Alternative lending is now a massive market on the globe, gaining the most traction in developed economies. These more advanced markets could often absorb the financial risks associated with a new industry, not to mention foster innovation and entrepreneurship.
As the developed world works out the kinks to the alternative lending landscape, emerging markets are now headed toward adopting some of these industries as they look for ways to strengthen their small businesses and overall economies.
In 2013, the International Organization of Securities Commissions put its Growth and Emerging Markets Committee to work to examine the world’s most successful practices within financing small- and medium-sized enterprises through capital markets. Last week, the IOSCO published the results of this research in hopes of providing regulators within some of the world’s fastest-growing economies with guidance on how to regulate this industry and ensure small businesses can adequately access financing.
As part of its research, the task force surveyed experts in 45 jurisdictions to explore how regulators currently promote SMEs’ access to capital market financing. Analysts found that traditional bank loans remain the leading source of working capital for both public and private small businesses, followed by equity finance, venture capital investment and government funding. Further, the IOSCO concluded that overall, capital markets largely cater to the SME population.
But according to the survey, 17 jurisdictions reported that no small- and medium-sized businesses moved from the SME market to the main market in the last five years up to June 2012.
There are key fears held by small business owners that are commonalities throughout jurisdictions and that prevent SMEs from accessing the financing they need. Researchers found that a fear of losing ownership of their business, inexperience with capital markets, and regulatory burdens often block SMEs’ access to finance.
While governments have been found to be examining these issues, the IOSCO found that regulators have had “uneven success” in their efforts to promote SMEs’ access to capital markets.
This is largely due to the varying degrees of SME markets among jurisdictions. For example, China has established the SME Board and the Growth Enterprise Board, as well as an SME equity market through the launch of the National Equities Exchange and Quotations. Similarly, Canada has established the Toronto Stock Exchange to create a separate SME market.
In contrast, other economies have no separate SME market in their capital markets, including Mexico, Slovenia, Morocco and Sri Lanka. Meanwhile, other markets have a mix – in Brazil, for example, there is no separate SME market, but there is a separate listing segment on the nation’s main market, the IOSCO found.
The array of market capitalization of SMEs in different economies is similarly as vast. Researchers pointed out that the average SME market capitalization in South Africa was $2.7 million, whereas in the U.K. it was $85.1 million, as of 2012.
Not only are the world’s SME markets incredibly different, they are experiencing different degrees and rates of change. India was found to have experienced the largest growth in its SME market, with small business market capitalization rising from $41 million in 2012 to more than $2 billion in 2014.
With such an array of SME market levels, the IOSCO declared that “the main market’s level of development may be one of the most significant impediments to SME access to finance in emerging markets.” Researchers found a direct correlation between the depth of the main market and opportunities provided by the market to SMEs.
Researchers declared that the leading practices regulators should take on to promote SMEs’ access to financing include tailoring regulatory requirements for fixed-income and equity markets to SME borrowers, and promoting new sources of financing like venture capital, private equity and securitization.
In terms of establishing a separate SME market, analysts found no single recipe for this process. The IOSCO pointed out Israel, which is considering the proposal to establish separate listings for SMEs that will face less burdensome regulatory disclosure requirements than larger corporations.
“SME issuers vary greatly in terms of their scale sometimes even within the same jurisdiction,” the report concluded. “It may be useful to have an idea of average market capitalization of issuers in different SME markets.”
Still, analysts chose an array of best practices for regulators in these differing economies to follow. Key to facilitating SME access to financing through capital markets, the IOSCO concluded, is creating a regulatory framework proportional to the company – for example, SMEs should be exempt from certain disclosure obligations, allowing the businesses to focus on growth. Listing fees should also be reduced for a small business so they can affordably raise capital.
Providing resources for SME owners to become financially literate is also key, the IOSCO report said, as regulators should explore how to educate small businesses on compliance. Policymakers, the report concluded, are highly encouraged to consider setting up a public website for small business owners to access these resources.
Still, authorities must balance boosting SMEs’ access to capital markets with protecting investors. “The challenge for regulators,” the report found, “is to strike the right balance between an adequate level of investor protection and the optimum level of requirements for issuers.”
Governments should also provide ways for SMEs to access financing should they wish to remain private. For example, authorities should regulate but not impede private placements or backdoor listings.
Overall, IOSCO analysts recommend that jurisdictions explore how they can promote other forms of SME financing – including venture capitalism, securitization, and private equity – but keep in mind their economy’s specific needs and environments.
As the IOSCO’s largest Committee, the Growth and Emerging Markets Committee aims to promote emerging market growth as the organization anticipates growing membership. According to the IOSCO, the committee is comprised of 88 members from both G-20 economies as well as emerging economies.
In this context, the IOSCO’s report on fueling SME financing through capital markets has broad, significant implications for jurisdictions across the globe – regardless of size or strength. Fostering SME growth, the report found, is key to promoting job creation and economic growth, and these are priorities for economies both established and emerging.
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