Rampant though receding inflation and central bank interest rate hikes continue to impact African nations struggling to emerge from the COVID-19 economic slump. But many of the continent’s microfinance institutions and fintechs are still seeing micro, small and medium enterprises (MSMEs) seeking credit to expand with limited uptick in non-performing loans.
By Shane Starling
Sector actors are finding increased borrowing costs, reduced access to credit and diminished profits are hitting bigger businesses harder than MSMEs, a segment often funded outside of traditional banks.
MSMEs – which account for 60%+ of African GDP – have benefitted from an ever-expanding and nimble fintech sector where firms are often conceived with an explicit purpose: to deliver microfinance to Africa’s hordes of underbanked MSMEs.
Omondi Ochieng, corporate finance lead at Nigeria-based digital finance specialist, TeamApt, said high inflation is increasing demand for micro-credit, especially for MSMEs operating in ‘essential services’ like food, agriculture, utilities and healthcare.
“MSMEs operating in the food/agriculture space, for example, are generally able to pass on rising input costs to consumers, as food is an essential item for every household, and as such, effective demand in this sector is typically inelastic,” Ochieng said.
“For MSMEs in these ‘defensive sectors’, there may be little to no impact of inflation and interest rate hikes on loan performance, as these businesses are able to pass on the effects of these economic phenomena to their customers in form of higher prices.”
No severe inflation-linked loan delinquency in MSME microfinance
Guillaume Lesay, head of risk at micro-financier, the Baobab Group, told AFIS the growing pool of mostly Franco-African MSMEs Baobab lends to had largely been able to swerve the impacts of the successive economic shocks of the last two years.
“To be honest, we haven’t seen large numbers of customers lowering their business development expectations,” Lesay said. “We’ve seen a little loan delinquency due to COVID but not really with inflation. It’s just had less impact at the microfinance level and at that level firms find ways. They always do.”
While Africa’s central banks have delivered rate hike after rate hike to tamper inflation – Africa’s three biggest economies: Nigeria, South Africa and Egypt all jacked up base lending rates by levels approaching 5% in 2022 – Baobab’s financial offerings have been largely unaffected.
“We have not raised interest rates at all,” Lesay said. “In many cases our rates are capped and our margins are sufficient that we don’t feel the pressure to raise rates.”
In West Africa, Baobab capped its micro loan interest payments at 24% per annum.
Big banks risk averse on MSME microfinance
Lesay credits Baobab’s success to a lack of activity from big banks in the SME lending space, something also noted by Mia Pieterse, a South Africa-based financial services sector specialist at Mazars.
“The traditional banks’ risk appetite is not as high,” she said. “That’s obviously linked with the creativity and the innovation in the fintech space that we’re currently seeing in the market.”
Pieterse said Nigeria and Kenya – two of Africa’s largest economies – lead the way in microfinance, aided by financial sector deregulation in recent years.
TeamApt’s Ochieng said the unwillingness of traditional banks to lend to MSMEs has paved the way for digital-first fintechs to significantly lower the entry barriers for credit-seeking consumers and MSMEs.
“These fintechs are able to make lending decisions within a very short period of time and offer flexible repayment terms which are mostly tied to the cash cycle of these businesses,” he said.
Baobab’s Lesay added that contrary to most commercial banks, his firm actively sought out customers by going to shops, families, suppliers, and businesses.
“Commercial banks expect the customers to go to them,” he said. We don’t do that. That’s the key to our success. But we don’t necessarily use traditional credit measures. That’s how our loan default rate is so low.”
Machine-learning supported by field work
Many fintechs deploy alternative credit scoring metrics, such as data collected on customer smartphones or corporate websites, to inform credit decisions rather than just credit bureau scores.
Ochieng noted some ‘digital-only distribution models’ that employed machine learning algorithms to determine alternative credit scores had the potential to raise non-performing loan ratios.
Better were ‘hybrid distribution models’ which synthesized online and offline data to inform lending decisions, he said.
“In addition to customer’s credit history from credit bureau agencies, bank statements, and internal transactional data, fintechs in this space have built a network of field credit officers who are responsible for carrying out physical verifications of loan applicants,” he said.
“They supply the credit decisioning engine with offline data from these face-to-face consultations and make the final lending decision based on recommendations from the decisioning engine, and their judgment of the business’ repayment capabilities, given their deep, on-the-ground knowledge of these businesses.”
“These field officers are mostly ex-bank credit officers who have a very good understanding of the credit process and the credit landscape.”
‘A 1945 moment: the need to reconstruct’
Some commercial banks are doing more, however, than just shadowing reserve bank interest rate hikes with hikes of their own.
Kenya-based Equity Bank last year revealed its ‘Africa Recovery and Resilience Plan’ with an initial $7 billion fund focused on providing opportunities for African MSMEs.
“2022 presents a 1945 moment,” CEO James Mwangi said in launching the initiative in June 2022. “Like then, the world was devastated by war and needed to reconstruct.”
By the end of 2025 Equity Bank projects it will be servicing five million ‘borrowing businesses’ and 25m ‘borrowing individuals’ with a focus on building ‘domestic value chains’ via MSMEs via the scheme.
In response to inflation, some governments have enacted measures to support businesses including MSMEs.
The Nigerian government aided the bottom line for all enterprises by implementing oil, fuel and energy subsidies. “The biggest motivation for them is to avoid social turmoil,” said Lesay.
In November 2022 the Kenyan government launched a campaign to make about $400m of loans available to Kenya’s lowest income earners as well as MSMEs.
In governance, both Nigeria and Kenya tightened fintech licensing arrangements and increased transaction reporting requirements in efforts to better control a sector where unscrupulous players have emerged seeking quick financial gains.
“These measures have certainly helped stem the rise of predatory lending, but more work needs to be done around consumer data protection and unethical recovery practices in these markets,” said Ochieng.
If such challenges can be overcome, ethical expansion of microfinance has the potential to create, “a flywheel of self-perpetuating growth that is key to the growth and development of any economy,” he said.