Starting a business is no easy task. And growing it and making it sustainable is twice the difficulty of starting it. Ask any entrepreneur about running a business and you will get an endless stream of anecdotes about the hardships and challenges of developing and growing the enterprise. Of course there is the other side of the coin which is about the excitement, fulfillment, and the fruits of all the hardships that go with being an entrepreneur.
Successful entrepreneurs won’t need to put in words the benefits of entrepreneurship. They are all displayed for us to see---the affluent lifestyle, and for some who lead simple lives, the aura of happiness from fulfilling one’s goal of business success.
Of course Small Business Corporation won’t be around if there was no significant upside in entrepreneurship. For one, the reason for being of the Corporation is to increase the probability of success of the Filipino entrepreneur by providing financing and other services such as technical and marketing, to develop and grow Filipino mSMEs into globally competitive enterprises.
In an interdependent, global environment, there are so many threats to the success of mSMEs.
We’ve seen it happen before and see it happening again today. While the Asian financial crisis of 1997 affected even the developed countries of the world, the financial catastrophe of an imprudent system of investing such as the subprime real estate market in the U.S. has today led to the fold up of established and respected financial institutions and caused the growth of the U.S. economy to go into low gear.
Already, its ill effects are rumbling across the globe affecting small businesses in our region thousands of miles away.
Today the value of Philippine exports to the U.S. has fallen resulting to losses for our exporting mSMEs.
Among our mSMEs, therefore, only those who are able to identify and address these threats will be able to sustain themselves and survive.
Ideally, it would have been better for them if they were able to identify the risk early on and prepared for such a contingency. This is where risk management comes into the picture. An entrepreneur who knows how to manage risks will likely survive economic reversals.
Ronald Inciong, Manager of the Credit Review Department of the Risk Management Unit in SBGFC recognizes the value of risk management and believes that like the entrepreneurs it serves, SBGFC as a financial institution and being entrepreneurial itself, must manage the risks relating to its financing operations.
Accordingly, SBGFC recognizes that mSME lending is inherently risky and that it should be able to manage the risks associated with mSMEs for it to be successful in its development efforts.
Inciong said that in using a risk rating model as a tool to manage credit risk, SBGFC has identified the factors of risk which can spell the difference between a successful and a failed mSME.. Today all its borrowers, especially under the retail lending program, are risk rated. So every borrower is evaluated and given a risk rating which shows the level of credit risk entailed in lending to said borrower.
“Early on we already know the areas of risk of the enterprise and are able to mitigate these risks,” explained Inciong. Consequently, a high risk borrower will need to be monitored more frequently and the loan would be priced aptly, which in this case, given a higher interest rate than lower risk borrowers.
Based on the Borrower Risk Rating (BRR) system, critical factors have been identified that would tell SBGFC whether a borrower is risky or not. “With the use of the BRR system we can immediately see the areas of risk in an enterprise’s operations and know the degree of likelihood it would default in loan repayment, said Inciong.
So what makes an enterprise risky? In reviewing credit applications, Inciong already has a list of what makes for risky borrowers. Following are the factors or situations that Inciong believes, as shown by his experience, make a business a credit risk.
• Poor liquidity and negative cash flows – the enterprise is having difficulty servicing its current indebtedness, because its liquid assets is not enough to pay them off. Simply put, when the enterprise does not have the money to pay its immediate loans, then this is a red flag which would warn both the borrower and the lender that cash is tight and a default in its obligations is a real possibility. This also impacts on the debt servicing capacity of the enterprise. When the cash flow is negative then, the ability to repay its loans will suffer.
• Inefficiency in operations – this is evidenced by poor activity ratios such as accounts receivables, accounts payables and inventory. Any of these balance sheet items going beyond the average 180 days aging, discounting any possibility of being caused by natural market movement of the product or service, extraordinary events or natural calamities, means inefficient operations which may eventually result in difficulties in cash flow management.
• High leverage – enterprises that are with huge debts are always a risk. Debt financing should be leveraged carefully with the revenues being generated by the enterprise. While it is good for the business to finance part of its growth through debt, it should be within certain parameters so that there would not be a mismatch between the earnings from the use of the funds and the cost of the borrowing.
• Inexperience of owners and management – this is self-explanatory. An entrepreneur who lacks experience will always encounter more setbacks and challenges than one who have been through it all before and would know how to handle different situations in running the business.
• Poor health, Old Age, and Lack of Succession – old entrepreneurs who are sickly and are hampered by health issues will tend to perform poorly in business. More significantly, the possibility that such an entrepreneur will succumb to the sickness leaving the enterprise impaired and non-operational is always present. A business whose owner does not have a successor will most likely perish with the entrepreneur.
• Poor financial capacity of Owners – when the owners have poor financial capacity, meaning they do not have any personal assets or have zero net worth (outside of business assets), then it would be difficult for them to inject money into the business should they fall into hard times or crisis situation. This makes the business unsustainable in times of crises.
• Bad Attitude to Banks - they are borrowers who are with negative records with their banks. These adverse records show that the entrepreneur has the tendency to violate the rules of the banks and incur past due on their accounts. At worst, the bad attitude is a reflection of bad character which may affect negatively the other aspects of running the enterprise.
• Dependency on a few suppliers – dependency on a few suppliers will make a business riskier than others. A failure in the supplier will also affect production of the enterprise. A simple scenario wherein when there is no supplies, means no production thereby impairing the business operations.
• Decreasing Sales – a trend of decreasing sales for the past three years does not augur well for the enterprise. The industry where the enterprise belongs would most likely be on the decline. In such a case, it would be better for the entrepreneur to start up another business in another industry.
• Dependency on a few clients – when your business is in this situation wherein it is dependent on just one or two customers, any reversals encountered by your clients will become like a contagious disease and adversely affect your business as well. A better situation is the opposite wherein the there is no dependency on a few clients and regardless if one or two of them goes bankrupt, your enterprise won’t be pulled down by such an event.
• Low production capacity – If the enterprise has limited capacity to produce its product or service, it cannot meet any increased demands for its product or service. This means its potential for growth is limited and therefore hinders the development of the business. Should such an enterprise attempt to service a big requirement beyond its production capacity, it exposes itself to risk of not being able to serve the contract.
• Poor location – Location in this instance refers to proximity and acessibility to its market and suppliers. Usually, a business far from its market and suppliers and business infrastructures will incur additional transport costs, or if not, find itself hampered in its marketing, collection, and delivery efforts.
Presence of any of the foregoing conditions does not mean the businees cannot be financed. “The important thing,” said Inciong, “is that we know the areas of risk and are able to impose safeguards to lessen the risk of default.” For the entrepreneur, knowing these risk factors helps in identifying areas for improvement of the enterprise, and hopefully increases the potential for its growth and development.
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