Funding SMEs

SMALL and Medium Enterprises (SMEs) make up the backbone of Sri Lanka’s economy, not just in terms of contribution to GDP but also in bridging income inequality and employing a larger number of people. It is also the bedrock of entrepreneurship and innovation but SMEs are also traditionally handicapped for funding. 

As of the end of 2013, Sri Lanka had 132,483 SMEs, which contributed a third of the country’s Gross Domestic Product, 30% of its value-added manufacturing output, employed 35% of Sri Lanka’s labour force and provided 20% of the value of the country’s exports. The island nation has a further 880,066 micro enterprises. 

Banks in Sri Lanka have taken steps to assist SMEs by providing not only credit but also advisory services. The top 13 commercial and development banks provided Rs. 54.6 billion in loans to SMEs in 2013, up 106% from 2012. However, very few mid-sized firms are listed on the Colombo Stock Exchange and venture capital funding is of a small scale. 

The Asia SME Finance Monitor 2014, which assesses 20 countries in developing Asia, noted that SMEs make up an average of 96% of all registered firms and employ 62% of the labour force. However, they contribute only 42% of economic output. 

Regional integration and trade liberalisation means firms need to shift from being domestically focused to being more globally targeted. This also offers opportunities for smaller firms to explore offshore markets while exposing them to increased competition. 

Governments in the region, including Sri Lanka, need to help SMEs become more competitive and able to participate in global value chains. This includes governments making it easier for SMEs to access new financing, such as supply chain finance. Limited access to bank credit is a persistent problem in Asia and the Pacific. Lending to SMEs has declined over the course of the global financial crisis and in 2014, they received only 18.7% of total bank loans.

Other countries have tackled this issue successfully by allowing movable assets to be used as collateral, making it mandatory for banks to have lending quotas for SMEs and encouraging loan refinancing schemes. However, Sri Lanka along with the rest of the region needs to further develop credit bureaus, collateral registries, and credit guarantees to expand financial outreach, particularly in low-income countries.  

The nonbank finance industry—which typically includes finance companies, factoring and leasing firms, for example—is still too small to meet the financing needs of SMEs, with its lending only one tenth of total outstanding bank loans in the region. Governments need to put in place a comprehensive policy framework to help nonbank financial institutions expand their SME financing options. Ongoing efforts to open up the equity markets to SMEs would also help provide SMEs with the long-term financing they need to mature.

Sri Lanka’s Government has kept interest rates low resulting in credit levels increasing but it is unclear how much of this was funnelled to SMEs. Moreover, keeping interest rates low is impossible over the long-term, making it necessary for the Government to formulate specifically targeted policies that would directly benefit and grow SMEs.