Analysis of financial barriers to indigenous enterprise formation on the Copperbelt Province

Master's Thesis, 2014

171 Pages, Grade: Pass







1.0 Introduction
1.1 Background to Financing SMEs in Zambia
1.2 Problem Statement
1.3 Research Questions
1.4 Research Objectives
1.5 Significance of the Research
1.6 Scope of the Research
1.7 Organisation of the Thesis
1.8 Summary

2.1 Introduction
2.2 Definition of Terms and Classification of Indigenous Enterprises
2.1.1 Micro Enterprises
2.1.2 Small Size Business Enterprises
2.1.3 Medium Size Business Enterprises
2.1.4 Informal Enterprises
2.3 Overview of the role of SMEs in Social & Economic Development
2.3.1 Employment Creation
2.3.2 Gross Domestic Product
2.3.3 Contribution to Gross Capital Formation (Physical Assets)
2.2.4 Other Roles Played by SMEs
2.4 Financing SMEs
2.5 Types and sources of Financing
2.5.1 Debt Financing
2.5.2 Equity Financing
2.5.3 Entrepreneur’s own Resources
2.5.4 Trade Credits
2.5.5 Overdrafts
2.5.6 Venture Capital
2.5.7 Retained Profits
2.5.8 Term Loans
2.5.9 Mezzanine Financing
2.5.10 Informal Sources
2.6 Funding Problems Faced by SMEs
2.6.1 Lack of acceptable Collateral
2.6.2 High Interest Rates
2.6.3 Volume of Paperwork
2.6.4 Banking Policies
2.6.5 Government Regulations
2.6.6 Lack of financial literacy
2.6.7 Lack of Credit Information
2.6.8 Lack of Financial Information
2.6.8 Lack of Managerial Knowledge of Finance and Accounts
2.6.9 A general Lack of information and Communication
2.7 The role of ‘Angel Investors’
2.8 Models on SMEs Access to Finance
2.8.1 SME Programmes – The Southeast Asian Countries Model
2.8.2 SME Finance Access to Finance – The British Model
2.8.3 Obtaining Loans for entrepreneurial activities
2.9 Summary

3.0 Introduction
3.1 Theoretical Framework
3.1.1 Pecking Order Theory
3.1.2 Agency Theory
3.1.3 The Lifecycle Approach
3.1.4 Capital Constraints Model
3.1.5 Bank Capital Channel Model
3.1.6 Financial Gaps
3.2 The Conceptual framework
3.3 Hypothesis
3.4 Summary

4.0 Introduction
4.1 Research Design
4.2 Research Approach: Deductive and Inductive
4.3 Determining of Sampling Population
4.3.1 Population
4.3.2 Sampling Frame
4.3.3 Sampling Size
4.3.4 Sampling Procedure
4.4 Data Collection
4.4.1 Data Analysis
4.4.2 Interview Guides
4.5 Limitations of the study
4.6 Summary

5.0 Introduction
5.1 Survey Findings
5.2 Data Analysis and findings from Entrepreneurs
5.2.1 Personal and Company Profiles
5.2.2 SME Public Policy Awareness
5.2.3 SME Support
5.2.4 Important Services for the Enterprise Formation
5.2.5 Financing of SMEs
5.3 Data Analysis and Findings from Government Agencies
5.3.1 The Findings
5.4 Data Analysis and Findings for Banks and Non Banking Financial Institutions (NBFIs)
5.4.1 The Findings
5.5 Evaluation of Hypothesis
5.6 Summary

6.0 Introduction
6.1 Conclusions
6.1.1 Lack of appropriate collateral needed to access funds
6.1.2 Poor credit record or history
6.1.3 Inability to present a bankable business plan
6.1.4 Lack of information on Availability of Funds
6.1.5 Demand for information about asset value of the business
6.1.6 Difficulty in accessing of credit
6.1.6 The intensity of documentation demanded
6.1.7 Unbearable interest rates or high cost of borrowing
6.1.8 Lack of formal Employment
6.1.9 Lack of entrepreneurial skills and innovation
6.1.10 Lack of clear government SMEs program
6.1.11 Procedural difficulties in starting a company
6.2 Recommendations
6.3 Recommendations for Future Research


Appendix i: Questionnaire for Entrepreneurs

Appendix ii: Questionnaire for Citizen’s Economic Empowerment Commission

Appendix iii: Questionnaire for Banks and Non-Bank Financial Institutions

Appendix iv: CEEC 2014 Application Forms


Table 2.1: Types of Capital by Source

Table 2.2: Available Lending Schemes

Table 3.3: Revised Minimum Regulatory Capital

Table 3.4: Financial Gaps and SMEs

Table 4.5: Distribution of Respondents

Table 5.6: The Summary of Received Responses.

Table 5.7: Geographical Summary of Received Responses.

Table 5.8: Age of company

Table 5.9: Number of Employees

Table 5.10: Type of activity done

Table 5.11: Why SMEs did not access public empowerment funds

Table 5.12: Opinion of who supports SMEs on the Copperbelt

Table 5.13: Main Financial Barriers to Enterprise Formation

Table 5.14: Government Measures to Support SMEs

Table 5.15: Support Sought from Providers

Table 5.16: Services Sought by Entrepreneurs

Table 5.17: Stage of business at which support was sought

Table 5.18: Importance of Information Services

Table 5.19: Important Consultancy Services

Table 5.20: Training Services

Table 5.21: Various sources of Equity financing

Table 5.22: Reasons for Choosing Equity Financing

Table 5.23: Reasons Conditions Were Not Satisfying

Table 5.24: Reasons Conditions were Satisfying

Table 5.25: Period of Loan repayment in Months

Table 5.26: Business Annual Turnover

Table 5.27: Total Investments

Table 5.28: Challenges faced by SMEs

Table 5.29: Managers’ Length of Service.

Table 5.30: Products and Services Available to Zambian SMEs

Table 5.31: Table of targeted SMEs

Table 5.32: Number of SMEs who used the services

Table 5.33: Frequency of Inquiry about the Products and Services

Table 5.35: The Reluctance to Lend to SMEs.

Table 5 36: SME Loan Default Rate

Table 5.37: Why SMEs should be financed

Table 5.38: Interest Rates, Repayment Period and Collateral Limitations

Table 5.39: Challenges SMEs Face in Accessing Finances

Table 5.40: Chi – Test Table of the Barriers to Access of Finances


Figure 2.1: SME sector’s Contribution to Employment and GDP

Figure 2.2: Access to finance and use of financial services

Figure 2.3: Percentage of access to credit

Figure 2.4: SMEs that use banking services from informal and formal providers

Figure 2.5: Financial access strands for the various FinScope survey Countries

Figure 2.6: Dwelling ownership percentage of Zambian adults

Figure 2.7: Nearest financial institution: percentage of Zambian adults

Figure 2.8: Real GDP Per Capita, Southeast Asia and Sub-Saharan Africa, 1960-2005

Figure 2.9: Real GDP Per Capita, Malaysia and Zambia, 1960 to 2005

Figure 3.10: Conceptual Framework

Figure 5.11: Distribution of respondents by gender

Figure 5.12: Respondents by Age

Figure 5.13: Level of Education of the Respondents

Figure 5.14: Respondents Running Businesses

Figure 5.15: Company Registration Status

Figure 5.16: SME Public Policy Awareness

Figure 5.17: Number of Entrepreneurs that Accessed Public Funds

Figure 5.18: Number of Credit Suppliers Entrepreneurs Approached

Figure 5.19: Types of Financial Institutions or Credit Suppliers

Figure 5.20: Equity Financing

Figure 5.21: Loans Contracted and Extent of Satisfaction

Figure 5.22: Loan Interest Rates

Figure 5.23: Period of Operation.

Figure 5.24: Extent of Targets achieved

Figure 5.25: Effort towards lending to SMEs

Figure 5.26: Allowing of Overdrafts to SMEs

Figure 5.27: Duration of Processing SME Loans


illustration not visible in this excerpt


1. Letter of Credit, document issued by a bank authorizing the bearer to receive money from one of its foreign branches or from another bank abroad (Encarta Encyclopedia, 2009)
2. Over Draft amount owed to bank - the amount that an account holder owes a bank because he or she has withdrawn or debited from the account more than has been credited to it (Encarta Encyclopedia, 2009)
3. Invoice Discounting – A type of factoring that allows SMEs to receive advances of funds from lenders against outstanding sales invoices. It is an asset based working capital solution and it allows businesses to get advances on cash they are due frm customers rather than waiting for those customers to pay. (Encarta Encyclopedia, 2009)
4. Gross Domestic product - the total value of goods and services produced in a country over a period of time (Encarta Encyclopedia, 2009)
5. Gross National Product – The monetary value the total annual flow of goods and services in the economy of a nation measured by totaling all personal spending, all government spending, and all investment spending by a nation's industry both domestically and abroad. (Encarta Encyclopedia, 2009)
6. Tuntemba – A local term describing small stalls usually situated in residential areas and often dealing in retail of grocery and vegetables (Author, 2014)
7. Poverty - A state of being poor and not having enough money to take care of basic needs such as food, clothing, and housing (Encarta Encyclopedia, 2009)
8. Enterprise - An undertaking engaged in the manufacture or provisions of services or any undertaking carrying out business in the field of manufacturing, construction and trading services but does not include mining or recovery of minerals. (SED Act; 1996)
9. Entrepreneur – risk-taking businessperson who initiates or finances new commercial enterprises (Encarta Encyclopedia, 2009)

The Micro, Small and Medium Sized Enterprises (MSMEs) are the backbone engine for the economic development of any nation. They contribute to the reduction of poverty through creation employment. They actively contribute to the Gross Domestic Product (GDP) and similarly to the Gross National Product (GNP). The MSMEs of today are the large multinational corporations of tomorrow. These are the corporations which will inevitably outlive their founders for generations to come. In order for them to fulfil the above effectively, they require financial support.

Therefore, there is need to establish schemes which will narrow the financial barriers that suffocate indigenous enterprise formation. This is the focus of this document.

For purposes of data collection leading to the answering of the research questions, this study used cluster sampling in which it divided its target population of 200 into four clusters namely: A (Commercial Banks); B (Non-Bank Institutions); C (Government Agencies); and D (Indigenous SMEs)

MSMEs on the Copperbelt Province in the Republic of Zambia have continued to express dissatisfaction about lack or inadequate of financial support from government and financial lending institutions as much as funding of entrepreneurial activities is concern. It is for this reason that this study aimed at establishing the financial barriers that impede SMEs from accessing funds for enterprise formation and the make recommendations on how these barriers could be bridged.

The results obtained demonstrated that MSMEs failed to get financial assistance due to among other financial barriers; the lack of information on financing options; the failure of MSMEs to formalise their businesses; lack of proper financial statements demanded for by the lending institutions; lack of appropriate and adequate collateral; the high cost of borrowing; the intensity of documentation when attempting to access finance; finacial indiscipline and poor credit history; and the negative image that lenders have about entrepreneurs. These are barriers to access of finance by entrepreneurs that are desirous of either starting up enterprises or growing their already existing ones.

Central to the successful access of finance by SMEs was financial literacy and availability of information on the services and products that financials institutions and government agencies such as CEEC offer. The lack Information about the where to go to access finances by SMEs have been cited barriers to access of finance by SMEs. This asymmetric information between the borrowers and lenders as is a problem to new SMEs who would want to enter the market and to some extent the older SMEs.

This study made a number of recommendations on how the financial barriers to indigenous enterprise formation can be mitigated. Financial literacy programmes were important and important factor. Government should consider embedding aspects of entrepreneurship in the Zambian Education Curricula at all levels given the importance of the subject of entrepreneurship to the economic development of this nation. Financial literacy programmes can help reduce the incidence of financial indiscipline which has been observed in this research. Industrial parks where incubator services can be offered to SMEs are an idea that the Zambian Government, by picking lessons from Malaysia should consider exploiting.

Governments should also look at whether government technical support can be used generate the emergence of business angels and to make the existing business angel systems operate more efficiently.

Creation of information centres would act to improve awareness among entrepreneurs of the range of financing options available to them from officials, private investors and banks

It has been recommended that broaden the presence and widening the publicity of entities like the CEEC would address the problem at hand. Operations of CEEC and the availability of funds such as the youth and women empowerment funds need to be publicized as these are measures aimed at promoting SMEs.


1.0 Introduction

This chapter introduces the study. It briefly explains and provides an overview on the subject and presents background information to financing of indigenous enterprises in Zambia. In this study the phrase ‘indigenous enterprises’ shall be taken to mean the same thing as ‘Small and Medium Size Entrepreneurs (SMEs)’ or ‘Micro, Small and Medium Size Entrepreneurs (MSMEs)’. This chapter also explains the approach taken in the study.

Indigenous enterprises are found in all sectors of Zambia’s economy and provide employment to a lot of Zambians and wealth creation. (MCTI, 2007) In his opening remarks at the launch of the Soweto branch of Stanbic Bank Zambia Limited in 2012, Bank of Zambia Governor, Dr. Gondwe observed that development of SMEs is viewed as one of the sustainable ways of reducing the levels of poverty and improving the quality of life of households through wealth and job creation. MCTI (2008) observes that it is the Small and Medium Enterprises that deepen the manufacturing sector, foster competitiveness and indeed help in achieving a more equitable distribution of the benefits of economic growth and alleviation of problems associated with uneven income distribution.

In this light, and given the important role that indigenous enterprise in Zambia play, there is need for measures that encourage their formation. This research examines the question of financial barriers to indigenous enterprise formation in Zambia generally and on the Copperbelt in particular. This research brings out the financial barriers indigenous enterprises face in gaining access to bank credits and other financial markets. These barriers affect their formation. This chapter articulates the problem and seeks to address and pose questions the study raises.

1.1 Background to Financing SMEs in Zambia

A number of financial institutions in Zambia were established between 1969 and 1990. These were mostly public financial institutions whose mandate is to provide various financial services to the people in this country. Examples include Zambia National Building Society (ZNBS) providing mortgages; Lima Bank and Co-operative Bank (agriculture lending), Export and Import Bank (export and import finance), Development Bank of Zambia (long term finance) and NSCB (banking services for the rural populace). The institutions were designed to provide lending to Small and Medium Size Business Enterprises. In 1969, the Industrial Finance Company was established to provide financing to small businesses. The Zambia National Commercial Bank (ZNCB) and the Development Bank of Zambia (DBZ) were established to provide financing to Small and Medium Size Business Enterprises (SMEs) and others (Bank of Zambia, 2004).

As early as 1981, the Zambian government recognised the importance of the MSME sector and its contribution to economic development. At the same time, the government recognised the challenges that the sector would face and through the Small Industries Development (SID) Act of 1981 made an attempt to enhance the effectiveness of the sector’s contribution to the national economy by establishing the Small Enterprise Development Organisation (SIDO). In support of the SID Act, provisions were made in the Fourth National Development Plan of 1989 to provide infrastructure for operations of MSMEs, promote access to credit by MSMEs with growth potential and to improve production capacities of MSMEs with the view to increase incomes and employment (MCTI, 2008).

Government established the Small Industries Development Organisation (SIDO) to promote the Micro, Small and Medium Enterprise sector. SIDO was also established to provide for financing for small-scale companies as defined in the SED Act. In 1996, SIDO was transformed into Small Enterprises Development Board (SEDB) through the 1996 Small Enterprise Development (SED) Act and, in 2006 it was amalgamated into the Zambia Development Agency through the ZDA Act No. 11 of 2006 (MCTI, 2008).

In the early years of the Movement for Multiparty Democracy (MMD), Government adopted a strict adherence to Structural Adjustment Program (SAP) aimed at enabling the government to access international funding from the International Community such as the International Monetary Fund (IMF), the World Bank and other international benefactors. It was hoped that that SAP would achieve higher rate of economic growth (Simpemba, 2002 pg 3 quoting SAP Monitor, 2000).

The SAP initiatives included privatization of State owned Companies, devaluation of the Kwacha, curtailment of credit supply, increase of interest rates, promotion of investment and export, and retrenchment of workers, which resulted into job losses and pushing an estimated 80 per cent of Zambians into extreme poverty. The effects of SAP and privatization of state owned companies led to an estimated 200,000 employees being retrenched from formal sector employment and the Zambia Congress of Trade Unions (ZCTU) put the blame squarely on the SAP (Mwiinga, 2001 as quoted by Simpemba, 2002 p. 3).

Around early 1993 alone, formal sector employment declined in Zambia by 6 per cent (DeAssis, 1997). This created a big challenge to people that had been made as they had to make ends meet. Many of them resorted to doing businesses to continue earning living and supporting their families. The decline in the employees therefore meant that some people had to start their own Small and Medium Size Business Enterprises to survive. However, this required capital to start up commercial ventures. Accessibility to capital had its own complications, which is the subject of this study. A deliberate policy by the government and its co-operating partners to fund the sector can help to reduce unemployment and insecurity.

In 1996, the SID Act of 1981was repealed and replaced with the Small Enterprise Development (SED) Act Number 29 of 1996). Government established the Small Enterprises Development Board (SEDB) to provide for the development of Micro and Small Enterprises. The formation of SEDB aimed at mitigating or providing a cushion the impact of rising unemployment.

In 2000, Zambia Chamber of Small and Medium Business Associations (ZCSMBA) was established to promote the development of Small and Medium Size Businesses. The main aim of ZCSMBA is to promote the development of SMEs; facilitate the participation of SMEs in the economic and industrial development of the country; negotiate with the government on conducive regulatory and business development environment for SMEs; source funds and other resources for the benefits of SMEs; and to Promote linkages and networking for SMEs. ZCSMBA has a national wide presence. On the Copperbelt Province of Zambia ZCSMBA has presence in Chingola, Mufulira, Kitwe, Luanshya and Ndola.

1.2 Problem Statement

At the launch of the Soweto branch of Stanbic Bank Zambia Limited, Gondwe (2012) made the observation that many people in Zambia lack collateral needed to acquire loans to finance their businesses and it has led many of the banks not to lend out money. Bankers have the capacity to give out huge amounts of money to individuals and firms to expand their capacity but have not been doing enough. This has resulted into the country remaining behind in terms of development since its citizens have failed to sustain their lives. Small and medium sized entrepreneurs once funded can drive the country’s economy and improve the quality of life of its citizens.

It is saddening to note that after recognizing in the late 1970s that Small and Medium enterprises required financial support from banks, the terms and other conditions prescribed by the lenders are not favorable to the slow growing sector. The criteria used to lend to these SMEs remain the same as for larger industries (Hamid, 1982). The lack of change in the situation triggered a major outcry from individuals and small firms to the government and the banks to come up with better conditions for lending money SMEs.

In 1998, about 88.5% of people were informally employed while only 11.5 per cent of the labour force was in the formal sector (ECA, 1999). Accordingly, government and lending institutions should help SMEs access funding at favorable rates and with good conditions. Once this is done, these enterprises will employ the many unemployed youths in the country. High levels of employment increases the nation’s income collection and it results into a better politically driven economy.

Since the establishment of Small Enterprise Development Board (SEDB) in 1996 by an Act of Parliament after the repeal of the SID Act of 1981, nothing much has been done. Though the aim was to provide development of Micro and Small Enterprises as well as being an intermediary between research and development centers and Small and Medium Enterprises, it has continued to exist in name only.

Despite the government of Zambia having established the Small Enterprises Development Board (SEDB) by an Act of Parliament (SED Act 29 of 1996), small businesses sector still complain of lack of support from the government and financial lending institutions. The rationale behind the Act was to facilitate the flow of financial resources to the Small-Scale business sector in order to promote SME development. It is unfortunate that nothing much has been done by the Board and as such economic and social developments in Zambia remain on paper.

Despite the existence of this Act, Indigenous Entrepreneurs still face barriers to access of finance for the purposes of forming enterprises. These barriers to access to finance remain the most critical challenge faced by indigenous entrepreneurs that wish to form enterprises. Accessibility and availability of finance is very limited. These barriers to access to finance are a major obstacle to the formation and development of indigenous owned enterprises on the Copperbelt.

1.3 Research Questions

The research questions are:-

i. How does access to financing from lenders influence indigenous enterprise formation?
ii. What should concerned government agencies do to support indigenous enterprise formation?
iii. How does access to information about financing affect the formation of indigenous enterprises?

1.4 Research Objectives

The main objectives of the study are as follows:-

i. To examine the factors that influence access to financing of indigenous enterprise formation;
ii. To ascertain the role of government institutions such as the CEEC in providing resources aimed encouraging indigenous enterprise formation;
iii. To investigate how access to information by indigenous entrepreneurs on ways to finance their entrepreneurial activities affects them.

1.5 Significance of the Research

The importance of this research rests on the assumption that if the indigenous entrepreneurs are adequately financed, they will grow and create employment, to increase tax and spur national socioeconomic development.

This study is about funding problems of indigenous entrepreneurs and how their proprietors could access funds to enhance them. It looks at issues of collateral needed by banks as a condition for giving such monies. It also deals with government intervention measures that are aimed at helping indigenous entrepreneurs to improve their businesses. It further brings out the benefits of SMEs to the economic development of the nation especially Zambia being a developing nation.

This study is important to both existing indigenous entrepreneurs and potential indigenous entrepreneurs in a number of ways. Firstly, it brings out the financial barriers to enterprise in financing formation. It also explains and the existing incentives to indigenous enterprise formation. This study also brings out possible means of how these barriers can be overcome, and how these incentives can be exploited so to encourage indigenous entrepreneurship.

The financial barriers as discussed herein relate to sourcing of funds from the financial and non-financial lending institutions for the indigenous business formation and how to overcome them. To the financial lending houses, this study helps them understand the financial problems that the indigenous entrepreneurs. This understanding, will aid the financial institutions to design their lending products that will be suitable to the small businesses, given the important role they play in the country’s socioeconomic development. This research will also help the Government of the Republic of Zambia and its co-operating partners to refocus their attention on the promotion of the formation of the indigenous enterprises through financially enabling policies; viable partnerships and transparent and sustainable operations of institutions like the Citizen’s Economic Empowerment Commission (CEEC).

The study is very important to stakeholders that have been identified in the report so far. Given the fact that indigenous entrepreneurs are a driving force for every nation’s economy, the relevance of the research cannot be over emphasised. The effects of non-funding to these SMEs can be seen in the high levels of unemployment amongst the youths in our country. This is because many people with relevant skills roam the streets in search of employment.

It is true that national economic development largely depend on the contributions of SMEs in any country and in Zambia. Equally, the well-being of every nation’s people could be seen in the manner its enterprises are doing. Large enterprises alone cannot manage to drive the nation’s economy. It is with the contributions of SMEs that Zambia can fully thrive in development. As observed by Honourable Gondwe during ZIBAC (2012), on the topic ‘Financing Enterprise, Policy Options for supporting SMEs’ that it is appropriate and timely to support SMEs as it provides an opportunity for us all to reflect on financing arrangements for SMEs that will accelerate growth, create employment and contribute towards poverty reduction and move our country towards more sustainable development. These issues cannot be over-emphasized hence the research is of great importance and timely if development has to take place in Zambia.

It was also reported in the development policy for SMEs that they cut across all sectors of Zambia’s economy and provide one of the most prolific sources of employment and wealth creation and are a breeding ground for industries (MCTI, 2008).

1.6 Scope of the Research

The study examines the existing financial barriers to indigenous enterprise formation on the Copperbelt Province of the Republic of Zambia. It brings out the cause of failure by indigenous enterprises from accessing financial assistance from financial lending institutions in the Copperbelt. The main focus of study is the indigenous enterprises that belong to Zambia Chamber of Small and Medium Business Association (ZCSMBA) domiciled in Chingola, Ndola, Kitwe, and Mufulira.

The attempts to highlight areas of concern such as the way the government can protect bankers’ interests once funds are released to individuals and small firms. The research also tries to identify all the requirements for one to qualify to be given the funds for business formation. It also looks into the issue of the collateral the banks need as security as well as government’s assistance to both indigenous entrepreneurs and lending institutions.

To fortify the study, banking and non-banking financial institutions have not been excluded. Here an attempt has been made to establish rate of default of servicing loans given to by indigenous entrepreneurs and the rationale behind the default rate.

1.7 Organisation of the Thesis

The research study consists of six chapters. Chapter one introduces the entire study project. It lays down the background, context of the whole study and the articulation of the problem.

Chapter two covers the literature reviewed so as to set down the basis from which the rationale for the study, statement of the problem and hypotheses, and design of the research.

Chapter three looks at the theoretical and conceptual framework that underpins the study.

Chapter four explains the research methodology employed in this research including issues relating to the population, sampling, research design, data collection, and analysis of data

Chapter five presents the findings arising from responses from interviews and those from the survey questionnaires. It also discusses the findings.

Chapter six offers conclusions, makes recommendations and suggests possible extensions for further study.

1.8 Summary

This chapter set the background to the study by highlighting financial barriers to indigenous enterprise formation. It also defined the problem statement.

The next chapter considers a review of the essential literature on which the study is based.


2.1 Introduction

This chapter reviews the existing literature on the subject of the financial barriers to indigenous enterprise formation. It looks at the financial causes of failure by Small and Medium Sized Enterprises (SMEs) which range from accessing finance from financial lending institutions when this funding is needed. The chapter ends by looking at the role of Commercial Banks and non-banking institutions as sources of finance for these small indigenous enterprises.

2.2 Definition of Terms and Classification of Indigenous Enterprises

According to Schumpeter (1934), entrepreneurship is a driving force of innovation, and more generally an engine for economic development. He argues that entrepreneurship is a critical part of the process of creative destruction that is so important for the continued dynamism of the modern economy.

Across the globe, the term SME covers a wide range of definitions and measures, varying from country to country and between the sources reporting SME statistics. Although there is no universally agreed definition of SME some of the commonly used criteria are the number of employees, value of assets, value of sales and size of capital. Among them the most common definitional basis used is employees because of the comparative ease of collecting this information, and here again there is variation in defining the upper and lower size limit of an SME. Despite this variance, a large number of sources define an SME to have a cut-off range of 0-250 employees (Ayyagari, et al., 2003).

In the United States and Canada, SME generally include firms with less than 500 employees (US Small Business Administration, 2008).

The EU defines a medium-sized enterprise as one with 250 employees, a small enterprises as one with less than 50 and a microenterprise as one with a maximum of 10 employees. At the same time, to qualify as an SME in the EU, a firm must have an annual turnover of Euro 40 million or less and/or a balance sheet valuation not exceeding Euro 27 million (European Union Commission Recommendation on the definition of SME, 2008).

In other parts of the world, like in the case of Japan SME is defined as a firm with employees of 300 or less and capital size of 300 million yen or less in manufacturing, a firm with employees of 100 or less and capital size of 100 million yen or less in wholesale, and a firm with employees of 50-100 or less and capital size of 50 million yen in retail and service sector. In developing countries, the number of employees and size of asset or turnover for SME tend to be much smaller compared with their counterparts in developed countries due to the relative size of business entities and economies. For example, in Mongolia, SME are defined as legally registered business entities with employees of 199 or less and with an annual turnover of 1.5 billion (approximately 1.3 million US$ equivalent) or less respectively (Bataa, 2008, p.2).

For comparative study purposes, currently the SME Department of the World Bank works with the following definitions: microenterprise up to 10 employees, total assets of up to $10,000 and total annual sales of up to $100,000; small enterprise up to 50 employees, total assets and total sales of up to $3 million; medium enterprise up to 300 employees, total assets and total sales of up to $15 million (Ayyagari, et al 2003).

In Zambia, according to the MCTI (2008, p.12), the topology of Zambian MSMEs has changed over time thereby creating the need for redefinition of the different categories of enterprises in the sector. Proper classification of enterprises is a prerequisite for successful targeting of support programmes and incentives provision. In this regard, the MCTI has defined MSMEs in Zambia based on the following business variables:-

Total fixed investments

Sales turnover

Number of employees.

Legal status

Below is the official Zambian definition of enterprises in the MSME sector as given by the MCTI. The Zambian Kwacha quoted here is not the rebased currency.

2.1.1 Micro Enterprises

A micro enterprise shall be any business enterprise registered with the Registrar of Companies;

i) Whose total investment excluding land and buildings shall be up to Eighty Million Kwacha (K80, 000,000)
ii) Whose annual turnover shall be up to One Hundred and Fifty Million Kwacha (K150,000,000)
iii) Employing up to ten (10) persons.

2.1.2 Small Size Business Enterprises

A small enterprise shall be any business enterprise registered with the Registrar of Companies;

i) Whose total investment, excluding land and building; In the case of manufacturing and processing enterprises, shall be between Eighty Million and Two Hundred Million Kwacha (K80,000,000 – K200,000,000) in plant and machinery; In the case of trading and service providing enterprises shall be up to One Hundred and Fifty Million (K150, 000, 000) Kwacha.
ii) Whose annual turnover shall be between One Hundred and Fifty Million and Two Hundred and Fifty Million (K150, 000,000- K200, 000,000) Kwacha.
iii) Employing between eleven and forty nine (11- 50) persons.

2.1.3 Medium Size Business Enterprises

A medium enterprise shall be any business enterprise larger than a small enterprise registered with the Registrar of companies;

i) Whose total investment, excluding land and building; - In the case of manufacturing and processing enterprises, shall be between Two Hundred Million and Five Hundred Million (K201,000,000 –K500, 000, 000) Kwacha in plant and machinery, In the case of trading and service providing shall be between One Hundred and Fifty One Million and three Hundred Million (K151, 000,000 –K300, 000,000) Kwacha.
ii) Whose annual turnover shall be between Three Hundred Million and Eight Hundred Million) (K300, 000,000 - K800, 000,000).
iii) Employing between Fifty One and One Hundred (51 -100) persons.

2.1.4 Informal Enterprises

Also existent in Zambia and in particular on the Copperbelt are the informal enterprises. These form the bulk of the makeshift stores, marketers, cobblers, millers, wood trade, peasants, hawkers and many such.

According to the MCTI the informal enterprise means any business enterprise not registered with the Registrar of Companies;

i) Whose total investments excluding Land and Building shall be up to Fifty Million (K50, 000,000) Kwacha.
ii) Employing less than Ten (10) persons.

To qualify as a small micro or medium enterprise under the above mentioned categories, the legal status and total investment criteria must be met together with at least one other criterion.

2.3 Overview of the role of SMEs in Social & Economic Development

The role that SMEs play in an economy cannot be over-emphasised. SMEs provide sustainable economic growth through job creation, development of entrepreneurial skills and the potential to contribute significantly to export earnings (Gondwe, 2012).

Gondwe (2012), on the subject of ‘Financing Enterprises’ observed that to support SMEs is appropriate and timely as it provides an opportunity for Zambia to reflect on financing arrangements for SMEs that will accelerate growth, create employment and contribute towards poverty reduction and move the country towards more sustainable development.

Given the importance that Government and the Bank of Zambia attach to financial inclusion and the development of the SME Sector, it is also important that financial service providers devise appropriate and affordable products and services, which take into consideration the needs of the SMEs, which are regarded as important drivers of the economy. These issues cannot be over-emphasized (Gondwe, 2012).

Small and medium sized enterprises (SMEs) play an important role in modern economies based on knowledge and new technologies because of their flexibility and ability to innovate. Academic studies suggest that the role of SMEs in improving economic performance, reducing unemployment and promoting flexibility and innovation is extremely important (Henriksen, 1999).

The results of a recent study of the Global Entrepreneurial Model (GEM) suggest that there is a statistically significant relationship between the national level of entrepreneurial activity and subsequent level of economic growth, although large samples with multiple years of data are needed for precise assessment (Reynolds et al., 2001).

Further, entrepreneurs help build communities in ways such as providing jobs, conducting business locally, creating and participating in entrepreneurial networks, investing in community projects, and giving to local charities. Realizing both the economic and social impact of entrepreneurship, many states and local communities have implemented aggressive strategies aimed at cultivating and nurturing entrepreneurs. Entrepreneurship and self-employment can be a source of new jobs and economic dynamism in developed countries, and can improve youth livelihoods and economic independence in developing countries. For young people in the informal economy, micro entrepreneurism is a bottom-up method for generating an income, self-reliance and a new innovative path to earning a living and caring for oneself (Maxwell, 2002).

At the 10th Annual Conference of Southern African Entrepreneurship and Small Business Association (SAESBA), held in Zimbabwe in 1997, the Small and Medium Size Business Enterprises were dubbed as the 'Engine for Economic Development'. This was seen in the role these enterprises played in terms of employment creation and the contribution that the sector made to the national economies in terms of Gross National Products (GNP).

At this conference it was observed that there is currently a growing enthusiasm in the donor community to fund SMEs in recognition of the role that the sector plays in the development of national economies and the alleviation of poverty in the third world countries. Despite this growing enthusiasm among the benefactors, the donated funds are not sufficient to adequately support indigenous enterprise formation.

2.3.1 Employment Creation

SME are considered to have a crucial role in an economy and are a key source of economic growth, dynamism and flexibility and can adapt quickly to changing market demand and supply situations. They are also deemed to generate employment, help diversifying economic activity and make a significant contribution to exports and trade (Bataa, 2008).

In the literature, there are many supporting arguments on the importance of SME for the economic development. Conceptually supporters are mostly based on following three core arguments (World Bank, 2004).

A World Bank’s Paper investigates cross-country data of SME contribution to GDP and employment (World Bank, 2003) presented comprehensive statistics on the contribution of the SME sector to total employment and GDP across a broad spectrum of countries. At the same time, the paper shows a comparison on how the economic importance of the SME sector varies across countries. This research paper covered 54 countries in the sample, 13 of which are low income countries, 24 are middle income and 17 are high income countries. The Figure 2.1 below shows SME sector’s Contribution to Employment and GDP across these Countries.

illustration not visible in this excerpt

Figure 2.1: SME sector’s Contribution to Employment and GDP

Source: The Word Bank Development Research Group (2003)

First, SME advocates argue that SMEs enhance competition and entrepreneurship and therefore have external benefits on economy-wide efficiency, innovation, and aggregate productivity growth. From this perspective, supporting SMEs will help countries to exploit the social benefits from greater competition and entrepreneurship. Second, proponents of SME support frequently claim that SMEs are generally more productive than large firms but financial market and other institutional failures impede SME development. Thus, pending financial and institutional improvements, broadening access to financial services to SME can boost economic growth and development. Finally, some argue that SME expansion boosts employment more than large firm because SMEs are more labour intensive. From this perspective, subsidizing SMEs may represent poverty alleviation tools in developing countries (Bataa, 2008).

According the MCTI (2007), in its 2003-2004 Zambia Small and Medium Enterprises Survey, there were in 1996 a total of 336,600 households in Zambia that were engaged in 403,920 SME activities. Out of this number, micro enterprises comprised 99.4 percent or 401,497 of the establishments and provided 95.3 percent of employment amounting to 802,994. On the other hand, small scale and medium scale enterprises were 2,424 and employed a total of 38,784. This resulted in a total SMEs sector employment of 841,778 in 1996.

When this survey was translated further, it revealed that the average number of workers for micro enterprises was two (2) while that of small and medium scale enterprises (combined) was sixteen (16).

By 2003, the number of households engaged in micro enterprise activities had grown by 57 percent from 401,497 in 1996 to 630,260 in 2003 resulting in a total workforce creation of 1,260,520. On the other hand, the small scale and medium scale sub-sector population also continued to grow from 2,424 in 1996 to 3,806 in 2003 thereby providing employment to 83,732 workers. In total, the micro, small and medium scale enterprises sector provided employment to 1,344,252 workers in 2003 or 27 percent of the 4,903,000 strong labour force (MCTI, 2007 p.43).

This marked very drastic increases especially that it grew from 18 percent of labour force 7 years earlier. However, in both cases, the results are highly consistent with results found in other African countries whose SMEs sector employ between 16 to 29 percent of the labour force (MCTI, 2007 p.43).

Therefore, while annual employment growth among micro enterprises was 65,360 between 1996 and 2003, that of small and medium scale sector grew at an average of 6,423 per annum during the same period. This means that, in spite of it constituting a paltry 0.6 percent of the sector population, small scale and medium scale enterprises continued to create 9 percent of all employment generated by the SMEs sector. Based on the linear growth assumption, the SMEs sector contributed a total workforce of 1,488,818 in 2006 (MCTI, 2007 p.43).

2.3.2 Gross Domestic Product

In the national accounts estimates before 1994, the informal sector was largely excluded in official estimates, except for informal agricultural activities. When the GDP estimates were rebased the informal sector activities were incorporated. In the benchmark, informal sector estimates were derived based on the assumptions about the relationships between the formal and informal sectors and using data derived from the 1993/94 Household Budget Survey (HBS). Additional data sources were the 1991 and 1993 Priority Surveys, the 1996 Labour Force Survey (LFS), the annual agricultural surveys and the 1990 Census of Population. The commodity flow balances account provided insight into the informal sector activities from which the estimates were made (CSO, 2006).

Implicitly, the current estimates of GDP contain estimates of the informal sector. Over the last decade, the economic structure in the country has undergone some transformation, making the estimates of the informal sector’s contribution to the total economy difficult to ascertain due to limited data. However, in 1996, the SMEs sector produced value added amounting to K85.7 billion (Constant 1994 Prices) out of the total GDP of K2, 328.1 billion representing 3.7 percent. With a 57 percent growth in the number of SMEs over the 7 year period, and holding real sales volume average variable constant, it is estimated that the sector contributed K135 billion towards the total GDP of K2,846.5 billion (Constant 1994 prices) representing 4.7 percent. Out of this Figure, K109.2 was from SMEs with less than 5 five workers or the informal sector (MTCI, 2007 p.44).

2.3.3 Contribution to Gross Capital Formation (Physical Assets)

The results of the survey reveal that none of the respondents attempted to provide information on the monetary value of physical assets of their enterprises. The survey was therefore unable to provide the mean and aggregate distribution of fixed assets of enterprises for 2004. In the 1996 study however, SMEs were asked to estimate the market value of raw materials, tools, furniture, fittings, machinery, buildings and land. Thus the survey provides a rough measure of the stock of assets at the time of the interview rather than a flow (or average level) over time. The study established then that the sector held gross capital assets valued at K89.6 billion. In relation to the overall Gross Capital Formation for the year which stood at 25.6 percent of the GDP of K2,846.5 billion, it shows that SMEs contributed 8 percent of the national Gross Capital Formation.

Average assets per enterprise were K318, 606. The largest percentage of assets was held in the form of buildings. For the largest number of businesses in the sector, assets were held in the form of stock or inventory, which experience frequent turnover and which cannot be used as a form of collateral (MTCI, 2007 pg 44).

Asset holdings of women entrepreneurs were far smaller than for men entrepreneurs or multiple-proprietor businesses. On average, women reported assets of K1.5 million, while men report K7.4 million, and multiple-owner businesses reported K16 million. Asset holdings also differed by sector. Businesses in production activities reported the lowest average assets, at K2.8 million, compared to K4.6 million for trade activities, and K9.5 million for services. Highest asset holdings were found in wholesale, retail; lodging, hotel and restaurant, construction; transport; and agriculture-related enterprises (MCTI, 2007).


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Analysis of financial barriers to indigenous enterprise formation on the Copperbelt Province
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