The missing middle

The struggle of medium enterprises to graduate to the next level

With a plan of spurring economic growth, and creating huge employment opportunities, it has been almost 12 years since the government adopted a strategy to develop medium, small and micro enterprises. Close to a million such enterprises have been formed since then. Nonetheless, their efficacy has not always been in line with the plan outlined in the strategy, due to multifaceted barriers. This holds true especially for medium enterprises that graduated before 2015/16, because of a lack of relevant policy and institutional structures. EBR’s Ashenafi Endale, reports.

The journey of Alebachew and Mastewal Weaving and Garment, which graduated four years ago from a small to a medium manufacturing enterprise in Bahir Dar, has been a bumpy one. Engaged in the production of traditional fabrics made from cotton, the company is among the few Micro and Small Enterprises (MSEs) that managed to graduate to the medium level in the last decade, but they still haven’t been able to make the leap to a large enterprise.
“It isn’t because the company failed to evolve,” explained Alebachew Mihrete, who is a cofounder of the enterprise. “Rather, it is because of the lack of policy and institutional structures to support enterprises like ours.”
The enterprise’s performance supports Alebachew’s argument: it increased its capital from ETB1.5 million in 2014 to ETB19 million currently. “The company also employs 440 people, including two foreign consultants, and exports its items to Israel and the United States,” he added.
However, even though it has annual orders worth USD150,000, the garment company failed to supply even a third of the demand, primarily because of a lack of raw materials. “This year we lost a client from the United States because of long delays,” he explained.
Alebachew’s company belongs to a group of enterprises that graduated from the small to medium level before the 2015/16 fiscal year. These companies are part of ‘the missing middle’. Until the formation of the Small and Medium Enterprises Manufacturing Development Agency (SMEMDA) two years ago, there was no policy or institution dedicated to supporting medium level enterprises. This, in turn, created multidimensional barriers for these enterprises, ranging from poor infrastructure and bureaucratic hurdles, to high lending rates, limited access to finance and a lack of raw materials.
Since the establishment of the Agency, 7,196 small and 5,404 medium enterprises have been registered nationwide by the Agency. However, none of the enterprises have made the leap to the large manufacturing level.
In Ethiopia, businesses with a total investment (excluding buildings) between ETB100,001 to ETB1.5 million are regarded as small enterprises. These criteria do not include those enterprises with advanced technology and high technical consultancy. On the other hand, medium enterprises are businesses with a total capital of between ETB1.5 million and ETB20 million.
Yet, industries like Alebachew and Mastewal, which are on the verge of surpassing the maximum capital threshold for medium industries, have not been able to access land, loans and other supports to make it to the next stage. Even though the enterprise requested land to erect its own factory at a cost of ETB78 million, the Bahir Dar administration hasn’t approved it yet. “We have already leased 178 machines worth ETB10 million, of which we covered 20Pct ourselves. Most of the machines are idle, because our current shed can’t accommodate them,” explained Alebachew.
He told EBR that the Enterprise could hire up to 5,000 employees, if it could undertake the planned expansion. “I have seen a foreign garment company operating in Bole Lemi Industrial Park with just 160 employees. But we have no place to operate. When I go to government offices, a simple service takes two weeks. But when I send my foreign employees, it is done in half a day.”
The same holds true for Tariku Sime, who manages a medium enterprise involved in footwear manufacturing in the Gulele District of Addis Ababa. The company has tried to set up a plant to supply raw material for its footwear manufacturing enterprise, but to no avail. “Our project to establish a factory behind Jemo condominium was buried from the start because of a lack of space,” explained Tariku.
Even though the Ethiopian Investment Commission, and regional and city investment bureaus provided land for some of the businesses to expand on, most of the enterprises that graduated before 2015/16 are stuck.
Tariku says the country has good policies but bad implementation when it comes to supporting small and medium businesses. “Tax holidays, duty free and the like are not great incentives. The biggest incentive is eliminating the bureaucracy and easing the business environment,” he said. “Although close to 45Pct of our raw materials are imported, there is no hard currency. The only input available here is the hide and skin. We have to import the rest, since there is no company to import and supply it for us.”
Alebachew and Mastewal have been facing similar problems. As there is no quality cotton supply locally, they have been forced to import inputs from China, for which they can’t access hard currency. “There are no local industries to process the threads into textiles for us, even though they have the machines. The central bank is reluctant to prioritize hard currency for us, so we are stuck,” stressed Alebachew, whose Enterprise needs 80 tons of raw materials per year, on average.
“We sell a single traditional garment on the local market for ETB3,000. But we export it for ETB2600, because we badly need the hard currency. We can use the foreign currency we earn for the first 28 days. After that, the central bank gives us the equivalent of whatever is left in birr.”
Awol Mohammed, director of Enterprises Transformation and Follow-up at the Addis Ababa Micro and Small Enterprises Bureau says the office facilitates space, loans, and machinery leases, among other things for small and medium enterprises. “But a wide skill gap makes it unlikely that the enterprises will flourish even with support, compounded by a lack of land and other resources,” he added.
Part of the Agency’s work has been supplying ETB90.8 million worth of leased machineries to 2,236 enterprises since its establishment. “There is a scarcity of resources in every aspect to fulfill the demand of over 30,000 enterprises in Addis Ababa, let alone set up new youths,” argues Awol. “However, some have been taking the initiative to go abroad and take trainings and come back and implement the lessons.”
To carry the policy forward, the Development Bank of Ethiopia (DBE) allocated ETB7 billion to finance a lease-financing scheme designed for SMEs in 2016/17, after it included the plan in its service list in the beginning of the current financial year. Four billion birr was carried forward from the previous year because there hadn’t been a policy in place at the time. The Bank pledged to allocate an estimated ETB41 billion for the next five years to finance the scheme. Additionally, the World Bank and European Union recently approved USD250 million to support the credit and machinery lease supply for SMEs.
Of course, the start of lease financing and loan schemes for graduates has contributed more to the growth of enterprises than before, given that there is still a supply gap. Amidst uncertainties, however, officials still hope that the problems faced by medium enterprises, particularly in accessing land, will be solved in the near future. To that end, the government has ordered all regional towns and cities to establish their own industrial zone corporations and develop industrial zones to house small and medium manufacturing enterprises. Small towns are expected to build these on up to 50 hectares of land, while larger towns are expected utilize up to 250 hectares of land.
“Addis Ababa, Bahir Dar and other major regional towns have already started, while others are in process,” says Ashenafi Melese, communication director at the SMEMDA. Yet stakeholders reveal that the hurdles faced by enterprises that graduated to medium industries more than two years ago are discouraging micro and small enterprises to evolve to the next level.
“Micro and small enterprises are refusing to move to the next level. They are even going so far as to register highly reduced capital,” says Awol. “There are enterprises that fulfill the criteria but do not want to graduate, firstly because they are afraid that they will face what other enterprises went through and secondly because there is a big gap between what they can do and what the market needs.”
Ever since the national Micro and Small Enterprises (MSEs) development and promotion strategy was designed 12 years ago, the government has prioritized MSEs for facilitating economic growth, creating job opportunities, providing the basis for the growth of medium and large scale enterprises, and promoting exports. Although the strategy aims to have at least one percent of the total enterprises under the scheme graduating to the next level each year, this had not been the reality for a long time.
So far, amongst 6,000 medium enterprises established since the adoption of the strategy, none have managed to graduate to the next level. The size of an enterprise at startup, access to credit and work premises, appropriate training, linkages to markets, and education are the main factors that determine the performance of enterprises, according to a study entitled ‘The Major Bottlenecks of MSE’s Growth in Ethiopia’, conducted by Ermias Engeda et al., in conjunction with the Partnership for Economic Policy, Department for International Development and the International Research Development Centre.
More than 95Pct of 766,990 enterprises in Ethiopia were micro and small in 2014/15, with many of them occupying the same sheds for the last 10 or 15 years, according to the Agency. The number is now estimated at 900,000. One such enterprise that has struggled to stay afloat is Hagos and Fekadu Furniture Enterprise, located in a five-storey shopping centre in Gerji, Bole District. Owned by five friends, all in their early thirties, the shop is one of the 11 micro and small enterprises located in a shopping centre which has space for 400. “We have not sold a single product in the last six months,” says Fekadu Gebregiorgis, a partner in the enterprise.
The group opened the shop after returning from the Middle East three years ago. Three of the friends formed the enterprise with ETB3,000 and got the shop from the Woreda 13 Micro and Small Enterprise Office in Bole District, for a monthly rent of ETB1,280, before they were joined by the remaining two partners.
“We had experience in manufacturing construction materials, metal, and wood work, so we asked for manufacturing sheds. But they told us none were available so we had to run a retail shop,” Fekadu explains.
The enterprise started receiving and selling sofas and tables from other MSEs. “It cost us close to ETB10,000 to partition and finalize the shop,” says Fekadu.
Fekadu’s shop is one of the 33,000 MSE’s that have been established in Addis Ababa since the 2005/06 financial year. Even though Fekadu and the other enterprises are located in a busy area, they have not been having good luck in business, pushing many of them to leave their shops.
Hagos Woldu, one of the other partners, lists at least two major challenges to businesses located in the building, which was built by the Addis Ababa city administration specifically for MSEs. “First of all, the building has no power, water, sewage system or paved compound,” he says. “Also, there is a biased view towards MSEs in the general population. Customers tell us that because we get help from the government, we should sell our products for cheaper prices. Even if we do, they don’t prefer to buy the same product or service from private businesses, since they consider us political beneficiaries, and not businesses.”
Fekadu points his finger at the government, mentioning that it doesn’t support the businesses enough to improve their quality and competence. “We’re losing from both sides: the customer and the government,” he complained. “Some of our friends have already lost hope and gone back to working in foreign countries. We’re considering that too.”
Out of the 447 micro and small enterprises formed over the last 15 years in the Woreda Hagos and Fekadu Furniture Enterprise is located, only 28 have graduated to medium level. In all of Addis Ababa, amongst 33,000 MSEs, 1,297 have graduated to the medium level.
Hagos, for his part, says his company could graduate to medium enterprise status within two years if the authorities would allow them to change their sector to manufacturing instead of retail. “Three years is not a short time,” he said. “We came back with hope and energy to work but we got stuck in a complicated bureaucracy at each level.”EBR