Market Gaps on Access to Finance - Bank of Valletta

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Malta Business Bureau – <strong>Market</strong> gaps in access to finance April 2013 3. Financing needs of Maltese SMEs Access to finance to support the steady expansion of business operations is a challenge for all businesses. Moreover the smaller the business and the “younger” it is within its lifecycle, the more problematic it is to obtain the much needed credit lines. This is especially the case for SMEs in Malta. This section provides an overview of the main access to finance issues typically encountered by SMEs in Malta, and the source of finance which are available to meet such needs. In terms of financing issues, this section also discusses aspects related to Malta’s small size, as well as issues arising from firms’ current lifecycle stage. 3.1 Firm lifecycle financing needs There are various classifications of firm lifecycle, with the most common steps referring to an initial stage, start-up stage, and growth stage. These stages are very similar to the stages of product growth, starting with an inspirational stage (pre-seed and seed) and followed by a market entry stage (start-up), and growth stage (emerging/ development/ expansion). In some cases, the lifecycle would continue with maturity/ decline / exit, while in other businesses the cycle would repeat itself through new ideas to develop new markets/ products. This is especially relevant in innovative and technology-driven industries. The different lifecycle stages will impact access to finance and could be the difference between expanding or not. The following sub-sections describe the main stages of the firm lifecycle and their related access to finance difficulties for Maltese SMEs. Figure 1: Business Life Cycle TRANSITION MATURITY 3.1.1 The pre-seed and seed stage IDEA Business Life cycle EXPANSION Any business starts with the idea and involves the development of whatever product or service this business is going to provide. Founders will begin developing a prototype, create a business plan, conduct market research, and seek advisers and mentors to help them get started. Page | 22 START-UP GROWTH
Malta Business Bureau – <strong>Market</strong> gaps in access to finance April 2013 In terms of funding, since the product or service is still at an embryonic stage, the initial financing needs typically involve small amounts - only that which is necessary to develop the initial product. Typically in Europe, many business founders start by taking personal loans or using personal funds, though some apply for government grants or special programmes that provide seed funding. In Malta, the initial seed financing would be available through the use of personal savings, where available, as well as funds from family and/ or friends. As mentioned in Sections 2.4.2 and 2.4.3, these founders can also tap certain small start-up grant schemes, even though these schemes are generally available for selected industries with higher growth/ value added potential. Commercial banks in Malta are unlikely to provide assistance at this stage since the risk is still high and the idea still uncertain. Likewise, there are no formal venture capital funds or other risk-based financial instruments which are currently targeted at seed companies in Malta. 3.1.2 Start-up stage Once the product has been created and the business exists as a legal entity, then the market will subsequently be tested and adjustments might need to be made according to feedback received. In terms of financing, the firm is still relying, in all likelihood, on its initial seed funding sources to keep it going (personal savings, family and friends), and is probably not yet profitable. For this reason, those running the business must be very careful not to use up their available funds too quickly. In Malta, apart from the initial seed funding, SMEs in the start-up phase might again be eligible for grant assistance as discussed in Section 2.4.2. Though less risky and uncertain than in the earlier seed stage, commercial banks in Malta might still deem SMEs in this start-up stage as “non-bankable clients”. By definition, start-ups have an above average risk profile – this is added to potentially low collateral coverage which renders them less attractive for credit granting by banks. The MicroCredit/ JEREMIE initiative outlined briefly earlier in this report is aimed at filling in this gap by providing a safety cushion for the commercial bank implementing the MicroCredit scheme in the form of an EIF-backed guarantee. As a result, the bank is more likely to extend loan financing to start-ups. In fact, c. 40% of JEREMIE successful applicants as at December 2012 had initiated operations within a period of less than 24 months. However, in terms of local private equity funding, there currently still exists a gap for start-ups in Malta as previous attempts to set up venture capital funds for technology-driven ideas (see Section 2.4.3) have not been successful to date. 3.1.3 The emerging-growth stage As a result of the afore-mentioned initial stages, and through feedback and experience gained in the process, the SME would have worked out the majority of the product malfunctions and can therefore shift its focus on market growth. With growth, the firm would need to hire additional employees to help the business keep up with its growth, as well as any new competitor market entrants. Though the firm could be seeing its first profits in this stage, it is also probably also dealing with increased demand for its products/ services and new competition. Hence top management may begin looking for a new round of funding should profits and the initial funds not be adequate when it comes to covering internal growth. In Malta, this need for additional funding might lead to the SME’s first attempt at securing bank financing through loans, potentially facilitated by local schemes providing soft loans or interest rate subsidy schemes from ME or guarantee-backed schemes such as the MicroCredit scheme. Certain sectors, such as enterprises engaged in manufacturing, industrial services, ICT, biotechnology, or in other innovative or high value adding operations, are better positioned to attract such financing. While formal Malta-based private equity remains inexistent in this firm lifecycle stage, informal venture capital might be successfully secured through local entrepreneurs and businessmen who are often seeking investment and further diversification opportunities. Page | 23
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