Small businesses are significant to any country’s economy and development. In fact, a World Economic Forum report found that Micro, Small and Medium-sized enterprises (MSMEs) account for 90 percent of all firms globally, about 70 percent of all employment, and contribute up to 70 percent to the global GDP.
Despite their importance to economic development, a large number of African MSMEs continue to fail. The Small and Medium Enterprises Development Agency of Nigeria (SMEDAN) revealed that 80 percent of SMEs in Africa fail within five years of starting up. This is evident in MSMEs operating in Nigeria which decreased by 4.5 percent between 2017 and December 2020.
The 1.9 million MSMEs that closed up happened at a time when the country was dealing with the aftermath of two economic recessions, the COVID-19 pandemic and a fall in global oil prices. But Nigerian SMEs have their own genealogical challenges including a lack of access to financing and capital. This is corroborated by the 2022 SMEDAN report on MSMEs which stated that 22 percent of Africa’s working-age population start businesses due to various reasons but these businesses lack resources.
Africa has the highest entrepreneurship rate in the world with Nigeria having about 40 percent but access to capital and other challenges stunt the growth of small businesses before they break even. It is within this context that I will be discussing the causality and challenges of financing Nigerian SMEs and how they can be remedied.
Overview of SMEs in Nigeria
According to SMEDAN, MSMEs accounted for 96.7 percent of businesses, 87.9 percent of employment, and 49.7 percent of the national GDP as of 2020. In the same year, over 39.65 million MSMEs were operating in Nigeria with micro enterprises accounting for 38,413,420 and SMEs at 1,240,965.
The 2021 MSME Survey showed that the highest number of business enterprises in Nigeria are in Lagos, Rivers, and Kano states while Bayelsa and Kebbi states have the least number of enterprises. The survey’s categorisation of SMEs by the enterprise sector recognised only sixteen economic sectors with the major ones being wholesale/retail trade, manufacturing, education, other service activities and professional, scientific, and technical work. These sectors account for 74.6 percent of all SMEs in Nigeria.
The ownership structure of Nigerian SMEs is mostly sole proprietorship. This was highlighted in the 2022 Nigeria MSME report which stated that “African MSMEs are majorly a one-person show and do not often grow to employ more labour, do not scale to out-live their founders or become generational.” This is an obvious challenge for Nigerian SMEs as the lack of continuity will usually affect business sustainability negatively.
Other challenges facing SMEs in Nigeria include lack of access to capital, poor business practices which affect growth and transition, lack of access to modern technology, infrastructure deficit, non-existence of supply chain management, harsh economic environment, and unfavourable government policies.
Why do Nigerian SMEs have financing challenges?
According to a World Bank report, SMEs create seven out of 10 jobs in emerging markets but access to finance has remained a key constraint to their growth. The lack of access to capital for Nigerian SMEs is deeply rooted in poor business practices. This is succinctly explained in the 2022 Nigeria MSME report.
Halima, one of the SME owners interviewed for the report revealed that she started her clothing and apparel business in 2018 with her life savings and few contributions from family and friends. But, when her business went under due to the pandemic, she tried to secure a loan from a microfinance bank and was asked to provide a financial statement for the business but she could not because she kept few records for her 2-year-old business.
Another SME owner, Emmanuel runs a shoe business in Aba and has been in the business for 15 years. He is the only employee and has two apprentices in his shop. Emmanuel’s business has had limited growth beyond the stage it was 10 years ago due to the lack of proper documentation and structure for the business. These examples point out how a lack of business structure and proper record-keeping affect an SME’s ability to access capital needed for business growth and expansion.
Usually, Nigerian SMEs depend on family, friends, and personal savings to fund their business operations. This is despite microfinance banks, cooperative societies, commercial banks, and the Central Bank of Nigeria (CBN) being institutional funding sources for businesses. The gap in funding sources can be blamed on the evaluation process of these lending institutions which puts business owners at a disadvantage, especially if they do not possess the requisite documents including collateral, even if their businesses have good financial standing as revealed by their records.
How Nigerian SMEs can address their financing challenges
There are a number of solutions to the financing challenges faced by enterprises in Nigeria. Here is a breakdown of a few of them.
Adoption of Digital Technology
This is one of the most sought-after solutions to the lack of structure and financial accountability for small businesses. Access to the digital economy allows business owners to manage expenses and invoices, and automate and secure processes for payment and delivery of goods. A digital invoice system for example helps keep track of business profitability and can be easily used as a financial statement to secure loans for expansion.
The 2020 MSME survey reports that 73.66 percent of all payments made to MSMEs are paid by cash. However, SME owners that embrace digital technology can limit the misappropriation of cash funds within their business and boost their profit margin.
Improved Business Structure and Practices
It is not enough that small business owners have passion for their line of business before establishing themselves. Running a successful business takes more than passion. There is a need to have a business plan that clearly outlines establishment, registration or incorporation, growth, and expansion among other important information.
Some SME owners have not registered their businesses since they began operations more than five years ago or paid any taxes. These are business practices that help build brand credibility and credit score needed for raising capital.
A nationwide survey of MSME entrepreneurs showed that the vast majority of them have limited financial literacy and this affect their ability to access external finance. Hence, it is important for business owners to have a basic or intermediate knowledge of accounting and record keeping.
Being able to keep financial records is significant in making business decisions and can be used to prepare business financial reports to show business growth, scalability, and profitability.
Africa-centred supply chain network
Nigerian SMEs have low access to capital within the country but this can change with the implementation of the African Continental Free Trade Area (AfCFTA). This will motivate Nigerian SMEs to expand their businesses to other African countries and hence boost their access to capital.
Recall that the AfCFTA is building an African-centred supply chain that would help small businesses achieve expansion and scalability beyond a micro business.
Compared to other emerging markets, the Nigerian government has historically shown a lack of commitment to building a strong SME sector but with the AfCFTA now taking shape, SMEs can position to maximise their opportunities.
There is a need for the government to initiate policies that improve SMEs’ access to funding. It is not enough that there are loan facilities, they should be easier to access