FINANCING OF SMALL AND MEDIUM SCALE ENTERPRISES IN NIGERIA

CHAPTER ONE

INTRODUCTION

1.1 Background of the Study

The dynamic role of Small and Medium Enterprises (SMEs) in developing countries as engines through which the growth and development objectives of developing countries can be achieved has long been recognized and stated in the literature. The advantages claimed for Small and Medium Enterprises (SMEs) are various, including: the encouragement of entrepreneurship (Ayozie and Latinwo, 2010; Ayesha, 2007); the greater likelihood that SMEs will utilise labour intensive technologies (Salami, 2003) and thus have an immediate impact on employment generation (Ayozie and Latinwo, 2010; Udechukwu, 2003; Ogujiuba et. al., 2004; Henriques and Klock 1999); they can usually be established rapidly and put into operation to produce quick returns; SMEs development can encourage the process of both inter- and intra-regional decentralization (Ogujiuba et. al., 2004); and, they may well become a countervailing force against the economic power of larger enterprises (Salami, 2003). More generally the development of SMEs is seen as accelerating the achievement of wider economic and socio-economic objectives, including poverty alleviation (Ayozie and Latinwo, 2010; Udechukwu, 2003).

Small and Medium Scale Enterprises have been acknowledged to have huge potential for Sustainable Development. Yet in Nigeria, the Small and Medium Scale Enterprises sub-sector has stagnated and remains relatively small in terms of its contribution to the Gross Domestic Product (GDP). Activity mix in the sector is also quite limited – dominated by import dependent processes and factors. Although there is no precise data, imprecise indicators show that capacity utilization in the sector has improved perceptibly since 1999 due to the return of democratic rule and the economic reforms of the government. But the sub-sector is still faced with a number of constraints with inadequate financial facilities as the principal constraint.

Finance has been viewed as a critical element for the development of Small and Medium Scale Enterprises (SMEs). Previous studies have decried the limited access to financial resources available to smaller enterprises compared to larger organisations and the consequences for their growth and development (Berger and Udell, 2004; Wattanapruttipaisan, 2003; Ogujiuba et. al., 2004; Hossain, 1998 etc.). Typically, Small and Medium Scale Enterprises (SMEs) face higher transactions costs than larger enterprises in obtaining credit (Lee, 2004). Poor management and accounting practices have hampered the ability of Small and Medium Scale Enterprises (SMEs) to raise finance (Lee, 2004). Information asymmetries associated with lending to small-scale borrowers have restricted the flow of finance to SMEs (Berger and Udell, (2004).

While finance is obviously not the only problem militating against the development of the Small and Medium Scale Enterprises (SMEs), it is certainly the most formidable (Lawrence, 2003). Like any other investment in the real sector of the economy, investment in Small and Medium Scale Enterprises (SMEs) is relatively bulky because of the need for fixed assets such as land, civil works, buildings, machinery and equipment and movable assets. Invariably, loans to Small and Medium Scale Enterprises for capital investment must be long-term in order to avoid a fatal mismatch between project gestation and loan maturity. Consequently, the cost of funds is a critical factor in the sense that it impacts significantly on the competitiveness and survival of these enterprises. Long gestation in an unstable environment coupled with unsound financial packaging tends to subject SMEs to a high failure rate, which in turn makes the sector relatively risky and unattractive to the banking system‟s credit.

Small and Medium Scale Enterprises (SMEs) often operate at such a low scale that is unattractive to banks. Many of them are unincorporated and banks are not forthcoming in investing in a multiplicity of small ventures that are scattered all over the country. Besides, Small and Medium Scale Enterprises are mostly family businesses and they are therefore reluctant to open their businesses up, especially to the banks that they regard as intruders. The concomitant effect is that less financial facilities are made available to Small and Medium Scale Enterprises (SMEs) by banks.

Firms depend on a variety of sources of financing, both internal and external. The relationships among these sources and their effects on investment, however, remain unclear in the literature. In the case of SMEs, bank credit or loan is major alternative of external funding. According to Valverde et al (2005) bank credit play a crucial role in providing external financing to Small and Medium Scale Enterprises (SMEs). But in Nigerian context, this crucial source of finance for Small and Medium Scale Enterprises is apparently non-functional. This is evident in the ratio of loans to Small Scale Enterprises to Commercial banks‟ total credit, which shows that a meager 0.15% of commercial banks‟ total credit was granted to Small Scale Enterprises in the last quarter of 2010 (CBN, 2010). More worrisome is the fact that this ratio has been falling over the years and continued unabated in the post-consolidation era.

1.2 Statement of the Problem

The problems faced by small and medium-scale enterprise are production, marketing, personnel and even day to day management which are all linked to financial underpinnings, thus, the issue of finance is central. However, it is observed that the financial problems of small business arise from multi-faceted source which are under capitalization, based behaviour of financial institutions management incompetence and financial indiscipline, inadequacies of the capital market, political and economic instability leading to policy distortions and in consistencies which together have put the SMEs at disadvantages over the years.

The most overwhelming financial problem encountered by SMEs owners is raising the startup capital for their chosen business ventures. It appears that SMEs owners do not have adequate information concerning the various source of finance specific to them, despite the government’s effort on the availability sources of specific finances to SME owners. As such, they depend on personal funding as well as assistance from family and friends. This tendency naturally limits their scope for generating finance. Consequently, the SMEs operation have to compete with larger companies for available funds equity, terms loans, supplier credit or leasing facilities having to bargain on the same terms and condition as the bigger firms constitute a problem for them. This study is therefore necessary for through inquiry into the financial management and technical support to them in order to ensure their development, growth and contribution to the economy.

1.3 Objectives of the Study

The study sought to know the problems and prospective of financing of small and medium scale enterprises in Nigeria. Specifically, the study sought to;

To highlight the different sources of finance available to the operations of SMEs in Nigeria.
To review the major problems limiting access of SMEs to development finance.
To examine the existing government policies, incentives, programmes and loan scheme for the benefits of SMEs.
To examine benefits of existing credit scheme made available via contributions of SME project beneficiaries to the economy.

1.4 Research Questions

What are the different sources of finance available to the operations of SMEs in Nigeria?
What are the major problems limiting access of SMEs to development finance
What are the existing government policies, incentives, programmes and loan scheme for the benefits of SMEs?
What are the benefits of existing credit scheme made available via contributions of SME project beneficiaries to the economy?

1.5 Significance of the Study

Despite the problem faced by the SMEs, it also promotes industrialization and economic growth of the nation. The significance of the research study is as follows:

Contributing to the knowledge and understanding of the financial problems faced by SMEs in Nigeria as basis for solution.

Giving more light on the importance of SMEs as they perform their expected role by precipitating industrial development finance for the SMEs.

Establishment on the relevant existing financing agencies charged with the responsibility of assisting SMEs in Nigeria.

Providing a useful guide for prospective entrepreneur who may wish to be owners of small or medium-scale business and are in need of funds.

This study will also be of immense benefit to other researchers who intend to know more on this study and can also be used by non-researchers to build more on their research work.This study contributes to knowledge and could serve as a guide for other study.

1.7 Scope/Limitations of the Study

The study is focused on the problems and prospects of financing small and medium-scale sub-sector of the Nigeria economy and also looking at the way forward for the survival of the enterprises as a engine growth for Nigeria economy.

Limitations of study

It is a phenomenon that in any research where the primary objective is to research for the true fact, a research project of this nature is never conducted without some inherent factors that may make the findings difficult.

The limitations may however include:

(i) Financial constraint

(ii) Lack of cooperation from respondents

(iii) Time factor

Insufficient fund tends to impede the efficiency of the researcher in sourcing for the relevant materials, literature or information and in the process of data collection (internet, questionnaire and interview). Lack of cooperation from respondents is another factor owing to the fact that some of the workers of the organization have little time to give me attention while others pay no attention at all. And lastly time constraint; this is because the researcher will simultaneously engage in this study with other academic work. This consequently will cut down on the time devoted for the research work.

1.8 Definition of Terms

Finance: Finance is a term broadly describing the study and system of money, investments, and other financial instruments.

Small and Medium Scale Enterprise: Small and medium-sized enterprises or small and medium-sized businesses are businesses whose personnel numbers fall below certain limits. The abbreviation “SME” is used by international organizations such as the World Bank, the European Union, the United Nations and the World Trade Organization.