Making crowd funding work for MSMEs

The Securities and Exchange Commission is working towards introducing a formalized, regulated framework for crowd funding as early as by next year. This is an idea whose time has come.

Already, crowd funding has become a major source of business financing in developed economies around the world, even though they also have stockmarkets and commercial lenders that are willing and able to finance deserving micro, small and medium sized enterprises.

Here in Ghana, where MSMEs are largely unable to access finance from such sources – except through micro-finance institutions that offer credit over very short tenors and at very high interest rates, which combined make the credit prohibitive – crowd funding has huge potential.

Curiously, despite the dearth of credit available to MSMEs, they still nevertheless often find themselves overleveraged. This is because in most cases they start with very little equity capital and then they go on to meet their operational costs through debt to, thus ending up owing large amounts to suppliers, employees, and even the tax authorities.

Crowd financing offers an opportunity to raise more equity and this rely on less debt, which ultimately makes for a more viable and sustainable financing structure. Even where crowd funding provides debt rather than equity, it is still likely to be significantly cheaper than that taken from traditional commercial lenders.

But this newspaper recommends that SEC deliberately favours the use of crowd funding to generate equity rather than debt, and not just to curb excessive debt ratios by beneficiary enterprises. Equity funding is also longer term and makes investors part owners with an active interest in the good fortunes of the enterprise being funded and the authority to insist on prudent management, even if only through competent proxies.

To be sure, emphasis on equity rather than debt through crowd funding would discourage many entrepreneurs from using it as a financing source. But importantly, it would help to sift genuine entrepreneurs from the rest; entrepreneurs with managerial prudence, and integrity are the ones most likely to accept crowd equity investors as their silent partners.

Related to this is our next recommendation that the framework for crowd funding in Ghana be significantly different from the one in developed countries where crowd funding websites are the platforms for raising money from investors.

Using that format in Ghana would amount to giving fraudsters a field day, in the unlikely event that investors would agree in the first place to send money on the basis of an invitation to invest in an enterprise posted on a website.

Indeed, SEC appears to have recognized this, which is why it plans to license dedicated crowd funding companies to raise the monies needed by deserving MSMEs.

However we suggest that not only should such licensed companies be mandated to do due diligence on the MSMEs seeking crowd funding, before raising money for them; they should also have responsibility for directly monitoring how the beneficiary enterprises manage their funds.

If this would stretch their capacity they could be mandated to ensure representation by proxy of crown funding investors in corporate governance of the beneficiaries, by selected investors themselves, in the same way shareholder groups secure representation on corporate boards at annual general meetings.

These strategies would increase the chances of investors making good on their investors. Because if they do not, for whatever reason, this good initiative would not last very long before going up in the flames ignited by irate investors.