Access to Finance for Small Businesses - Research Proposal Example

ACCESS TO FINANCE FOR SMALL BUSINESSES Introduction As the global business environment becomes very competitive, there are a lot of factors that determine the survival and competitive rate of companies. In today’s dynamic business environment, finance has been identified to be a major variable in determining how competitive a company can be. This is because most of the competitive strategies available to businesses are largely focused on how companies can engage in market research and other forms of innovative creations, all of which demand huge capital base (Kevin and Somu, 2006). To this end, when a small business finds itself competing in the same market as a large business, it is important to ensure a relatively equal level of access to finance for all the businesses before market competition can take place in a very fair and open ended manner. In the absence of this, the market becomes unfair, particularly against the small businesses. In this paper therefore, the researcher discusses the issue of access to finance for small businesses to see the key factors that account for access for small businesses, the challenges that small businesses go through in accessing finance, as well as the importance of access to finance for the small businesses. The paper is expected to serve a lot of importance to small businesses and stakeholders in the financing of these businesses, including government and banks. This is because the core issues on the ground will be exposed for further decision making. Methodology The methodology sees to explain the approach that the writer took to collecting data on the key issues that were identified for the study. For this paper, the emphasis of the writer was on small businesses, for which reason case study was used as the research strategy. This is because case study affords the writer the opportunity to concentrate on a specific issue within an identified research setting where data collection can be done to address the issue (Saunders, Lewis and Thornhill, 2003). The case study was conducted from a more qualitative perspective, where the writer used secondary data collection to undertake the case study. This means that there was no primary data collection where the writer had to interact with respondents. Rather, various literature sources, including books, academic journals, official websites, and annual reports of companies were used to sample key data for the study. As part of the case study, the writer emphasised on small and medium scale enterprises (SME) as these normally encompass the description of small businesses (Aboody and Lev, 2000). More specifically, the case study was concentrated on the European Union zone to see how small businesses in this region are faced with the issue of access to finance. To ensure that the case study was well defined within a context that did not fall within its bounds, three major current issues were selected to be studied, the results of which have been presented in the next section. Key Issues Market Practices and Policies on SME Rating Access to finance has been explained to be the possibility of an enterprise to access financial services, including credit, deposit, payment, insurance, and other risk management services, based on the credit worthiness of the enterprise involved (Porteous, 2005). This means that for an enterprise to be termed as having a good stand in access to finance, that enterprise must meet some key requirements that will be checked by the outfit giving out the financial support. The findings from the study showed within the EU zone, banks have mostly taken the role of financiers of SMEs by providing them with forms of financial support. But to know which enterprises are in good standing to access finance and which of them are not, the banks undertake ratings for SMEs. The quantum of financial support that can go to an enterprise would thus be a reflection of the rating that the SME scored from the bank. The Centre for Strategy and Evaluation Services (2013) evaluated the market practices and policies on SME rating and noted that this has its highpoints and low points. On the highpoints, the report noted that the mere fact that financial support that comes to enterprises are important for ensuring that the enterprises survive and compete effectively, it is also important that the enterprises will not be put in a position where they will be battling with debts. The market practices and policies on SME rating therefore makes it possible to remedy small businesses from possible debts that could bring about bankruptcy. The merits of the market practices and policies on SME rating notwithstanding, there are a number of limitations that this has. According to Porteous (2005), because most banks undertaking the SME rating are private profit making entities, they may have their own interests that they may want served. For example, in order for banks to improve their own revenues, there is the possibility that they will favour larger companies whose interests and payment turnover guarantees higher returns. In such cases, the possibility of sabotage against the smaller businesses in the rating is possible. The framework for rating SMEs have also been questioned by many financial experts, who have debated that framework for rating the SMEs are not very fair in promoting equity. Some of the limitations with the framework include the fact that businesses are not differentiated according to their industries of operation. Rather, they are mostly mixed together, making it difficult for the individual companies to receive fair ratings based on their industries of operation. With these problems noted, many have suggested the need for the government to be the major financier of SMEs in the EU, whiles the banks take care of the larger companies. Challenges to access to finance for Small Businesses The study also focused on the challenges that small companies face in their quest to access credit. This aspect of the study focused on instances where all market practices and policies for rating the small businesses were noted to be fair. That is, in their effort to become credit worthy, the factors that militate against the small businesses were investigated. The main challenge that was faced by most small businesses that were focused on in the case study was the issue of competitive disparity. By competitive disparity, reference is being made to the fact that small businesses are hardly offered a fair playing field where they can compete with larger companies. This competitive disparity has largely been blamed on the market structure that exists in most EU countries and other countries where there has been found to be a cluster of small businesses (Antony and Cline, 2005). According to Ayers and Collinge, (2003) the most favourable market structure that is ideal for small businesses in ensuring that they are able to be competitive against larger companies and thus position themselves in a manner that will make them credit worthy is the perfect competition, where there is no restriction to entry. However, most of these small businesses find themselves on monopolistic competition markets, where there is an imperfect dominance by large companies (Antony and Cline, 2005). Because of this challenge, the small businesses have hardly been able to compete effectively to make them credit worthy. The studies also showed an emerging situation whereby the small businesses themselves are not well educated and informed about how to position themselves well to access finance (Aryeetey, 2008). Meanwhile, within the EU region, legislations and laws such as the consumer credit law make information and knowledge about financial services very crucial for any business to be guaranteed of access to finance. Among the small businesses themselves therefore, access to information and level of education has always been a major challenge for individual companies (Ayers and Collinge, 2003). A study by Aryeetey (2008) for example pointed to the issue of information asymmetry as a current issue that is sabotaging most small businesses against themselves in accessing finance. In any transaction such as call for financial assistance where one party is noted to have more and better information than the other party, information asymmetry is said to have taken place (Christozov, Chukova and Mateev, 2009). Where there is information asymmetry, the resulting consequence for the small business seeking access to finance is imbalance of power in transactions, given the fact that the party with more or better information gains an undue advantage over the others (Aboody and Lev, 2000). There have also been cases where information asymmetry in the transactions for access to finance has led to market failure, which implies a situation where the transactions have totally broken down (Christozov, Chukova and Mateev, 2009). Improving access to finance for Small Businesses Currently, most small businesses are putting in place policies and programmes that are aimed at improving their access to finance. Through the literature search, one of the key interventions that were identified to be in use currently is the resort to microfinance instead of mainstream finance from banks and other financial institutions (Khandker, 2009). Microfinance has been found to be an ideal intervention for most small businesses because of the modalities behind the operation of the microfinance service. First, the concept of microfinance focuses on relationship-based banking for the small businesses (Feigenberg, Field and Rohan, 2013). By relationship based banking, reference is being made to the fact that the institutions offering the financial service focus more on developing a relationship with the small businesses that makes it possible for the two outfits to know more about each other. This way, the financial institution is better placed to understand the operations of the small business and find the right form of financial support that is within their means to finance. What is more, the relationship has also focused on educating and giving the small businesses the needed information they ought to have in order to be proactive with the payment of their debt finances (Khandker, 2009). Another modality with the microfinance service is that it focuses on group support, where the small businesses are required to come as groups rather than individuals (Feigenberg, Field and Rohan, 2013). This practice has also been found to be advantageous to the small businesses because in a group, they are better motivated to function. Another current trend is that knowing they cannot have a favourable competition against the larger companies most small businesses are now focusing on less capital intensive competitive strategies. This means that instead of choosing competitive strategies and strategic options that will require a lot of capital, which will also require the need to access finance, these small businesses are focusing their attention on innovative competitive strategies. Such innovative competitive strategies require the small businesses to come up with innovations and creative ideas that set their products and services apart from what exists with the large companies (Kevin and Somu, 2006). With these, the small businesses do not have to worry about much of the context of capital driving competition such as the use of flamboyant publicity. This is because with a little use of new technology, which has been identified to be a cheaper means of promotion, the small businesses can present their innovation to consumers, who would appreciate their products and services for what it is, rather than what it has been portrayed to be. A typical example of a company that was able to rise through the ranks as a small business into becoming a multinational company on the wings of innovative competition is Nordstrom. Conclusion The study has been very useful in identifying three major issues and trends in the access to finance for small businesses with SMEs in the EU zone as a case study. The findings have showed that existing market practices and policies on SME rating has not really gone to the favour of small businesses, making it very difficult for most of them to fall within the credit worthy bracket that is set by banks (Centre for Strategy and Evaluation Services, 2013). Because of this, it is very important that government will take over the responsibility of SME rating to quantify small businesses that can have access to finance. This is because with the banks, most of which are profit making organisations, they have looked at their own interests rather than the social benefits that they can render by making finance accessible to these small companies (Aboody and Lev, 2000). The study has also helped in outlining some of the major challenges that SMEs within the EU zone face accessing finance. Apart from the attitude of financiers, there seem to be a very gap of competitive disparity between these small businesses and large scale businesses. Because of this, market structures that are naturally supposed to be perfect competition have become monopolistic competition in favour of the large businesses (Antony and Cline, 2005). This situation can however be improved if small businesses will focus on less capital intensive competitive strategies. Should these businesses shift their attentions from financing competition to innovative competition, they can be empowered to be sustainable. Limitations and Areas of Further Research Conducting the study was faced with a number of limitations. More specifically, the absence of primary data makes the findings quite distanced from the real situation on the ground. Into the future, it is suggested that researchers will look to using primary research case studies where very specific companies can be targeted for primary data collection. This way, the reliability of findings can be more guaranteed, given the fact that the findings will be first hand data from respondents directly engaged in the issues at hand. Since secondary data collection was used, the writer had to expand on the scope of data collection, making it extremely difficult to delve into one issue at a time. References Aboody, D. and Lev, B. (2000). "Information Asymmetry, R&D, and Insider Gains". Journal of Finance 55 (6): 2747–2766. Antony D. and Cline T. (2005). "A Consumer Behavior Approach to Modeling Monopolistic Competition". Journal of Economic Psychology Vol. 26 No. 6, pp 797–826. Aryeetey, E. (2008). From Informal Finance to Formal Finance in Sub-Saharan Africa: Lessons from Linkage Efforts. International Monetary Fund: Washington, D.C. Ayers, R and Collinge, R. (2003). Microeconomics: Explore & Apply. Pearson: London. Centre for Strategy and Evaluation Services (2013). ‘Evaluation of Market Practices and Policies on SME Rating.’ European Network for Social and Economic Research. Vol. 4 No. 2, pp. 1-74 Christozov D., Chukova S. and Mateev P., (2009). Informing Processes, Risks, Evaluation of the Risk of Misinforming. Foundations of Informing Science. Vol. 42 No. 4, pp. 345-532 Feigenberg, B., Field E.B and Rohan P. (2013). Building Social Capital Through MicroFinance. NBER Working Paper No. 16018. Kevin P. C. and Somu S. (2006). "Bringing discipline to strategy", The McKinsey Quarterly, Vol. 5 No. 4, pp. 14-25 Khandker, S. R. (2009). Fighting Poverty with Microcredit. The University Press Ltd: Dhaka. Porteous, D. (2005). The Access Frontier as an Approach and Tool in Making Markets Work for the Poor. Somerville, MA: Bankable Frontier Associates. Saunders, M., Lewis, P. and Thornhill, A. (2003) Research Methods for Business Students. Pearson Education Limited: London Read More