In sub-Saharan African countries as in other poor regions, development of the SME sector in energy and other segments is constrained by market failure.
Figure 2 highlights the SME finance segment from $50,000 to $1 million where the supply of enterprise finance is extremely limited in sub-Saharan Africa.
It sits between the ‘relatively’ well served microfinance segment (loans up to $10,000) and project financing and venture capital (from $1m to $5m).
Again as in India, African banks view lending to SMEs as high risk because entrepreneurs lack business experience and acumen and have little or nothing in the way of collateral or assets to secure against a loan.
But some favourable conditions exist There are, however, market, policy and business drivers that make African banks interested, in principal, in the SME energy sector. First, there’s plenty of evidence that very poor segments of rural Africa are willing and able to pay for energy services and already can spend as much as 30–50%
of their disposable income on energy.
Next, governments want the overall SME sector serviced with finance in order to trigger its growth and so often require local banks to earmark funds for this purpose. In parallel, international development finance organisations also have SME funds available to lend to African banks. Finally, the banks themselves recognise that a vibrant and expanding SME sector into which they can lend with confidence represents a major growth opportunity for their business.
But these positive preconditions have still not given local African banks the confidence to actually open their loan books to SMEs. This is because small enterprise requires finance and very specific kinds of business development assistance (BDA) at both the pre-finance stage and during operation.
African banks have neither the ‘culture’ nor the skills and experience to provide BDA to SMEs.
Banks know how to manage assets which means if loans are not repaid, they know they can repossess the assets used as collateral to recover their money.
They don’t know how to manage businesses, especially start-up SMEs, to profit so the business can pay off its loans. So the banks deploy their own funds into lower risk sectors they do understand and resist pressures to finance SMEs.
As a result, local and international finance earmarked for the SME sector in Africa goes unused or is invested elsewhere.
There have been other SME financing initiatives in Africa (some focused on the energy sector) where local capital has played only a small role and where governments or non-profits accessed development funding from abroad. But these initiatives have by and large not been very successful.
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