THE ROLE OF MICROFINANCE ON THE PERFORMANCE OF SMALL AND MEDIUM ENTERPRISES
A CASE STUDY OF NAKAWA DIVISION
CHAPTER ONE
INTRODUCTION
1.0 Introduction
This chapter covers the background of the study, statement of the problem, purpose of the study, objectives of the study, research questions, scope of the study, conceptual framework, and significance of the study and definitions of key terms.
1.1 Background to the study
This included the historical, conceptual, theoretical and contextual background.
Microfinance program in Bangladesh shapes the idea of the poor and help them to practice money management, time management, encourage them to save money for future which is bringing a fruitful result by reducing poverty, empowering poor and promote rural economy. More than subsidies poor need access to credit. Absence of formal employment makes them none ‘bankable’. This forces them to borrow from local moneylenders at exorbitant interest rates. Many innovative institutional mechanisms have been developed across the world to enhance credit to poor even in the absence of formal mortgage. The reason why, the Grameen Bank followed the principle that “people should not come to the bank; the bank should go to the people” (Ledgerwood, 2000).
Most MFIs in Africa follow common strategies to run their businesses, especially at an infant stage: First, there is the strategy of business running businesses with a weekly cash flow. Second, the whole group guarantees for the loan of an individual member, making the group responsible for the repayment in case of individual default. Third, MFI costs are covered by charging interest rates. Fourth, the MFI requires mandatory savings and weekly group meetings for credit repayments (Morris, 2005).
According to the Uganda Microfinance Institution (UMFI) report (2011), microfinance in Uganda began to show face in the early 1990s and started to grow exponentially in the early 2000. The rapid deterioration of the Ugandan economy since 1999 coupled by high unemployment, by then officially pegged at levels exceeding 80%, led to the unprecedented growth of the informal sector in Uganda. Regrettably informal operators were unable to access funding from traditional capital providers (formal financial institutions), because they lacked collateral and they also found the modus operandi of traditional banks too demanding and intimidating. The sector has now over 25 years of experience providing financial services to households in poverty and has grown to become one of the biggest microfinance industries in Africa. Since 2005, microfinance is one of the pillars of the Uganda`s government development strategy (Rhyne, 2016).
According to George (2005), refers to microfinance as the provision of financial services to the low income-households, micro and small enterprises provide an enormous potential to support economic activities of the poor thus contribute to poverty alleviation. Microfinance can also be defined as the practice of providing financial services such as micro credit, micro saving or micro insurance to poor or disadvantaged individuals. By helping them to accumulate usably large sums of money, thus expanding their choice and reducing the risks they face.
Globally, microfinance institutions provide credit services and other financial services to millions of populations across the globe. According to Harris (2002), microfinance lending, savings and financial services, provide the poor with an effective way to move out of poverty build income, create wealth and assets their mortgage risks. In developing countries, microfinance includes the provision of a broad range of financial services to the lower income class in the society. Microfinance entails the provision of retail financial services including, savings, credit, cash transfer, financial management, insurance and other financial services to the poor.
Littlefield and Rosenberg (2004) argue that the poor are generally excluded from the financial services sector of the economy so MFIs have emerged to address this market failure. By addressing this gap in the market in a financially sustainable manner, an MFI can become part of the formal financial system of a country and so can access capital markets to fund their lending portfolios, allowing them to dramatically increase the number of poor people they can reach and improve on the performance of small and medium enterprises in Uganda. In response to the inability by traditional financial service providers to enable the informal sector to access capital (finance), microfinance emerged strongly as the most effective vehicle to provide access to capital for members of the informal sector and enhance performance of SMEs (UMFI report, 2011).
The study was also guided by the principal agent / cooperate social responsible theory (P/A Theory & CSR) in global value chains. In this theory, practitioners and are increasingly aware that doing the right things is not just a matter of being profitable. The ethics of business activities are becoming increasingly important, and more and more companies are evaluated on their ability to meet not only the customers’ needs but also the various needs of employees, NGOs, representatives of the local community and other interest groups. The globalization of economic activities has undoubtly affected this development. When part of the value chain is in different geographic, cultural and institutional settings, differences in social and environmental standards are uncovered (Kirig, 2010).
According to Bitature (2008), Uganda Investment Authority reports that the Ugandan economy is supported mainly by SMEs contributing about 90% of the private sector production. SMEs are the prime source of new jobs and play a crucial role in income generation, especially for the poor. However SMEs by the sheer limitation of their size and resources are highly dependant on Business Development Services (BDS) to provide capacity building and support their business growth in areas such as training, advice, information, business planning, marketing, technology, communications and other services. BDS complement credit and micro-finance programmes, and assist small enterprises with growth potential to become medium-sized enterprises.
The situation of Nakawa’s SMEs has not improved greatly because most of them lack enough capital to operate their businesses. Most of these SMEs have limited collateral security to acquire loans from banks yet the creation of the small businesses however require funding for expansion and increase in the level of productivity and growth, this therefore means that creation of micro finance institutions in Nakawa division such as Premier Credit limited, Pride Microfinance among others where people can access small loans or funding to take their businesses to the next level would be the best strategy of expanding these businesses (Georgina, 2001). Thus, need for the study
1.2 Statement of the problem
Credit access by SMEs is considered to be an important factor in increasing their performance. It increases SMEs access to financial support which enables them to overcome their liquidity constraints and undertake some investments such as improvement in business activities thereby leading to an increase in performance of SMEs (UMFI report, 2011).
Despite the increase in the number of microfinance institutions in Uganda, SMEs are charged high interest rates, harsh loan conditions which has limited most of the SMEs’ access to credit (loans), as Kasozi (2017) established that 42% of the SMEs close in their second year of operation due to low profits, failure to expand and inability to meet all their financial obligations. This shows that not much has been done on the SMEs’ performance in Uganda and yet we know that greater access and sustainable flow of financial services particularly credit to SMEs is critical to their growth. It’s in this view, that the study sought to examine the the role of microfinance on the performance of small and medium enterprises in Uganda.
1.3 Purpose of the study
The aim of the study was to examine the role of microfinance on the performance of small and medium enterprises in Nakawa Division.
1.4 Specific objectives
The following were the specific objectives of this study;
- (i). To establish the financial services SMEs access from Microfinance institutions.
- (ii). To examine the effects of microfinance services on the performance of small and medium enterprises in Uganda.
- (iii). To establish the other factors that lead to the performance of small and medium enterprises in Uganda.
1.5 Research questions
The study sought to answer the following questions
- (i). What financial services do SMEs access from Microfinance institutions in Uganda.
- (ii). What is the effect of microfinance services on the performance of small and medium enterprises in Uganda?
- (iii). What are the other factors that lead to the performance of small and medium enterprises in Uganda?
1.6 Scope of the study
1.6.1 Geographical Scope
The study was carried out in Nakawa Division, Kampala district. The area was chosen because it has a high population, easy accessibility with many small and medium enterprises and microfinance institutions.
1.6.2 Content Scope
The study established the effect of micro finance services on the performance of small and medium enterprises in Uganda. More emphasis was put on establishing the financial services SMEs access from microfinance institutions (such as loans, financial literacy, savings and financial transactions), their effect on performance of SMEs (in terms of access to business ideas through workshops, access to mortgages, business motivation and access to capital) and the other factors that lead to the performance of small and medium enterprises in Uganda (other factors include; human capital, market, location and taxes).
1.6.3 Time Scope
The study considered 2000-2018 as the period of body of knowledge to review literature.
1.7 Significance of the Study
With the study on small and medium development through use of microfinance institutions, the researcher hopes that the study will form a basic material to the following beneficiaries:
The information will be useful for planners and decision makers in different institutions dealing with microfinance program .The findings and recommendations will also be useful to small and medium enterprise managers in determining the usefulness of microfinance towards development and growth of their enterprises.
The academicians will also use the findings of this study to embark on a related study. In other terms, the study findings in this research will act as reference for other future researchers
The researcher will also acquire necessary skills of data collection, interpretation, analysis and discussion and this will help him in carrying out similar research in future and to enable him getting the award of other degrees related to accounting and finance.
1.8 Conceptual frame work
Figure 1: Conceptual Framework
Independent Variable Dependent Variable
The above conceptual frame work describes the relationship between the independent variable and the dependent variable. The frame work further presents the intervening factors that can also effect or determine the dependent variable.
The performance of microfinance services is the independent variable and this involves factors such as provision of loans, the interest rates, advisory services and training to people to enable to effectively use these funds. The services provided by the microfinance institutions determine the performance of small enterprises. This therefore means that the growth of the small enterprises depend on the services delivered by microfinance institutions and the growth is expressed in terms of size of the enterprise, level of profits, efficiency and increase in the level of productivity.
According to the frame work, the small enterprise is not only effected on by the services of microfinance institution but also effected on by other factors such as the government factors like taxation and economic factors which are essential determinants of the success of activities.
1.9 Definition of Terms
Microfinance
Microfinance involves the provision of financial services to clients in the low income segments of the society including, small scale traders, vendors in the streets, farmers and other small scale business people e.g. artisans and producers (Ledgerwood, 1999)
MFI’s
Microfinance institutions are institutions that provide credit services and other financial service to the poor in the form of small loans or savings (Harris, 1994).
Small and medium-sized enterprises
SMEs (sometimes also small and medium enterprises) or small and medium-sized businesses (SMBs) are businesses whose personnel numbers fall below certain limits.
