Small and medium-sized enterprises (SMEs) comprise 99 per cent of businesses in Singapore, and in 2018 they contributed 48 per cent of the total nominal value added to the local economy, or S$213.6 billion.
According to Ernst & Young, in many other countries and regions, SMEs are faced with an acute financing gap and are turning towards alternative financing solutions. Due to a combination of process and technology constraints, traditional financial institutions and banks have continued to finance large enterprises’ fixed and working capital requirements, while SMEs have been largely left to fend for themselves.
The impact of COVID-19 has exacerbated matters for SMEs.
Steady cash flows for steady business
SMEs rely on steady cash flows to manage their day-to-day businesses. Many pay their workers on a weekly basis, some even on a daily basis. While these and other costs remain largely fixed, revenues and payments have taken a severe hit due to COVID-19. Demand and output have fallen and supply chains have been thrown in disarray. The net effect has been a fall in revenues and increased Days Payable Outstanding (DPOs) across entire supply chains. As a result, there is a constant need for ready cash. Regular, uninterrupted cash flow is the required lifeline for steady growth.
Many SMEs rely on an on-peak business cycle to make up for payments and expenses for the rest of the year, but in peak season, businesses also tend to hire more labour and purchase additional stock. But seasonal inconsistencies sometimes make such an approach unsustainable for the long-term. All this means SMEs need viable financing mechanisms that are tailored for their businesses which they cannot always get from banks; and more importantly, adapt constantly to their needs. A 2017 study showed that 81 per cent of SMEs in Singapore did not qualify for business financing, for instance.
This compels SMEs to turn to alternative means of financing, which I believe is a trend we will see continuing in the coming years. According to the recent joint report by Bain, Google, and Temasek, innovations in SME working capital financing and consumer lending will comprise half of the US$38 billion annual revenue in digital financial services by 2025. This highlights the growth of fintech companies that cater to small businesses in need of quick financing.
Fintech companies are able to disburse smaller loan quantities at short notice through online interfaces, often within hours. Their low overheads enable them to service SMEs in a manner that traditional financial institutions have been unable to, in terms of speed and responsiveness. Big data and analytics with the proper connections to data sources allow fintech companies to assess SMEs’ creditworthiness and risk quickly and efficiently and simplify lending. This is particularly important now as more and more businesses will need to borrow capital to stay afloat.
Lines of credit to boost lines of business
In the past, the working capital financing requirements of SMEs were not met because those who borrowed from banks were stuck with regular monthly principal, interest and fee liabilities that did not keep lockstep with the flow of their business. This saddled them with more debt that they needed to service than was optimal for their working capital requirements.
You don’t need a two to three-year loan if all you need is a fraction of that amount to cover your working capital needs during the financial year.
A line of credit (LOC), with its flexibility, provides small businesses with a better alternative LOCs can be structured appropriately depending on a businesses’ use-case for its working capital. A business can draw from the line of credit whenever capital is required up to a certain agreed maximum amount and it need only pay fees for the amount it borrows. This saves a business costs and hidden fees that it would otherwise pay with a conventional loan.
Fintech companies have become a viable option for SMEs looking to obtain LOCs to grow their business, or given the intensity of the economic downturn, keep their business running. This is especially true of businesses with low cash reserves and poor cash flows.
An LOC offers myriad advantages
According to Experian, 81 per cent of Singaporean SMEs polled in 2017 experienced delays in payments. A single delayed payment from a client has a domino effect on a business, affecting its expenses and returns on investment. This is something a well-structured LOC can help mitigate, as it provides businesses with the flexibility to withdraw money when they need it within a matter of hours.
Fintech companies have streamlined the LOC disbursal processes considerably, making it much easier for SMEs to tap into their lines faster than ever before. Cumbersome paperwork with each withdrawal is now a thing of the past, and SMEs can withdraw money using a computer or smartphone from the comfort of their homes or workplaces. Additionally, LOCs provide SMEs with financial flexibility in terms of operational and financial management. From an operational perspective, LOCs help keep the wheels of a business turning, particularly during low-season. They also provide companies with a financial buffer when they want to invest large sums of money to expand their business.
From a financial management perspective, an LOC allows an SME to plan its cash flows better, to save on unnecessary interest payments and ensure its cash is not sitting idle. An SME can withdraw varying amounts over the course of a year from its LOC, and interest is only charged on the amount withdrawn, and for the duration it was withdrawn for, making it much cheaper from a cost-of-capital standpoint.
The maintenance and use of an LOC is more efficient with fintech companies. Traditional financial institutions usually levy a fee to keep an LOC active and pricing is not always completely transparent. SMEs are required to pay fees regardless of whether they withdraw any amount or not, which isn’t ideal.
Additionally, customers sometimes have to wait for days before a bank responds to drawdown requests and eventually disburses the funds. Fintechs provide a way around all of this with quick turnaround time, which is often within hours.
A commitment to SME growth
Finaxar is committed to offering solutions with the support of technology and data science. In addition to extending LOCs, we monitor SMEs’ outlays and revenues and can provide them with insight on financial management. .
We are also working with banks that want to modernise, enabling them to serve the SME segment through our tech capabilities. Our approach to provide Lending-as-a-Service (LaaS)™ has led to successful partnerships with banks who recognise the need to innovate, and address the huge financing gap that Singapore-based SMEs face.
The impacts of COVID-19 will continue to linger for a long time even after the spread of the virus is successfully curbed. In this time, it is important that we continue supporting our SMEs.
Fintech companies can help with cash flow management, which is one of the most pressing challenges businesses are confronted with in the face of a plummeting global demand, disrupted supply chains and a cash crunch across supplier and customer networks.
Dr Tan Sian Wee is Co-Founder and Executive Director of Finaxar, a Singapore-based fintech firm focused on changing the way small business financing is done using technology.