What factors influence access to financing?

SMEs are recognized as important drivers of economic development and a critical component in efforts to lift countries out of poverty. However, market conditions and legislation slow their development.

To launch a business, keep it running at its best, and increase profitability, access to financing is essential. Even so, one of the main challenges these companies face is that access to financing is often blocked by several factors.

The role of SMEs and the importance of access to financing

SMEs play an important role in many aspects of society, including:

• Stimulating the economy;
• Building social cohesion;
• Contributing to gross domestic product;
• Generating income;
• Increasing the number of jobs;
• Manufacturing;
• Driving technological innovation.

Because SMEs have enormous potential to support sustainable development, authorities support and promote entrepreneurship. Even so, access to financing is one of the essential conditions for starting and sustaining these businesses.

Access to financing refers to the ability of individuals or legal entities to obtain financial resources through loans, deposits, insurance, factoring, and more. These financing sources are among the most liquid assets on a company's balance sheet and can be used for:

• Investing in and growing the business;
• Covering current expenses;
• Surviving critical periods.

Without internal financing sources, access to financing is essential to keep a business running or help it grow. However, most of these companies cannot secure the financing they need, making this one of the biggest barriers they face.

Trends in access to financing and available financing sources

Access to financing has been constrained since 2008, when the financial crisis triggered major changes in lending criteria for SMEs. In both developed and developing countries, these companies struggle to access funds because of:

• excessive requirements set by lending institutions;
• the lack of sufficient funds to meet demand;
• economic conditions that make it harder for these companies to raise funds.

The smaller the company, the harder it is to secure financing. Studies show that, unlike micro-enterprises, companies with more than 50 employees are less concerned about being denied financing.

In the U.S., financial institutions also see small companies as a higher risk when it comes to repaying loans. As a result, this category of companies is discouraged from applying for loans through:

• high interest rates;
• shorter repayment terms;
• stricter collateral requirements.

As a result, SMEs no longer see traditional bank loans as a solution. Research in this field has identified several reasons why these companies struggle to secure financing:

• operating in a high-risk sector;
• overreliance on external financing;
• lack of assets to use as collateral;
• lack of connections in the financial system;
• limited knowledge of financing options;
• poor management;
• the high cost of finding a financing source that matches the business's needs.

Trends in financing methods

In this context, traditional financing is being replaced by financing methods based on previous transactions (taxes, receivables, etc).

Analyzing Big Data allows financial institutions, especially non-bank institutions, to better understand an SME's credit risk and offer the right financing on time and on personalized terms, without collateral. One example of this type of financing is factoring, which focuses on invoices issued to customers and left unpaid past the due date.

According to a survey on access to financing for non-financial companies in Romania, conducted by BNR, the main financing sources companies used between June 2019 and May 2020 are:

• profit reinvestment;
• sale of assets;
• loans from shareholders;
• capital increases;
• bank overdrafts;
• lines of credit;
• finance leases;
• factoring.

At the same time, interest in trade credit and bank overdrafts has declined compared with profit reinvestment, both among SMEs and corporations. As for financial leasing and factoring, both options are seeing growth across both categories of companies.

Factors that influence access to financing

The factors that influence the ability to access financing can be classified as follows:

a. Company characteristics

These include the company's location, age, size, type of business, and inability to provide collateral, all of which can hinder access to financing.

A company's location is clearly linked to access to markets, supply chains, and other resources, such as financing, labor, and land. As a result, companies in urban areas may have easier access to financing than companies in rural areas.

Company size has a major impact on the share of debt in a company's capital structure, since tangible assets tend to make long-term debt more accessible when needed. For this reason, access to financing is limited for SMEs, which often turn to options such as factoring.

Age is another factor that affects access to different forms of financing. Start-up companies often face obstacles when trying to secure financing because of limited information. At the same time, these businesses struggle to access external financing because of the lack of assets that can be pledged as collateral.

b. Financial characteristics

These relate to the ability to repay a loan, the availability of financing sources, the ability to present a business plan, the current state of capital, the interest rate, the initial capital invested in the business, etc.

Unfavorable terms and conditions, such as short repayment periods and a lengthy bureaucratic process, are among the biggest obstacles SMEs face.

In addition, rising interest rates force smaller companies to reduce inventory, causing sales to drop sharply and production costs to rise. In the end, these effects change turnover and hinder their ability to secure new financing sources.

c. Entrepreneurial characteristics

These include educational background, managerial competence, the ability to build business relationships, etc. Studies show that qualified entrepreneurs with the right education and the ability to build relationships with financial institutions have easier access to credit, giving them greater confidence in managing borrowed funds for business purposes.

d. Macroeconomic characteristics

These include economic strength, the money supply, available levels of profitability and return, the level of adaptability, the inflation rate, industry and market uncertainty, economic or health crises, as well as legislative measures.