A solution proposal to the cash flow problems of SMEs in the post-COVID-19 world

SMEs During and After COVID-19

The COVID-19 pandemic has left significant social and economic damage in every country around the world. The International Monetary Fund (IMF) raised its forecast that the COVID-19 pandemic will cost the global economy more than $12.5 trillion. The crisis left significant psychological and economic damage all around the world. The April 2021 World Economic Outlook, demonstrates that losses relative to the pre-pandemic trend calculations in figure(1) illustrate how Emerging Markets and Developing Countries (EMDEs) and the least developed countries are affected by the crisis the most. According to the figure, Asian emerging markets without China diverge their pre-pandemic growth by approximately 9%. EMDEs diverge their pre-pandemic growth by approximately 4.5%. Considering these indicators, it is seen that the economies that are not members of advanced economies are the primary victims of this crisis.

Situation in the Turkey Market: SMEs

As an emerging market, Turkey has a GDP loss ranging from 4.5% to 10%, with a 12% slowdown in growth rate, as stated by the Middle East Institute report.

SMEs, as the backbone of the Turkish economy, suffered the most. According to the 2022 Small and Medium-sized Enterprise (SME) statistics report by the Turkish Statistical Institute (TURKSTAT) report, 3.773.000 SMEs are operating in the industrial and service sectors in Turkey. Additionally, the same report reveals that SMEs account for 31.6% of Turkey’s total exports.

This large proportion of total business in Turkey suffered the most from the issue of insufficient cash flow. According to the 2020 KOSGEB survey on SMEs, over 90% of SMEs have cash flow problems. Cash flow problems not only cause a slowdown in operations but also become the primary reason to shut down the business if overlooked. According to the report of the Union of Chambers and Commodity Exchanges of Turkey (TOBB), the number of firms shut down in 2019 is 13.197, in 2020 15.366, in 2021 16.222, in 2022 23.170, and 2023 25.883.

Another indicator of the cash flow problem of Turkish SMEs is the NPL ratios published in the Central Bank of Turkey reports for May 2020, 2022, and 2024. The NPL ratio is calculated by dividing delinquent loans by total loans. A high NPL ratio indicates that the credit structure is under strain, with a decrease in the timely repayment of loans, while a low NPL ratio suggests a strong credit structure. According to the given figures below, SMEs have significantly higher levels of NPL ratios relative to large-scale businesses. The crucial point here is that during the financial crisis era, the divergence in NPL ratios between SMEs and large-scale businesses increased, which could indicate that access to financial solutions became more difficult during this period.

Inadequacies of Traditional Finance

SMEs are the core of the finance ecosystem; each year they represent one-fifth of global banking revenues corresponds to around $850 billion of annual revenue for banks. According to a report published by McKinsey & Company, SME-focused banking is expected to grow by approximately 7 percent annually over the next seven years.

Even with the growing potential and the importance of SME-focused banking and non-banking services, traditional finance could not respond to the needs of SMEs. The unresponsiveness of TradFi could be analyzed under two main categories: accessibility and operational inefficiencies.

Accessing financial services is harder for SMEs than for large-scale businesses. According to the EBRD report on the assessment of the SME market in Turkey, SMEs’ access to financial services is explained in the following sentences: “SMEs’ access to credit markets is limited and ineffective. Bank loans for SMEs and the share in the total production and sales in the country is quite low compared to its share in the total production and sales in the country. Their access to market-based financing resources is negligibly low. As a result, the economic slowdown is likely due to higher financial vulnerabilities. They experience serious problems during their periods. Another consequence is bad institutional management and various related undesirable events.”

A similar research by the World Bank Enterprise Survey (Figure(7)) shows again how big the credit gap between scales of businesses is. So, SMEs as the backbone of the world economy: Need an alternative for financing!

The differentiation between SMEs and large-sized businesses starts mainly with compliance and publicity. Many of the early SMEs progress informally and have less public information. From the lender’s perspective, the publicity problem makes SMEs a black box. The traditional lending process requires complex KYC procedures, which are not SME-friendly and cause an unsuccessful match with the lending system.

In addition, many SMEs cannot provide the required collateral for traditional lending systems. Especially, SMEs in emerging markets face higher collateral requirements than those in more developed economies. This is partly due to the perceived higher risk of lending in these markets, where the economic and regulatory environments might be less stable. Additionally, SMEs often lack tangible assets typically required as collateral, making it more difficult to secure loans.

Even SMEs that can take advantage of traditional financial services often cannot strike profitable deals due to high operational costs, currency exposure, etc.

Could DeFi be a Solution?

Decentralized Finance (DeFi) rapidly highlights the flaws of traditional finance. In this short reading, it is focused on inaccessibility and operational inefficiencies as the main barriers to SMEs. Against these vulnerabilities of the existing alternatives, could this new decentralized financial structure, knocking on the door, offer a solution to SMEs? With the exciting growth in tokenization and developing regulatory environments for Real World Assets, we shouldn’t overlook the potential in SMEs for the sake of becoming a small fish in the ocean of blue chips and real estate business! Solutions such as Invoice financing and factoring can benefit the most from this cost-effective, fast, transparent, and ACCESSIBLE future! Perhaps, we might be on the verge of discovering a potential solution!

Written By: Karan Kayaturan, Yağız Efe Özmeriç