Diagnosing SMEs in KP

According to the World Bank, small and medium enterprises (SMEs) contribute significantly to the global economy by employing 50 percent of global labor and representing 90 percent of all forms of businesses.

These SMEs are believed to contribute 40 percent to the GDP of emerging economies. The Small and Medium Enterprise Development Agency (SMEDA) of Pakistan was incorporated in 1998 to strengthen SMEs. SMEDA reports that there are more than 38 million SMEs in the country that roughly contribute 40 percent to the national income, 25 percent to exports, and 80 percent to non-agricultural employment. A country with 64 percent population below the age of 30 and about four million youth joining the working age every year, the importance of SMEs should be realized even more these days.

In Khyber Pakhtunkhwa (KP), there are approximately 5.7 million SMEs in existence. Due to their incontestable significance, our governments keep babbling about them ritually but there is no noticeable strategy or policy that assure their birth, existence, and growth. The prevailing Covid-19 pandemic is making this sector penetratingly sick. Lockdowns have unfavorably impacted small businesses in the country and the sector seems in dire need of help.

In the post-terrorism crisis, the World Bank initiated the Economic Revitalization Program in Khyber Pukhtunkhwa and Fata (ERKF). But the pandemic, which has unkindly affected the global economy, may not attract many foreign funding agencies to help our small business, and solutions have to be found locally – and swiftly.

How badly has the pandemic impacted the SME sector of KP and what we can do about it is a million dollar question. The damage has to be assessed correctly and a plan to help should follow. But research takes time, national resources are scarce and governments and institutions have their own limitations. Including measuring the negative effects of Covid-19 on SMEs in this time of crisis, there are several other interesting and captivating questions for normal times – like: will CPEC make our SME sector competitive or is it a threat yet to be understood better?

The present government has reduced imports and is trying to increase exports to help stabilize the balance of payments. Is our SME sector ready for this opportunity? These and many other such compelling questions demand informed answers. Accurate data and reliable research can guide our national understanding better. Now, who can do this job? Will it be SMEDA, KP universities, research institutions or the government? A collaborative fit to seek guidance is commonsense. SMEDA can help in providing meaningful information and data, universities can chip-in by doing reliable research and the government can make resources available and incorporate scientific findings in policy. Collaboration and coordination is the answer.

I conducted a survey to understand the demand and supply gap of the financing requirements of SMEs in KP. Funded by the Higher Education Commission (HEC) of Pakistan, the project reached out to 341 SMEs operating across seven districts (Peshawar, Mardan, Karak, Chitral, Mansehra, Bannu and D I Khan) to assess this gap. After collecting first-hand rich data, the study verified that angel financing, leasing and hire purchase are preferred by the majority of men-owned SMEs.

Lack of collateral is the major constraining factor limiting their growth. Businesses engaged in partnership, owned by families or by sole proprietors have a strong preference for internal funds. Commercial banks are frequent lenders and SMEs profitability is the main driver for banks to actively participate in the SME market. Banks consider SME-specific factors and credit quality as the most important criteria in determining the SMEs target market.

The lending institutions cite issues like poor management, low risks diversification and attachment of the collateral securities, as the most important factors that makes the collateral requirements for SMEs higher relative to consumers and large corporations. Based on survey results, the following implications for policymakers have been recommended for SMEs, regulatory bodies and lending institutions:

First, SMEs have to build alliances in order to better meet the challenges of existence, growth, technical exchange, and knowledge exchange. Second, the government has to intervene through policy reforms and improve access to low cost financing capital and provide guidance to technological and innovative development. Third, women-owned SMEs need tailor-made financial products to address their specific business needs.

Four, there is a need to develop linkages with the informal financial sector and promote financial innovation. Five, technology enables cost reduction; this is evident from the growth of finTech in emerging economies that has leapfrogged some developed economies by creating an unprecedented range of financing products and innovative methods to financial challenges. Six, extensive training programmes through capable institutions for SMEs owner-managers need to be conducted.

Seven, partnership with the private sector can be used to scale-up the loan programmes. Eight, the HEC can do a mapping exercise with training and research institutes, and disseminate information on training courses available on management, business and entrepreneurship to SME personnel. Nine, the profit and loss sharing Musharaka and Mudaraba models are considered the best options to structure private equity and venture capital deals. Their usefulness needs to be innovatively explored for our SMEs.

Ten, innovation in lending products alleviates the financing constraints of SMEs. Alibaba, one of the largest credit companies in the world, is an excellent example to illustrate the effective role financial innovation has played in resolving the dilemma associated with SME financing in China.

This research example highlights the prominence of research in understanding problems better and in finding the possibilities of cerebral conclusions. SMEs are economic engines that provide jobs, services, and revenues. They give hope to entrepreneurial talent to become big corporations.

The Covid-19 pandemic is yet another challenge for the SMEs of KP. The West has gained numerous dividends using scientific research as a powerful instrument in reforming policy. For us, it is still to happen as it seems difficult to get through to politicians and bureaucrats, who have their own ways to guide policy. The damage that Covid-19 is causing our SMEs is unprecedented but its scientific measurement is the key to any real solution.

The writer is a professor at the Institute of Management Sciences, Peshawar.