ABSTRACT
The economic potential of Small and Medium-sized Enterprises (SMEs) have been recognized worldwide. However, the existence of credit rationing has hampered realization of the same. The prevalence of credit rationing has been evidenced by the documented SMEs financing gap which is within the range of 2. 1 to 2. 6 trillion British pounds and the proportion of SMEs financing to total lending in the world, which averages 23.4 percent in any financial year. A similar credit rationing situation is being experienced in Kenyan, such that, on average SMEs are awarded at most 17.4 percent share of amount of loans available in the credit market. Hence, the study sought to establish the effect of business specific factors on credit rationing among registered SMEs in Kiambu County, Kenya. The specific objectives were: to determine the effect of business credit history, business repayment capacity, collateral and business size on credit rationing among SMEs in Kiambu County, Kenya. The study adopted positivism research philosophy and utilized explanatory study design. The target population was 41,115 registered and active SMEs located within Kiambu County, Kenya. A sample size of 397 SMEs was randomly selected based on inclusion and exclusion criteria:-that is having applied for credit once during the period of study (2013- 2017) and denied or awarded less amounts than the amount applied. Structured questionnaire was used to collect data relating to business specific factors and credit rationing, while data on inflation was collected from Central Bank website by use of data collection sheet. The data were analyzed using descriptive statistics and inferential statistics got by undertaking logistic regression analysis. The results of correlation analysis indicated that the business specific factors were sufficiently different measures of separate variables, and consequently, this study utilized all the variables in undertaking logit regression analysis. In regard to logit regression analysis, the study found that: credit history, repayment capacity and size of business have statistical significance effect on credit rationing. However, collateral have statistical insignificance effect on credit rationing. The findings from the testing of moderating effect of inflation on the relationship between business specific factors and credit rationing indicated that there exists statistically significant moderating effect of inflation on the relationship between business specific factors and credit rationing. Guided by the findings, a number of recommendations were made. First, SMEs should comply on timely credit repayment as well as repayment of the required credit installment in order to improve their future credit evaluation. Secondly, SMEs should improve on the repayment capacity by managing their sales and expenses in a manner to improve on their net profits. In addition, the proprietors of SMEs should diversify on other sources of income which may increase the repayment capacity. Thirdly, the SMEs should improve on their sizes as reflected by capital employed and sales turnover. With regards to capital employed, the proprietors can enhance the policy of maintaining retained earnings, while the government can introduce seed capital to any new coming proprietors. Lastly, the existence of moderating effect of inflation implies that the government should institute monetary policies geared to maintaining inflation to a levels which should not adversely affect the borrower and the lender.
CHAPTER ONE INTRODUCTION
Background to the Study
The economic potential of Small and Medium-sized Enterprises (SMEs) have been recognized worldwide (Kongolo, 2010; Ayyagari, Demirgüç-Kuntand & Maksimovic, 2011). According to Domeher, Musah and Poku (2017) SMEs promote innovation and proprietorship, they are labor intensive and have no huge capital requirements. Kundid and Ercegovac (2011) note that Small- and Medium-sized Enterprises (SMEs) are highly bank dependable firms worldwide. However, SMEs are subject to more frequent credit rationing than large enterprises. Helsen and Aleschmelar (2014) observe that SMEs recognize credit rationing as a major predicament to their growth and economic potential.
According to Abdulsaleh and Worthington (2013), banks are the main source of external funds for SMEs in all economies. Moro, Lucas, Grimm & Grassi (2010) rekcon that, in order to optimize their capital structure, SMEs should focus on bank financing. Ferrando (2012), contends that bank financing is attached to many charges compared to other sources of finance, however, it generates good returns for SMEs. In support, Abdulsaleh and Worthington (2013) concludes that bank finance can help SMEs accomplish high levels of performance than other sources of finance. Financial Sector Deepening (2015) notes that the explanation and monitoring given by banks enables SMEs to employ the funds more efficiently resulting to minimal wastage of credit awarded.
Mwangi (2013) notes that SMEs financing by banks is characterized by high costs of borrowing, small amounts of loans and high rejection rates of loan applications, which is
attributed to their opaqueness, such that it is difficult to ascertain the credit worthiness of a particular SME. According to OEDC (2018), opaqueness of SMEs undermines the desire of banks’ lending and results to banks engaging in the more impersonal or arms-length financing that requires accurate, objective, and transparent information. FSD (2015) emphasizes that SMEs are more likely to be informal, particularly in developing countries. Sensoy (2010) observes that banks cannot lend to SMEs, as much as would have wanted given that they do not report reliably their full financial activity on their financial statements. OECD (2013) identifies capital markets as a prime source of long term financing for most business enterprises. However, Oteh (2010), reckons that capital markets are typically not a source of direct funding for SMEs since these firms are unable to issue debt or equity in amounts sufficiently large to attract investors and reduce the large issuance-related transaction costs. In support, the European Commission (2017) pinpoints that capital markets lack comparative advantage in dealing with opaque and small firms, not underscoring that capital market financing rests on comparatively high accounting and disclosure requirements which, by definition, the opaque SMEs lack.
Stein, Ardic and Homes (2015) observe that SMEs financing gap in developing countries is within the range of 2.1 to 2.6 trillion British pounds. World Bank (WB), Central Bank of Kenya (CBK), and Financial Sector Deepening (2015) confirm that the proportion of SMEs financing to total lending in the world averages 23. 4 percent compared to that of large enterprises which on average is above 70 percent. Reflecting the SMEs’ precarious credit position in Kenya, World Bank (2015) contends that on average, only 43 percent of loan applications received in a specific year are approved in full, thus the rest are rejected or
receive less amounts than the amount applied. This is despite the fact that Kenyan SMEs
provide one of the most prolific sources of employment creation, income generation, and poverty reduction (Ngugi & Bwisa, 2013: Ong’olo & Awino, 2013).
A number of policies have been developed and implemented to support SMEs in reducing credit rationing. Wanjohi (2012) notes that Kenya Local Government Reform Program spurred as early as 1999, enabled single permit hence increasing recognition of SMEs by financial institution. According to IFC and CBK (2015), the collaboration of International Finance Corporation, Central Bank and Ministry of Finance in 2007 resulted to establishment of credit reference bureau whose objective was to benefit SMEs. The Micro and Small Enterprises Act, Nunber 55 (2012) indicates that establishment of Micro and Small Enterprise Development Fund was aimed at providing affordable and accessible credit to micro and small enterprises. Despite all these efforts, WB and CBK, (2015) reveal that on average, SMEs in Kenya hold at most 17.4 percent share of amount of loans available in the credit market, despite contributing over 20.5 percent of aggregate bank net income.
According to Gemech and Struthers (2003), much interest in the literature of credit challenges to SMEs, in this case credit rationing to SMEs, dates back to the seminal paper of McKinnon and Shaw (1973).This seminal paper indicated that credit rationing is caused by government imposed constraints on the free working capital of financial markets, whose remedy should be linearization of interest rate (Helsen &Chmelar,2014).Thus with liberalized interest rates, financial markets are able to allocate financial credits based on interest rates that reflect scarcities. This scholarly view was challenged by Stiglitz and Weiss (1981) in their credit rationing theory. The theory outlines that the prime cause of credit rationing is asymmetric nature of information linking the lender to the borrower and as a
result price mechanisms, in this case lending interest rates, cannot equate supply and demand for credits.
