SMEs = Job Creation. Poverty Reduction. Growth. Innovation. Competitiveness.

1. SMEs = Job Creation. Poverty Reduction. Growth. Innovation. Competitiveness. Presentation to Portfolio Committee on Economic Development:

2. DATE: 23 NOVEMBER 2010PRESENTED BY: CHRIS BALOYI PROPOSED FUNDING MODEL FOR SMEs Presentation to Portfolio Committee on Economic Development:

3. Presentation to Portfolio Committee on Economic Development: • Overview of Presentation • Introduction / Why are SMEs so Important? • SMEs Have a High Failure Rate • Reasons Why SMEs Fail • Proposed Funding Model • Why Venture Capital • Business Mentorship • Proposed Funding Model in Detail • Introducing BridgeFin • Conclusion / Q & A

4. Presentation to Portfolio Committee on Economic Development: • Introduction / Why are SMEs so Important? • Survey findings of OECD countries in early 2000’s show: • SMEs account for the largest portion of the private sector economy, between 96 – 99% of total number of enterprises in countries surveyed. • Above 60% of all companies in developed countries such as Japan, and emerging countries (Malaysia, Philippines, Brazil, India) are SMEs. • SMEs account for 60-70% of manufacturing jobs in most developed and fast developing economies. • SMEs are significant contributors to GDP in emerging economies (55%) . • SMEs were main drivers of innovation and technological developments in countries surveyed.

5. Presentation to Portfolio Committee on Economic Development: • Introduction / Why are SMEs so Important? (cont.) • Local research studies confirm the OECD findings. • UCT Graduate School of Business Centre for Innovation and Entrepreneurship research findings show (2002): • Of the 906 690 companies surveyed only 60 167 were considered large companies. • SME sector contribution to GDP was estimated at 41% at the time. • About 50% of SA’s work force was employed by SMEs. • The reasons why SMEs are important have been thoroughly documented and debated in SA as much as elsewhere in the Globe. • But the SME sector has seen little ‘focused intervention’.

6. Presentation to Portfolio Committee on Economic Development: • SMEs Have a High Failure Rate • Up to 70% of all new businesses classified as SMEs in developed countries fail in their first 2 to 3 years. • In Africa the failure rate is estimated at between 80 – 90% over the same period. • Despite its status as a regional powerhouse South Africa is not immune to the SME challenges and fairs equally to most African countries, e.g. countries such as Ghana, Uganda and Namibia. • The high failure rate is more prevalent in black-owned, controlled and managed SMEs.

7. Presentation to Portfolio Committee on Economic Development: • Reasons Why SMEs Fail • Lack of / limited access to finance for early stage businesses due to: • Poor business plans: • Unrealistic business plans / ‘Pie in the sky business idea’. • Overoptimistic cash flow projections. • At times no business plans at all). • Inadequate own contribution / equity. • Lack of security / collateral. • Financiers / investors often require proven cash flow generation for a period of at least 12 months – catch 22.

8. Presentation to Portfolio Committee on Economic Development: • Reasons Why SMEs Fail (cont.) • SMEs are generally perceived as high risk investments, characterised by: • Poor Corporate Governance practices: • Lack of ethics. • Fraud. • Inadequate management control. • Control Flaws in vital contracts, business models and strategy. • Inability to respond to changes in business cycles (e.g. recession). • Uncontrolled, unfocused, unplanned expansion. • Poor cash flow management.

9. Presentation to Portfolio Committee on Economic Development: • Reasons Why SMEs Fail (cont.) • Access to funding is partly the Challenge: • More important is access to the right type of funding: • Traditional bank funding (i.e. overdrafts, loans) is not appropriate for early stage SMEs due to interest and repayment burden and the requirement for security. • SA SMEs need seed capital funding where the financiers take equity in the SME and share in the business risks with the entrepreneur. • However, access to funding alone is not the solution. As research indicates, SMEs lack critical skills for business success, such as: • Financial management, book keeping, administration. • Legal, regulatory, understanding of contractual arrangements. • Marketing, sales and strategy.

10. Presentation to Portfolio Committee on Economic Development: • Proposed Funding Model • SA SMEs need an integrated funding model comprising Venture Capital funding linked to a Business Mentorship programme. • The proposed model would ensure SMEs have access to appropriate forms of funding while at the same time receiving appropriate mentorship for business success. • The proposed funding model ensures SMEs receive a mix of debt and equity finance: • With more reliance on equity funding at the early stages. • Appropriate interest and capital moratoriums based on cash flow projections. • Appoint Business Mentors with sector, product, market experience.

11. Presentation to Portfolio Committee on Economic Development: • Why Venture Capital?/Advantages • Venture capitalists take equity in SME and become part owners vs. banks which require interest repayments: • Dividends are payable once or twice a year, thus relieving cash flow. • While interest is payable monthly, thus placing a strain on cash flow. • Venture capitalists provide longer term funding (average of 5 – 7 years) than banks (often 12 – 24 months). • Repayments to Venture capitalists are somewhat fixed ex post (i.e. dividends and capital gains of divestiture), but interest is volatile. • Venture capital financiers have representation in the management of the SME to ensure good business management.

12. Presentation to Portfolio Committee on Economic Development: • Business Mentorship • Business Mentors act as a sounding Board for new SMEs. • Mentorship programmes have proved beneficial in developed economies (e.g. UK). • Business Mentors are people with proven track record in the target sector, product or market: • They are usually retired executives but can also be younger professionals with a passion for SMEs and entrepreneurship. • Alternatively Business Mentors can also be firms that specialise in advising SMEs and entrepreneurs. Our company is one such firm. • Proposed mentorship of new SME in its first 6 – 24 months.

13. Presentation to Portfolio Committee on Economic Development: • Business Mentorship (cont.) • The challenge with Mentorship programmes is that these services need to be paid for, otherwise the Business Mentor is not motivated. • The disadvantage with current payment structures is that the remuneration of Business Mentors is not linked to performance, thus the Business Mentor is paid whether the SME succeeds or not. • Proposal is for the Business Mentor to enter into a tri-partite performance contract with the financier and the SME: • To provide ‘mentorship services’ and skills transfer to the SME. • SME, financier and Mentor should agree on performance miles upfront: • e.g. Cost cutting, profitability, return on investment, market share, skills transfer.

14. Presentation to Portfolio Committee on Economic Development: • Proposed Funding Model in Detail • Proposal is for Govt and banks need to pull funds into a dedicated SME Venture Capital vehicle(s) . • Capitalise the vehicle with, say, 20% Govt and 80% bank funding. • Provide limited Govt guarantee to the SME Venture Capital fund. • Part fund SME Mentorship programme through Bank Sector contributions to the Skills Development Fund. • Currently banks contribute 3% of their net profits to the Skills Development Fund. The idea is to tap into this Fund. • Include the cost of Business Mentorship services to project costs and provide as part of funding provided to the SME.

15. Presentation to Portfolio Committee on Economic Development: • Proposed Funding Model in Detail (cont.) • The proposed is to establish a national SME Venture Capital financial institution with regional offices in 9 provinces. • Capacitate the financial institution and regional offices with appropriate skills to assess business proposals: • One centralised credit / funding approval office to eliminate inconsistencies and fraud. • Credit / funding approval process must incorporate a critical skills gap analysis and provide a recommendation of skills required to address the identified skills gap as part of overall risk mitigation. • Financial institution must create a provincial database of Business Mentors across sectors, products and markets.

16. Presentation to Portfolio Committee on Economic Development: • Proposed Funding Model in Detail (cont.) • Graphical presentation of funding model

17. Presentation to Portfolio Committee on Economic Development: • Proposed Funding Model in Detail (cont.) • Proposal IS NOT to create a new financial institution but merely to pull funding dedicated for SMEs into an existing financial institution or DFI. • Eliminate the current duplication of processes and mandates of DFIs by pooling SME funds into one investment house. • The financial institution should establish investment thresholds for the various sectors – e.g. Small Enterprise Venture Capital Fund, Medium Enterprise Venture Capital Fund, etc. • Govt role: guarantee the funds, introduce tax incentives and allowances for investors, SMEs and corporates that support SMEs.

18. Presentation to Portfolio Committee on Economic Development: • Introducing BridgeFin • Highly qualified and experienced financial professionals: • Credit and lending aspects. • Practical experience in SME sector. • Strong business acumen, entrepreneurial spirit, love for South Africa and Africa. • Proven transacting track record and business mentorship in various industries / sectors in South Africa and the broader African region – hence we have a good understanding & knowledge of the African market, risks, challenges and opportunities. • Young, dynamic, energetic, highly motivated team.

19. Presentation to Portfolio Committee on Economic Development: • Conclusion • Proposed Funding Model is based on practical experience of dealing with SMEs in SA and the broader African region. • Also from research findings into factors affecting access to SMEs in SA. • Q & A