Islamic Banking Opportunities Across Small and Medium Enterprises in MENA Executive Summary In partnership with the Canadian Department of Foreign Affairs, Trade and Development, the Danish International Development Agency, Japan, Switzerland’s State Secretariat for Economic Affairs and UKaid. DISCLAIMER “IFC, a member of the World Bank Group, creates opportunity for people to escape poverty and improve their lives.We foster sustainable economic growth in developing countries by supporting private sector development, mobilizing private capital, and providing advisory and risk mitigation services to businesses and governments. This report was commissioned by IFC through its Access to Finance Business Line in the Middle East and North Africa to highlight the need for Islamic Banking across the region.” “The conclusions and judgments contained in this report should not be attributed to, and do not necessarily represent the views of, IFC or its Board of Directors or the World Bank or its Executive Directors, or the countries they represent. IFC and the World Bank do not guarantee the accuracy of the data in this publication and accept no responsibility for any consequences of their use.”  “This research is funded under the MENA MSME Technical Assistance Facility, a joint initiative between IFC and the World Bank. The facility is supported by the Canadian Department of Foreign Affairs, Trade and Development, the Danish International Development Agency, Japan, Switzerland’s State Secretariat for Economic Affairs and UKaid. Contents 01. Preface 7 02. SME sector overview 9 SME Definition and Classification 9 SME Universe 10 SME Sector Overview 11 Key Enablers for SME Growth 13 Key Challenges for SMEs 13 Government Initiatives to Support SME Growth 16 World Bank Group Initiatives to Support SME Growth 17 03. Financial Sector Overview 19 Banking Penetration 19 Commercial Banking sector 20 Islamic Banking Sector 22 SME Sector 23 Non-performing loans 25 Islamic Financial Sector Regulations and Enabling Environment 26 04. SME Access to Islamic Finance 28 SME Penetration 28 Obstacles Faced by Banks in SME Financing 29 Supply side Analysis of Banks in the Region 30 Islamic Products Availability and Recommended Products 31 05. Opportunities for Islamic SME Banking 33 Funding Opportunity 33 Sectors to be Targeted 38 Factors Affecting Growth of Islamic SME Banking 39 06. Conclusion 41 Strategic Operational Adjustments Can Help Islamic Banks Target SMEs More Effectively 41 Proposed Strategy Framework 42 Ideal Business Model 43 Road Map for Islamic SME Banking Inception and Growth 44 Appendix 46 Research Scope 46 Methodology 47 About IFC 51 Bibliography 52 Annexures 57 Index of Figures and Tables Figure 1: Islamic Funding and Deposit Potential Across MENA and Pakistan ($bn) 8 Figure 2: Segmentation of SME Universe Across Countries 10 Figure 3: SME Contribution to GDP 12 Figure 4: Key Challenges Faced by SMEs During its Evolution Phases 14 Figure 5: Challenges Faced by SMEs Across Countries 14 Figure 6: Major Constraints Faced by Businesses 15 Figure 7: Banking Penetration Across Countries 19 Figure 8: Loan and Deposit Growth Across Countries (2010–2012) 20 Figure 9: Islamic Banking Market Overview 22 Figure 10: Islamic Assets and Deposits Growth (2010-2012) 23 Figure 11: NPL Overview 26 Figure 12: SME Sector – Existing Penetration 28 Figure 13: Obstacles Faced in SME Financing 29 Figure 14: Aggregate Supply Side Analysis 30 Figure 15: Factorial Analysis of SME / Islamic SME Proposition 31 Figure 16: Evolving Financial Requirements of SMEs 32 Figure 17: Preference for Shariah-compliant Products Percentagewise 34 Figure 18: Funding Potential % Across Countries 34 Figure 19: Enabling Environment and Supply Side Analysis (SME and Islamic SME) 35 Figure 20: Comparative Islamic Funding Opportunity 37 Figure 21: Islamic Conversion Opportunity Across MENA and Pakistan ($mn) 38 Figure 22: Strategic Operational Adjustments to Target SMEs 42 Figure 23: Strategic Initiatives to be Undertaken by Countries 43 Figure 24: Integration of Islamic Banking SME Model 44 Figure 25: Roadmap for Islamic SME Banking 45 Figure 26: Strategic Initiatives to be Undertaken by Countries 49 Table 1: SME Definitions 9 Table 2: Importance of SMEs to Economic Development 11 Table 3: SME Distribution by Sector 12 Table 4: SME Enablers by Country 13 Table 5: Government Initiatives to Support SME Growth 16 Table 6: IFC Initiatives to Support A2F for SMEs 17 Table 7: Commercial Banking Sector Overview 20 Table 8: Banking Penetration in SME Sector (2012) 24 Table 9: Trend in SME Portfolio Growth 24 Table 10: Regulatory Overview 26 Table 11: Islamic Banking Initiatives 27 Table 12: Total SME Universe 36 Table 13: Islamic Depository Potential by Country 37 Table 14: Attractive Sectors for Islamic Finance Across Countries 39 Table 15: Drivers and Challenges Faced by Islamic banks 15 Annexure 1: Common Shariah Structures Used Across Countries 57 Annexure 2: Commonly Used Products and Recommended Products 58 Annexure 3: Questionnaire for Banks 59 Annexure 4: Questionnaire for SMEs and SME Associations 60 Annexure 5: List of Respondents from Banking Sector 61 Annexure 6: List of Respondents from SME 64 Abbreviations and Glossary ANPME National Association of Small and Medium Enterprises BAS Bank Advisory Services BMCE Banque Marocaine du Commerce Extérieur CIB Commercial International Bank CAC Cooperative and Agriculture Credit CAGR Compounded Annual Growth Rate GDP Gross Domestic Product HSBC Hongkong Shanghai Banking Corporation ICD Islamic Corporation for the Development of the Private Sector ICT Information and Communication Technologies IDB Islamic Development Bank IFC International Finance Corporation IT Information Technology JEDCO Jordan Enterprise Development Corporation JLGC Jordan Loan Guarantee Corporation KSA Kingdom of Saudi Arabia MENA Middle East and North Africa NCB National Commercial Bank NPL Non-Performing Loan NSGB National Societe Generale Bank PPP Public Private Partnership SFD Social Fund for Development SME Small and Medium Enterprise SMEDA Small and Medium Enterprise Development Authority USAID United States Agency for International Development 01. Preface Small and medium enterprises (SMEs) are now widely recognized as engines of economic growth and key contributors to sustainable gross domestic product (GDP) of all countries, including those in the Middle East and North Africa (MENA) region. These businesses predominantly operate in the manufacturing and service sectors and create employment opportunities for both skilled and unskilled persons. However, market conditions and regulatory environments are not always supportive of the growth of SMEs and access to formal finance is one of the main obstacles they face. IFC’s Financial Institutions Group (FIG) in MENA provides investment and advisory services to the region’s banks and other financial institutions to build their capacity in SME banking so that they can profitably and sustainably reach out to the SME sector. This is achieved through providing equity finance, lines of credit, risk sharing facilities, trade finance, disseminating best practices, improving processes and products, and streamlining delivery channels. Ultimately, IFC’s goal is to increase the number of banks and financial institutions that offer financial and banking services to SMEs in a profitable and sustainable manner. IFC is recognized globally as an SME finance market leader owing to its global expertise and knowledge. There is a huge demand for Islamic products by SMEs in the MENA region and, according to this study, approximately 32 percent of such businesses remain excluded from the formal banking sector because of a lack of Shariah-compliant products. In order to reach out to SMEs demanding Islamic products, and as part of IFC’s initiative to enhance its SME investment and advisory services offerings to Islamic financial institutions, we needed to better understand the market from both the demand and supply sides in order to identify any gaps or niches where IFC could assist and add value. With this objective, IFC commissioned a study in nine countries of the MENA region, which includes Pakistan, to better understand the demand and supply for Islamic banking products (both asset and liability products and other banking services) in the SME sector. The countries chosen for this study are: (1) Iraq, (2) Pakistan, (3) Yemen, (4) Kingdom of Saudi Arabia, (5) Egypt, (6) Lebanon, (7) Morocco, (8) Tunisia, and (9) Jordan. The scope of the study was to: (i) identify the countries in the MENA region facing gaps in financing and banking needs of SMEs in the Islamic products space; (ii) conduct a supply side benchmarking to review current capacity of financial institutions to offer Islamic products to this sector; (iii) conduct a demand side benchmarking to identify key SME customer needs for Islamic products and see how well they are currently being served; and (iv) review the current enabling environment and readiness levels of banks in terms of the regulatory framework and Shariah compliance. The study reiterates several of the now well researched and documented reasons for the lack of access to finance for SMEs. However, more importantly, the study reveals that, there is a potential gap of $8.63 billion to $13.20 billion for Islamic SME financing within un-served and underserved SMEs categories, with a corresponding deposit potential of $9.71 billion to $15.05 billion across these countries. This is due to the fact these un-served and underserved SMEs do not borrow from conventional banks, only owing to religious reasons. This potential is a “new to bank” funding opportunity, which is still untapped, as banks and other financial institutions lack adequate strategic focus on this segment to offer Shariah-compliant products. Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 7 Figure 1: Islamic Funding and Deposit Potential Across MENA and Pakistan ($bn) This Regional Executive Summary provides a comparative analysis of the SME potential across these countries and the opportunities available to Islamic institutions to tap this potential. The nine individual country reports provide a deeper insight into the SME landscape and potential opportunities for Islamic banks in each country. The reports also highlight the measures that banks may need to take to successfully target the Islamic banking potential of SMEs. IFC acknowledges the commitment and cooperation of Israa Capital Management Consultants, Dubai, who carried out this study on our behalf. IFC thanks them for their dedicated efforts and contribution in compiling the individual country reports and the comparative analysis contained in this executive summary. Mouayed Makhlouf Regional Director IFC – Middle East and North Africa 8 Executive Summary 02. SME Sector Overview The SME sector forms the backbone of economic development, private sector employment, capital investments, and GDP growth. Despite their importance to economic output, SMEs still have inadequate access to finance and other banking services. As a result, most of the SMEs tend to be concentrated in less capital intensive sectors, such as retail and wholesale trade. This scenario not only restricts the development of smaller enterprises, but also retards economic activity in these countries. Government initiatives and assistance from multilateral institutions like IFC have been instrumental in these countries to enable the SME sector to grow by providing business and technical expertise to enhance access to finance. SME Definition and Classification There is no standard definition for classifying small and medium enterprises (SMEs) across various countries. The most commonly used criteria by government agencies (central banks and government departments) and commercial banks are based on employee size, asset size, and annual turnover. However, application of the same classification criteria across countries results in disparities due to different classification thresholds. These disparities exist because of the differences in economic structure, size of the economy, and the degree of development in each country. The following definitions used for the target countries are derived from definitions used by the commercial banks, central banks, and/or the statistic or trade departments of the respective countries. The lack of a standard definition makes it difficult to compare the SME sector across countries. A standard definition would enable a meaningful comparison, leading to the replication and implementation of effective policies and programs (such as credit guarantee programs, skill development programs, etc.) for SME development across countries. Table 1: SME Definitions Small Medium Countries Definition derived from Employee size Annual turnover Employee size Annual turnover Egypt* Ministry of Trade and Industry 10–50 $87,864–878,659 50–100 $878,659–1,757,318 Pakistan Central Bank Up to 20 employees and annual turnover of up to $757,500 Saudi Arabia Dept. of Statistics 5–19 $1.3–6.7mn More than 20 $6.7–33.3mn Jordan# Central Bank 5–20 Less than $1.4mn 21–100 $3–4.2mn $344,400– Morocco Central Bank -- -- $1.15– 20.10mn $1.15mn Tunisia Commercial Banks -- $1–10mn -- $10–19mn Yemen Commercial Banks -- $10,000–50,000 -- $50,000–225,000 Iraq^ Commercial Banks -- $5,001–250,000 -- More than $250,000 Lebanon Commercial Banks Enterprises with turnover of less than $4mn classified as SMEs Note:* For Egypt, the definition is based on registered capital instead of turnover. # For Jordan, the definition is based on either assets or sales volumes. ^ For Iraq, the definition is based on loan size. -- Means there is no official response or definition available Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 9 Domestic agencies, such as central banks and government departments, are unlikely to possess an international perspective. Therefore, multilateral agencies need to play an active role in the development of a standard definition for SMEs on the basis of annual turnover or any other suitable parameter. SME Universe The enterprise population across each country is usually divided into two distinct segments: • SMEs that operate in the formal sector, and • Very small (or micro) enterprises that operate in the informal/parallel economy. SMEs operate in high economic impact sectors such as manufacturing and construction. As a result, they are able to generate employment and significant economic value. Very small enterprises on the other hand generally operate in the trade and commerce sectors, which have low economic potential, as they serve local markets and do not add significant value to final products. The current enterprise population in the target countries is dominated by very small enterprises that do not offer the same economic advantages as SMEs. The composition of very small enterprises in the enterprise population is as high as 91 percent (Tunisia) to about 40 percent to 60 percent (Yemen and Saudi Arabia). Therefore, there is a need for the government and multilateral institutions to assist these very small enterprises to develop into SMEs. In order to achieve this, governments are looking at: A. Developing very small (micro) enterprises capabilities through training on various facets (financial knowledge, business planning, management, product quality) B. Creating an enabling environment for the SMEs (easy access to basic infrastructure, smooth approval process in governmentdepartments, and prudent regulation) C. Providing access to finance (special government bodies to channel finance to the sector, guarantee schemes and incentives to banks for targeting very small enterprises) Figure 2: Segmentation of SME Universe Across Countries 10 Executive Summary SME Sector Overview SMEs contribute significantly to GDP growth, private sector employment, and capital investments SMEs form an important component of a country’s economy. They play a significant role in generating private sector employment, driving gross domestic product (GDP) growth, and domestic capital investments. Table 2: Importance of SMEs to Economic Development Contribution to GDP Contribution to exports Contribution to employment Egypt 80% of economic output* -- 75% of private sector employment 99% of non-agricultural sector employment Pakistan 30% of GDP and 35% of 25% to manufacturing Absorb 78% of non-agricultural workforce manufacturing value added sector exports Saudi Arabia 33% of economic output -- Accounts for ~25% of total employment Jordan ~50% of GDP 45% of exports 60% of the workforce and 70% of new job opportunities Morocco ~38% of GDP, 40% of production, 30% of exports 50% of population and 50% of investment Tunisia 51% of GDP -- 69% of employment Yemen -- -- -- Iraq -- -- -- Lebanon Over 99% of GDP -- 82% of employment generated Note: (--) signifies data is unavailable; (*) Includes contribution of microenterprises as well In Egypt and Lebanon, SMEs are important contributors to GDP (accounting for 80 percent and 99 percent of GDP, respectively). In Pakistan, Morocco, and Tunisia, the SME contribution is lower, but significant (38 percent to 51 percent of GDP). In addition to their GDP contribution, SMEs are the largest job creators in the formal and informal sectors. Except for Saudi Arabia, SMEs employ more than 50 percent of the working population across the countries. In Egypt, for example, they account for almost 99 percent of the employment in the non-agricultural sector and 75 percent of private sector employment. As SMEs are less capital intensive and high employment generators, they can play an important role in the economic development of Middle Eastern countries such as Morocco, Lebanon, and Tunisia, which have a sizable unemployed youth population. This is also true for vulnerable countries such as Yemen and Iraq. Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 11 Figure 3: SME Contribution to GDP • Account for 50% • Contributes to • 80% of economic • Account for • Play a key role in of employment, 51% of GDP output over 99% of reviving the economy, • ~20% of value • 68% of the • 75% of GDP generating employment employment private sector • 82% of and increasing per added employment employment capita income • 30% of exports • 99% of non- generated • 40% of production agricultural sector • 50% of investments employment • 38% of GDP • Employ 78% of • Contribute ~50% non agricultural to GDP workforce • Employ 60% of the • Play an important role in • Account for 33% • 30% of GDP workforce generating employment, of economic output • 35% of • Accounts for 45% economic diversification • 25% of total manufacturing of exports and reducing poverty employment value added Note: Statistics on the contribution of SMEs to the economies of Yemen and Iraq are unavailable Besides contributing to GDP and employment, SMEs are instrumental in promoting investments (in Morocco), increasing per capita income (in Iraq), and ensuring economic diversification (in Yemen). Given their important role in economic development, governments in the Middle East and North Africa (MENA) and Pakistan should work to identify and promote various factors/enablers for the development of the SME sector. Policies targeting these factors/enablers need to be formulated for the long-term development of the SME sector. In most countries, SMEs are concentrated in the trading sector, which primarily comprises retail and wholesale establishments, and the services sector. The main reason for this concentration pattern is the low capital intensity, limited skill requirements, and the ease of establishment of these enterprises. Other sectors with a high representation of SMEs include the manufacturing and construction sectors, in countries like Egypt, Pakistan and Tunisia, primarily due to cottage industry. However, in most cases, the concentration of SMEs in these sectors is low due to the high capital intensity and complexity of operations. Financial, regulatory, and infrastructural factors prevent SMEs from entering and operating effectively in these complex, capital-intensive sectors. Thus, there is a need for cooperation among government, private, and multilateral agencies to frame and execute strategies that would ensure growing SME participation in these sectors. Greater SME participation in these sectors would help combat poverty, low per capita income, and unemployment, which these countries suffer from. Table 3: SME Distribution by Sector Trade and Hotels and Misc. Industries Country Manufacturing Construction Transport Services Tourism Commerce Restaurants / Services Egypt 51% 40% 2% 3% 4% Pakistan 49% 40% 11% Saudi Arabia 11% 32% 40% 17% Jordan 24% 27% 42% 7% Morocco 12% 31% 53% 4% Tunisia 41% 21% 6% 8% 4% 11% 9% Yemen 25% 22% 20% 13% 20% Iraq -- -- -- -- -- -- -- -- Lebanon 48% 5% 47% -- Please note, in Iraq industry wise SME statistics are not available. * Please also note, in Lebanon, most of the industry wise SME statistics are not available. 12 Executive Summary Key Enablers for SME Growth As already outlined in several IFC studies, there are a number of key enablers that contribute to the development of a country’s SME sector. These enablers are macro-level factors related to political and economic stability, sound infrastructure, a transparent governance structure, and access to finance. The development of a country’s SME sector would be limited in the absence of any of these factors, as each has a unique role to play. Governments should, therefore, recognize such linkages and take measures to develop these factors. The table below provides an overview of the current state of the enabling factors across countries. Most of the countries lack a conducive, enabling environment for SME growth owing to which the sector is unable to emerge from its low growth spiral. Table 4: SME Enablers by Country Parameter Countries Political stability Economic Corruption Infrastructure Regulatory Access to conditions Environment finance Egypt Fragile Low High Medium Poor Low Pakistan Semi stable Low High Low Strong Low Saudi Arabia Stable Medium Low High Strong Low Jordan Stable Medium Low High Strong Medium Morocco Semi stable Medium Medium Medium Strong High Tunisia Semi stable Medium Low High Strong Medium Yemen Fragile Low High Low Poor High Iraq Fragile High High Low Poor Low Lebanon Semi stable Low High Low Poor Medium Politically, Yemen and Iraq will continue to be impacted by factors that will affect SME prospects. In the case of other countries, the SME sector is expected to be well insulated from such factors. Economically, SMEs in Saudi Arabia, Jordan, Morocco, and Tunisia can expect a stable economic environment; while there will be risks to the economy in Lebanon, Pakistan, and Egypt in the short term. With the exception of Saudi Arabia, Jordan, and Tunisia, corruption and poor infrastructure will be key problems facing SME operations across the remainder of the countries. The regulatory environment across Yemen, Iraq, Lebanon, and Egypt is weak and likely to affect long- term growth prospects of the SME sector. Thus, there are significant lessons that these countries could learn and emulate from their neighbors such as Saudi Arabia, Morocco, Tunisia, and Jordan. In terms of access to finance, apart from Yemen and Tunisia, other countries have a long way to go to ensure financial inclusiveness among SMEs. Key Challenges for SMEs SMEs in general face a number of challenges despite the assistance provided by government and multilateral agencies. These challenges are faced during each phase of development and generally are internal (lack of managerial expertise among proprietors) and external (inadequate access to finance, government inefficiencies, and infrastructural concerns). Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 13 Figure 4: Key Challenges Faced by Smes During its Evolution Phases TIME • ABSENCE OF SEED CAPITAL FOR ESTABLISHING BUSINESSES • BUREAUCRATIC HURDLES IN • INSUFFICIENT DEMAND REGISTERING BUSINESS • UNSTABLE POLITICAL • LACK OF WELL TRAINED • INADEQUATE FUNDS FOR ENVIRONMENT LABOR FORCE EXPANSION OF OPERATIONS MARKET MATURITY • POOR INFRASTRUCTURE • UNSTABLE POLITICAL • LACK OF BUSINESS SKILLS FOR ENVIRONMENT • THREST FROMK MANAGING OPERATIONS INFORMAL SECTOR • POOR INFRASTRUCTURE • LACK OF INTRA- • LACK OF A WELL TRAINED INDUSTRY LABOR FORCE PARTNERSHIPS • WEAK BUSINESS ENVIRONMENT AND CORRUPTION INCEPTION DEVELOPING MATURE Challenges faced by SMEs vary across countries due to differences in the level of development, degree of human development, efficiency of governance, and the political situation in the respective countries. There exist several common challenges, such as lack of a well-trained workforce, poor infrastructure, corruption, and bureaucratic hurdles. The biggest challenge, however, is access to finance. SMEs at various stages of development face severe challenges when accessing finance. Concerns include prohibitive interest rates, high collateral rates, and procedural hurdles in applying for a loan. This is despite the fact that there are government-supported finance schemes, incubators, and venture capital funds to finance SMEs across various countries. Figure 5: Challenges Faced by SMEs Across Countries • High political risks • Weak business environment and corruption • Insufficient demand due to political problems • High collateral and lack of alternative to bank funding • Political instability • Infrastructure Deficit • Access to finance • Constraint in access to finance • Deficit of managerial expertise • Low level of financial intermediation • Low level of skill and training • Sustainable access to finance • Technological constraints • Human resource constraints • Poor infrastructure • Lack of access to IT • Corruption • Infrastructure constraints • Procedural hurdles • Financial challenges • Attitudinal problems • Low access to finance • Unstable security scenario • Dearth of market linkages • Marketing limitations • Government inefficiencies • Lack of business skills • Saudization initiative • Low level of organization • Inadequate access to finance • Lack of access to finance • Inadequate investment in technology • Government inefficiencies and corruption • High energy costs • Unbalanced tax policy • Lack of intra-industry partnerships • Restrictive Labor regulations • Structural problems • Inefficient management • Inadequate access to finance • Lack of skilled workforce • Lack of technology infusion • Threat from a informal sector • Rationalization of costs • Rapidity in market evolution 14 Executive Summary The chart below (Fig.7) outlines the major constraints facing SMEs across the various countries. SMEs in Egypt, Lebanon, Yemen, and Iraq are facing numerous challenges with respect to political factors, economic conditions, the regulatory environment, and infrastructure. Unless these constraints are remedied, it is unlikely that the SME sector will witness strong growth in these countries. In the countries of Pakistan, Morocco, and Tunisia, the operating environment is less challenging with SMEs operating more efficiently. However, there does exist infrastructural and transparency issues in these countries that must be addressed if the SME sector is to reach its full potential. Jordan and the Kingdom of Saudi Arabia (KSA) are relatively well placed as they have sound infrastructure, a strong regulatory environment, and low levels of corruption. But SMEs operating in these countries have issues accessing finance, which is a very critical growth component. Figure 6: Major Constraints Faced by Businesses Political stability Economic conditions Corruption Infrastructure Regulatory Environment Access to finance Low / Fragile Moderate High / Stable Lebanon Iraq Yemen Tunisia Morocco Jordan Saudi Arabia Pakistan Egypt Source: Cumulative rankings based on the evaluation and analysis of key factors that are likely to impact SME growth Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 15 Government Initiatives to Support SME Growth A country’s government has a very important role to play in the development of its SME sector by providing both financial and non-financial support to promote SMEs. Financial support generally includes credit guarantee schemes, collateral waivers or reduction policies, and provisions of seed capital. Non-financial support includes capacity building through training programs, improvement in competitiveness through quality improvement initiatives, business incubation centers, and business development assistance through export development programs. Table 5: Government Initiatives to Support SME Growth Countries Financial support programs/agencies SME development organizations Egypt Social Fund for Development Industrial Modernization Centre Egypt Technology Transfer and Innovation Centers Industrial Development Authority National Suppliers Development Program Ministry of Investment/General Authority for Investment Pakistan SME Bank Small and Medium Enterprise Development Authority Khushhali Bank (SMEDA) Trade Development Authority of Pakistan Ministry of Science and Technology Pakistan Software Export Board Pakistan Horticulture Export Board National Productivity Organization Saudi Saudi Credit and Savings Bank National Competitiveness Center Arabia Saudi Industrial Development Fund (Kafalah program) Ministry of Economy and Planning Prince Sultan bin Abdul Aziz Fund to Support Women’s Saudi Arabia Monetary Agency Small Enterprises Human Resource Development Fund Centennial Fund Jordan Jordan Loan Guarantee Corporation Jordan Enterprise Development Corporation Governorates Development Fund National Fund for Enterprise Support Development and Employment Fun Vocational Training Corporation Morocco Central Guarantee Fund National Association of Small and Medium Enterprises The Office of Vocational Training and Employment Promotion National Agency for Promotion of Jobs and Skills Tunisia Fund for the Promotion and Industrial Decentralization The Agency for the Promotion of Industry and Innovation Tunisian Guarantee Company The Centre de Soutien à la Création d›Entreprises (Support Société d’investissement en capital à risqué (Risk Capital center for business creation) Fund) Centres d’Affaire (business centers) Banque de Financement des Petites et Moyennes (Bank for Bureau de Mise à Niveau financing small and medium enterprises) 16 Executive Summary Yemen Small Enterprise Development Fund Social Fund for Development /Small and Microenterprises Small and Micro Enterprise Development Promotion Agency Ministry of Agriculture Ministry of Technical and Vocational Training Ministry of Fisheries Ministry of Tourism Iraq Ministry of Labor and Social Affairs Ministry of Industry and Minerals Lebanon Economic and Social Fund for Development The Ministry of Economy and Trade (SME support unit) Kafalat loan guarantee Euro-Lebanese Centre for Industrial Modernization Ministry of Education Ministry of Finance World Bank Group Initiatives to Support SME Growth IFC has several programs targeting the development of the SME sector. This includes both investment and advisory services to banks and to SMEs directly. IFC has provided assistance to commercial banks for setting up SME banking operations. It has also assisted in establishing financial infrastructure, such as credit bureaus and provided specific credit lines, risk sharing, and trade finance facilities targeting SMEs. IFC has also provided training and awareness raising programs for SMEs. Table 6: IFC Initiatives to Support Access to Finance for SMEs Countries IFC Egypt • Egypt Junior Business Association: Helped train SMEs on corporate governance standards • Alexandria Business Association: Assessed business environment and advocated regulatory reforms Pakistan • 2012 (Bank Alfalah): Capacity Building for SME Banking • 2011–2012 (HBL Bank): Capacity Building for SME Banking and Agri Finance • 2009 (Standard Chartered Saadiq): Launched pilot program for SME training • 2009 (United Bank Limited): Boosted SME trade finance Saudi • 2011 (Saudi Hollandi Bank): Capacity building for SME Banking Arabia • 2010 (Saudi Orix Leasing Company): Invested $20mn to expand sustainable energy financing and increase access to finance • 2005 (Riyad Bank): Capacity building for SME Banking. Non Financial Advisory Services. Jordan • 2012 (Ahli Bank): Assisted SMEs in acquiring skills for business expansion and job creation • 2009: Supported leasing legislation and promoted leasing awareness • 2006: Worked with government to streamline licensing and inspection process • Assisted government in establishing a private credit bureau industry • Raised awareness in the banking sector regarding sustainable energy financing, opportunities targeting women, low-income households, and environment-friendly initiatives Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 17 Morocco • 2012 (Banque Centrale Populaire): Invested $204mn to acquire 5% stake to improve access to credit for SMEs • 2011 (Moroccan Female Entrepreneurs Association): Promoted alternative dispute resolution among women entrepreneurs • 2011 (Maghreb Private Equity Fund): Set up fund to invest in SMEs in Tunisia, Morocco, Algeria, Libya, and Egypt • 2007 (Al Amana): Improved credit operations and followed a sustained growth path • Established fund to invest $150mn annually over the next three years in SMEs, agribusinesses, IT, and high value-added businesses Tunisia • 2013 (Amen Bank): Agreement between IFC and two funds managed by IFC Asset Management Company to invest up to $48mn to help bank increase lending • 2011–2012(Maghreb Private Equity Fund III): A $22mn commitment to provide guidance and financial support to SMEs across North Africa • 2012 (Amen Bank): Offered guarantees to assist Tunisian companies increase cross-border trade • 2011 (The Arab Institute of Entrepreneurs): Helped promote sound corporate governance practices Yemen • 2010 (Al Amal Microfinance Bank): Strengthened technical capacity by focusing on product development and finance • Trained 5,100 people in Yemen using Business Edge • Played important role in framing new laws to improve business climate • Channelizing private investments in the infrastructure sector through launch of various initiatives, including the Middle East and North Africa SME Facility, the Arab Financing Facility for Infrastructure, the e4e Initiative for Arab Youth, and the MENA Fund Iraq • To invest $100–130mn annually over the next few years in the private sector (includes SMEs) in banking, telecommunications, construction, logistics, hospitality, and manufacturing • 2011–2012: Launched $38mn facility to support financial infrastructure strengthening, capacity building of the banking/SME sector, bank risk management, SME management training (for women), and promotion of Public private partnerships (PPP) • 2012 (Relief International): Scaled up outreach to SMEs in Iraq Lebanon • 2005–2011: Total commitment over $737mn, including $150mn for local banks to facilitate lending to SMEs • Provided over $1bn in trade guarantees to banks and financial institutions to facilitate global export and import trade • 2011 (BLC Bank): Designed and launched products, specifically for SMEs and women-owned business • 2007: Collaborated with World Bank and pledged $250–275mn through the Lebanon Rebuild Program • 2007 (Bank of Beirut): Set up SME risk-sharing facility worth $25mn • 2007 (Fransabank): $50mn project to establish an SME risk-sharing and corporate credit line • 2007 (Société Financière du Liban): Feasibility study for establishment of private credit bureau • Supported Central Bank of Lebanon in encouraging banks to strengthen SME setup 18 Executive Summary 03. Financial Sector Overview The commercial banking sector across most countries witnessed strong growth despite the 2007-2008 financial crises. The Islamic banking sector has, however, been more resilient due to prudent practices and the rising preferences for Islamic banking services among the resident population. The growth in Islamic banking has also been supported by government initiatives aimed at enhancing the penetration of banking services. Overall SME lending by banks has been gradually rising across most countries in recent years, but the situation is still far from perfect. Banking Penetration The banking sector across the countries is in different stages of market maturity. Although countries such as Lebanon have a well-established, competitive banking structure, nations such as Iraq have a small, underdeveloped banking system that would mature only in the long term. In developed countries such as Lebanon, Jordan, and Morocco, the evolution of banking began early. Jordan’s banking sector emerged in 1925, while the Moroccan banking system dates back to the 18th century. Lebanon was a late entrant; the country emerged as a financial hub during 1950–1975. In these countries, the common factor aiding the banking sector’s growth was the government’s liberalization of the sector, which led to competition and the gradual sophistication within the sector. In countries such as Tunisia, Pakistan, and Saudi Arabia, the banking sector’s inception and growth has been relatively late. Additionally, the banking sector’s development in these countries has been affected periodically by unhealthy competition (Pakistan), economic turmoil (Saudi Arabia), and political interference (Tunisia). Countries such as Yemen and Iraq have underdeveloped banking sectors characterized by low branch penetration and lack of a credit culture among the population. Historically, the banking sector in Yemen and Iraq has been underdeveloped as the poor regulatory framework and limited competition has stunted its growth. Political turmoil added to the woes, limiting the sector’s development. Figure 7: Banking Penetration Across Countries • 1,483 deposit accounts per 1000 adults • 573 loan accounts per 1,000 Adults • 31.52 commercial bank branches per 100,000 adults HIGH • 898 out of 1,000 adults have a deposit account with a bank (2010) PENETRATION • Loan penetration- 200 adults per 1,000 adults (2010) • ~39% of the population had access to banks • 706 Bank deposits per 1,000 people • One bank branches for 6,300 people • 8.97 commercial bank branches per 100,000 adults • 25.7 borrowers from commercial banks per 1,000 adults • 28.98 loan accounts with commercial banks per 1,000 adults • 0.7% of the total deposits with commercial banks are SMEs • 1396 bank branches MEDIUM • 7,600 Inhabitants per bank branch - PENETRATION • 639 bank deposits per 1,000 adults • Population per branch 17,075 (2012) • Deposit penetration approximately 53% (2012) • 10% of the adult population in the country owned or shared a bank account • Banking density - 22.7 per thousand • 8.7% of adult population had access to bank accounts • 1.8 branches per 100,000 adults LOW PENETRATION • 4.8 Bank branches per 100,000 adults • 2.1 commercial bank branches per 1,000 km2 Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 19 Commercial Banking Sector The commercial banking sector across the countries is generally concentrated with the largest players accounting for most assets and deposits. However, despite high concentration, the commercial banking sector is competitive with large players making consistent efforts to increase market share. This has led to product innovation, expansion of branch networks, and greater financial inclusion. Table 7: Commercial Banking Sector Overview Banking structure Industry overview 41 Commercial banks The banking sector is dominated by two public sector banks, National • 26 commercial banks, Bank of Egypt and Banquet Mira, accounting for more than 50% of Egypt • 12 commercial banks with Islamic the country’s banking assets. Other leading banks include Commercial windows and International Bank (CIB), National Society Generale Bank (NSGB) and • 3 full fledged Islamic banks HSBC. 34 Commercial banks The top six banks -National Bank of Pakistan, Habib Bank, United • 22 local private banks Bank Limited, MCB Bank Limited and Allied Bank Limited - accounted Pakistan • 7 foreign banks for ~57% of total assets and ~45% of all deposits • 5 public sector banks 12 domestic banks and 11 foreign banks. Dominated by Al Rajhi Bank (accounting for 16% of all financing by • 4 full fledged Islamic banks 8 banks offer Saudi banks, and 26% of all Saudi Islamic financing ), NCB and Riyadh Saudi Arabia conventional and Islamic products Bank, which together account for 48% of total deposits and 45% of the • The remainder of the banks are total loans outstanding . conventional banks 16 national banks Banking system dominated by Arab Bank and Housing Bank for Trade • 13 conventional banks and 3 Islamic banks and Finance (HBTF) which jointly account for one-third of the total Jordan • 10 foreign banks financing and more than one-fourth of total deposits. Jordan Islamic • 9 conventional banks and 1 Islamic bank Bank, the third-largest bank and the largest Islamic bank in the country, accounts for 14% of financing and 11% of deposit share. 19 commercial banks The banking sector is dominated by three players – Attijariwafa Bank, • 6 public owned banks, Groupe Banquet Populaire, and Banquet Marocaine du Commerce Morocco • 6 offshore banks Exterieur (BMCE). These banks together account for ~77% of the • 7 foreign owned banks country’s total bank lending, and ~80% of deposits . 29 commercial banks Banquet National Agricole and Société Tunisienne De Banquet (both • 6 state owned banks state-controlled banks) are the two largest banks in the country by • 15 private banks deposits, but account for only 9% and 6% of the loans disbursed by the Tunisia • 8 off shore banks banks, respectively. Banquet d’Habitat is the largest, bank by loans, with a 34% share of the market, followed by Amen Bank (10%) and Arab Tunisian Bank (10%). 16 commercial banks Tadhamon International Islamic Bank accounted for 21% (largest • 4 private domestic banks, share) of total banking assets with assets worth ~$1.7bn, followed by • 4 Islamic banks Cooperative and Agriculture Credit (CAC) Bank (13%), with an asset Yemen • 5 private foreign banks base of ~$1.1bn . Tadhamon International Islamic Bank, Cooperative • 3 state-controlled banks and Agriculture Credit and Arab Bank account for one third of the deposit base. 50 commercial banks The banking sector is dominated by seven state-owned banks that • 40 conventional banks control 97% of the total banking assets, 89% of the total bank deposits, Iraq • 10 Islamic banks and over 75% of the total loans extended in 2010. Most private commercial banks are rather small and relatively new. 55 commercial banks Banking activity in Lebanon is dominated by nine large banks, which • 31 private domestic banks, account for more than 90% of the financing activity and depository Lebanon • 19 regional banks base of commercial banks. Bank Audi and BLOM Bank are the two • 5 foreign banks largest banks accounting for more than 35% of loans and deposits of commercial banks 20 Executive Summary After the global economic downturn, most Middle East and North Africa (MENA) countries initiated regulatory reforms to strengthen the banking sector. This resulted in a strong growth in depository base and financing activity within banks in MENA countries. Most countries in the region witnessed strong growth in the banking system in recent years. Iraq witnessed the highest growth in the region (loans grew 104 percent and deposits increased 24 percent during 2010-2012), along with Lebanon, Jordan, and Saudi Arabia. Other countries in the region witnessed high single-digit growth in the banking sector. However, the Arab Spring and the resulting political and economic uncertainties have impacted the short-term growth of the region’s banking sector. Figure 8: Loan and Deposit Growth Across Countries (2010–2012) Note: The figures in the box repr‫ص‬esent the Compounded annual growth rate (CAGR) for the period Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 21 Islamic Banking Sector Islamic banking has not developed uniformly across MENA countries, as its inception and development across the countries occurred at different points of time in history. For example, Egypt was the birthplace of Islamic banking, with the first Islamic bank beginning operations in 1960. On the other hand, in Morocco and Lebanon, Islamic banking has just begun to emerge, with the recent government authorization of Islamic banking operations. Egypt’s first-mover advantage, however, did not lead to the sector’s rapid growth and development. Despite an early introduction of Islamic banking, Egypt has witnessed muted growth over the years. In contrast, Pakistan and Saudi Arabia, which introduced Islamic banking later, witnessed strong growth over the years. Jordan, Yemen, Iraq, and Tunisia introduced Islamic banking in the 1970s and 1980s; however, the lack of government support in the past to promote Islamic banking has affected growth prospects. In recent years, most countries in the region saw the establishment of new Islamic banks. Morocco and Tunisia have initiated steps to establish and expand Islamic banking activities. In addition to government support, the growth of Islamic banking in these countries has been aided by strong positive perception for Shariah-compliant banking among the people of MENA and Pakistan. Figure 9: Islamic Banking Market Overview Islamic banking sector is underdeveloped, accounting Five Islamic banks operate in the country for less than 1% of the total banking assets. Dar Assafaa is the only full-fledged alternative non-banking financial No full-fledged Islamic banks. Eight financial institution, the rest offer such products through windows institutions offering Shariah-compliant products Market dominated by Kurdistan 10 full-fledged Islamic banks were in operation International Bank and Al Bilad Bank Currently nascent market is expected to witness Bank Zitouna only bank authorized to offer strong growth in the medium and long term. Shariah-compliant financial products and services Four full-fledged Islamic banks and three Tadhamon International Bank is dominant player conventional banks with Islamic windows accounting for 65% of assets and deposits Four full-fledged Islamic banks. Central bank has Jordan Islamic Bank accounts for more than two-thirds not allowed conventional banks to offer Shariah- of the total Islamic financing and deposits compliant products through Islamic windows. Among banks with Islamic branches, Bank Alfalah Five full-fledged Islamic banks and 12 conventional and Standard Chartered are the largest players banks with Islamic banking windows. Meezan bank largest full-fledged Islamic bank by assets and Faisal Islamic Bank is the leading Islamic bank, deposits accounting for more than half of the country’s Three full-fledged Islamic banks. In all, 14 Islamic banking assets and deposits banks have Islamic banking licenses Al Rajhi largest Islamic bank accounting for 26% of Islamic financing and 29% of Four fully Shariah-compliant banks, as well as Shariah-compliant deposits, followed by eight conventional banks with Islamic windows NCB and Riyad Bank In the last few years, most MENA countries (including Pakistan) have witnessed an expansion in Islamic banking activity. All countries in the region witnessed strong growth in Islamic deposits and financing activities, except Yemen, which was impacted by political instability and a deteriorating economic environment, especially after the Arab Spring. 22 Executive Summary Figure 10: Islamic Assets and Deposits Growth (20102012-) Note: The figures in the box represent the CAGR for the period Please note that in the left hand charts figures for Egypt. Pakistan and Tunisia represent total Islamic assets while for the remainder of the countries it represents total financing SME Sector The banking sector (Islamic and conventional) has been able to meet some of the needs of the SME sector. Despite the expansion in banking operations and the corresponding growth of loans and deposits, SMEs still remain underfunded. The lack of penetration of the SME sector is due to demand- and supply-side factors (explained later in the report). Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 23 Table 8: Banking Penetration in SME Sector (2012) Banks lending to SME lending as % of Total SME lending Total SME deposits private sector ($bn) total lending ($bn) ($bn) ** Egypt Conventional 69.5 8.00% 5.6 -- Islamic 5.5 8.00% 0.4 -- Pakistan Conventional 33.2 7.3% 2.4 -- Islamic 6.3 4.10% 0.3 -- Saudi Arabia Conventional 88 2.00% 1.8 2.3 Islamic 179 2.00% 3.6 4.6 Jordan Conventional 20.0 12.50% 2.5 3.6 Islamic 5.1 7% 0.4 0.6 Morocco Conventional 88 24.00% 21.0 20.3 Tunisia Conventional 33.9 15.00% 5.1 4.1 Yemen Conventional 1.7 20.30% 0.3 0.5 Iraq* Conventional 9.4 5% 0.5 1.9 Lebanon Conventional 45 16.14% 7.3 20.3 Total Conventional 388.7 n.a 46.5 53.0 Islamic 195.9 n.a 4.70 5.2 Grand Total 584.6 8.75%** 51.2 58.2 -- Data for selected countries is unavailable * For Iraq, the data is for 2010 ** Average SME lending, as a percentage to total private sector lending. The ability of banks to meet the financing needs of the SME sector represents a mixed picture. While Morocco, Lebanon, Egypt, and Saudi Arabia have witnessed a strong increase in lending to the SME sector, in the case of other countries (Jordan, Tunisia, and Iraq) SME lending has been more muted due to a number of reasons (lack of focus, a weak banking system, and a fragile political environment respectively). Table 9: Trend in SME Portfolio Growth Country SME Portfolio Growth Egypt Rising • Lending to SMEs by Egyptian banks has increased at a CAGR of 10.4% over 2009-2012. Yet, the proportion of SME loans to the total outstanding loans by banks has remained in the range of 7-8% during this period. • Of the 26 banks operating in the country, 17 operate a separate SME business unit. However, of these only 9 banks offer adequate SME products. Pakistan Declining • Lending by banks to the SME sector has declined at a compounded rate of 8.5% over 2009-2012 largely due to an increase in the non-performing loan (NPL) rate for the sector. • As a result, banks have become more cautious in financing SMEs, instead diverting funds to safer investment opportunities. Thus, the SME lending penetration rate also declined from 10.3% in 2009 to 6.8% in 2012. 24 Executive Summary Saudi Rising • Although the SME lending penetration rate in the KSA is only ~2%, there is greater impetus on SME Arabia financing by banks, supported by the Shariah-compliant Kafalah program (a financing guarantee program for SMEs). • Hence, SME financing by banks has increased at a CAGR of 23% during the period of 2009-2012. A large part of this growth has been driven by Shariah-compliant financing (backed by the Kafalah program), which has increased at a CAGR of 28.4% during this period. Jordan Stagnant • Although lending by banks to the private sector has increased over the years, disbursements to the SME sector has remained conservative, with 12.5% of the total loans being directed toward this sector. • This is mainly due to less risky and more profitable investment avenues available to banks in the form of corporate or government lending. Morocco Rising • Although credit disbursements by banks to the SME sector has only increased at a CAGR of 7.7% for the period of 2009-2012, the SME penetration rate in the country stands at 24%, much higher than the MENA average of 7.6%. • The higher penetration rate has been on account of proactive measures implemented by the government through the National Association of Small and Medium Enterprises (ANPME) that not only encourage SMEs but also facilitates financial access to these enterprises. Tunisia Stagnant • The SME lending rate in Tunisia, which is 15.3%, is comparatively higher than the MENA average of 7.6%. Yet, growth of lending to the sector has been slow, increasing at a CAGR of 6.5% during the period of 2010-2012. • However, this slow growth is largely a result of problems plaguing the banking sector as a whole, such as weak corporate governance and efficiency standards and a high NPL rate. Yemen Declining • Yemen’s private sector predominantly consists of SMEs. As a result, any increase in lending to the private sector positively impacts financial access to SMEs. • However, credit disbursements to private enterprises have been declining over the years, from 43% in 2009 to 30% in 2012. Iraq* Stagnant • SME lending penetration in Iraq has been stagnant at around 5% in the last few years. • Although there has been a lot of activity in terms of providing financial access to SMEs, the banking institutions in Iraq have been reluctant to advance financing to them because this sector is considered to be highly risky. Lebanon Rising • SME lending penetration rate in Lebanon is currently at 16.14%. • This is expected to increase as banks reduce exposure to government debts and instead divert these funds to the private sector. Non-performing Loans Financial institutions in MENA have always adopted a cautious lending approach. Therefore, asset quality of conventional and Islamic banks has remained strong. Although countries such as Egypt, Yemen, and Tunisia have a NPL ratio of 11 percent to 18 percent, it has been declining over the last few years due to the adoption of better risk management policies and improved banking infrastructure. The rise in banking sector NPLs resulted from the Arab Spring and the effects of the 2007–2008 financial crises. Both factors affected the repayment capacities of the private sector, leading to a high rate of NPLs. The problem was exacerbated by the existing weak economic and political conditions in Egypt, Jordan, and Yemen. In addition to political and economic factors, a poor regulatory (Tunisia) and business environment (Pakistan) contributed to the rise in NPLs. There is a disparity between the NPLs of the conventional and Islamic banking sectors. The NPLs of Islamic banks have traditionally been lower than those of conventional banks as they are more prudent with regard to lending to various sectors. Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 25 Figure 11: NPL Overview Please note that in Egypt data on the Islamic banking sector i s unavailable The growth of NPLs in the financial sector presents an opportunity to establish credit bureaus in such countries for capturing and disseminating credit-related data to financial institutions and other lenders. Islamic Financial Sector Regulations and Enabling Environment Although central banks in MENA have proactively regulated the banking sector following the global financial crisis, great disparity exists across the countries in terms of quality and implementation of reforms. Regulatory authorities in these countries have initiated reforms and amended existing banking laws to include specific regulations for Islamic banks. However, most of these countries, such as Egypt, Tunisia, Morocco, Lebanon, and Iraq, are still developing separate laws on Islamic banking. Table 10: Regulatory Overview Country State of Regulations Banking Sector Islamic Banking SME Egypt Well defined Inception Non existent Pakistan Well defined Well defined Well defined Saudi Arabia Well defined Transitional Transitional 26 Executive Summary Jordan Well defined Transitional Non existent Morocco Transitional Inception Non existent Tunisia Transitional Inception Non existent Yemen Transitional Transitional Non existent Iraq Inception Inception Non existent Lebanon Well defined Inception Non existent In addition to prudent regulations, government initiatives across countries have been instrumental in promoting Islamic banking. Initiatives include the issue of guidelines, instructions, and bonds, among others, to enhance the depth and ensure faster maturity and development of the Islamic banking sector. Table 11: Islamic Banking Initiatives Country Islamic banking Initiatives Actions Stage • Government has not taken any recent initiative to promote Islamic banking • Strategic five-year development plan • Issuance of sovereign Sukuk, incentivization for bank expansion • Issue of Islamic SME finance handbook • Issue of guidelines and prudential regulations • Development of Islamic SME financing • Sukuk issue to promote development of capital market • Separate authority for SME sector promotion • IFC and Islamic Corporation for the Development of the Private Sector (ICD) initiatives • New Islamic banking licenses • Shariah-compliant loan guarantee program initiated by Jordan Loan Guarantee Corporation (JLGC) • Jordan Enterprise Development Corporation (JEDCO) involved in increasing Islamic financing for SMEs • Submitted draft for Islamic banking and insurance regulations • Setting up $1 billion integrated Islamic investment platform • 2013 Sukuk issuance and potential finance deal with Islamic Development Bank (IDB) • Favorable tax regime • Proposal to allow conventional banks to operate Islamic windows • Expansion of Shariah-compliant products and expected increase in competition • Government has not taken any recent initiative to promote Islamic banking • Preparing draft of the Islamic Banking Law • Education and awareness programs • Effective risk management and accounting practices Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 27 04. SME Access to Islamic Finance Access to finance for SMEs is hindered because of their informal nature and poorly structured operations. Another factor for this lack of access is the limited capacity of banks to capture this opportunity through an appropriate product proposition and process framework. SME Penetration Despite the existence of a reasonably well-developed banking (conventional and Islamic) sector, small and medium enterprises (SMEs) have typically remained underfunded. The low penetration is due to demand- and supply-side factors that prevent SMEs from accessing financing through formal channels. SMEs across the region cite high interest rates, cumbersome procedures and collateral requirements, as the primary impediments to accessing financing from formal institutions. Furthermore, many of the financial institutions do not have products customized to meet the needs of the SME sector. Figure 12: SME Sector – Existing Penetration SME PENETRATION AS A PERCENTAGE OF TOTAL LENDING High Penetration Morocco Yemen Lebanon Tunisia Jordan Demand Side Egypt Supply Side • High rates of interest Pakistan • Unavailability of reliable credit history • High collateral requirements • Weak management • Cumbersome processes Iraq • Lack of financial documentation • Lack of customized processes KSA • Conservative lending approach • Financial illiteracy • High NPL’s • Religious beliefs Low penetration Factors Affecting Penetration 28 Executive Summary Obstacles Faced By Banks in Sme Financing • SMEs lack managerial capabilities to manage businesses effectively. This leads to an inefficient operations structure, weak financial reporting, and unviable operations (high debt). In addition, SMEs mostly operate in the informal sector. Hence, banks are reluctant to lend to SMEs and perceive them as risky investments. Although already highlighted in several IFC studies, it is still worth noting significant factors that affect the supply of finance to the SME sector. Factors include SME-specific problems (lack of a proper business structure), as well as issues faced by banks in servicing the SME sector (lack of capacity to lend to SMEs). Problems restricting access to finance are unique to each country, but several common themes underline these problems. Multilateral agencies should, therefore, partner with government and private stakeholders to train SMEs on efficient management of businesses (e.g., IFC Business Edge). This would increase their viability in the long run and make them more palatable for bank lending. • Most banks lack capabilities to lend to the SME sector. This could include inadequate processes, lack of SME-specific products (especially Islamic products), untrained staff, and insufficient outreach. The significant risks involved together with high costs of transactions/ servicing the SME customer also deter banks from targeting the SME sector. Because of these institutional gaps, banks tend to focus on emerging and medium-sized businesses and corporations, which are safer investments than SMEs and banks already, possess the capabilities to lend to these businesses effectively. • Multilateral institutions and other agencies need to assist banks to enhance institutional capabilities through staff training and introducing SME-specific products. Banks would then be able to screen SMEs better for lending, thus increasing credit flow to them. • Lack of information on SMEs is another problem faced by banks across countries. The lack of a credit bureau with adequate information on SMEs is a significant hurdle preventing banks from lending to them. The problem presents a significant opportunity to develop an exhaustive database on SMEs, which would plug information gaps and lead to increased supply of finance to the SME sector. Figure 13: Obstacles Faced in SME Financing EGYPT • Inappropriate business structure LEBANON • Lack of documentation and organizational focus • Lack of reliable credit history • Limited specialization in SME lending • Informal nature of business • High opportunity cost involved • Alternate investment opportunities • Lack of credit information • Lack of branch outreach • Lack of government incentives • Political instability • Lack of SME specific regulations PAKISTAN IRAQ • High risk of lending and growing NPLs • Low financial reporting standards • Limited specialization in SME lending • Lack of management competency • High operating costs involved • Ineffective legal and regulatory framework OBSTACLES • Precarious economic conditions / business environment FACED BY • Inadequate credit information YEMEN BANKS SAUDI ARABIA • Deficiency in management • Informal nature of conducting business • Availability of better investment avenues • Weak organizational structure and operations • Lack of qualified staff • Inefficient credit and risk assessment tools • Deteriorating economic situation • Lack of operational capabilities • Inadequate infrastructure restricting outreach • Lack of organizational focus • Lack of proper legal framework • Shortage of skilled manpower • Insufficient SME related information • Limited product base • Unavailability of reliable credit history TUNISIA JORDAN • Informal nature of operations • Centralization of management • Corporate governance issues • Lack of branch penetration • High NPLs and debt ratios • Alternate investment avenues available • Limited specialization and lack of dedicated products • High costs of servicing • Deteriorating economic and business environment • Unreliable credit history • Lack of unified collateral registry MOROCCO • Information asymmetry, lack of financial transparency, and unviable businesses • Lack of education, management competencies, and strategic focus • Low banking outreach and low banking penetration Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 29 Supply Side Analysis of Banks in the Region A comprehensive survey of more than 160 banks (out of the total +270 banks) in MENA reveals that they are currently ill equipped to handle the SME business. The survey revealed that, on overall basis, only 36 percent of the surveyed banks demonstrated readiness for an effective SME proposition, that is built on sound branding and marketing strategies along with a product range availability and overall portfolio concentration suited to meet the needs of the SME sector. The survey revealed that, on overall basis, only 17 percent banks have the marketing, product and operational capabilities to effectively serve the requirements of the Islamic SME banking sector. Figure 14: Aggregate Supply Side Analysis Note: The approach adopted for the above calculations is contained in the methodology section of the report Branding, segregated business unit, SME focused strategy and among those banks who do offer Islamic banking proposition, but product availability are the prime factors, which determine the yet to consider offering Islamic SME proposition. One of the reasons overall / aggregate SME, Islamic SME proposition penetration of these banks not offering the Islamic SME is either they are not among the banks. being aware of or not understanding the demand driven by religious beliefs. Furthermore, though most of the banks (25% of the market), Of the surveyed banks, though 66 percent of the banks offer an SME who offer Islamic SME proposition are aligning their offering with proposition, but only 42% of the banks properly brand or market their separate business units, but only 18% are properly marketing offerings, with adequate SME product availability. Such situation has their offering and only 15 percent are having the adequate Islamic affected the SME portfolio penetration with only 37 percent banks SME products availability. Such a scenario has adversely affected are having the adequate SME portfolio penetration in the market, the portfolio penetration, which stands at just 11 percent, with thus driving the aggregate SME offerings at 36%. Such a scenario aggregate Islamic SME offerings stands at only 17 percent. clearly indicates that either the banks’ strategies are not geared towards SMEs or they are reluctant to offer SME products due to In order to enhance Islamic SME offerings, the banks need to align the high risk, which would again be owing to inadequate procedures. their strategies to the rising demand for Shariah-compliant products, with a clear focus on advancement of Islamic product offerings through On the Islamic banking side, despite the fact that half of the market effective marketing. offers Islamic banking proposition, but only 31 percent of the market offers an Islamic SME proposition, so still there is a gap of 19 percent, 30 Executive Summary Figure 15: Factorial Analysis of SME / Islamic SME Proposition Aggregate SME Offerings by the banks: 36% Aggregate Islamic SME Offerings by the banks: 17% The survey also recognized a strong demand for SME products, but Most small-sized businesses find it difficult to access funds for most customers are unaware of SME specific products offered by long-term projects or face issues with expanding their businesses their banks. A strong branding strategy and a separate business unit due to the lack of availability of capital expenditure financing, seed would result in direct and a more expansive engagement with SME financing, and venture capital, among others. Banks would need to customers. expand their Islamic non-borrowing service offerings to increase engagement with the SME sector. The most popular Islamic products offered to SMEs are asset-backed short-term products, as banks Islamic Products Availability and are risk-averse to lending to the sector. These short-term products Recommended Products are generally used to meet the working capital financing and trade financing needs of SMEs. There is very little innovation in Islamic Commercial banks in MENA offer several Islamic financial products financing, with banks preferring to use standard structures, such as to the SME sector. However, most of the products are short-term Murabaha and Musharaka, to back products. Moreover, there are loans to finance day-to-day business activities. Others are non- limited efforts to supply Islamic products required by SMEs, such borrowing products, such as deposit accounts and cash management as the overdraft facility based on the running Musharaka structure services. (which is in demand by SMEs in Pakistan). Although leasing Banks prefer offering short-term Islamic facilities to the sector due products (Ijarah structure) are offered, they are generally restricted to issues of business continuity and the higher risk involved in to select clients (e.g., as in Lebanon). Also, limited efforts have been lending to SMEs. Therefore, long-term Islamic financing is usually made to provide internet banking and mobile banking services to only available to medium-sized enterprises with strong financial and SMEs. business viability. Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 31 In terms of Islamic liability products, the banks have been able to meet the needs of SMEs through the provision of deposit, savings, and current accounts as the enterprises’ requirements for these are generally limited. However, there is a huge gap with respect to non borrowing services. Though banks in Pakistan and Saudi Arabia are providing such services (cash management, payroll services, cash delivery, and trade advisory) to SMEs, in other countries, this is still lacking. Figure 16: Evolving Financial Requirements of SMEs Evolving Demand for Financial Products by SMEs Asset Finance Trade Finance Securitised Loans Working Capital Letter of Credit Lease Finance Liability Products Overdraft Letter of Guarantee Current Account and Factoring Documentations Payments Cash Management Payroll Services As the SME sector develops across the countries, the needs are likely to evolve. Expansion and development of SME operations would lead to the demand for more long-term and financially sophisticated products. Banks should recognize these issues and look to enhance and develop their Islamic product offerings to meet the needs of the SME sector. Please refer to the Appendix (Annexure 2) for a recommended list of products across countries. 32 Executive Summary 05. Opportunities for Islamic SME Banking There is a cumulative SME funding potential opportunity of between $8.63 billion to $13.20 billion across countries in the MENA region. Saudi Arabia, Pakistan, and Egypt are the countries with the largest potential for SME financing. The sector with the most potential is manufacturing due to its capital intensity, high degree of value added, significant export potential, and the capacity to generate employment. Funding Opportunity In terms of funding opportunity, the countries can be classified into three segments: • High potential countries – Islamic banking is well-established, relatively high preference for Shariah-compliant products exists, and presence of a favorable regulatory structure • Medium potential countries – Islamic banking is at a nascent stage, with a fair share of the population having preference for Shariah- compliant products, and existence of a developing regulatory structure • Low potential countries – Where the perception is strong but an unfavorable economic and political environment have prevented the development of Islamic banking The funding opportunity for each country was calculated using a combination of three factors. • Average perception towards Islamic banking – Measures the perception of the SME in a country towards Islamic banking. This factor would be influenced by the population of the country as well as the degree of religious consciousness. For example, in Saudi Arabia the level of religious consciousness would be higher (90 percent) than Lebanon (4 percent), which has a smaller population and lower level of religious consciousness. The higher the level of perception in a country, the more favorable the chances of Islamic banking flourishing in that country. SMEs in Morocco and Jordan also have a strong preference for Islamic banking (54 percent and 25 percent respectively), which can translate into a substantial funding opportunity. There also exists a pronounced preference for Islamic banking among SMEs in other countries (ranging between 18 percent to 37 percent). Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 33 Figure 17: Preference for Shariah-compliant Products Percentagewise Please note all the figures in the above chart are denoted in percentage of SMEs. *This number is derived through the summation of the weighted average of all the nine countries. • Potential penetration of Islamic banking within the SME sector – Reflects the potential adoption of Islamic banking by SMEs in the formal and informal sector enterprises. This would be determined by the overall penetration of banking services in a country, the level of business sophistication in a country, and the SME share of bank lending. The higher the presence of the above factors, the greater the potential penetration of Islamic banking within the SME sector. Thus, countries such as Pakistan (10 percent to 20 percent) and Jordan (10 percent to 25 percent), which have a high degree of banking penetration, would have a greater potential than Yemen (3 percent to 5 percent) where the level of banking penetration is poor. Figure 18: Funding Potential % Across Countries Preference for Shariah compliant 20% 25% 90% 25% 54% 18% 37% 35% 4% products (% of SMEs) 20- 25% 10- 15% 15-20% 10- 15% 5- 8% 5- 8% 6- 9% 5- 10% 6- 9% 10- 15% 3- 5% 10- 15% 3- 5% 2- 4% 24- % 3- 5% 2- 4% 24- % Egypt Pakistan Saudi Jordan Morocco Tunisia Yemen Iraq Lebanon Arabia Average funding potential for un-served SMEs (% range bull and bear case scenario) Average funding potential for underserved SMEs (% range bull and bear case scenario) 34 Executive Summary • Enabling environment – Refers to the presence of a favorable political, economic, and regulatory environment to promote Islamic banking within a country. Greater economic and political stability alongside regulatory clarity would ensure a larger funding opportunity. Countries such as Saudi Arabia, Pakistan, Jordan, and Morocco have a positive enabling environment to promote Islamic banking when compared to countries such as Iraq and Yemen where the enabling environment is fragile. • Supply side capabilities – In addition to economic and political stability, the SME focus and the capabilities of banks to service the SME sector was also taken into account. Factors that were used to gauge the capabilities of banks and their focus included the availability of a SME proposition, Islamic SME offerings, SME portfolio penetration, SME product branding, and presence of a separate business division among other related metrics. Figure 19: Enabling Environment and Supply Side Analysis (SME and Islamic SME) Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 35 The enabling environment across most countries is favorable with the countries into three distinct categories – well served enterprises, un- exception of Iraq and Yemen where a deteriorating security scenario served enterprises, and underserved enterprises. and underdeveloped business landscape will pose problems for operating banks. Well served enterprises are at the apex of the funding pyramid and are able to access funds easily. In most countries, the category is In terms of supply side capabilities, banks have significant progress between 1 percent to 23 percent of the total SME population with to make. Pakistan, the Kingdom of Saudi Arabia (KSA),and Morocco the sole exception being Lebanon. Underserved enterprises are able are the only countries where banks have a moderate degree of SME to access formal finance to meet some of their needs; the segment propositions, but it is still not enough to fully meet SME needs. Egypt, varies between 2 percent to 35 percent of the total SME population Yemen, and Lebanon have low penetration and there is significant across countries. scope for improvement. Banks in Tunisia and Iraq are at the lower end of the spectrum and need to boost their SME offerings significantly. The highest proportion of SMEs is concentrated in the un-served In terms of Islamic SME offerings, most banks across the various category with ~50 percent to 91 percent of enterprises having no countries have limited products for SMEs that are inadequate to meet access to formal financial channels to meet their needs. A large their needs. Only the KSA and Pakistan have a fair share of products number of SMEs (80 percent to 90 percent) in Jordan, Tunisia, and to meet SME needs. Iraq fall in the un-served category, which points to the lack of focus on the part of banks to tap the SME sector. The limited supply side capabilities of banks to meet SME needs allows for classifying the enterprise landscape across the target Table 12: Total SME Universe   Total SME Enterprises Un-served Underserved Well served Egypt 754,000 452,400 248,820 52,780 Pakistan 1,103,241 737,727 243,675 121,839 Saudi Arabia 344,611 150,719 114,631 79,261 Jordan 121,798 110,920 2,248 8,630 Morocco 252,540 199,507 30,305 22,728 Tunisia 546,086 276,549 228,782 40,755 Yemen 340,509 228,141 102,153 10,215 Iraq* (2010) 86,841 76,420 6,079 4,342 Lebanon 72,289 39,759 21,687 10,843 Total 3,621,915 2,272,142 998,380 351,393 The funding opportunity comprises “new to bank” enterprises among the un-served and underserved SME population. Pakistan and the KSA have large numbers of SMEs without financial access, which amounts to large “new to bank” opportunities in these countries. 36 Executive Summary Figure 20: Comparative Islamic Funding Opportunity Low Medium High Saudi Arabia $2.66bn– $3.99bn Pakistan Egypt Tunisia $2.62bn– Jordan $1.31bn– $3.84bn $2.38bn Morocco $0.58- $0.97– Yemen $0.87bn $1.22bn Lebanon Iraq $0.21– $0.18bn- 0.42bn $0.05– $0.05- $0.30bn $0.08bn 0.10bn Funding Potential High Potential Medium Potential Low Potential Jordan is the most viable among the medium-potential countries as it is more developed than Tunisia and Morocco. In addition, it has a well- developed financial system to complement growth of the sector. Morocco and Tunisia are nascent markets; although they have the necessary conditions in place (government support, strong domestic demand), they are likely to realize their potential only in the long term. Yemen, Iraq, and Lebanon are low-potential markets and their prospects will continue to be affected by the uncertain political environment. In terms of depository potential, Saudi Arabia, Egypt, Jordan and Pakistan are the leading countries with significant depository potential that could be tapped by Islamic banks. Table 13: Islamic Depository Potential by Country Countries Depository potential Saudi Arabia $3.46–5.18bn Egypt $2.52–4.56bn Jordan $1.80–2.30bn Pakistan $0.90–1.30bn Tunisia $0.47–0.70bn Morocco $0.22–0.43bn Lebanon $0.15–0.29bn Yemen $0.04–0.07bn Iraq $0.15–0.22bn Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 37 Conversion / Cannibalization of the existing conventional SME portfolio to Islamic also poses a potential for the banks In addition to the “new to bank” funding opportunity, there is significant potential for conversion / cannibalization of the existing well served SMEs portfolio that avail of finance from formal conventional banking channels. This conversion / cannibalization opportunity is worth an estimated $4.2 billion (9 percent of the existing conventional SME lending of $46.5 billion) and varies widely from 2 percent to 4 percent in Yemen, Iraq, Lebanon, Tunisia, Morocco, and Jordan, to as high as 82 percent in the Pakistan. Figure 21: Islamic Conversion Opportunity Across MENA and Pakistan ($mn) Sectors to be Targeted Manufacturing is the most attractive sector for funding in the countries like Egypt, Pakistan, Saudi Arabia and Yemen. . This is due to its capital intensity, high degree of value added, significant export potential, and the capacity to generate employment. Since these countries, especially Pakistan and Yemen, are affected by high levels of unemployment, funding the manufacturing sector can be an effective way to ensure inclusive growth and reduction in unemployment. The trade and commerce sector, which comprises wholesale and retail establishments, is also a viable funding alternative. However, the value addition to economy, employee size, and operational scope of these enterprises is limited. Due to these characteristics, funding requirements of these enterprises are likely to be small and sporadic. 38 Executive Summary Table 14: Attractive Sectors for Islamic Finance Across Countries Factors Affecting Growth of Islamic SME Banking There are a number of fundamental factors that will play a key role in the development of the Islamic banking sector across countries in the MENA region. These factors are: presence of a favorable regulatory environment, people’s perception toward Islamic banking, and the efforts by multilateral institutions to complement the efforts of the governments. The presence or absence of a single factor can play an important role in influencing the trajectory of the market. Countries will have to effectively balance these factors if the Islamic banking sector is to reach its full potential in each country so that the segment of the SME sector that remains excluded from formal banking services owing to religious reasons can then be focused on. Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 39 Table 15: Drivers and Challenges Faced by Islamic Banks Countries Regulatory environment Perception toward Islamic Efforts by multilateral agencies banking Egypt Inception Medium -- Pakistan Well defined High High Saudi Arabia Transitional High Medium Jordan Transitional Medium Low Morocco Inception High Medium Tunisia Inception Medium Low Yemen Transitional High High Iraq Transitional Medium Medium Lebanon Inception Low Low Note: Regulatory challenges refer to the efforts by the government and the central bank to promote Islamic banking, also including the existing legal framework to promote Islamic banking. Perceptions toward Islamic banking capture the perception of a country’s population toward Islamic banking. Efforts by multilateral agencies signify the efforts made by these agencies to promote Islamic banking in the country. The regulatory environment is an important factor that will impact Islamic banking. Pakistan is the only country with a well-defined regulatory framework for promoting Islamic banking. A well-developed regulatory framework results in clarity and enhances competition and innovation. Countries such as Saudi Arabia, Jordan, and Yemen are still in a transition phase and are yet to have a well-developed regulatory framework in place to regulate Islamic banking. The absence of affirmative steps to develop the structure further would affect the prospects of the Islamic banking sector in these countries. On the other hand, countries such as Lebanon, Tunisia, Morocco, and Egypt are in the process of framing regulations. Moreover, the development of the sector in the medium and long term would be contingent on the effectiveness of regulations framed. Lebanon is the only country where a high degree of religious heterogeneity has led to low perceptions toward Islamic banking. In other MENA countries, the perception of Islamic banking is positive as its principles are consistent with their religious beliefs. The ethical and religious principles underlying Islamic banking have led to a strong demand for Islamic banking across countries in the Middle East. Efforts by multilateral institutions, such as IFC, could have a strong impact on the sector. 40 Executive Summary 06. Conclusion There is a strong demand for Islamic banking in MENA (including Pakistan) with 32 percent of the overall SME population expressing a strong demand for Islamic finance. However, the current supply scenario is far from ideal with just 17 percent of the banks surveyed in the region having an Islamic SME offering, (whereas, of total, only 36 percent banks that have an SME offering). However, a strong enabling environment across most countries coupled with high penetration rates ranging from 3 percent to 10 percent (Egypt) to 10 percent to 25 percent (Pakistan and Jordan), and a high demand from SMEs for Islamic finance promises strong growth for SME funding in the short to medium term. Currently, an estimated 32 percent of small and medium enterprises (SMEs) across the nine countries are totally excluded from access to finance, mainly because of a lack of Shariah-compliant products. The “risk averse” approach of banks has led to a narrow product range on offer for SMEs in these countries. Several SMEs are seeking exclusively Islamic banking products to meet their financing needs and would not opt for conventional banking products due to the lack of Shariah-compliance. There is a great degree of variation across these nine countries with respect to the proportion of SMEs looking for Shariah-compliant products (it is as high as 90 percent in Saudi Arabia, moderating to ~25 percent in Jordan, and decreasing to 4 percent in Lebanon). However, banks are currently unprepared to capitalize on this latent demand as, aggregate , SME offerings by banks stands at 36 percent while aggregate Islamic SME offerings stands at 17 percent. This gap indicates that some banks are not considering offering Islamic SME products either due to the high risks involved or an unclear business strategy. Furthermore, only 47 percent of banks have adequate products, whereas, overall SME portfolio penetration is only at 37 percent. There are also lapses with respect to branding or marketing of SME products, as most SMEs are unaware of the availability of such products from their banks. As a result, banks have been unable to service the SME sector effectively in these countries. If proper products are developed and introduced there exists an estimated potential “new to bank” gap of $8.63 billion to $13.20 billion for Islamic SME financing, with a corresponding depository potential of $9.71 billion to $15.05 billion across these nine countries. However, to tap the underlying potential, Islamic banks need to build capacity and develop Shariah-compliant products to cater to this emerging sector. Strategic Operational Adjustments can Help Islamic Banks Target SMEs More Eff ectively In order to capitalize on funding and depository potential, Islamic banks need to look beyond the conventional ‘one-size-fits-all’ approach and provide SMEs with customized value additions, much like what many conventional banks are now increasingly offering. The required competency framework is highlighted below where Islamic banks would need to acquire the required proficiencies for building and managing a successful “Islamic SME Banking” business (similar to what many of their conventional banking peers have done): Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 41 Figure 22: Strategic Operational Adjustments Offering non-borrowing services: Islamic banks should broaden to Target SMEs product and service offerings by providing non-borrowing services, such as cash management, payroll management, payments, collections, and trade finance solutions. Internet banking and mobile banking services should also be considered along with provisions for SME-specific debit cards with daily limits. • Sales and Delivery Introduction of new Islamic SME banking models: Islamic banks should use new SME banking models to target SMEs. The use of mobile banking to enhance financial inclusion and reduce the cost of administering an account could be a good initial step. The use of banking correspondents to ensure last-mile connectivity of banking services could also be a focus area. Islamic banks could establish SME-specific branches in key SME clusters. Moreover, Islamic banks need to streamline/realign their transaction execution processes to make the execution of Islamic transactions easier for SMEs. • Advisory Services Focus on advisory services: A majority of SMEs do not have sufficient knowledge about finance and management, business skills (such as financial modeling, future planning, and forecasting) and information related to government rules and regulations that impact their functioning. This knowledge deficit prevents SMEs from Proposed Strategy Framework evolving into larger and more sustainable enterprises. Islamic banks should provide SMEs with advisory services to aid and facilitate • Strategy and Segmentation growth. A dedicated Islamic SME banking strategy and business model is • Organization and Systems critical: Banks would need to adopt specific market segmentation approaches to be able to better understand the market dynamics, Better training for SME professionals: There is a shortage of staff quantify the business opportunity, build appropriate propositions, knowledgeable about Shariah-compliant products across financial and deploy the optimal operating model. Moreover, customers’ lack institutions due to the inadequate amount of time and effort of awareness of banks and institutions (especially Islamic ones) spent on training them. To rectify this, financial institutions need that offer SME finance propositions creates a huge supply-side gap. to incorporate better training procedures into their organizational Islamic banks can fill this gap by effectively branding and marketing frameworks. Investing in employee training would allow Islamic Islamic propositions for SMEs as well as by creating separate banks to serve SMEs more effectively and help increase market business units/divisions with specialized SME strategies. penetration. • Products and Services • Risk Management Borrowing solutions: Traditional products may now allow banks Adopt better and more sophisticated methodologies: Most financial to acquire the required scale for a profitable Islamic SME portfolio. institutions rely on traditional banking approaches to identify Tailoring existing corporate and retail banking products and, more and target viable SMEs. Financial institutions need to incorporate importantly, building product programs and portfolio approaches appropriate credit evaluation techniques (such as behavioral scoring, would be necessary. credit scoring, and cash flow and program-based lending) and build stronger early warning systems and collections frameworks to target 42 Executive Summary and manage SMEs better, price products more effectively, and reduce In order to acquire the required competencies for sustainable, risk exposure. profitable, and performing Islamic SME portfolio, banks may need to seek technical assistance in order to tap this market opportunity. Streamline loan application processes for SMEs: SMEs face difficulty SME banking is a line of expertise hardly available in the Middle when applying for loans due to the amount of documentation East and North Africa (MENA) region and banks have not been required and the long approval process (exceeding more than a able to champion this segment because of a lack of understanding month). Most SMEs lack the documentation required to apply for a about SME banking disciplines, best business, and risk management loan. The financial requirements of SMEs are urgent compared with practices. those of large-scale corporate enterprises, and it is imperative that the approval process be shortened. Islamic banks need to streamline processes and focus on building relationships with SMEs (existing and prospective customers), which would ensure quick delivery of credit. Figure 23: Strategic Initiatives to be Undertaken by Countries LEBANON EGYPT • Rationalize borrowing requirements • Reduce loan processing timelines • Provide simple loan approval process • Adopt lean branch model • Knowledge transfer to customers • Improve targeting of potential SME customers • Extend branch network • Offer non-borrowing services • Increase non-borrowing products and services IRAQ PAKISTAN • Develop human resources for Islamic banking • Smoothen loan application process • Create awareness among customers and • Better training to banking professionals increasing presence in rural regions • Introduce new Islamic SME banking models • Create a range of new Islamic products and • Focus on advisory services services STRATEGIC INITIATIVES • Offer non- borrowing services to be undertaken SAUDI ARABIA YEMEN teg ic • Improve human capital • Provide business advisory services, Stra tives Init ia • Establish alternate risk evaluation models • Rural network strategy, • Increase branch network • Effective risk management • Offer non-borrowing services • Educate customers • Widen credit bureau coverage • Invest in human resource development • Diversify financial services TUNISIA JORDAN • Create SME-specific strategy • Focus on product innovation, • Train personnel • Enhance skills of employees • Improve collateral requirements • Develop alternative credit scoring model • Build appraisal capabilities • Extend organizational reach and open Islamic • Diversify product offerings bank branches exclusively for women • Conduct education programs MOROCCO • Realign business focus toward Islamic SME • Expand services through innovative banking • Increase procedural efficiency financing models • Standardization and realignment of processes • Transfer knowledge to customers • Expand non- borrowing service offerings • Maintain reasonable transaction cost • Widen credit bureau coverage • Conduct detailed market research, • Develop competitive Islamic capital market • Establish smart branch network, structure • Effective segmentation, • Multiple delivery channels, • Develop human resource potential • Establish partnerships with key stakeholders • Offer innovative banking products and services Ideal Business Model Banks are generally incapable of servicing the needs of the SME sector effectively due to gaps in their current operating model. Most commercial banks are not geared efficiently to deal with SMEs and are structured to meet the needs of large businesses. While many conventional banks have now realized the opportunity in the SME sector and are taking steps to build the necessary capacity, Islamic banks are still reluctant to do so. Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 43 In order to target the SME sector, Islamic banks would also need to adopt the above mentioned strategy framework, which involves building capabilities on all fronts – human, procedural, and institutional. This strategy would have to be gradually implemented, as the process would require a paradigm shift in processes, strategy, and attitude. The above figure (fig.24) outlines the changes that should occur across Islamic banks in MENA. These measures need to be complemented by the efforts of government and regulatory authorities to encourage and incentivize lending and other banking services to the SME sector. Appropriate measures need to be initiated to also strengthen the legal environment to safeguard the SME assets of these banks. Figure 24: Integration of Islamic Banking SME Model Road Map for Islamic SME Banking Inception and Growth Islamic banks would need to implement a long-term strategy to execute and sustain the above framework, as such change is resource intensive, time consuming, and an organization wide effort. There is no “one size fits all” universal framework that can be applied, as the operational characteristics and functional environment of each bank is different. Banks would have to conduct a thorough self-evaluation, prioritize the steps that need to be implemented, create a roadmap, define targets, and chalk out an implementation plan. By following a pragmatic phased roadmap (taking into account the steps mentioned below) Islamic banks would also be able to capitalize on the “new to bank” and “cannibalization” SME potential across MENA and Pakistan. 44 Executive Summary Figure 25: Roadmap for Islamic SME Banking Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 45 Appendix Research Scope IFC’s Financial Institutions Group (FIG) in the Middle East and North Project Scope and Deliverables Africa (MENA) aims to provide investment and advisory services to banks in the region and assists them to increase outreach to the small In order to identify the information gaps and devise an Islamic banking and medium enterprises (SMEs). In recent years, with increased focus strategy, IFC has commissioned this study to: on the SME sector, banks in the MENA region and Pakistan have realized that, due to their religious beliefs, many small businesses • Identify the countries in MENA facing gaps in Islamic banking needs demand Shariah-compliant banking. for SMEs • Conduct a supply side benchmarking to review the current capacities IFC Strategic Focus – Islamic Banking for of banks to offer Islamic products to SME customers in both asset SMEs and liability segments IFC is now focusing on providing assistance to the Islamic banking • Conduct a demand side benchmarking to identify the banking needs sector for them to better target SMEs. For this reason, IFC wants to of SMEs in MENA and how well those needs are being met better understand the market from both the demand and supply angles. IFC also needs to identify the gaps or niches in the sector where it can • Review the regulatory frameworks and overall banking environment provide assistance by leveraging its expertise and skills. In IFC’s view, (of individual countries), which would enable the implementation of the following information gaps need to be addressed in order to design Shariah banking a concrete and focused SME Islamic Banking strategy – • Recommend countries with significant financing gaps, and identify • Identify the Islamic Banking products that are demanded by SMEs products and services where banks need to build up capacity to in MENA (including asset and liability products, in addition to other bridge this gap banking services) This Regional Executive Summary compares data from the nine • Identify the countries that currently offer Islamic banking products individual country reports on Islamic Banking Opportunities across (to retail customers and businesses in general, and SMEs in particular) Small and Medium Enterprises. The report aims to summarize the findings put forward in the previous country reports, analyze the existing • Determine the products and services offered by Islamic Banking structure and future prospects, in order to provide a comparative institutions, and benchmark them against the market demand analysis of the potential for Islamic banking for SMEs in the region. • Categorize the SME population in MENA into – –– Un-served: SMEs that do not borrow (and/or bank) with formal institutions due to unavailability of Islamic banking –– Underserved: SMEs that avail of Islamic banking products, but on a limited scale due to narrow range of Islamic product offerings –– Well served: SMEs that have adequate exposure to Islamic finance This would help identify the financing gap and the availed finance to estimate the market potential. • Analyze the non-performing loans in the SME sector to understand the experience of the banks with exposure to the SME sector. 46 Executive Summary Methodology This report was prepared using a judicious mix of desk research and primary interviews with industry participants, including banks, government organizations, small and medium enterprises, and SME associations. Desk Research Primary Research More than 25 commercial databases and websites were The information collected through desk research was referred to for the preparation of this report including (but not supplemented through extensive primary research conducted over limited to) – the phone (CATI). This was determined to be the most effective way to conduct large scale surveys without any compromise on the • Onesource quality of responses, as required for the study. • Factiva • Thomson Banker A total of approximately 250 interviews were conducted as part of • Thomson Innovation the study, which included: • Hoovers • Government authorities • Zawya • Chamber of Commerce • MEED • Statistics departments • Gulfbase • Central Banks Several industry and markets reports published by agencies like • Monetary and Regulatory authorities Datamonitor, Euromonitor, and Fredonia, among others were • Islamic Banks also referred. • Conventional Banks with Islamic windows • Non-Banking Financial Institutions Additionally, we have used information from surveys and data • SME associations published by: • Small and medium enterprises across diverse industry segments • Central / Regional Government We / our sub-consultants have in-house Arabic translators who • Census Statistics assist in local language calls. • IMF and IFC / World Bank reports • Independent research reports • Company Annual Reports and websites • Equity Analyst reports • Press releases and News searches • Internet search We / our sub-consultants have in-house Arabic translators who assist in local language searches and translation of documents wherever required. Objectives and Approach This study focuses primarily on the following facets – • Number of enterprises, broken up by size (small and medium); mode of operations (formal and informal); and nature of business (industry) • SME usage of banking services (depository and lending) • SME access to credit and the difficulties in accessing credit • The potential for Islamic banking services in terms of financing and deposits (in dollar values) Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 47 Given challenges such as lack of data, and/or limited availability A combination of primary interviews, previously published studies, of data, especially for the informal sector, the effort was to obtain and financial reports of banks with a healthy SME exposure was high level qualitative answers to these questions. However, we feel used to calculate the average funding per enterprise or the average confident that the approach portrays an accurate picture of the loan size. The average loan size was used to arrive at the funding industry. potential for the respective country. The percentage of enterprises not availing banking services due to religious reasons was sourced from previous studies. Defining Small and Medium Enterprises There is no unified definition for small and medium enterprises Primary Interviews in the region, with the definition varying for each country. Even within a country, the government agencies, financial institutions and The discussion guides used for the primary interviews were created international organizations adopt different parameters to classify separately for the supply side (which includes banks and financial SMEs. In such a scenario, the most commonly used local definitions institutions) and the demand side (SMEs and SME associations) have been retained for the purposes of the study. in order to elicit specific viewpoints of the respondents from each industry. The discussion guides were designed to cover all aspects of financing including: Defining the Number of Formal and Informal SMEs • Access to finance: Examines the ease of availing finance from formal institutions for SME’s, banks’ lending criteria, difficulties The number of small and medium enterprises for the nine countries faced during the financing process, and ways of overcoming these was sourced through their central statistics (or equivalent) difficulties. departments. The data was cross verified for accuracy during the primary interviews with these departments and SME associations of • SME specific Islamic banking products: Compares the Islamic each country. The enterprises were then segregated into formal and banking products offered by banks to the SMEs with the products informal enterprises – and services that are demanded/required by the SMEs. • Formal: SMEs that are registered with the regulatory body for • Regulatory framework and enabling environment: Tries to commerce and trade, and/or maintain proper documentation to understand the government initiatives to promote Islamic banking avail of banking services (and Islamic banking for SMEs), and identify if there is a favorable sentiment towards such services amongst banks as well as SMEs that • Informal: Includes mainly small and very small enterprises, usually would assist the growth of the sector. operating in a sole proprietorship or a family run business model • Awareness: Tries to understand the level of awareness about Islamic These enterprises were further segregated into well-served, banking services amongst SMEs. underserved, and un-served enterprises, as per IFC requirements, based on inputs received from primary interviews, and previously The discussion guide has been included in the appendix for reference. published reports by the countries’ government bodies, World Bank and the IFC. Supply Side Analysis Credit Usage by SMEs A comprehensive universe of more than 160 banks was interviewed across the nine countries in order to identify and classify the various The credit usage by SMEs has been extensively covered in prior SME banking services and Islamic banking and financing services studies conducted by central banks, SME associations, and the World offered. In the course of the survey, the respondents were also Bank Group, and this report has sourced several qualitative and questioned on the customers’ (SME’s) opinions and preferences, if quantitative inputs from these studies. Additionally, the information any, towards Islamic banking products in the respective countries. was corroborated with primary interviews with industry players Additionally, the survey was aimed to identify: who provided their insights into the financing trends of small and medium sized businesses. 48 Executive Summary • The gap, if any, between the services demanded by SMEs vis-à-vis Qualitative vis-à-vis Quantitative Analysis the services currently offered by banks and financial institutions Quantitative analysis was not considered a feasible option due to • Customer preference, or lack thereof, towards Islamic banking challenges like reluctance on the part of most respondents to give services specific details pertaining to their businesses and lack of information on the largely informal SME sector. Under these circumstances, • Average value of lending per enterprise (later used to calculate the obtaining quantitative information and extrapolating them might funding potential) portray an inaccurate picture. Demand Side Analysis The analysis was supplemented by third-party subscription databases, such as Zawya, MEED, and Gulfbase, and information Small and medium enterprises were classified into un-served, vetted by conducting targeted desk research based on articles, press underserved, and well served categories based on data from releases, and independent research reports. available statistics, along with primary interviews with SMEs, SME associations, Statistic and Industry departments, commercial banks The quantitative data, including ‘percentage of enterprises not and regulators. The survey was aimed to identify: availing banking services due to religious reason’, ‘percentage of enterprise willing to switch to Islamic banking if possible’, etc. • The prevalence of banking (regular, SME, or Islamic banking) within have been sourced from previously conducted studies by the IFC, the SME sector World Bank, SME associations, and other government and non- government organizations. • Percentage of enterprises eligible for banking services (based on credit criteria, proximity to bank / financial institutions, etc.) Funding Potential • Challenges faced while accessing banking / financing services The banking opportunity and funding potential have been estimated based on the latest census data, supplemented by publications by • Awareness about Islamic banking services and willingness to avail the governments, and central banks. The factors considered in such services estimating the funding potential include – The results / hypothesis was tested with existing SME and/or Islamic SME portfolios and deviations were re-forecasted after consulting Figure 26: Strategic Initiatives to be the banks and regulatory authorities of the respective countries. Undertaken by Countries SMEs Random Sampling vis-à-vis Comprehensive Survey As against the supply side, wherein comprehensive interviews were UN-SERVED SMEs UNdER- WELL-served served SMEs SMEs conducted with almost all the major banks within each country, the respondents from the demand side (small and medium enterprises) were selected on randomly. The extremely large number of enterprises religious reason CAnnibalization within each country and the predominantly informal nature of these enterprises make it near impossible to conduct a comprehensive survey. Therefore, enterprises were selected at random from across different industries and are expected to be reflective of the overall SME sector. new to Bank additional potential The percentage of enterprises not availing banking services due to religious reasons was sourced from previous studies. The average funding per enterprise (for small and for medium-sized enterprises respectively) was used to arrive at the funding potential for the respective country. Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 49 Summary Post the initial country level analysis, appropriate weight was applied to the different categories to develop scores for individual countries. The results were mathematically validated to ensure accuracy. We believe that the approach provides the right order of magnitude and has the ability to replicate the outcome and monitor changes going forward. Disclaimer The information and analysis provided in this report have been based primarily on publicly available data and other sources deemed to be reliable. These sources have been mentioned throughout the report, wherever applicable. Efforts have been made to ensure accuracy of data through cross validation from multiple sources and inputs from industry participants. Opinions and statements contained in this report are based on current economic and market conditions and are subject to change without notice. 50 Executive Summary About IFC IFC, a member of the World Bank Group, provides a combination of SME Advisory and Investment Services to ensure Access to Finance and other banking services for SMEs. These services fall in the following categories: Advisory Services: • Build capacity of financial institutions in strategy, market segmentation, credit risk management, and product development through new approaches and systems to scale up their financing for SMEs on a sustainable basis • Promote sub-sector focus, especially on women-owned SMEs, sustainable energy SME projects, agriculture SMEs, and leasing • Raise awareness on best practices in the SME finance space • Develop credit reporting infrastructure based on country needs • Support development of secured transactions, collateral registries, and legal and regulatory framework • Build capacity of public/private stakeholders through advice and training Investment Services: • Make equity investments in financial institutions/equity funds for SMEs • Funded lines to expand investment and working capital lines, especially in illiquid markets • Trade finance through the Global Trade Finance program • Increase focus on underserved segments, e.g., gender, fragile/conflict, agriculture, climate • Risk Sharing Facilities/Partial Credit Guarantees to enhance risk taking capacity and provide capital relief via low-risk weightings; avoid FX mismatches and encourage domestic resources for SME financing. Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 51 Bibliography Egypt • Banking and Insurance Special: Conventional banks enter Islamic banking sector- Daily News Egypt, February 2013 • The Report: Egypt – Oxford Business Group, 2010 • Access to Finance: Forms of Financing for SMEs in Egypt, Egyptian • Egypt Private Sector Country Profile 2009 – African Development Banking Institute (SME Unit Publication), 2009/2010 Bank • Innovations in SME Financing, Egyptian Banking Institute (SME • The developmental role of SMEs in the Arab countries, 2012 – Unit Publication), March 2012 Egyptian Ministry of Industry and Foreign Trade • Innovations in SME Finance, For Egyptian Banking Institute and • Upgrading Small and Medium Enterprises: The Case of Egypt, April European Bank for Reconstruction and Development, by McKinsey 2012 by the Egyptian Center for Economic Studies in collaboration and Company, 2010 with the German Development Institute • Primary Interviews with Banks (please refer to Annexure 5) • Small and Medium Enterprises Landscape in Egypt • Primary Interviews with SMEs (please refer to Annexure 6) • National SME Census Project 2010/2011 • Business Climate Development Strategy (SME Policy and Promotion Pakistan - Egypt): MENA-OECD Investment Programme (2010) • Islamic Banking Bulletins December 2009 to December 2012, State • Nile Stock Exchange Bank of Pakistan • Survey conducted by the Egyptian Center for Economic Studies • Issue and Challenges for Islamic Banking in SME, Meezan Bank (ECES) between July and December 2012 Limited • Business Today: What Morsy Means for Islamic Banking (July 2012) • State Bank of Pakistan Annual Report, 2011-2012 • On Bank Market Structure and Competition in Egypt, Mahmoud • Statistics of the Banking System, March 2012, Banking Surveillance Mohieldin Department, State Bank of Pakistan • Economist Intelligence Unit, Financial Services Report, July 2012 • Development Finance Review, December 2011, State Bank of Pakistan • 2012 Cambridge Business and Economics Conference • Handbook on Islamic SME Financing, December 2008, State Bank • Report on Egyptian Banks by Pharos, January 2013 of Pakistan • Islamic Banking and Finance in North Africa: Past Development and • Pakistan’s banking system outlook remains negative: Moody’s Future Potential, African Development Bank, 2011 Investor services, September 2012 • Egypt’s Banking Sector and Islamic Finance, Zawya 2012 • A Narrative Description of Banking Sector in Pakistan May 2012 • World Islamic Banking Competitiveness Report 2012-13, Ernst and • Growth and Prospects of Islamic Banking in Pakistan, Far East Young Journal of Psychology and Business, May 2012 • Egypt’s Islamic banking has promising future, needs regulations – • Islamic Banking comes of age in Pakistan: Financial Express, July experts, Mubasher.info (December 2012) 2012 • Egypt Islamists draft code to boost Islamic banks: Reuters (June • Banking cover must be extended to SMEs: The Express Tribune, 2012) September 2012 52 Executive Summary • Non- performing loans reach an all time high: The • Infrastructure development drives strong 2013 growth in Saudi Nation, September 2012 Arabia says Emirates NBD Wealth Management, February 2013, AMEInfo • SME financing continues to decline: The International News, December 2012 • A “SME” Authority for Saudi Arabia, Saudi-US Relations Information Service • Performance of SMEs in Export Growth and Its Impact on Economy of Pakistan 2011 • Capitas Group International • Pakistan Economic Survey 2011–12 • Saudi Industrial Property Authority (MODON) • Entrepreneurship in Pakistan: Government Policy on SMEs, • SAMA Annual Report, 2010 Environment for Entrepreneurship Internationalization of • Individual bank annual reports Entrepreneurs and SMEs 2008 • SHUAA Capital, August, 2012 • Critical Success and Failure Factors of Entrepreneurial Organizations: Study of SMEs in Bahawalpur, Pakistan 2011 • Saudi Arabia Banking Sector, July 2011 • Barriers to SME Growth in Pakistan: An analysis of constraints; • The World Islamic Banking Competitiveness report The Managerial Dimension of Small Business Failure in Journal of Strategic Change • ICD: Promoting the Islamic Finance Industry in Saudi Arabia The Success Story (2012) • Obstacles to Small and Medium Enterprises in Pakistan 2013 • World Bank (Realizing the potential of Islamic finance), March 2012 • The Global Competitiveness Report 2011-2012 World Economic Forum • NCB: Saudi Economic Review, March 2013 • Transparency International Corruption Perceptions Index 2012 • GOSI report (2010) • SME development in Pakistan; analyzing the constraints to growth • CDSI report (2010) • Primary Interviews with Banks (please refer to Annexure 5) • The National Competitive Center, December 2011 – Financial Services Sector in Saudi Arabia • Primary Interviews with SMEs (please refer to Annexure 6) • Primary Interviews with Banks (please refer to Annexure 5) Saudi Arabia • Primary Interviews with SMEs (please refer to Annexure 6) • Small and Medium Sized Enterprises in MENA: Leveraging Growth Finance for Sustainable Development (Citi Foundation and Shell Jordan Foundation) • Oxford Business Group Jordan Economic Update 2012 (data • Benchmarking SME Policies in the GCC: A survey of challenges and derived from Jordan Department of Statistics and Organization for opportunities - EU-GCC Chamber Forum Economic Cooperation and Development) • SMEs Capabilities and Needs Assessment Eastern Province, Saudi • Jordan Establishment Census 2011 Arabia. Eastern Province Chamber of Commerce and Industry, KSA • Jordan Human Development Report 2011 • Access to liquidity main snag facing Saudi SMEs, May 2012, Saudi • Jordan Times April 2012 Report titled “Sector leaders warn of ‘grave Gazette consequences’ of electricity price hikes” • Saudi Arabia Boosts Spending Goal by Fifth in Record Budget, • Jordan Banking Sector, Capital Investments, 2009 December 2012, Bloomberg Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 53 • Jordan Banking sector, Jordan Investment Trust P.L.C, July 2012 • Sharia Committee to oversse Islamic banks in Morocco, Morocco World News, April 2013 • Jordan Banking Sector Brief 2012 – Awraq Investments • A Review of Credit Guarantee Schemes in the Middle East and • Central Bank of Jordan North Africa Region – 2010 • Association of Banks in Jordan • The transmission mechanism of monetary policy in Morocco: An • SMEs in the MENA region Access to Finance Association of Bank analytical framework in Jordan, 2012 • Measuring Financial Inclusion – The Global Findex database, World • Association of Banks in Jordan Bank, April 2012 • Individual Banks’ Annual Report • Country Assessment Morocco – September 2012 • Jordan Loan Guarantee Corporation (JLGC) website • Bertelsmann Stiftung, (BTI) 2012 – Morocco Country Report • IMF Financial Access Survey • Primary Interviews with Banks (please refer to Annexure 5) • USAID • Primary Interviews with SMEs (please refer to Annexure 6) • Small- and Medium-sized Enterprises in MENA: Leveraging Growth Finance for Sustainable Development (Citi Foundation and Tunisia Shell Foundation) • Support to SMEs in the Arab Region –The case of Tunisia – • Primary Interviews with Banks (please refer to Annexure 5) UNIDO-2001 • Primary Interviews with SMEs (please refer to Annexure 6) • Policy Note on SMEs Access to finance in Tunisia –World Bank - 2009 • Fabric characteristics Tunisian Industry in 2011 Institutional Morocco framework and financing of SMEs. (Caractéristiques du tissue industriel tunisien en 2011) • Central Bank of Morocco (Bank Al-Maghrib) Report • Enhancing the Competitiveness of SMEs in OIC Member States – by • The Report: Morocco 2012 Oxford Economic Group (Interview Talal Althefery - June 2012. with Minister of Industry, Trade and New Technology) • OECD Investment Policy Reviews: Tunisia - 2012 • Haut Commissariat au Plan of Morocco • EBRD Country Assessment –Tunisia- 12 September2012 • Oxford Business Group – The Report Morocco 2011 and 2013 • Islamic Finance Country Report: Tunisia- Thomson Reuters – 2013 • Caisse Centrale de Garantie (Central Guarantee Fund; Morocco) • Tunisia Report - Deloitte • Measuring Financial Inclusion – The Global Findex Database, World Bank, April 2012 • Towards a New Economic Model for Tunisia, A joint study by African Development Bank, Government of Tunisia and Government • Euromed Management, Islamic finance in Morocco, Nissrine of the United States – 2013 Boudad • Small and Medium Sized Enterprises (SME’s) in the Southern • Morocco unveils programs to support SMEs, Magharebia, Mediterranean – 2012 December 2009 • The African Development Bank Group in North Africa - 2012 • Morocco hopes for Islamic finance rules by end-2014 – Reuters • The Evolution of Competition in Banking in a Transition Economy: • Success of Morocco bodes well for Arab Spring bonds December An Empirical analysis of the Tunisian banking Sector- by Niazi 2012 – Reuters KAMMOUN and Ahmed AMMAR - July 2012 54 Executive Summary • The World Bank Group and Tunisia a Country Study December- • SFD Annual Report 2010 2012 • Annual Report – Central Bank of Yemen • Tunisia’s Professional Association of Banks and Financial Institutions • H. Ealsrag, Enhancing the Competitiveness of the Arab SMEs – Annual Report 2008. • IMF Financial Access Survey • Tunisia: Financial System Stability Assessment – World Bank- Aug 2012. • WEF Global Competiveness Report 2013–14 • Enda inter-arabe –Business plan-2007 to 2011 • Decreased interest rate a positive indicator of an improving economy – Yemen Times - February 13, 2013 • FEMIP- Financing operations in Tunisia – 2010 • World bank Report - The Status Of Bank Lending To Smes In The • Swiss Economic Cooperation and Development Tunisia Country Middle East And North Africa Region, 2011 Strategy 2013-2016 • Banking Sector Reform in Yemen – January 2012 • Youth Employment and Economic Transition in Tunisia - Jan 2013 • CI Capital Intelligence Bank Rating of International Bank of Finance, • Challenges in Accessing Finance for Growth-Oriented Small and 2010, Yemeni Banks Annual reports Micro Entrepreneurs in Tunisia - by Faysal Mansouri – Feb 2011 • Small and Micro Enterprises Development in Yemen and Future • Islamic Banking and Finance in North Africa Past Development and Prospects - by Adel Mansour (Social Fund for Development Yemen) Future Potential – By African Development Bank – 2011 - 2011 • Stimulating Growth and Investment During Transition – EBRD – • National Micro, Small and Medium Sized Enterprise Development Dec 2011 Strategy for Yemen (2011-2021) - January 2011 • Small and Medium Sized Enterprises in MENA: Leveraging Growth • UNDP Country programme document for Yemen (2012 – 2015) – Finance for Sustainable Development – Study supported by Shell July 2011 Foundation and Citi Foundation • Energy Information Administration • USAID Booklet of Standardized Small and Medium Enterprises Definition – Aug 2007 • Financial Inclusion in Middle East and North Africa: Analysis and Roadmap recommendations –World Bank- 2010 • Tunisia’s Economic Challenges – by Lahcen Achy – Dec 2011 • Central Bank of Yemen -Annual Report-2007 • Tunisia a new Social contract for fair and equitable growth – by • Central Bank of Yemen -Annual Report-2009 ILO – 2011 • Central Bank of Yemen -Annual Report-2010 • Access to finance hurdles for SMEs XII Euro-Med conference on Economic Transition – Feb 2008 • Central Bank of Yemen -Annual Report-2011 • Primary Interviews with Banks (please refer to Annexure 5) • Bureau Van Dijk • Primary Interviews with SMEs (please refer to Annexure 6) • Yemen: First Sukuk off the Blocks:The Islamic globe • The International Fund for Agricultural Development – Yemen Yemen Invest- Rural Employment Program. • World Bank document - Report No: 73677 – YE December 2012 • Social Fund for Development – Newsletters • Central Statistical Organization Enterprise Survey • Primary Interviews with Banks (please refer to Annexure 5) • SFD Annual Report 2011 • Primary Interviews with SMEs (please refer to Annexure 6) Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 55 Iraq Republic for the Period FY11-FY14, World Bank Group, July 28, 2010 • USAID – Market Assessment Summary: Business constraints and • Census of Buildings, Dwellings and Establishments opportunities at the business enabling environment and firm levels in Iraq – 2010 • The Daily Star: Lebanon News: IMF: Lebanon’s informal economy 30 percent of GDP – Nov 2011 • World Bank Financial Access Indicators, 2011 / 2010 • 2011 Investment Climate Statement Bureau of Economic, Energy • International Monetary Fund Financial Access Survey and Business Affairs • Central Bank of Iraq Annual Reports • Lebanon: Untapped Islamic banking potential, Islamic Finance • Tijara Provincial Economic Growth Program, 2010 News, February 2012 • Iraq Financial Sector Review – World Bank • The Development of Islamic Banking in Lebanon: Prospects and Future Challenges (Review of Islamic Economics. Vol. 9) • Access to Finance by Micro, Medium and Small Enterprises in Iraq • IMF Lebanon Selected Issues-2012 • Private Sector in Iraq: Creating Jobs and Enhancing Sustainable Development, July 2011 • The status of Bank Lending to SMEs in the Middle East and North Africa Region: The results of a Joint survey of the union of Arab • COSIT census Banks and The World Bank. • Iraqi Company for Bank Guarantees, Annual Reports • Kafalat Program website • ICF-SME Annual Reports • The World Bank Group and Lebanon A Country Study September 2012 • Iraq Insights by Ideas Synergy • EIB and SGBL: €15m to support investment by Lebanese SMEs/ • Iraq Country Report: BTI 2012 SMIs – AMEinfo.com, June 2012 • Overview of the Iraqi banking system: The State owned banks • 2011 Investment Climate Statement Bureau of Economic, Energy (USAID) and Business Affairs • Doing Business Report 2013 • Central Bank of Lebanon Annual reports • Republic of Iraq: National Investment Commission • Challenges facing the Lebanese SME Sector, Ministry of Economy and Trade- May 2013 • The Struggles of Small Businesses – The Broken Links (Iraq Business News – April 2011) • IMF Financial Access Survey, CGAP • Primary Interviews with Banks (please refer to Annexure 5) • Association of Banks in Lebanon • Primary Interviews with SMEs (please refer to Annexure 6) • Bureau Van Dijk • Islamic Finance News Lebanon • Deloitte, Islamic Finance news Volume 8 Issue 49 • Middle East – The rising importance of SMEs, August 2009. • IFC Access to Finance Study 2007 • Challenges facing the Lebanese SME Sector, Ministry of Trade and • Activity and performance of the Lebanese banking sector in 2011 Economy • Primary Interviews with Banks (please refer to Annexure 5) • IMF World Economic Outlook April 2013 • Primary Interviews with SMEs (please refer to Annexure 6) • Country Context, Country Partnership Strategy for Lebanese 56 Executive Summary Annexure 1: Common Shariah Structures Used Across Countries Diminishing Depth of Murabaha Mudarabah Ijarah Musharaka Salam Istisna’a Tawarruq Musharaka understanding Egypt Low Pakistan Medium Saudi High Arabia Annexures Jordan Medium Tunisia Low Yemen Low Iraq Low Lebanon Low Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 57 58 Annexure 2: Commonly Used Products and Recommended Products Non-borrowing Current account Savings Account Lease Finance Trade Finance Working Capital Services CU RE CU RE CU RE CU RE CU RE CU RE Executive Summary Egypt Pakistan Saudi Arabia Jordan Morocco Tunisia Yemen Iraq Lebanon Cu: Penetration of products that are offered currently across respective countries Re: Recommended penetration of products based on the potential demand for Islamic products by SMEs Reflects – Processes re-alignment to achieve the desired result Reflects – Product features enhancement to achieve the desired result Reflects – New product development Annexure 3: Questionnaire for Banks 1. How do you define Micro, small and medium enterprises in your institution? What is the cut-off of SME in your institution? (Is it by number of employees, revenue etc?) 2. How do SME’s typically access finance in the country? Is it easy for a SME to avail of finance? 3. If access to finance is limited, what are the major factors/ reasons for the same? 4. Does access to finance vary by type of enterprise or sub segments? 5. Do the requirements of the various segments differ significantly? (For instance, do you think manufacturing units are more reliant on financing than service enterprises?) 6. Do you offer Islamic banking services? • If yes, what products and services do you offer, and to which segments? • If no, what are the other products and services that you currently offer to SME’s? Which are the products which are typically availed by various SME segments? 7. What is the degree of business exposure to SME’s? (% of total loans disbursed/amount of loans disbursed) 8. What is the documentation and approval procedure? What is the guarantee/collateral demanded by your institution? 9. In your opinion, are the current products offered by the banking sector adequate to meet the needs of the SME sector? 10. In your opinion what are the products SME’s are expected to demand over the next five years? 11. What are the challenges that are faced while dealing with the SME sector? 12. How developed is Islamic banking in the country? 13. What are the factors that are hampering the growth of Islamic banking in the country? 14. Is the government undertaking any initiatives to promote the development of Islamic banking? 15. Do Islamic banks/financial houses currently play a significant role in development of SME sector? • If not, could you cite some reasons for low adoption of Islamic finance products in this segment? Are there ways to overcome these problems? 16. Do these banks have products designed especially for SME sector? What are the different products/services offered by Islamic banks to SMEs? Which products are sold to which SME segment? 17. Is there a latent demand for Islamic finance products by SME enterprises in the country? (Y/N – Why) 18. What are the current requirements of SMEs in terms of their financing needs? Does this vary by sub-segments within the SME sector? • Are there some MSME sectors where Islamic banking products can play a major role? • If yes, which sectors and which specific products should be offered? 19. In your opinion, what are the major opportunities for banks within the SME sector, specifically for Islamic finance products? Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 59 60 Annexure 4: Questionnaire for SMEs and SME Associations 1. How do you access finance for your business activities? 2. What are the types of financial products that you typically avail of? 3. What challenges do you face with regards to accessing finance from formal channels? 4. Does proximity of banks/branches impact your decision to avail finance from the formal channel? Executive Summary 5. In the absence of formal financing, how do you meet your financing needs? 6. What kind of financing products you think you would need in the coming years? And why? 7. Are you aware of the various Islamic financing products and services available in the market? • Are you aware of the banks that offer Islamic products? • Are you satisfied with the Islamic finance options currently available with banks? • How would you rate the Islamic banking options against conventional products in terms of pricing the overall process? 8. Which are the most preferred Islamic banking products? And why? • In your opinion, is there any specific industry segment that is more likely to opt for Islamic financing? 9. Do you think the current set of Islamic financing products and services adequately meet your funding requirements? • In your opinion, would your industry peers have a similar opinion on Islamic financing? (if no, please elaborate) 10. If no, what are the types of products you think that banks should offer? (both traditional and Islamic) 11. Given a choice, would you prefer Islamic Finance over Conventional Finance? Annexure 5: List of Respondents from Banking Sector Egypt Banque Misr Banque du Caire Egyptian Arab Land Bank National Bank of Egypt Principal Bank for Dev. and Agr. Credit Bank of Alexandria Commercial International Bank Barclays Bank Egypt Societe Arabe Internationale de Banque Blom Bank Credit Agricole Egypt BNP Paribas Suez Canal Bank Nationale Societe Generale Bank Bank Audi Ahli United Bank Faisal Islamic Bank of Egypt Housing and Development Bank Al Baraka Bank of Egypt Al Watany Bank of Egypt Egyptian Gulf Bank HSBC Bank Egypt Arab Banking Corporation Citibank Arab Bank Plc. Bank of Nova Scotia Pakistan Meezan Bank Al Baraka Bank (Pak) Ltd. Dubai Islamic Bank Bank Al Islami Bank Alfalah Askari Bank SAMBA MCB Summit Bank –a Silk Bank –a Allied Bank National Bank of Pakistan Soneri Bank –a Standard Chartered Bank United Bank Limited Saudi Arabia National Commercial Bank Riyad Bank Al Rajhi Bank Bank Al Jazira Saudi Investment bank Saudi Hollandi Bank Banque Saudi Fransi Alinma Bank Bank Al Bilad Saudi Arabian British Bank Arab National Bank Samba Financial Group Morocco Banque Marocaine pour le Commerce Banque Marocaine du Commerce Al Barid Bank Arab Bank et l›Industrie (BMCI) Exterieur (BMCE) Attijariwafa Bank Credit Agricole Du Maroc Credit Immobilier Hotelier (CIH) Credit Du Maroc Crédit Populaire of Morocco Societie Generale Maroc Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 61 62 Jordan Bank of Jordan Cario Amman Bank Capital bank of Jordan Jordan Commercial Bank InvestBank Jordan Kuwait Bank Jordan Ahli Bank The Housing Bank for Trade and Finance Société Générale de Banque- Jordanie Standard Chartered Bank Egyptian Arab Land Bank HSBC Bank Jordan Executive Summary Rafidain Bank Blom Bank Bank Audi, Jordan Islamic International Arab Bank Jordan Dubai Islamic Bank Jordan Islamic Bank (Al Baraka Bank) Arab Banking Corporation Citibank Arab Bank Plc. Al Rajhi Bank, Jordan Yemen Cooperative and Agricultural Credit Yemen Bank for Reconstruction and Credit Agricole Corporate and Inv. United Bank Ltd Bank (CAC Bank) Development Bank Saba Islamic Bank Shamil Bank of Yemen and Bahrain Tadhamon International Islamic Bank Tunisia Banque de l’Habitat (BH) Banque Nationale Agricole (BNA) Banque de Financement des Petites et Société Tunisienne de Banque (STB) Moyennes Entreprises (BFPME) Arab Banking Corporation (ABC) Arab Tunisian Bank (ATB) Banque Attijari de Tunisie (Attijari Citibank bank) Banque de Tunisie (BT) Union Internationale de Banques Banque Internationale Arabe de Tunisie Banque Zitouna (UIB) (BIAT) Union Bancaire Pour le Commerce et Al Baraka Bank Tunisia Credit Agricole Corporate and Inv. Noor Islamic Bank l’Industrie (UBCI) Bank Iraq Trade Bank of Iraq Rasheed Bank Real Estate Bank Bank of Baghdad Dar Essalaam Investment Bank Warka Bank for Investment and Kurdistan Intl. Bank for Investment Al Bilad Islamic Bank for Inv. and Finance and Dev. Finance Credit Bank of Iraq Elaf Islamic Bank Iraqi Islamic Bank for Investment and Dijah and Furat Bank for Dev. and Dev. Investment Babylon Bank Gehan Bank for Inv. and Islamic Islamic National Bank Byblos Bank of Lebanon Finance National Bank of Iraq Ashur International Bank for Bank of Beirut and the Arab Countries Al Baraka Bank Investment Arab Banking Corporation Vakif Bank Credit Libanais Bank Lebanon Fransabank S.A.L. B.L.C. Bank S.A.L. Blom Bank S.A.L. Societe Generale De Banque Au Liban S.A.L. (Sgbl) Bankmed S.A.L. Audi Saradar Private Bank S.A.L. Banque De Credit National S.A.L. Byblos Bank S.A.L. Bank Audi Sal - Audi Saradar Group Bank Of Beirut S.A.L. Jammal Trust Bank S.A.L. Saudi Lebanese Bank S.A.L. Creditbank S.A.L. United Credit Bank S.A.L. First National Bank S.A.L. Blom Development Bank S.A.L Banque Misr Liban S.A.L. (Bml Sal) Credit Libanais S.A.L. Ahli International Bank S.A.L. Emirates Lebanon Bank S.A.L. Al Baraka Bank S.A.L. Arab Finance House S.A.L. (Islamic Lebanese Islamic Bank S.A.L Standard Chartered Bank S.A.L. Bank) Arab Bank P.L.C. Warka Bank For Inv. and Finance Co Al-Bilad Islamic Bank For Investment National Bank Of Abu Dhabi PJSC J.S.C. and Finance P.S.C. Invest Bank PSC HSBC Bank Middle East Limited Citibank N.A. Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) 63 64 Annexure 6: List of Respondents From SME Egypt International Trading And Distribution Sigma Engineering Trade Farghal International Trading Dody Plast For Plastic Industries Co Bericap Egypt For Manufacturing Caps Egyptian Metal Forming Nile Co For Industry And Equipment Trio Engineering Contracting And Executive Summary Plastic Co. Sae Trading Aramco Egypt Egycan Die and Mold Makers Egypt For Engineering Industries Pakistan Ocean Traders Ghaffar Corporation M/S. Malik International Super Rice Mills Pvt. Ltd. Shamran Trading International Bilqees Corporation (Pvt) Ltd. Canon Foam Industries (Pvt) Limited Mecas Engineering (Private) Limited Data Textile Mills Pvt. Ltd. Gem Sports Corporation Medinet Pharmaceuticals Pakistan Rex Shoes (Pvt) Ltd (Pvt) Ltd Saudi Arabia Bakhashwain Trading Services Est Capital Trading Establishment Aflak Electronic Industries Co Ltd World Ceramics And Marbles Dalpco Architectural Aluminium Jeddah Aluminium Manufacturing Medina Factory For Putty Paints Al Ghandoura Company For Plastic Factory LLC Adhesive Manufacturing LLC Arabian Construction and Deep Foundation Engineering Bahamdain Trading Industry and Development Co. Contractors Contracting Al Kifah Central Concrete Mixing Pioneers Chemical Factory Co National Chemical and Marketing Plants Co. Ltd Morocco First Mark Sarl Ste Pour Lequipement Hydraulique Et Materiaux De Construction Marzak Top Computer Industriel Sarl Societe Casablancaise De Pieces De Fermetures 2000 Sarl Ste Industrielle De Tissage Et De Maroc Rouleaux Rechanges Automobiles Sarl Broderie Al-Maghrib Marine Propellers Sa Ecoval Sa Jordan Novo Information Technologies Hisham Ali Thiyab Al Zoubi and Rawhi Drugstore Home Pillars Trading Co. Partners Co Jordan Trading Industry And Jordanian Swiss Company for Ayla Construction Chemicals Al Hussam Plastics Industries Co. Ltd Refridgeration Manufacturing and Marketing Construction Chemicals Al-Fatihoun Al-Arab for Investment Plc Golden Bird Food Industries Jordan Advanced Food Industries Akram Ramadan Housing Co. Masannat Engineering and Contracting Al-Hashemite General Contracting Company Co. Ltd. Yemen Al Hayat Trading Company Abu Fari And Brothers Company Granatah Import Export Mareb Drug Corporation Al Falak Computer Accessories Al-Nakheel General Trading Al Folath For Trading and Const The Art Printing Works Abn Shoukry Advertising Agency Yemeni Chinese Construction United Company For Manufacturing Engineering Company Pvt Ltd Carton And Packaging Material Ltd Tunisia Les Comptoirs Reunis Du Centre Sarl Masmoudi Distribution Sarl Societe De Distribution De Produits Societe Chamam Division Gros Agricoles Sarl Sarl Comptoir General Moderne Sa Societe De Service Electrique Cap Bon Sarl Navalfer Sa Motorboat Tunis Tunisie Ressorts Sa Hydritec Systems Sarl Acia Sud Export Iraq Al Ruwais Trading Zaman Group Ltd Al-Ebtida Co Ltd For Engineering Sawan Construction Company Services Limited Al Kissaa Company For General Kufan Group Al Noor Co For Electrical Services Ltd Contracting Lebanon Fakhrane Group Co For General Trade Infotec Systems Sarl Takla Trading Co Sarl A.W Salah Nsouli Zeinni Steel Industries and Trading Sarl Ghalico Trading Co Etablissement Assaf Pour La Peinture Nassar Techno Group Sal General Paint Co Sal Nsouli Jewelry Sal Arabian Construction Co International Sal Crown Flour Mills Islamic banking opportunities across Small and Medium Enterprises in MENA (including Pakistan) Pharmaline Sal 65 Notes Xavier Reille Financial Institutions Group Advisory Services Manager Europe, Middle East and North Africa E-mail: xreille@ifc.org Kaiser Naseem Program Manager Banking Advisory Services Middle East and North Africa E-mail: knaseem@ifc.org Cornich El Nil, Ramlet Boulac, Cairo, Egypt Print Right Adv. Tel: + 20 (2) 2461-9140 / 45 / 50 Fax: + 20 (2) 2461-9130 / 60