Maximising Factoring Potential to Boost MSMEs’ Financing

Maximising Factoring Potential to Boost MSMEs’ Financing

In this piece, James Emejo writes that amidst the huge funding constraints for MSMEs in the country, the government, particularly the National Assembly should explore the opportunities presented by factoring services by swiftly creating the enabling laws to back its smooth operations.

Several reports have identified the lack of access to credit as a key challenge limiting the ability and capacity of Micro Small and Medium Enterprises (MSMEs) to contribute significantly to economic development in the country.

Also, the requirements put in place by commercial banks prevent both MSMEs and large businesses from meeting from accessing credit from these institutions.

Analysts further wondered if businesses could even break even or make profits with the current double-digit lending rates.

Although there had been attempts by the government in recent times to boost credit to the MSMEs sub-sector in recent times, these interventions are still inadequate given the enormous financing gaps in the sector.

Yet, the sector, which consists of over 40 million traders and artisans is adjudged as the lifeblood of the Nigerian economy, with huge potential for job creation.

·      Introducing alternative financing model

The introduction of financial factoring services as a panacea for MSMEs financing ordeals has gained momentum around the globe.

It is a type of debtor finance where a business sells its accounts receivable (invoices) to a third party called a factor at a discount. This allows the business to receive cash more quickly than they would if they waited for their customers to pay their invoices and is considered low-hanging fruit in providing huge financing lifeline to SMEs which are often starved of the funds they need to grow and contribute meaningfully to the economy.

·      Benefits

Among other benefits, factoring provides immediate access to cash, helping to smooth out cash flow and facilitate growth and as well as reducing the risk for the original business as factoring companies often conduct credit checks on customers.

It also offers a flexible finance option – unlike traditional loans, factoring is based on the value of the invoices, not the business’s creditworthiness. 

A report by Pricewater House Coopers recently estimated that factoring could help unlock over $1 billion annually in financing for small businesses in the country, and could be directed at solving most of the financial challenges witnessed by MSMEs with traditional banking including excessive interest rates, credit profile constraints and insufficient collateral.

Factoring also offers MSMEs, particularly those with high-quality receivables access to cash flow and capital that would help maintain and grow their businesses.

The instrument remained a viable and long-term solution to the problem of limited capital which threatens the growth of small and medium-sized businesses in the country.

 * Widespread endorsement

The Nigerian Export-Import Bank (NEXIM) and the African Export-Impot Bank (AFREXIM) have been at the forefront of advancing the adoption of factoring as a viable financing alternative for businesses.

The initiative is further supported by the Central Bank of Nigeria (CBN), the Nigeria Deposit Insurance Corporation (NDIC), the Financial System Strategy 2020, and the Debt Management Office (DMO) who all received factoring as a financing model that should be embraced.

The Managing Director/ Chief Executive, NEXIM Bank, Mr. Abba Bello, said factoring remained one of the financing options that will mitigate the traditional challenges of SMEs in meeting the eligibility criteria for accessing credit from traditional banking institutions.

Speaking at the opening of the factoring training workshop under the auspices of Afreximbank /AfDB FAPA grant consulting activity in Abuja, Bello said it was important to make progress with factoring services, particularly against the backdrop of the AfCFTA and the need to promote financial inclusion and MSMEs’ development for economic growth and employment generation.

·      Huge financing buffer

Reports estimated that Nigeria’s factoring market is worth $6.6 billion due to the high informal sector and could increase to $27.1 billion with more formalisation of SMEs, a conducive policy environment among others.

MSMEs account for more than half of the market at $3.5 billion thus validating the link between factoring and financing for SMEs.

However, to guarantee successful deployment in the country especially in instances of adjudication, the promoters said there was a need to have a law backing factoring

The NEXIM Bank Boss said in opting for factoring, he was concerned about the high level of informal trade in Africa.

He said, “While this challenge is a reflection of the large informal economy,  it is also symptomatic of the dearth/poor access to export credit, particularly among the SMEs who are the principal players in cross-border trade.”

He said loans and advances disbursed by banks annually to the non-oil export sector over the years were largely insignificant, adding that it was against the background of the credit constraints to SMEs that NEXIM Bank saw the need to partner with trade facilitating institutions namely Afreximbank and FCI and other Stakeholders, under the auspices of the CBN FSS 2020, to develop and promote factoring as an alternative trade finance instrument and an SME financial inclusion strategy.

Bello has repeatedly prevailed on the National Assembly to hasten the passage of the Factoring Bill into law and underscored the need for continued sensitisation, constructive engagement, and capacity building to stimulate necessary investment interests and sustain the momentum towards rapid development of factoring in the country. He said this will ultimately contribute towards improving Africa’s share in the global factoring volume and support the current efforts to boost Intra-African Trade, while also formalising informal trade.

He added that there’s a high degree of correlation between the global growth in factoring volumes and the increasing preference for trading under open accounts.

·      Constraints

One of the greatest challenges to the implementation of factoring services in Nigeria had been the absence of relevant legislation to boost investors’ confidence in deploying the services – and analysts believed that until an environment of certainty is created, factoring will not grow.

For over six years the draft Factoring Bill is still awaiting passage at the National Assembly, thereby delaying the services in the country and frustrating efforts by potential foreign investors who wish to commit funds to the noble course.

Bello, however, said NEXIM Bank remained committed to facilitating the growth and development of the trade credit insurance market, and other key financial infrastructure that will engender a sustainable factoring ecosystem.

He reaffirmed the bank’s commitment to the current advocacy and partnership framework towards the promotion of factoring services adding that the training workshop will no doubt facilitate capacity building and technical skills acquisition preparatory to the introduction of factoring services in Nigeria.

He pointed out that the bank had over the years been engaged in joint advocacy with the CBN FSS2020, Afreximbank, Factor Chain International (FCI), and other stakeholders in the Nigerian Factoring Working Group to champion the passage of a draft Factoring Bill currently at the National Assembly, as well as the issuance of specific factoring regulation/circular towards a transparent and credible service in the country.

According to him, the promotion of factoring services is strategically aligned with the bank’s mandate as a trade policy bank towards facilitating the mainstreaming of the informal sector into the financial sector of the economy with the attendant benefits of access to finance/working capital support, thereby enhancing financial inclusion of MSMEs among others.

·      Navigating implementation bottlenecks

However, considering the tardiness on the part of the legislature to deliver the Factoring Act, the Technical Adviser to the NEXIM Bank MD, Mr. Hope Yongo, recommended that stakeholders should immediately commence pilot factoring services leveraging existing commercial laws while still awaiting an Act of the National Assembly to back up their operation.

According to him, countries including Egypt and India among others, initially started factoring without a law. He believed that the positive results from its operation will speak louder and hasten the passage of the Bill.

Yongo particularly warned that waiting for the passage of the Bill by the legislature could further put Nigeria behind as well as hamper progress in its deployment.

He added factoring offers an opportunity to diversify the country’s non-oil export base and boost trading with neighbouring countries.

·      No Law, No way

As rightly captured by the General Secretary, Factor Chain International (FCI), Mr. Peter Mulroy, despite the immense potential of factoring in the Nigerian economy, the delay or the inability of the legislature to deliver a law to support the practice will lead the country nowhere.

In an exclusive chat with THISDAY, he said, “You cannot have a successful factoring industry without laws and regulations and those don’t exist yet here in Nigeria.”

He said though the country has some elements of assignment laws under the common law, the “draft legislation currently in the National Assembly will cement and provide the certainty required to help factoring to blossom.

He warned, “You are not going to have people investing significant amounts of their money, their capital into something “if they don’t have protection in the courts from losses, frauds, and anything that happens – then they’re not going to do it and that that’s just a reality; you have to have the legal infrastructure.

“It will never be. Let’s say it will never be significant or it will never be important to the economy until the law and the regulations are adopted.”

He added that as of today, the CFI Academy has prepared banks and other financial institutions to effectively deploy factoring services, pointing out that the absence of a legal infrastructure was worrisome.

Mulroy further clarified that though there is presently a resemblance of factoring practices among some Nigerian financial institutions, these differ from the actual service.

He said, “It’s very interesting because in a way they’re doing a form of factoring, it’s not factoring; let me be clear, but they’re doing a form of invoice finance, it’s a loan to a seller.

“So, it’s not factoring because factoring obviously incorporates all the controls relating to the buyer and the buyer’s payment providing that liquidity to their suppliers, sellers, and producers.

“So, in a way, a lot of the institutions that were here already are doing some form of invoice finance. I call it the green shoots of factoring, it’s the seedlings sprouting, but they’re not full-blown plants and trees.”

He said, “But there’s DNA and that’s always good because then they have at least an understanding of the basic elements of factoring: but with the guide with the support from FCI, from the NEXIM Bank, and Afreximbank, we have now finalised the whole infrastructure providing them a full universe of what to look for and develop.”

“They have the right to assignment for example, but then I asked why isn’t a single institution in Nigeria using it? Why are they doing loans? You know, a loan is just money I give to you and you repay me. 

“Factoring is I give the money to you, but I collect the money from your customers, the buyers of your product and that is my source of repayment. That is factoring.

“That’s not what’s done in Nigeria today. So, I have to assume that it’s because of the law. People don’t have faith in signing factoring contracts.

“I personally belief that you’re not going to see really a significant growth until that’s accomplished.”

However, in his intervention, Head, Client Relations, Anglophone West Africa, Afrexim Bank, Mr. Peter Olowononi, said factoring presented an option as SMEs have been disproportionally affected by rising financing costs and related supply chain disruptions caused by these crises.

Olowononi also said Afreximbank, working with FCI, NEXIM and other strategic partners, will not relent in its efforts at supporting SMEs, factoring companies, banks and corporates in Africa with the requisite financing, capacity building, and technical assistance among other interventions.

He pointed out that the vulnerability of SMEs arises largely from the lack of access to affordable and effective finance, adding that lack of access to finance reflects a number of different underlying causes, including lack of firm skills in preparing bankable proposals, lack of SME finance skills in banks, risk-averse banks with excessive collateral requirements, lack of specialized financial institutions, shallow capital markets or a weak financial sector in general, amongst others.

He said ensuring the availability of adequate and appropriate financing to SMEs was essential to help them develop to their full potential, stressing that this will help SMEs grow and mature to take advantage of trade opportunities under the African Continental Free Trade Area (AfCFTA) Agreement.

Specifically, Olowononi said factoring provides an important alternative to the other external financing sources available for SMEs such as bank loans, leasing, and venture capital among others adding that the service is emerging in Africa as well as providing significant market opportunities as evidenced by the growth of the industry in recent years.

He said currently, there are “40 African factors that are FCI members, not to mention those that are still to join FCI from a total of 184 companies offering factoring. Factoring volumes in Africa are in the north of EUR41.8 billion and are expected to reach EUR50 billion by 2025.”

According to him, “To ensure that factoring is effectively deployed to unlock the potential of African SMEs, more needs to be done, particularly in terms of scale, market expansion, and market participants. For instance, Africa remains a marginal player in the global factoring market accounting for 1 per cent of the EUR3.7 trillion global factoring volumes in 2022.

“In addition, the factoring volumes in Africa remain concentrated in a handful of countries, namely South Africa (89 per cent), Morocco (6 per cent) and Egypt (3 per cent) which account for about 98 per cent of the factoring volumes in Africa.

“Further still, the market structure is highly skewed. The largest five factoring companies in each market account for about 83 per cent of factoring volumes in those markets. When looking at market participants we also see that factoring in Africa is dominated by banks which represent 46 per cent of all factoring activity followed by banking subsidiaries with 27 per cent and 10 per cent non-bank finance companies.”

He said it was essential that factoring should be open to companies interested in the financial service to expand its reach to SMEs who are poorly banked by the banking sector.

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