SMEs are engines of growth, vital to most economies. Research suggests that micro businesses and SMEs account for 95% of firms in most countries. They create jobs, contribute to GDP, aid industrial development, satisfy local demand for services, innovate and support large firms with inputs and services.
In Africa, SMEs create 80% of employment, establishing a new middle class and stimulating demand for new goods and services. In Asia, the regional and global economic slowdown has raised the need for a new growth model, strengthening business and economic opportunities for SMEs to boost national productivity and social welfare.
This article will look into some of the challenges SMEs face, especially barriers and threats to SME growth, in sub-Saharan Africa, particularly Kenya. Kenya has been chosen because of its dynamic private sector; recognised role SMEs play in the economy; and the need to effectively utilise this. Kenya’s potential success in boosting SME growth will serve as a good role model for other African economies.
Growth in Africa and SMEs
Africa is set to have a decline in economic growth with less than 3% average growth forecast for 2017. Nevertheless, pockets of countries in Africa, mainly non-resource intensive countries such as Côte d’Ivoire, Ethiopia, Kenya and Senegal, are foreseen to continue to grow at more than 6%. According to the IMF, growth in these countries has been supported by infrastructure investment efforts and strong private consumption. Many African countries are turning to entrepreneurs to support future growth. With entrepreneurship playing a vital role in the development of a vibrant and formal small business-sized sector, there is much scope for SMEs to support African growth.
Kenya’s growth and SME prospects
Kenya’s 2017 overall GDP growth is projected at 6.4%. This positive growth projection is based on a number of assumptions, including increased rainfall and enhanced agricultural production, continued low oil prices, and reforms in governance and justice. Kenya’s 2016 second quarter growth was supported by agriculture, forestry and fishing, transportation and storage, real estate, wholesale and retail trade. The manufacturing, construction, financial and insurance sectors slowed down, while accommodation and food services, mining, quarrying, electricity, water supply and information and communication sectors recorded improvements.
In Kenya, SMEs play a key role in economic development and job creation. In 2014, 80% of jobs created were dominated by SMEs. The term micro and small enterprises (MSEs) or micro, small and medium enterprises (MSMEs), is used to refer to SMEs in Kenya. Under the Micro and Small Enterprise Act of 2012, micro enterprises have a maximum annual turnover of KES 500,000 and employ less than 10 people. Small enterprises have between KES 500,00 and 5 million annual turnover and employ 10-49 people. Medium enterprises are not covered under the act, but have been reported as comprising of enterprises with a turnover of between KES 5 million and 800 million and employing 50-99 employees.
Most SMEs fall under the informal sector called jua kali, which means hot sun or fierce sun in Swahili. Initially, jua kali referred to people working under the hot sun or open air. By extension, the term now refers to people in self-employment or small-scale industries. In other reports, jua kali refers to all enterprises employing between 1-49 employers in all sectors. It therefore appears that jua kali could refer to both formal and informal sector SMEs. Kenya does not have a comprehensive record of SMEs. While estimates put Kenya’s MSMEs at about 7.5 million enterprises, contributing approximately 44% to the Kenyan GDP in 2008, it has been suggested that the number of formal SMEs is more in the region of 250,000. A 2014 CNBC news report puts SME contribution to Kenya’s GDP at about 45%.
The informal sector is estimated to constitute 98% of business in Kenya, contributing 30% of jobs and 3% of Kenya’s GDP. The government recognises the role of the informal sector and seeks ways to integrate these businesses into the formal sector. According to the 2017 Doing Business in Kenya report, the ease with which businesses can be registered has a bearing on the number of entrepreneurs who start businesses in the formal sector, leading to jobs and more government revenue. In Kenya, starting a business involves seven procedures, takes 22 days and costs 21.1% income per capita for both men and women. Although Kenya has generally made progress in making it easier to start a business, there are questions as to how easy starting a business is for SMEs.
The benefits that will accrue to Kenya through integration and skills development of its large, yet unproductive, informal sector are significant. Fortunately, Vision 2030 acknowledges the need to support the informal sector to raise productivity and distribution, jobs, owners’ incomes and public revenues. Vision 2030, the country’s development blueprint to transform Kenya into a newly industrialising middle-income country, aims to increase annual GDP growth rates to an average of 10%. Under its economic pillar, apart from supporting the informal sector, the country hopes to accelerate economic growth by increasing national savings, implementing governance and institutional reforms and addressing poor infrastructure and high energy costs. The government is currently involved in some infrastructure developments, which have the potential to ease some of the constraints to doing business, such as the lack of electricity and accessible roads.
Barriers and threats to SME growth in Kenya
The Deloitte Kenya Economic Outlook 2016 notes Kenyan SMEs are hindered by inadequate capital, limited market access, poor infrastructure, inadequate knowledge and skills and rapid changes in technology. Corruption and an unfavourable regulatory environment are other challenges. Government attempts to address these problems include enforcing legislation on local content for public projects, establishing ‘Buy Kenya, Build Kenya’ policies in public procurement, research and development support and increased contributions to funds such as the Uwezo. The Uwezo fund aims to expand access to finances and promote women, youth and persons living with a disability. The Kenyan government is also promoting small and medium scale manufacturing firms and plans to develop SME parks.
In comparison to other sub-Saharan African countries and despite Kenyan banks’ improved involvement, Kenyan SMEs continue to face challenges related to financing. To address this problem, a series of initiatives are taking place. Kenya’s Financial Sector Deepening (FSD) programme seeks to expand access to financial services among lower-income households and small enterprises. Currently funded by the Kenyan government, the UK department for International Development, the Swedish International Development Agency, and the Bill and Melinda Gates Foundation, the FSD carries out research projects to better understand the SME finance market.
In 2015, FSD, the World Bank and Central Bank of Kenya jointly conducted a research project in an attempt to understand the supply and demand side of the SME market. The research highlighted the difficulty in tracking the size of the SME market and its need for financial services. The research showed the supply side of SME finance, which evolved between 2009 and 2013, resulting in a rapid expansion in Kenya’s financial sector. In order for Kenya to fulfil its desire to underpin inclusive and sustained economic development, SME lending must increase and improve further. In 2016, another project carried out by FSD to build capacity within Kenya’s financial services sector to SMEs, showed banks were not serving SMEs effectively.
Improvements in financing would include reducing the high cost of SME credit by implementing more efficient collateral registration processes, and the adoption of innovative finance products such as factoring and leasing. Increased funding access in the agriculture sector, which is the backbone of the economy, is required. Although the agriculture sector provides a livelihood and employment for the majority of Kenyans, contributing 30% to GPD and accounting for 80% of national employment, its percentage of SME financing is small. Overall, there is the need for changes to law, fiscal policies, financial institution strategy and management of SME financing.
Inclusive economic growth and development requires a serious consideration of the opportunities and challenges faced by SMEs. Kenya’s case study discussed here illustrates the potential of SMEs to boost national productivity and transform the economy. However, the challenges faced by SMEs – of which access to finance is critical – if not addressed will impact growth and hinder Africa’s goal of using entrepreneurs to support future growth.
This article was first published in How we made it in Africa on 16 December 2016.
Published:21 December 2016