programme set aside 30 per cent of all Government procurement for youth, women and persons with disabilities. The aim of the programme is to facilitate the youth, women and persons with disability-owned enterprises to participate in government procurement and, therefore, increase their market access and further improve weak linkages in the value chain. Public funds advanced to the sector to address the access to credit challenge have included the Youth Enterprise Development Fund, Small and Medium Enterprise (SME) Fund, Uwezo Fund and Women Enterprise Fund. These funds are mainly designed to cater for the unique needs of the respective categories, who would not access credit from the formal system because of stringent requirements that they could not fully meet, for instance, lack of collateral to support their loan applications.
Despite the introduction of these funds, however, access to formal financial services and products and the cost of credit is still a challenge for MSMEs. According to the Financial Sector Deepening 2015, Micro and Small Enterprises access credit at a disproportionately higher cost. The outcome is supported by the 2016 MSME Survey, which establishes that about 9,000 licensed MSMEs in Kenya and about 121,100 unlicensed MSMEs obtained credit from the public decentralized enterprise funds. The survey identified limited access to adequate collateral as a major reason for the low access to credit. To address this persistent challenge, the “Big Four” Agenda calls for affordable credit and policy proposals such as those provided in the 2018/19 Budget Statement, which call for aqwa national Credit Guarantee Scheme (CGS) aimed at enhancing access to affordable credit to MSMEs in Kenya.
A credit guarantee is a financial product that can be bought as a partial substitute for collateral, where the guarantor promises to pay all or part of the loan if the borrower defaults. CGSs would ease the financial constraints of MSMEs by enabling them to access capital, which they would otherwise not get due to limited collateral, lack of credit history and inability to provide bankable documents. The proposed CGS is expected to address financial constraints of small enterprises as a result of market failures and the unique circumstances of the enterprises. However, to ensure successful development and implementation of CGSs in Kenya, it is vital to note that MSMEs vary in their dynamics, needs, distinctive characteristics, nature and operations, which make them have trouble in accessing credit, and therefore, should be factored in the development of the Kenya Credit Guarantee Policy:
Distribution of MSMEs by Gender of Owners: This is an important factor to consider. The MSME Survey (2016) established that distribution of MSMEs by gender of business owners was as follows: 47.9 per cent of the licensed establishments were owned by males; 31.4 per cent owned by females; and 20.7 per cent were jointly owned. Further, 60.7 per cent of unlicensed establishments were solely owned by females. This shows that to enhance women’s participation, they need to be encouraged through affirmative action given their access to finance is often more challenged compared to men. Most women work in the informal sector and access to credit may also be compounded by socio-cultural factors that limit their access to collateral security.
Level of technology and innovation: MSMESs need to take up technology and innovation to ensure that their goods and services meet untapped customer needs. Technology adoption and innovation will require funding and especially with a view to encouraging process and marketing innovations, which studies show are not common features among MSMEs. In this regard, MSMEs should be encouraged to adopt contemporary technology and CGSs can play a leading role in supporting adoption of the latest technology.
Business start-up and financing: Over the years, traditional sources of financing for MSMEs have revolved around personal savings, loans from friends and family, and other informal sources. Over 80.6 per cent of enterprises use family/own funds as the main source of start-up capital while 4.2 per cent of business owners get loans from family and/or friends to start their business. Banks finance 5.6 per cent of MSMEs, chamas 1.4 per cent and cooperatives only 0.4 per cent. The Government funds 0.1 per cent of all MSMEs. Therefore, MSMEs face challenges in raising finances to support their entrepreneurial pursuits. CGSs could address the unmet funding demand by closing the financing gap. They could also provide platforms for financial literacy to promote efficient use of funds.
MSMEs business environment constraints: Some of the challenges that MSMEs face arise from the regulatory environment characterized by requirement of multiple licenses for the same business. These licenses are also expensive and cumbersome to get. The CGSs should, therefore, be formulated, factoring in these challenges. For example, they should be designed in a manner that does not leave out MSMEs that operate informally. The CGSs should thus be cognizant of the fact that MSMEs operate outside of formal business registration.
In conclusion, improvements in financing and access to credit to MSMEs by ensuring a strong legal framework that allows CGSs to thrive is imperative. Such an operational framework should be informed significantly by the characteristics of MSMEs.
Author: Muleli Mutuku, Policy Analyst, Private Sector Development Department
Photo: Courtesy of Kenya National Bureau of Statistics