Trade credit
SMEs, like any company; can take credit from their suppliers. However, this is only short-term and, indeed, if their suppliers are larger companies who have identified them as a potentially risky SME the ability to stretch the credit period may be limited.

Factoring and invoice discounting:
Both of these sources of finance effectively let a company raise finance against the security of their outstanding receivables. Again, this finance is only short-term and is often more expensive than an overdraft. However, one of the features of these sources of finance is that, as an SME grows, their outstanding receivables will grow and so the amount they can borrow from their factor or from invoice discounting will also grow. Hence, factoring and invoice discounting are two of the very limited number of finance sources which grow automatically as the business grows.

Leasing
Leasing assets rather than buying them is often very useful for SME as it avoids the need to raise the capital cost. However, leasing is only really possible on tangible assets such as cars, machines, etc.

Bank finance
Banks may be willing to provide an overdraft of some sort and may be willing to lend in the long term where that lending can be secured on major assets such as land and buildings. However, raising medium-term finance to fund operations is often more difficult for SMEs as banks are traditionally rather conservative. This is understandable as the loss on one defaulted loan requires many good loans torecover that loss. Hence, many SMEs end up financing medium-term, and potentially longer-term assets, with short-term finance such as an overdraft. This is poor matching and very much less than ideal. This issue is often known as the ‘maturity gap’ as there is a mismatch of the maturity of the assets and liabilities within the business.

Furthermore, banks will often require personal guarantees from the owner-manager of the SME, which means the owner-manager has to risk his personal wealth in order to fund the company.

The venture capitalist
A venture capitalist company is very often a subsidiary of a company that has significant cash holdings that they need to invest. The venture capitalist subsidiary is a high-risk, potentially high-return part of their investment portfolio. Hence, many banks will have venture capitalist subsidiaries. In order to attract venture capital funding an SME has to have a business idea that may create the high returns the venture capitalist is seeking. Hence, for many SMEs, operating in regular business, venture capitalist financing may not be possible. Furthermore, a venture capitalist rarely wants to remain invested in the long term and, hence, any proposal to them must show how they will be able to ‘exit’ or release their value after a number of years. This is often done by selling the company to a bigger company operating in the same trade or by growing the company to such a size that a stock exchange listing is possible.

Listing:
By achieving a listing on a stock exchange an SME would become a quoted company and, hence, raising finance would become less of an issue. However, before a listing can be considered the company must grow to such a size that a listing is feasible. Many SMEs can never hope to achieve this.

Supply chain financing:
In supply chain financing (SCF) the finance follows the value as it moves through the supply chain. SCF is relatively new and is different to traditional working capital financing methods, such as factoring or offering settlement discounts, because it promotes collaboration between buyers and sellers in the supply chain. Traditionally there was competition as the buyer wanted to take extended credit, and the seller wanted quick payment. SCF works very well where the buyer has a better credit rating than the seller.

Example. Company X (which has an A+ credit rating) buys goods from Company Y (which has a B+ credit rating). CompanyY has agreed to give Company X 30 days credit.Company Y invoices CompanyX. CompanyX approves the invoice. CompanyX is expected to pay the amount due to its financial institution –‘Bank Z’in 30 days at which point the funds are immediately remitted to CompanyY. However, Company Y can request the funds from Bank Z prior to the due date. If they do this they receive the payment less a suitable discount. This discount is likely to be less than the discount charged if CompanyY used traditional factoring or invoice discounting. This is because they are using Bank Z (CompanyX’s financial institution) and benefit from CompanyX’s higher credit rating as the debt is the debt of Company X and by approving the invoice Company X has confirmed this.If CompanyX wants to delay payment beyond the 30-day point, then it can do so. However, when CompanyX does finally pay Bank Z some interest will be due. Obviously this interest charge reflects the credit rating of CompanyX.

Technological solutions are used in order to efficiently link the buyer, the seller and the financial institution. These technological solutions effectively automate the business and financial process from initiation to completion.

SCF can bring considerable benefit and can cover more than one step in the supply chain. It is perhaps of most benefit where considerable value is constantly moving through the supply chain, such as occurs in the automotive trade. SCF is only currently used in a relatively small proportion of companies, but its use is expected to grow significantly. As with factoring and invoice discounting, this source of finance is only short term in nature.

Obviously, SCF could be of great help to SMEs that are supplying larger companies, or even the suppliers of larger companies, with a good credit rating. As the technological solutions required to make SCF work become more widespread and SCF grows, more and more SMEs are likely to benefit.

Crowdfunding
Crowdfunding involves funding a venture by raising finance from a large number of people (the crowd) and is very often achieved over the internet. Crowdfunding has grown rapidly and in 2013 it has been estimated that over US$5bn was raised worldwide through crowdfunding. There are now in excess of 500 crowdfunding platforms on the internet.

The internet platforms are set up and run by moderating organisations who bring together the project initiator with the idea, and those organisations and individuals who are willing to support the idea. Different platforms have different policies with regard to assessing the ideas seeking support and checking those willing to provide the finance. Hence, great care is needed when using these platforms.

Finance provided by crowdfunding may be invested in the debt or the equity of the ventures seeking the finance. Some crowdfunding is done on a ‘keep it all’ basis where any funds raised are kept by the recipient, whereas some is done on an ‘all or nothing basis’ where the recipient only receives the funds if the total required to fund the particular project is raised within a given time frame. The crowdfunding platform takes a fee, which is often a percentage of the amount raised.

A feature of crowdfunding is that it lets people search for and invest in ideas and projects that they have an interest or a belief in. Hence, these investors are sometimes willing to take bigger risks and/or accept lower returns than would be usual. A further feature is that, just as in a real crowd, there is potential for interaction within the crowd. Hence, keen supporters of a particular idea will very often encourage others to participate. All sorts of ideas have now been funded in this way and there has been much focus on innovation and new technology.

Crowdfunding has the potential to be very beneficial to SMEs. It allows them to contact and appeal directly to investors, who may be willing to take the risk involved in funding the new technologies and innovations, which SMEs are often so good at producing.

HOW THE GOVERNMENTS OF NIGERIA CAN HELP FINANCE SMES
Governments are often keen to assist as to the extent that SMEs are unable to raise finance for their profitable projects, investment opportunities are potentially lost and, hence, national wealth is lower than it could be. Additionally, governments are to support innovation, which is one area where SMEs often excel, and are keen to support the growth of SMEs as this boosts employment.

A number of key ways governments assist include the following:
1. Providing grants.
2. Providing tax breaks – for instance, tax incentives may be available to those willing to take the risk of investing in SMEs. (agricultural Process)
3. Providing advice – for instance, government to set up government-funded which provides assistance to those setting up and running a business, including advice on raising finance.
4. Guaranteeing loans – for instance, for a small fee from the SME, a large proportion of any loan advanced by a bank is guaranteed by the government. As this significantly reduces the risk to the bank, they are potentially more willing to lend. This can be called ‘Enterprise Finance Guarantee’ scheme.Instead of commercial loss money to the defaulters.
5. Providing equity investment –government-backed venture capital organisations that are willing to invest in the equity of SMEs. This is often done on a matching basis, where the organisation will match any equity investment raised from other sources. This is practices in UK and USA.

Dr. Dada Adefolami Suaraju MBA PhD CPF Acct is a Finance / Management Consultant and
Certified Professional Forensic Accountant ([email protected], 08052043855).