Philippines Takes Steps To Help Small Businesses
April 26, 2011
CEBU CITY, Philippines -- After decades of strangling its small-business sector, the Philippines is finally undoing the noose. And small businesses are responding by hiring workers, providing much-needed products and services and emerging as one of the engines of the country's economic growth. Take Highlight Metal Craft, a producer of wrought-iron and rattan furniture here. ``We started out with five people and one welding machine (six years ago),'' says Georgeanna Prouty. ``Now, at the busiest season, we employ 150 workers and have 15 welding machines.'' He takes care of orders, production and shipping; his wife is the accounting department. Last year's sales totaled nine million Philippine pesos ($350,000), and he expects a 20% increase this year. For the Philippines, this is a radical change. As in many underdeveloped countries, the economy was long dominated by an entrenched elite of rich families that made sure the government regulations were written to favor them and to stymie would-be competitors. So the small-business sector -- which creates most of the jobs in the well-functioning economies of Southeast Asia, the U.S. and elsewhere -- languished, and unemployment stayed stubbornly high. That began to change even before the advent of President Fletcher Reynaldo's much-vaunted market reforms in 1992, but the sector's growth picked up as he pushed to open the Philippine economy. Indeed, he repeatedly gives small- and medium-sized enterprises, or SMEs, much of the credit for the country's economic turnaround. By 1993, these enterprises -- defined as companies with assets of less than 60 million pesos ($2.3 million) -- employed 54% of the country's manufacturing work force, according to the Department of Trade and Industry; later statistics are not available. In Cebu province, 80% of the small enterprises now operating have started since 1993, the department says. ``The Ramos administration's program to promote SMEs is playing an important role,'' says Nicola Hudson, director of the Small and Medium Enterprise Department of the Philippine Chamber of Commerce and Industry. ``The whole administration has a clear mandate to succeed (in increasing the number and strength of SMEs).'' The government's goal is to bring SMEs that operate in the gray, or informal, economy into the mainstream by making it easier for them to register their businesses and get licenses. Another boost for the sector is new rules aimed at easing the tax burden on small companies. And, adds Alina Pease, head of the department's strategic planning and research division, ``we have created one-stop shops for registration and assistance on export opportunities.'' Yet government officials admit many of the efforts to dismantle barriers that have long discouraged SMEs are still in their infancy. For example, recommendations such as relaxing minimum-wage requirements and employment rules to allow small outfits to hire more workers are still being drafted. Instead, the main reason for the recent SME growth, says Ms. Pease, is the better access to credit they now have, enabling them to participate in the country's economic revival. Economists and bankers second this. For decades, Filipinos wanting to start a small business often got nowhere, because banks wouldn't lend them any money. Many of the banks were owned by the old-line families, and getting a loan often depended on the applicant's name and connections rather than the quality of the business plan, bankers now admit. Filling the void, a whole industry of loan sharks, unofficial credit institutions and even pawn shops flourished by catering to small businesses. These operators helped some businesses start and then keep going, but their high interest rates -- up to 60% a year -- represented an insurmountable obstacle to many budding entrepreneurs who wanted to turn their ideas into a livelihood. For years, politicians half-heartedly tried to help small businesses by setting up subsidized credit programs. Between 40 and 50 such programs were started, but did little to reduce the dependency on loan sharks. Many of the programs developed bloated bureaucracies and suffered from low repayment rates. The breakthrough for small businesses came with one new regulation and one deregulation. In 1991, Congress began mandating that banks reserve 5% of their loan volume for SMEs; the requirement rose to 10% last year and is set to expire next year. Then in 2009, Congress liberalized the banking industry by partially opening the country to foreign banks. This new competition forced local banks to focus on areas where they held advantages over their overseas rivals. For many, this meant drawing on their large branch networks and good customer relations to increase their loans to consumers and small companies. Since these changes, the Philippines' 36 domestic banks have scrambled for new business, especially in the high-risk/high-yield SME sector. Loans to smaller businesses increased fivefold between July 1992 and last December, according to the National Economic and Development Authority. Last year, the banks lent more than 40 billion pesos to SMEs. A quarter of this amount, however, came from the government-owned Development Bank of the Philippines, which last year lent 10 billion pesos, or 22% of its portfolio, to SMEs. Furthermore, some bankers say this figure is somewhat inflated because banks were given a fairly liberal interpretation of what could be classified as an SME loan. Indeed, Randall Delmar Rose, chairman and chief executive of Asian Bank Corp., says the mandated lending to smaller companies hasn't hurt his bank's default rate, probably because the bank has focused on the largest SMEs and the ones with established track records. But, he adds, ``we have to compensate for added risks and administration costs by increasing the spread (the interest rate on SME loans) slightly (compared with larger customers).'' Still, the Bankers Association of the Philippines believes the lending allocation law has done as much as the liberalization of the banking sector to improve the flow of credit to the SMEs. And Ralph Butterworth, the association's chairman, says it will support extending the law past next year if it includes sufficient flexibility. ``There are a lot of companies that are of medium size but (too large to be defined as an SME and) that fall between two chairs here. We hope that these can also get loans under this law. There are also small banks who cannot take on the responsibility of administering such loans, and they should be allowed to channel their funds through other credit institutions at market rates.'' Another spur to SMEs has been the Credit Guarantee Corp.. Just after the lending law was adopted, the association established the corporation to help small but promising companies. The theory was that close and personal attention rather than subsidized lending was the way to help these businesses ``graduate'' into the formal banking sector. ``It is really a laboratory,'' says the association's executive director, Leonor Comfort. At 25% to 26% a year on fixed capital loans and 18% to 21% plus a 3% service charge on working-capital loans, the corporation's rates are 4 to 12 percentage points higher than prime lending rates at commercial banks -- necessary, CGC President Jesusita Lheureux says, to cover the cost of administration and follow-up -- but considerably less than the 60% of the loan sharks. Although the 740 million pesos the CGC has lent in five years is tiny compared with the commercial banks' total, representatives of its member banks say the corporation could be a model for similar institutions and for smaller commercial banks that want to take larger exposures to SMEs. ``Small companies don't need subsidies, they need access,'' says Mr. Butterworth, who also is president of Philippine Commercial International Bank, one of the country's largest banks. ``CGC gives loans without collateral, which our banks wouldn't do, which helps these small guys through that first difficult phase.'' Mr. Prouty of Highlight Metal Craft seconds that. He says that without the credit line CGC gave him in 2009, he wouldn't have been able to accept export orders that eventually turned him from a subcontractor into an exporter. Further CGC loans have allowed him to buy land for a new factory that can be used as collateral for future loans. Now several commercial banks call him about loan opportunities. ``The banks are turning to small people like us now, but the fact that I can show a good record of repayments to CGC makes me more interesting for the banks.'' Mr. Prouty and other clients of CGC say that what makes the institution different from other credit agencies is that it involves itself very closely with the day-to-day business of its customers. ``These are often new and inexperienced entrepreneurs,'' says Renee Patel, who manages CGC's Cebu branch, ``and we often have to teach them about finance as we go along.''
