INTER-AMERICAN DEVELOPMENT BANK
INTER-AMERICAN DEVELOPMENT BANK GROUP
ACTIVITIES SUPPORTING SMALL AND MEDIUM SIZED ENTERPRISES
The Information contained in this report has been prepared with information available within the Inter-American Development Bank, but even though the compilation has been verified for internal accuracy, it has not been reviewed by Bank's officers other than the stated authors and as such it does not constitute an official document of the Inter-American Development Bank. It has been prepared with information available as of June 1998.Jesús Puente T.
INFRASTRUCTURE AND FINANCIAL MARKETS DIVISION
SOCIAL AND SUSTAINABLE DEVELOPMENT DEPARTMENT
*Document based on Rivas, Jorge; Llisteri, Juan; and Vives, Antonio: IDB Group Activities Supporting
IDB GROUP ACTIVITIES SUPPORTING
SMALL- AND MEDIUM-SIZED ENTERPRISES
I. Introduction: IDB Group Support for Small- and Medium-Sized Enterprises
A. Objective of the Report
The long-term economic development of Latin America and the Caribbean depends heavily on the ability of small- and medium-sized enterprises (SMEs) to grow, and especially, to overcome the challenge of globalization. Experience in other parts of the world has shown the effectiveness of this sector in channeling entrepreneurial creativity, implementing new technologies, and often, in providing the most dynamic source of employment opportunities.
However, SMEs in the region sometimes lack access to inputs and markets, and a fertile environment to contribute to their growth. As a multilateral organization, the IDB Group plays a key role in helping to remove some constraints that affect SMEs and in implementing programs to foster their growth. This report collects the experience of the IDB Group in supporting SMEs from 1990 to 1998.**(The experiences with the Inter-American Corporation (IIC) and the Multilateral Investment fund (NM are presented from the beginning of their operations in 1989 and 1993, respectively. Operations in the agricultural sector are not included in this report.)
It is intended to serve as a reference in the development of the IDB Group's strategy and activities to promote SME development. The objective of compiling this information in a single document is to generate a better appreciation of the Bank Group's contribution, the potential for further actions and current gaps in coverage. The report starts with a brief outline of the need for SME support in the region, followed by a section explaining IDB Group activities in support of SMEs development. Most cases present a detailed example followed by a brief explanation of different features of other similar cases. The illustrative information is divided into three parts corresponding to the three IDB Group institutions, and arranged by type of activity. Finally, the annex section provides tables supporting the discussion presented in the report.
B. The IDB Group
The IDB Group consists of three related institutions that play an important role in the development of Latin America and the Caribbean:
The Inter-American Development Bank (IDB) is an international financial institution created to help accelerate economic and social development in Latin America and the Caribbean. All of the lending instruments of the IDB are designed to support economic development in the region. To this end, the Bank uses its own capital, funds raised by it in financial markets, and other available resources, for financing the development of the borrowing member countries; to supplement private investment when private capital is not available on reasonable terms and conditions; and to provide technical assistance for the preparation, financing, and implementation of development plans and projects.
The Inter-American Investment Corporation (IIC) began operating in 1989. Supporting the overall development goals of the IDB, its activities are directed to small and medium enterprises in the private sector of Latin America and the Caribbean. The IIC promotes private-sector development in its target market by making equity investments and providing term loans to projects for which traditional financing would otherwise not be available under similar terms. It also provides cofinancing and advisory services.
The Multilateral Investment Fund (MIF), undertakes activities that promote broader private-sector investment in the economy. It is a fund that makes grants for technical assistance and invests, principally with equity and quasi-equity, in intermediary institutions that support small enterprises. The MIF has a very specific mission to implement strategies that will encourage private sector activities, for which it has its own funding although it is administered by the IDB. MIF categorizes its operations in three "Windows" (I, II, III). Window I is intended to support public sector policy reform and modernization, including updating the legal framework affecting private enterprises. Window I has been included in the category of policy and regulatory framework for the purposes of this report. Window II is dedicated to support labor force training, especially in areas that also support private enterprise. This window is treated as "training" in the section of nonfinancial services of this report. Finally, Window III finances projects to promote enterprise cooperation and development. It supports the expansion of different kinds of services to private enterprises, including the provision of financial and nonfinancial services.
C. SME Needs and the Role of the IDB Group
Small and Medium enterprises in Latin America and the Caribbean face a unique set of opportunities and challenges. On the one hand, the industry structure in the region is predominantly polarized. It is composed of a small number of large firms and a very large number of informal, family-owned small and microenterprises. This structure creates a gap with huge growth potential for SMEs. On the other hand, it also imposes rigidity to the productive structure impeding access to factors of production, and offering limited opportunities for networking and the creation of industry clusters. In a similar way, SMEs face an extensive variety of other constraints inherent to their size such as: large fixed costs, absence of economies of scale and the high cost of financial and nonfinancial services. The regulatory framework is also a source of pressure against SMEs in the form of taxes, tariffs, high legal costs and other costs that do not affect larger enterprises so severely.
SMEs have very limited access to formal sources of medium and long-term financing and other financial services. For example, generally, large financial transactions are more profitable than smaller ones due to transaction and due diligence costs; therefore, lenders tend to walk away from small deals in favor of larger ones. In addition, investors are reluctant to invest in SMEs because informational barriers and high intermediation costs make them seem too risky and potentially costly. Lack of competition and well-developed banking systems produce a strong bias towards serving the larger firms, which are more profitable and less risky. Moreover, and for the same reasons, financing through capital markets is not accessible, neither locally nor internationally.
SMEs also face barriers of access to nonfinancial services. If SMEs are to succeed in the global market, they need access to information, training, labor, technology, consulting services and other inputs essential to increase their competitiveness. To expand, SMEs also require access to international markets. They need to be able to find strategic partners in their countries and overseas, and get to know the consumer and the regulations.
Finally, a wide range of structural issues affect SMEs unfavorably when compared to larger firms. For example, taxes and tariffs are sometimes least favorable to SMEs. Inefficient custom procedures are more burdensome on trade conducted in small batches. Legal constraints include high start-up costs, and licensing, registration and arbitration costs that, are usually prohibitively expensive, for SMEs.
This list of constraints is not exhaustive, but it provides a snapshot of the environment limiting the growth of SMEs in the region, and provides a context for the activities of the IDB Group.
D. Main Areas of Activity
During the 1990s, SMEs became a priority for the IDB Group. The report on the Eighth Replenishment of Resources states that SMEs are vital to the modernization and integration of the economies of the region. To this end, the IDB developed a specific strategy for SME support that is presented in the "Enterprise Development Strategy" document of March 1995 (GN-1885). The Bank, the Corporation and the Fund have supported SMEs through a variety of activities, projects and financial instruments. These activities can be divided into five categories: financial services, nonfinancial services, science and technology, regulatory framework, and strategy and support.
Financial Services: The IDB, Group's strategy to improve financial services for SMEs is twopronged. It involves strengthening financial institutions and the actual provision of financial resources (direct and indirect financing). The IDB financed 16 Multisector Credit operations for a total of $2.9 billion to financial institutions, to be on-lent to SMEs, and two Global Credits for Small Enterprises for a total of $52 million.
In a parallel effort, the IIC was created in 1989 to attend to the financial needs of SMEs in the region. As of 1997, the IIC had participated in 180 transactions totaling $450 million in commitments. The MIF has also participated in this area creating eight venture capital funds with an investment of $35.4 million covering general and industry-specific small enterprises.
Nonfinancial Services: The IDB has approved seven loans for $1,308 million in the area of labor and management development and ten regional technical cooperations accounting a total investment of $18.5 million. The MIF approved fourteen enterprise development services and twelve training facilities. Nonfinancial services have focused on improving the competitive position of SMEs in international markets.
Science and Technology: The IDB included features supporting SMEs in five operations. These programs contain specific sub-programs supporting the scientific and technological needs of SMEs. Specifically, they provide financing for technology-related programs as reimbursable, partially reimbursable and nonreimbursable loans. The total amount allocated to support private businesses (These programs target private businesses in general, but most are devoted to SMEs) by these five programs adds up to $154 million in Chile, Argentina, Mexico, Brazil and Colombia.
Regulatory Reform: The IDB Group provided support through its two entities, the IDB and the MIF. The IDB included regulatory framework requirements favoring SMEs in 28 of the 67 sector reform operations (19 Sector Loans and 9 Technical Cooperations). The MIF dedicated twelve technical cooperations to support the institutional framework in areas that affect SMEs.
Strategy and Support: Besides the lending operations, the IDB also participated in many support activities related, such as policy advisory to governments, preparation of country-specific enterprise development strategies, distribution of information and intermediation between the public and private sectors. These activities are less tangible and usually occur in the background, but they can be effective instruments in the promotion of good practices and the creation of the proper environment.
The IDB Group has used a variety of instruments to improve the position of SMEs in the region. In the following sections, we present a more extensive explanation of these activities, how they work and how they support the development of SMEs in Latin America and the Caribbean.
II. Inter-American Development Bank Activities Supporting SMEs
A. Financial Services (Multisector Global Credits and Global Credits for Small Enterprises)
To foster the creation and/or growth of formal sources of medium and long-term credit for SMEs the IDB used two different instruments: Multisector Global Credits and the Global Credits for Micro and Small Enterprises. Since 1990, Multisector Global Credits channeled $2.5 billion in IDB resources that were leveraged with local capital to reach almost $4.8 billion in total lending capacity. These resources are further leveraged by first tier financial intermediaries and supplemented by the firm's own resources. A total of 16 operations were approved in 11countries. Besides the Multisector Global Credits, two particular cases of Global Credits for Small Enterprises were approved.
Although Multisector Global Credits are uniquely intended to satisfy the needs of SMEs, there are some instances in which large enterprises benefit from these programs. Nevertheless, these cases represent a very small portion, and in essence, Multisector Global Credits constitute support for SMES.
Multisector Global Credits
A good example of a multisector global credit operation is BR-0172 in Brazil. In this case, the main borrower was the Banco Nacional de Desenvolvimiento Economico (BNDES), which, in turn, extends credit to small enterprises through financial agents (FAs). BNDES used the IDB loan to channel financial resources to 10,000 small enterprises that lacked access to financial support. BNDES financed projects through an automatic discount facility, granting the FAs an autonomous limit for loans below $750,000. Over half of BNDES's resources were routed through financial agents. Most Multisector Global Credit programs identified in this area had the same fundamental structure but they involved different local institutions (See Table B in annex for list of projects). In most cases, the resources financed projects for the purchase of equipment and machinery or were used as working capital by SMEs.
Another case worth mentioning is the Global Credit Program for Medium and Small Business in Mexico (ME-0152). In addition to providing financial support, this project included a nonfinancial services feature. Specifically, this involved the establishment of two centers for providing advisory services in finance, marketing, technology and production.
Despite being approved at the end of year 1989, (Program CH-0 108 is not included in the calculation of the total contribution of Multisectoral Operations) the Multisectoral Credit Program in Chile (CH-0108) is included in this discussion because it incorporates two innovative features that make it particularly interesting. These features are the credit auction mechanism and lease financing. As opposed to the typical program in which the executing agency selects intermediary financial institutions (IFIs) according to a set of qualifying criteria, in this program the executing agency (CORFO) auctions off credits to the IFIs. By resulting in marginally higher interest rates than on other savings for the intermediary financial institutions, the auction procedure stimulates the development of capital markets. The program also allows leasing companies to become intermediaries, by that benefiting SMEs in particular since leasing companies usually respond more rapidly to small companies than do banks. Besides speeding the lending process, leases require no additional collateral other than the machinery or equipment under the lease agreement.
Global Credits for Small Enterprises
Most of these operations were designed to support microenterprises, however, two of the loans approved provide support for small enterprises. Loans to Argentina (AR-0213) and Uruguay (UR-0033) allowed on-lending up to a maximum of $20,000 and $25,000, respectively. According to a study conducted by the Evaluation Office of the IDB, the average size of loans extended was $9,161 in Argentina and $8,867 in Uruguay. This size loan is more likely to be borrowed by small enterprises.
The IDB approved seven nonfinancial services loans for a total amount of $1,308 million. These were pilot programs offering innovative solutions to the nonfinancial services problem, but because they target different needs and problems, they differ from one another. The Bank also approved twelve regional technical cooperations totaling $18.5 million to support SMEs.
Business Productivity Support Programs (AR-0062, CH-0024, AR-0144 and ME-00186)
Programs supporting nonfinancial services vary considerably from one another according to specific needs, institutional infrastructure available to deliver services, the type of productive activity and various other factors. As an example of the programs the IDB has approved this category, let us mention the following: a program was devoted to services such as information, consulting and training (AR-0144 in Argentina), two provided support for training services in Argentina and Chile (AR-0062, CH-0024), and another one was aimed at promoting labor mobility, employment potential and workplace productivity in Mexico (ME-0 186).
The Business Development Support Program (AR-0144) for Argentina, is intended to make support services more readily available to SMEs and to stimulate the development of a support services market that is geared specifically to SMEs. It includes two important components: information availability, and specialized services and training. The program ,will make all existing private and public support services publicly available. In addition, it will set up a business information database. The program will also strengthen the supply of specialized technical services and training through investment grants. This program is unique due to its size -the IDB approved $100 million- and will be leveraged with an equal amount of local investment for a total project cost of $200 million.
The Support Program for the Production Transformation Process in Argentina (AR-0062) is intended to enhance the efficiency of the labor market. To accomplish this objective, the program provides training services to prepare semi-skilled labor in productive sectors that have a demonstrated unmet demand. The training provided is a combination of formal classroom training and internships. The program also includes a component for strengthening employment offices to ease the allocation of human resources in the productive system.
The Worker-Training Program in Chile (CH-0024) is dedicated to training services and targets individuals who face particular problems in entering the labor market. The target population consists of young people from low-income families who are unemployed, underemployed or idle, have little or no work experience and, sometimes, suffer from psychological and behavioral problems. This target population is not enrolled in the regular system of education and needs special support to participate in productive activities.
Finally, the Labor Market Modernization Project II in Mexico(ME-0186) is aimed at increasing the efficiency of the labor market. The project is divided into four sub-programs that address different areas of SME support. Sub-program one is dedicated to improving the productivity of microenterprises and SMEs by providing incentives to invest in on-the-job training. Almost 30% of the resources of the program ($134.6 million) (This project will be financed in two phases of $250 million and $200 million. Phase I was approved in December 1996 and Phase 11 is scheduled to be approved in 1999 conditioned to the disbursement of 50% of Phase 1. The local counterpart will contribute $166.7 million and $233.3 million to Phases I and 11 to reach a total project cost of $850 million) are allocated to this sub-program. Sub-program two- which is intended to reduce the hiring and job search costs faced by firms and workers, and to increase the placement rate of unemployed trainees accounts for 61.2% of the total program ($275.2 million). The remaining funds will be used to address regulatory framework issues. Sub-program three, which accounts for 3.3% of total funds, aims to establish an integrated strategic framework to carry out policies that reduce barriers to increased labor productivity. Sub-program four (4.6%) aims to reduce the procedural and regulatory constraints that hinder workplace productivity in areas related to labor agreements.
Regional Technical Cooperations
Programa Bolivar, supported by seven regional technical cooperations from the IDB and MIF, amounting to $18.1 million, is designed to support the technological development and internationalization of SMEs in the region. The program provides access to all countries through a network of offices in the region and in some developed countries as well.
The other five regional technical cooperations account for $391,200. These Regional Technical Cooperations provided a broad spectrum of support in the form of technical assistance, dissemination of information (seminars, conferences and publications), research centers and technology transfer. For example, the International Seminar onSUE (NAFIN) (ATN/SF-4158-RG) was intended to promote the exchange of experiences about the need and alternatives for improving SME competitiveness. The technical cooperation, Support for Small Enterprises in the Andean Region (ATN/IT-5287-RG) involves a study of government policies concerning SMEs, and discusses available opportunities to support SMEs.
C. Science and Technology Programs
Five of the science and technology operations approved by the IDB include a specific SME support component. In essence, these projects provide financing for research and development projects in the private sector, technology related projects undertaken by public institutions and education projects involving universities and research institutes. Only the component supporting the private sector can be considered as SME support since it is dedicated to increase the competitive position of private enterprises and it is clearly differentiated as a "sub-program" in each case. Part of this component could end up supporting large enterprises, although its magnitude is hard to measure.
A $94 million operation approved for Chile (CH-0022) devotes $30 million to finance technological innovation and infrastructure investment projects undertaken by private firms through the National Development Fund (FONTEC). The main objective of this program is to promote R&D, scientific-technical services and other activities that enhance the ability of private businesses to compete and increase their output. The fund can finance up to 60% of projects costing less than $100,000 and 80% for projects costing more than $100,000. The loans may enjoy some level of subsidy depending on how the findings and results are shared at the end of each particular project.
In the case of Brazil (BR-0164), a minimum of 25% of the lending component (i.e., $28 million) is earmarked for loans of less than $500,000, thus targeting SMEs directly. Areas covered by the program include: basic research and development, technology transfer, new product development, quality control, and research and development infrastructure. Finally, the loans to Argentina (AR-0141), Mexico (ME-0041) and Colombia (CO-0134) include very similar sub-programs to finance and promote research and development projects. In addition to the financing component, the loan to Colombia includes an innovative component that addresses the technical needs of SMEs and devotes $15 millions to establishing sectoral technological centers.
D. Policy and Regulatory Framework
Sector Loans have historically been the main instrument used by the Bank to support the regulatory framework. Sector Loans are designed to assist governments to carry out sector policy reforms in order to encourage a market-based allocation of resources and reduce the scale of state intervention in the economy. Sector lending activity covered seven sectors: agriculture, trade, finance, infrastructure, investment, debt structuring and the public sector. These operations were approved after 1990. Of the 68 sector operations approved by the IDB, 27 had a component supporting the development of SMEs in 14 countries. These included 18 Sector Loans for the public, trade and finance sectors, and 9 associated technical cooperations for $72.8 million.
This kind of operation has an indirect effect on SMEs, and because only part of the reform supports SMEs its impact is hard to quantify. Therefore, the dollar amounts expressed above are not directly attributable to SME support, nevertheless, these loans have the potential for a significant contribution to an improved business environment allowing SMEs to thrive.
To benefit SMEs, Sector Loans included financial and nonfinancial policy reforms. In the financial area, the key objective was to eliminate institutional barriers and provide access to formal credit and other banking services to all creditworthy borrowers despite size. The main motivation behind this reform was to reduce lender bias against small borrowers and improve the distribution mechanisms for small credits. Key nonfinancial reforms were carried out in the labor market regulation, legal and institutional framework for investment, foreign trade tariffs, quotas (including customs reform), and property right issues.
A loan to Argentina (AR-0059) provides a clear example of support for improvements in the provision of nonfinancial services to SMEs. The credit supply for SMEs was considerably limited by undeveloped financial markets and the general weakness of the financial sector. Intermediation was very expensive and the allocation of capital to productive projects was inadequate. In addition, the lack of proper accounting standards reduced the confidence of potential investors, lowering domestic investment. This situation favored large firms because they could show an exceptional track record and provide sufficient collateral. Also, it restricted SME access to formal sources of credit. The reform financed by this Sector Loan involved the development of a regulatory framework that allowed for greater transparency while maintaining the safeguards that protect investors. The reform's objectives were to improve the efficiency of the financial sector and promote private investment in the financial sector. The reform is expected to yield two main benefits for SMEs: strengthen intermediary financial institutions and increase the supply of capital for small profitable projects. The other four operations approved, Bolivia (BO-0110), Ecuador (EC-0043), Chile (CH-0044), and Panama (PN-0056) also aimed at increasing the availability of financial services for SMEs.
Other operations foster reform in areas such as commercial registries and the protection of trademarks, patents and property rights, thus improving the business environment and promoting SME development. An operation for El Salvador (ES-0016), for example, required the government to improve the efficiency of the commercial registry to make it an effective institution for recording all forms of business ownership. Although these reforms can have a positive impact on enterprises of all sizes, their effect on small and medium enterprises is particularly strong since, by being able to prove that they hold legal title to their assets, SMEs willbe able to use them as collateral and broaden their access to credit.
It is also important for SMEs to be able to register trademarks and patents, in order to capitalize on these intangible assets. Operations in Argentina (AR-0059), Barbados (BA-0012), Costa Rica (CR-0032), Paraguay (PR-0003), Trinidad and Tobago (TT-0012), and Uruguay (UR-0057), included reforms in trademarks and intellectual property rights.
Some cases included labor code reform such as the cases Colombia (CO-0035) and Argentina (AR-0059). In both cases, the Sector Loan led to a reduction in labor market rigidities that improved labor mobility and utilization. The expected impact of these reforms is a reduction in labor costs and a more efficient utilization of human resources in productive activities.
Finally, trade restrictions tend to affect SMEs more heavily than large enterprises. Trade reform projects were aimed at reducing trade barriers to increase competition. This could lead to increased SME participation in international markets. Nicaragua (NI-0012), for example, had one of the most restrictive trade regulations in the region, including quantity restrictions, import license requirements, tariffs and taxes. The trade reform required the elimination of anti-export bias and thus increased price and non-price incentives to the export sector. In other situations such as that of Costa Rica (CR-0025), Ecuador (EC-00 12), Argentina (AR-0215) and Jamaica (JA-00 19), the emphasis was on personnel and administrative procedures in the custom offices, thus requiring training, changes in procedures and changes in the existing regulation.
E. Strategy and Support
The financial instruments described above are supplemented by a group of activities that do not involve the transfer of financial resources from the Bank Group, but are nevertheless important for the promotion of SME development. These activities are extremely varied and, as such, there is no specific accounting of them. The examples presented below only attempt to show the scope of these activities and are not a comprehensive listing.
For example, the Bank is in the process of producing Enterprise Development Strategies (EDS), as mandated by its SME strategy. Enterprise development strategies have already been produced for four countries. These strategies are part of a comprehensive program of Bank Group and country actions to support SME development. They are based on an assessment of the situation, the needs and obstacles faced by SMEs and an evaluation of existing policies and instruments.
The Bank also holds periodic conferences, forums and other major events to discuss major issues with public and private sector representatives. For instance, the Bank has held group meetings in several countries to discuss policies and instruments with the private sector to get feedback as to their adequacy. Furthermore, the Bank also consults with its Private Sector Advisory Council. In addition, the Bank has published best practices papers and held international conferences on different topics such as credit guarantees, technology diffusion, Enterprise Development Centers, and others.
III. Inter-American Investment Corporation (IIC) Activities Supporting SMEs
The main purpose of the IIC is to provide financial services to Latin American and Caribbean SMEs that face difficulties in obtaining financing from other sources at reasonable terms. The Corporation started its operations in 1989 and it has channeled financial resources to more than one thousand enterprises through direct and indirect financing and cofinancing. The IIC is the most important SME financing resource in the IDB Group.
Since its creation, the IIC has approved 180 projects for a total commitment of $449 million. In 1997 the IIC's Board of Directors approved twenty-five projects in eleven countries totaling $150 million. Forty percent of the funds approved were for equity investments and 60% for loans. Seven of the
|Estimated Economic Impact of Projects Approved in 1997|
|Number Of Active Projects||Number
|New Jobs Created|
|Source: Inter-American Investment Corporation, 1997 Annual Report|
equity investment funds went to developmentally oriented country or regional investment funds, providing a 14:1 leverage of the IIC's equity investments for the year. Four of the loans were cofinanced; these operations used $33 million of the Corporation's own resources to mobilize a total of $25 million in funding from banks and other third parties.
The IIC also adds value to its loans by offering fee-based financial advisory services to help SMEs structure financially sound projects. These services include counseling private companies on financial re-engineering and corporate reorganizations and providing access to external sources of financing, technology and expertise. To qualify for IIC financing, projects must offer profitable investment opportunities, contribute to overall economic development and environmental sustainability.
IIC activities emphasize equity participation in order to expand its resource generating capacity and move into new areas of development. Besides providing equity investments, which accounted for 45% of the approvals that took place in the 1995-1997 period, the IIC also supports SMEs with long-term loans and external sources of funds through cofinancing.
Although IIC activity is primarily oriented to support SMEs, there are some instances in which the Corporation invests in other areas. For instance, by the end of 1997, 7.5% of its lending went to mining and oil projects. Because this industry is mostly dominated by larger enterprises, these investments may not constitute direct support to SMEs. Nevertheless, they are important to balance the Corporation's portfolio and promote the growth of sectors that are critical to overall economic development.
A. Financial Services (Direct and Indirect Financing)
Direct financing accounts for more than half the resources provided by IIC operations. Moreover, the IIC is the only IDB Group agency able to provide direct financing to SMEs. For example, in 1996 the Corporation approved a $2 million equity investment in a $5.8 million expansion project for a Salvadorean producer of noncarbonated beverages (Bon Appetit). The project will allow Bon Appetit to become one of the most modern and efficient companies of its kind in Central America. The project will increase the presence of this firm in an international market dominated by large multinational competitors.
Indirect Financing through Financial Intermediaries
The involvement of local financial institutions is another powerful mechanism to attract additional capital resources for SMEs. Local counterparts also add value to their investment because they are close to the clients and understand their needs. They are also able to reduce the administrative costs of smaller transactions and better assess the risks of the operation, thereby reducing the possibility of failure.
The IIC is currently involved in 34 operations with financial intermediaries. An example worth mentioning is a project involving the Banco de Galicia y Buenos Aires, S.A. in Argentina. The project started with the IIC approval of $10 million in 1992 that were expanded in 1993 through a $25 million B loan with the participation of five international financial institutions. In 1995 the participation portion of the loan was expanded to $25 million. In 1996, the IIC approved a $35 million extension, that was increased to a $70 million package by six financial institutions. Finally, the B Loan was extended by $30 million in December 1996. This project will continue to finance SMEs that cannot access financial markets directly. The average size of loans extended by the IFI is $183,000, enabling the IIC to support a larger number of projects.
Indirect Financing through Investment Funds
IIC participation in developmental investment funds, which provide excellent leverage for the limited resources that the Corporation can use for equity investing, has increased from seven funds by the end of 1994, to twenty-three by the end of 1997. Eighty-five million dollars of IIC resources have gone to investment funds that have a total capitalization of $1.2 billion. IIC participation in investment funds is committed to the long-term economic development and environmental well-being of the places of operation. Even though the main objective is not profitability, the IIC requires that the investments provide adequate financial return so that they can become self-sustainable and contribute to overall economic growth.
Investment funds yield important direct and indirect benefits. An example is the IIC investment approved in 1995 for the Central American Investment Fund (CAIF). With a total capitalization of $26 million, the fund enjoys the participation of sponsors from every country in its area of operation. CAIF operates in Central America and Panama focusing on companies that generate foreign exchange and envision regional or extra-regional expansion and sales. Investments are expected to range from $250,000 to $2 million. CAIF will also assist targeted companies in the areas of management, technology, and market development. The fund has a life of ten years with the option to be extended for another two years. CAIF will target companies with potential to become listed in stock exchanges throughout the region by the end of the investment period.
Another case worth mentioning is the recent investment in the Mexico Private Equity Fund. The initial capitalization for this fund is expected to be $30 million of which IIC is participating with a $3 million equity investment. The fund will provide financing for export-oriented SMEs in northwestern Mexico. The project will increase production capacity in such sectors as manufacturing, economic infrastructure, and consumer goods. The project will also contribute to the development of local capital markets since the preferred divestment vehicle will be initial public offerings on the Mexican stock market. Over its expected life, the fund will benefit twelve to fifteen companies, create about 450 jobs, generate close to $60 million in export revenue each year and contribute $50 million a year to Mexico's GDP.
B. Financial Advisory Services
The IIC provides financial advisory services to the private sector, the region's governments and the IDB. Advisory services to the private sector are in growing demand, while advisory services to governments tend to diminish over time.
The Corporation can offer three broad products to the private sector that have substantial value added. These are corporate finance, privatization, and the identification of third party financial and technical resources through partner searches. Unlike lending, investment, or underwriting operations, where the IIC commits its own resources, expenses connected with corporate advisory services can be recovered by retainers, and success and other fees. However, fee-based advisory services are generally provided to firms for which the IIC will also consider to provide financing.
Advisory services provided to the IDB and the region's governments are generally geared toward improving the environment for private investment. Although government requests for advisory services have diminished recently, there has been strong demand for them in the past. During 1992, for example, there was a significant increase in demand for IIC advisory services in relation to the development of capital markets. During that year, the IIC provided such services to Barbados, Colombia, Mexico and Trinidad and Tobago. It also performed a study for a Venezuelan government agency to determine the prospects for venture capital financing in that country. The IIC has also provided advisory services to regional governments in assessing improvements in the regulatory framework for private investment.
IV. Multilateral Investment Fund Activities Supporting SMEs
The Multilateral Investment Fund (MIF) has faced a unique set of challenges and opportunities in the area of SME support. Since it started operations in 1993, the Fund has provided support in three key areas: financial services, nonfinancial services and policy and regulatory framework.
From 1993 to June 1998, in the area of financial services, the MIF provided $35.4 million for the establishment of eight venture capital funds totaling $78.7 million. In the area of nonfinancial services, the MIF approved projects totaling $65.3 million for enterprise development services and Training Facilities. Finally, in the category of policy and regulatory framework, the Fund approved twelve technical cooperations in ten countries for a total project cost of $10.1 million.
MIF activities are intended to be self-sustainable and with the primary objective of improving open market economies in the region. To guarantee self-sustainability and the catalytic effect, it undertakes projects only with the participation of local partners such as NGOs, private sector associations and government entities. For MIF projects supporting SMEs, the local contribution averages 45% of the total cost, providing a clear signal of strong local interest and the potential for success.
A. Financial Services (Venture Capital Funds)
The MIF invested $35.4 million in eight venture capital funds for SUE development. MIF participation in these funds cannot exceed 50% and the investments are expected to generate positive returns. The local partners invested $43.3 million, raising a total of $78.7 million for SME financing. These projects may include a separate grant component for technical assistance purposes.
The main objective of these investment funds is to provide equity to SMEs for their development, and occasionally they are restricted to specific areas. For example, the two regional funds "Energy Investment and Service Enterprise (E&CO-LAC)" and the "Environmental Fund" are dedicated to projects in the areas of innovative sources of energy with positive environmental impact respectively.
B. Nonfinancial Services (Enterprise Development Services, Training Facilities)
In the area of nonfinancial services, all support is focused in improving the competitive position of SMEs. The MIF supports two different types of projects, those providing advisory services (called Enterprise Development Services), and others providing training (Training Programs).
Enterprise Development Services
MIF created 14 enterprise development services providing $38.5 million in nonreimbursable technical cooperations in 12 countries. Total project costs amounted to $57.6 million. Among the projects financed by the enterprise development services, the creation of Enterprise Development Centers (EDC) is of supreme importance. Their objective is to establish and develop a market for specialized business services as an instrument to improve the efficiency and competitiveness of small businesses. To this end, the projects support the creation of networks offering different products (such as specialized technical assistance for strategy and market penetration), and training inkey areas (entrepreneurship, management and marketing). EDCs attempt to satisfy the existing demand for professional and advisory services to stimulate it.
EDCs are intended to provide substantial support in the penetration of international markets by small enterprises. For example, a project in Peru (ATN/ME-5052-PE), will provide professional services such as: (1) identification of needs through specialized market and firm assessments, (2) business, managerial and technical training for firms that need to improve their management and (3) market and technology information services. Besides fostering participation in international markets, these activities will foster cooperation between companies. The projects in Argentina (ATN/ME-485 I -AR), El Salvador (ATN/NM-4708-ES) and Costa Rica (ATN/ME-4850-CR) are similar to the one in Peru, their only difference being that they include a component for financial advisory services. Finally, the creation of the EDCs in the project in Colombia (ATN/ME-491-CO) although similar in structure, includes the participation of chambers of commerce, small business associations and universities in five cities.
The MIF approved $26.9 million for twelve training programs. Training programs differed considerably due to the diversity of needs and critical areas for each local productive sector. For instance, some projects offered youth training to promote their participation in the productive process, whereas other programs offered services to middle management, a group already well established in the labor force. Some projects involved on-the-job-training whereas others offered training at outside facilities or at institutions created for this end. Nevertheless, a common feature to all these programs is the development of new approaches and innovative self-sustainable solutions to the training problem for SMEs in the region.
The regional management training program (ATN/MH-5418-RE) aims to create and promote market-driven solutions to management training for SMEs. It will also test new methodologies and products in management training and sustainable development. The program will leverage both public and private sector resources, which will be used to encourage innovation throughout the region by disseminating sustainable solutions and fostering the creation of a network of management and training providers.
The Labor Training Program (ATN/MH-4760-PR) in Paraguay, supported the policy reform and private sector actions of the national training system. The program promoted improvements in the quality of services provided by 26 existing training centers. It also assessed the development of private sector training institutions with possible intervention to improve the quality of the services provided. This program also included a feature providing revolving credit facilities to finance scholarships.
The two Youth Training Programs in Uruguay (ATN/NM-4525-UR) and Bolivia (ATN/MH-5130-BO), were designed to evaluate and execute strategies, methodologies and procedures to help young people enter the productive sector through the establishment of micro and small enterprises. The focus of the program in Uruguay is to help young workers to adapt to changes resulting from economic liberalization and regional integration (Mercosur). The Bolivia case, on the other hand, targets 3,600 workers in microenterprises and SMEs and 3,000 low-income school dropouts seeking new jobs. Both programs explore new alternatives for the introduction of young people into the labor market.
C. Policy and Regulatory Framework (Technical Cooperations)
Mediation and Arbitration Centers
Mediation and Arbitration Centers accounted for the majority of MIF projects in policy and regulatory framework supporting SMEs (five projects for $2.7 million). The general objective of these programs is to expedite the resolution of commercial disputes by out-of-court methods that provide the private sector with an efficient, specialized and less costly service. For SMEs this is an excellent alternative to resolve commercial disputes that otherwise would be inaccessible due to the high legal fees involved. Mediation and Arbitration Centers have various components: legal and regulatory framework, institutional development, training, promotion, and exchange of experiences for alternative means of resolving commercial disputes.
The seven remaining operations differed considerably and were designed to cover very specific needs. For example, the Trade Modernization Program in Bolivia (ATN/MT-4741-BO), supports SME access to international markets taking advantage of tariff preferences granted by the United States and the European Community. The program will support SMEs in the Andean region to find market niches, and adapt and develop customized products according to specific demand. The program will also train personnel and develop market strategies for SMEs. Similarly, the External Trade Modernization Program in Ecuador (ATN/MT-5051-EC), seeks to strengthen the institutional capacity of the private sector to support nontraditional exports. Restructuring Argentina's system of guarantees (ATN/MT-5080-AR) entails supporting the institutional formation and legal structure of private reciprocal credit guarantee companies. The program intends to prepare the legal ground necessary to create guarantee companies and promote formal sources of credit for SMEs. The Secured Transactions Reform Program in Haiti (ATN/MT-5078-HA), targets very specific weaknesses of the legal and institutional framework for secured transactions. In particular, the program assists the government in updating specific aspects of this legal framework to strengthen the use of moveable property and intangible assets as collateral.
V. Concluding Remarks
To contribute to the development of better strategies to support SMEs and lead to a better appreciation of the Bank Group's activities in this area, this report sets out to compile the many instruments used by the Bank Group, and presents the different options available for solving specific problems.
Clearly, the IDB Group has provided more support for SMEs than is generally believed. An extensive array of programs addresses all critical areas, from the promotion of an adequate environment for the development of SMEs, (including institutions, regulations and infrastructure), to the pursuit of solutions to particular issues concerning small firms. These actions intend to promote the competitiveness of SMEs, and to foster their development in an increasingly global environment.
As the IDB Group attempts to increase SME support, innovation, creativity and careful design of projects to the specifics of each country and sector become determining factors. This report shows that pilot programs, in-depth analysis, customization and specialization are the rule in the design and carrying out of development programs for SMEs. There is no room for standardization. This emphasizes the need to develop specific country strategies as suggested in the Enterprise Development Strategy document (March 1995, GN-1885).
The issue of limited resources raises the question of how to maximize impact and results. The IDB Group concentrates its efforts on supporting the development of SMEs, but the responsibility for exploring and expanding these ideas rests with local interests, both local governments and the private sector.
Finally, a closing caveat. All of the information presented in this document refers to operations as they were approved and does not attempt to evaluate the results obtained in those operations. Some of them have just started, others may have been reformulated and others, unfortunately, may not have achieved all of the intended objectives. The task of evaluation is beyond the scope of this paper, but one that must certainly be undertaken.
IBD GROUP ACTIVITIES SUPPORTING THE SMALL AND MEDIUM SIZE ENTERPRISES
Table A: Summary of IDB Group Activities Supporting SMEs
Table B: IDB Activities Providing Financial Support to SMEs (1990-1998)
Table C: Science and Technology Programs (1990-1998)
Table D: IDB Activities Providing Non-Financial Support to SMEs (1990-1998)
Table E: IDB Activities Providing Policy and Regulatory Framework Support to SMEs (1990-1998)
Table F: IIC Projects Approved by the Board 1989-1997 (by Country)
Table G: Multilateral Investment Fund Operations Supporting SMEs (1993-1998)