Financing Sources and Constrains for Smes

Topics: Cash flow, Loan, Bond Pages: 7 (2268 words) Published: December 4, 2012

Small to medium-sized enterprises (SMEs) are a dominant part of dynamism, innovation and flexibility in industrialized countries. They create more job opportunities and make significant contributions to innovation, productivity and economic growth (OECD, 2006). However, around the world, there are many severe problems constraining the development of SMEs. One of them is financing shortage (Meghana, 2003). With small size and less capital, SMEs are deemed to lack competency and credibility. Compared with large enterprises, they are short-lived with high investment risks. Hence, such a financial barrier is inevitable.

There is no single definition of an SME. Essentially, most definitions mention the size, employment, asset value, and turnover to distinguish it from large enterprises, but it is worth mentioning that ‘small’ or ‘medium’ is used relatively to ‘large enterprise’. On 1 January 2005, the European Union defined SMEs as follows (OECD): • the turnover of medium-sized enterprises (50-250 employees) should not exceed EUR 50 million; small enterprises (10-49 employees) should not exceed EUR 10 million; micro firms (less than 10 employees) should not exceed EUR 2 million; • balance sheets for medium, small and micro enterprises should not exceed EUR 43 million, EUR 10 million and EUR 2 million respectively; • must be an independent enterprise, i.e. 25 percent or more of the capital or voting rights cannot be owned by larger enterprise(s). These explain the qualifications as an SME, such as having small market shares, being managed by its owners or part-owners and not being associated with any larger enterprise.

From an economic perspective, SME sector has made potential contributions to a nation’s economy. It contributes enormously both to the overall total factor productivity and to employment opportunities. For instance, in China, SMEs contributed over 98 percent in the total amounts of enterprises and employed nearly 75 percent of China’s labour force. During the past 30 years of reform and opening up to the outside world, SMEs created more than 74.7 percentage of newly added output value and provided approximately 55.6 percent of the state’s GDP (Yibin). In addition, SMEs prefer to control the booming industries of a country. Apart from being the sector with high share of resources, it also dominates the growth of production, especially pro-poor growth. What’s more, in developing areas, if there are not numerous SMEs, the nation will only have capital and income in the larger firms, which means the ‘labour elite’ in that sector will probably bargain for higher wages than elsewhere in the economy (Simon, 2009).

Access to finance
The toughest stage of starting a business is raising money. If there are no enough funds, the business will not hit the ground running. Basically, there are two financing sources — internal and external sources. (OECD, 2006) • Internal sources (Scott & Bruce, 1987)

1. Personal sources — the most important sources. This can be personal accumulations or other accumulated cash balances. It is the cheapest and the most convenient source of finance. 2. Retained profits. In this case, cash is generated as soon as the business begins. 3. Share capital — invested by the founder. It is common that the founders introduce share capital while forming the start-ups. If someone provides the whole share capital, then he or she gains the entire control of the firm. The entrepreneur may make the investment by various personal accesses. Once invested, the company owns the money, whilst the shareholder gets the return through dividends and/or the value of the company when it is eventually sold. 4. Credit cards. The entrepreneur can use credit cards to pay for various business-related expenditures and repay that within the interest-free period. • External sources

1. Loan capital. A bank overdraft and a bank loan are the most...
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