The Small & Medium Enterprises (SMEs) play a crucial role in the economic development of a nation. According to the UAE Ministry of Economy, the SME sector represented more than 94% of the total number of companies in the country in February 2023. Moreover, the industry alone provided jobs to more than 86% of the workforce in the private sector.
Loans offered to enterprises help shape the economy of the banking industry. Besides ensuring compliance, it allows banks to maintain a portfolio of granular exposures of credit lines. However, it’s not all that easy for lenders as they continue to face some challenges when it comes to SME financing.
Perceived Challenges for SME Financing:
- A Dip in Global Demand and Supply: Weakness in key trading partners, tighter global financial conditions, increasing climate-related risks, social tensions, and political instability can pull down the growth of SMEs.
- Limitations to Accessing Credit Facilities: Only one in five SMEs in the Middle East have a loan or line of credit, as per the World Bank. The region has a great potential to expand financial inclusion that is hindered by deficiencies in the economic infrastructure and regulatory frameworks.
- A Time-consuming Process: SME financing has suffered a setback due to increased regulations and punitive lending rates. The lack of SME transparency and poor credit information from third parties adds to the problem.
Role of Islamic Banking in the Middle East
Islamic banking, also referred to as Shariah-compliant finance, has grown rapidly over the past decade. In the UAE, the Central Bank reported that the gross assets of Islamic banks grew by 7.31% to $177 billion in the first quarter of 2023. For SME lending, Islamic banks use a Murabaha contract to create a ‘collateral-by-contract’ for the borrower. The Murabaha contract resembles an Asset-Based Lending (ABL) contract in reverse.
The Need for Digital Transformation
The right technological and financial infrastructure can help alleviate the constraints in SME financing. As per a report by a community for entrepreneurs and professionals, Arabnet, disruptive technologies such as artificial intelligence (AI), the Internet of Things, Advanced Analytics, and Blockchain are expected to be at the forefront of innovation to transform businesses in the region.
1. Changing Business Models
The rise of equity models and the complexity of technology business models have made it difficult for banks to cope with the expectations of small and growing businesses today.
2. Increased Competition and Faster Turn Around Time
SME lending products must be competitive with unique offerings and excellent customer experience. Higher-risk clients looking for loans may be a risky proposition for banks but require a thorough assessment to make wise business decisions. Without proper assessment tools, banks fail to determine the bracket they fall into, resulting in outright rejection of such clients and losing business.
3. Straight-through Processing (STP)
STP journeys are immensely useful for small ticket credit exposures as they efficiently help deliver the loan application, decision-making, documentation, and disbursement with very limited or no human intervention. SME lending software that integrates business rules management supports STP journeys.
4. Increased Regulatory Pressure
SMEs are unable to produce requisite documentary evidence for legal and regulatory compliance purposes. Moreover, banks are plagued by weak credit assessment tools based on manual, error-prone calculations and arbitrary benchmarks.
5. Siloed IT Systems
Heavy reliance on siloed and disparate systems continues to be a source of inflexibility in a digital economy. Banks need to come up with an SME lending solution that ensures a seamless lending journey.
Digital Lending Propelling Financial Inclusivity
SME borrowers typically look for great relationships and speed of business. Hence, it’s important to consider the following aspects:
1. Unified Platform vs Siloed Applications
To address the lifetime value of customers, lenders need to break the siloes and create processes that cut across departments and functions seamlessly and carry the transactional and customer context. A single platform that offers conventional and Islamic banking and supports all processes from Customer Onboarding to Loan Disbursement is a boon to lenders. Digital platforms support collaboration and information-sharing among different departments involved in credit decisions.
2. Removing Data Roadblocks
Integrating AI and machine learning (ML) streamlines the loan approval process, enabling banks to assess risk accurately for differentiated product offerings and make faster, data-driven decisions. Digital platforms facilitate the collection and integration of non-traditional data sources, such as online transactions and social media activity, providing a 360-degree view of an SME’s operations.
3. Risk-based Competitive Pricing
Advanced data analytics and ML algorithms empower banks to analyze large datasets, providing valuable insights into customer behavior and market trends. This granular understanding allows for the development of accurate pricing models that align with the risk profile of borrowers and the market conditions.
4. Expanding Reach by Better Credit Decisioning
With credit decision factors being defined in rule engines, the system ensures that every credit application is subjected to the same set of criteria, minimizing inconsistencies arising from human interpretation and leading to reduced default rates while empowering companies with fair and equal access to credit.
5. Omnichannel Experience
The ability to seamlessly capture a form along with scanned documents and collaterals is effective only when these are contextually integrated with content management and process orchestration platforms supported by loan management software for small businesses.
Conclusion
In the Middle East, the symbiosis of government initiatives, banking evolution, and digitalization heralds a new era for SME lending. As financial institutions embrace technology, leveraging AI/ML and blockchain, they not only optimize operations but also contribute to the economic success of small businesses. In essence, the digitalization wave propels banks into a new era of agile, data-centric lending, ensuring the success of small businesses.
