SME Financing In The GCC—Unlocking Growth Potential

Globally, SMEs are a key engine of economic growth and development. It is well-known that a vibrant and healthy SME sector fosters innovation, encourages entrepreneurship and improves overall quality of human capital, leading to several direct and indirect economic benefits.

Historically, GCC economies exhibit several fundamental advantages, including a businessfriendly environment, strong government support and robust financial institutions that enable a thriving SME sector. However, despite these advantages its contribution to GDP is below 30%, with the lowest being 17%. This is significantly lower than other major emerging economies, such as the EU where GDP contribution is 55%.

GCC governments have launched several initiatives ranging from favorable regulatory environments to SME-specific capability-building measures to support SME development. The launch of Saudi Arabia’s SME Authority and Dubai’s SME 100 are clear indicators of regional government efforts to support SMEs. However, while these initiatives have started to take effect, there are still some fundamental challenges faced by SMEs that need to be addressed—the most prominent being access to affordable finance.

Based on latest estimates, bank lending to SMEs in the GCC is approximately only 2% of total banking sector loans. In addition, almost 50-70% of SME finance applications are rejected and, in cases where SMEs do receive loans, the rates and collateral requirements are prohibitive, impacting their market competitiveness. Lenders are often skeptical of financing SMEs given the high proportion of non-performing loans.

There are several structural challenges that underpin the financing challenge. These include that credit scoring capabilities in the region are not yet fully aligned to capture SME risk profiles, with one of the main challenges being the transient nature of SMEs, which limits capturing long-term historical data. There is also a weak culture of financial reporting among GCC SMEs, partly driven by weak corporate governance structures but also by lack of financial literacy among SMEs. Other challenges include that private equity, a major source of alternative avenues for financing for SMEs is underdeveloped across the GCC, and there are still gaps in the regulatory environment that need to be addressed.

As GCC countries continue to direct their efforts towards economic growth and diversification, they will need to adopt transformative and creative solutions to overcome SME financing challenges. A broad set of solutions can be deployed and categorized across three domains:

Financial infrastructure: Key initiatives here could include setting up and enforcing a national movable asset collateral registry, launching an alternative SME financing ecosystem, establishing instant payment platforms, enhancing credit bureaus capabilities, developing an SME equity funding ecosystem, launching an NPL trading infrastructure and establishing national “know your customer” procedures.

Financial regulations: Initiatives here could include enforcing SME lending quotas for banks supported by federal guarantee schemes or other incentive schemes, adjustment to Capital Adequacy Ratio norms specifically for SME assets, easing the financial reporting requirements for the SMEs and establishing clear regulations and policies to promote adoption of financial technologies.

Banking sector capabilities: Banks will need to adapt their business and operating models and create competitive advantages that enable efficient SME financing. Some initiatives here could include establishing dedicated SME banking units, upskilling banking staff capabilities to better assess and evaluate SME risk, adopting digital technologies to serve SME sector and developing advisory services to support SME across their lifecycle.

The potential and solutions for enhancing SME financing in the GCC are plenty, but successfully activating and deriving the benefits of these solutions will depend upon several factors. Firstly, boosting SME financing will need to be a priority government initiative to create the required momentum at a national level. Secondly, an implementation governance will need to be established to facilitate public - private and cross entity collaboration via clear responsibilities and accountabilities. Thirdly, a reporting mechanism to monitor the initiatives impact is critical to create transparency and support leadership decision making. And finally, the commitment of human capital and financial resources will be critical.