Credit Guarantee Corporation Malaysia Berhad Steering SMEDevelopment in Malaysia

Credit Guarantee Corporation Malaysia Berhad

Abstract

This article is presented with the sole purpose of providing an insight into SME sector

development in Malaysia, Credit Guarantee Corporation Malaysia Berhad’s (CGCMB) role in

nurturing SME development and the various initiatives being undertaken to assist SMEs access

to financing.

Briefly, CGCMB is the leading provider of credit enhancements in Malaysia and it has

been instrumental in the establishment of more than 365,000 SMEs since its inception 35 years

ago. The SMEs are considered as the engine of nation’s economic growth and as such, their

continued growth and contribution are promoted and monitored by various ministries and

government agencies. In recent years, SMEs have received greater attention from the

government as was evident with the increased allocation of funds and resources for the

development of identified sectors that have great potential for growth and prominence given in

the Ninth Malaysia Plan.

Institutions that are entrusted with the task of nurturing SME development such as

CGCMB are expected to step up efforts to strengthen the infrastructure of SME financing. The

initiatives undertaken by CGCMB in further expanding its SME outreach as well as its move to

achieve financial sustainability are addressed in this article.

Key Words: Transformation, Financial Sustainability, SME Outreach, Guarantee

Beneficiaries, Islamic Guarantee, Securitization, Equity Funding and Venture-

Capital Investments

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Credit Guarantee Corporation Malaysia Berhad Steering SME Development in Malaysia

I. Introduction

Credit Guarantee Corporation Malaysia Berhad (CGCMB) was incorporated on 5 July

1972 under the Companies Act 1965. Its shareholders are Bank Negara Malaysia (the Central

Bank of Malaysia) (76.4%) and the financial institutions (23.6%) operating in the country. It

was established with the primary objective to assist SMEs, especially those without or with

inadequate collateral and without business track record, gain access to financing from the

participating financial institutions at a reasonable cost. It is also to assist the government with

its efforts in promoting and developing identified business sectors.

In the early years, CGCMB focused on helping small enterprises in the agricultural,

commercial and industrial sectors. It first introduced the Credit Guarantee Corporation (Small

Loans) Guarantee Scheme in 1973. Credit facilities eligible for guarantee under the scheme

could be used for working capital or for capital assets. The maximum for individual loans

ranged from RM5,000 to RM75,000, depending on the purpose and size of the enterprise.

Since 1994, CGCMB’s target groups have been expanded to include medium-sized

businesses so as to better complement the government’s efforts in promoting and developing

businesses in certain industries. The loans guaranteed now ranges from as low as RM10,000 to

RM10 million.

II. Industry Analysis

A. SMEs and their Growing Importance to Malaysian Economy

SMEs have a significant presence and role in the Malaysian economy as there are more

than half a million of them, making up 99.2% of total business establishments in the country.

According to the Census of Establishments and Enterprises 20051, a census carried out on

business enterprises in major sectors of the economy namely, agriculture, manufacturing and

services, SMEs are the major source of employment, providing employment for over 5.62

million workers and accounting for 56% of total employment.

Though SMEs form a bulk of business enterprises and remain the biggest employers, their

contribution is still relatively small, contributing only about 19% to total export value and 32%

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1 SME Annual Report 2005, Bank Negara Malaysia (Central Bank of Malaysia).2 Annual Report 2006, Bank Negara Malaysia.

of gross domestic product. Similarly, their productivity levels are also found to be significantly

lower than that of large enterprises with average value added per employee of just RM14,740,

compared with RM47,830 generated by large enterprises. The SMEs are largely family-owned

businesses and are generally small-scaled with 77% of them employing less than 50 employees.

Due to their small-scaled size, majority of them cater to the domestic market with only 8%

exporting their products and services.

During the period 1996-20053, output by SMEs in Malaysia registered an average annual

growth rate of 5.1%, increasing from RM52 billion or 22.1% of total manufacturing output in

1996 to RM80.5 billion or 29.6% in 2005. During the same period, SMEs registered an average

annual growth of 5.4% in terms of value-added. In 2005, the growth of value-added by SMEs

was 9.2%, against the overall growth of 9.8% for the manufacturing sector.

In the manufacturing sector, the textile and apparel forms the bulk of the SMEs

representing 18.2%, while food and beverages (15.2%), metals and metal products (14.8%) and

wood and wood products (14.1%). In terms of location, majority of the manufacturing

companies are located in the central region of Malaysia and around the major industrial areas.

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Credit Guarantee Corporation Malaysia Berhad Steering SME Development in Malaysia

3 SME Annual Report 2005, Bank Negara Malaysia.

Table 1 Distribution of SMEs in the Manufacturing Sector (by Sector) in 2000

Source: Small and Medium Industries Development Corporation (SMIDEC) 2004

According to the Department of Statistics’ year 2000 census, of the 192,527 establishments

in the services sector, 96.7% were SMEs and 88% were in retail and wholesale, 4.4% in

education and health, 2.9% in professional services and 2% in transport and communication.

B. National Plan for SME Growth

Recognizing the critical role of the SME sector in the economic development of the nation,

the government of Malaysia has made SME development as one of its priorities. In its ninth 5-

Year Plan (2006-2010), the government undertook a holistic and comprehensive approach to

support the development of competitive and resilient SMEs in all sectors. It encompasses three

broad strategies of strengthening the enabling infrastructure; building the capacity and

capability of SMEs; and enhancing access to financing. With these initiatives in place, the

government hopes to upgrade SMEs in a systematic and sustainable manner, and enhance their

contribution to Malaysia’s economic expansion and development. Essentially, this is to develop

its own domestic enterprises, in particular SMEs to have significantly higher value-added

contribution to the economy.

Following the report by Bank Negara Malaysia entitled A Comprehensive Framework

For The Development of SMEs, the government set up an inter-Ministry Steering Committee

in October 2002 to examine the areas in which efforts were needed to enhance the institutional

framework for the development of SMEs. One of the important recommendations of the report

was the establishment of the National SME Development Council in June 2004 as there were a

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Table 2 Public Sector Support for SMEs

Source: SMIDEC and Small and Medium Industries Development Plan (SMIDP), 2001-2005.

number of Ministries and government agencies involved in SME development and coordination

was apparently lacking. The Council is chaired by the Honorable Prime Minister of Malaysia

and members of the Council comprise representatives of the Ministries and agencies which play

a role and contribute to SME and entrepreneurial development in the country. The high-powered

Council provides the direction for comprehensive and coordinated development of SMEs by-

1. Formulating broad policies and strategies and providing strategic direction for the

development of SMEs across all economic sectors; and

2. Overseeing coordination and ensuring effectiveness in policy implementation.

The Council has approved a number of strategic initiatives under three main areas for SME

development as follows:

1. Strengthening the Infrastructure

a) Establishment of a comprehensive national SME database that would facilitate more

effective policy formulation;

b) Establishment of a standard SME definition to ensure no SME is excluded from

development efforts; and

c) Framework for SME policy formulation and evaluation which is performance driven

and would give greater strategic focus in the government’s efforts to develop SMEs.

2. Building the Capacity of Domestic SMEs

a) Coordination of training and human resource development by a dedicated agency

(Pembangunan Sumber Manusia Bhd.), under the Ministry of Human Resources to

coordinate and oversee training and human resource development programs for

SMEs; and

b) Measures to enhance marketing and promotion of SMEs and their products by the

Ministry of International Trade and Industry and the Ministry of Domestic Trade and

Consumer Affairs.

3. Enhancing Access to Financing by SMEs

a) The establishment of the SME Bank by the government to complement the banking

institutions through the provision of financial and non-financial services;

b) Interest subsidy on loans to SMEs as a strategic initiative to further extend

accessibility to financing at more reasonable costs to SMEs;

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Credit Guarantee Corporation Malaysia Berhad Steering SME Development in Malaysia

c) Securitisation of SME loans to provide greater flexibility to banking institutions in

managing their SME loan portfolio and further enhancing their capacity to provide

lending to SMEs; and

d) New trade financing arrangements to encourage SMEs to participate in the export

markets.

NSDC National SME Development Council

MITI Ministry of International Trade and Industry

MECD Ministry of Entrepreneurial and Cooperative Development

MOF Ministry of Finance

MOSTI Ministry of Science, Technology and Innovation

MHR Ministry of Human Resources

ICU Implementation and Coordinating Unit, Prime Minister’s Department

BNM Bank Negara Malaysia (the Central Bank of Malaysia)

Figure 1 Relationship between CGCMB and Related Government Agencies

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C. Standardization of SME Definitions

As there were a large number of Ministries and agencies involved in SME development,

the definitions of SME were varied with each Ministry and agency defining SMEs based on

their own criteria, generally based on annual sales turnover, number of full time employees and

shareholders funds. With no standard definition, the government was confronted with much

difficulty in collecting and compiling SME data for assessment of development needs and

business performance across the economic sectors. To assist in better identification and more

effective targeting of SMEs in terms of formulation of policies and programmes, the National

SME Development Council issued in 2006 standard definitions for SMEs in the manufacturing,

agriculture and services sectors. Two main criteria were used in defining SMEs - annual sales

turnover and number of employees. For a broader coverage, businesses that meet either one of

the criteria qualify as an SME.

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Credit Guarantee Corporation Malaysia Berhad Steering SME Development in Malaysia

Table 3 SME Definitions Based on Number of Full-time Employees

Source: SME Annual Report 2005

Table 4 SME Definitions Based on Annual Sales Turnover

Source: SME Annual Report 2005

III. CGCMB’s Role in SME Sector Development

A. CGCMB in the Context of the Overall Scheme of SME Sector Initiatives

and Focus

With the establishment of the National SME Development Council to further enhance the

government’s role and greater coordination and focus in SME development across the various

stakeholders and with the release of SME Development Blueprint, the existing infrastructure on

access to financing for SMEs was strengthened to ensure a more effective channeling of funds,

provision of financial advisory support and enhancing awareness on financial products and

assistance programmes to SMEs.

One of the initiatives to strengthen the infrastructure of SMEs financing access is the

transformation of CGCMB, which entailed the enhancement of the Corporation’s role and the

expansion of its products and services to meet the changing needs of SMEs. CGCMB took a

holistic approach in terms of its expansion of products and advisory services on financial and

business development. These services are aimed at facilitating greater lending role to SMEs as

well as promoting sound financial management practices among the SME community.

B. Attaining Financial Sustainability

CGCMB embarked on its 3-year business transformation plan in early 2006 to transform

itself from a traditional guarantee provider into an effective and financially sustainable

institution that offers a broader range of products and services for SMEs at competitive terms.

The major focus of its new mission is for the Corporation to achieve financial sustainability.

Financial sustainability in the context of CGCMB is to achieve financial independence by

weaning itself from its current dependence on subsidized funds from the government and Bank

Negara Malaysia.

CGCMB has identified a number of strategies to help it to achieve financial independence,

critical one being the expansion of the range of its products which incorporate a pricing

methodology that imposes guarantee fee based on SME borrowers’ risks. Through risk-adjusted

pricing methodology, CGCMB is essentially recognizing and mitigating its risks as the risk

sensitive pricing mechanism is based on breakeven point whereby risks are valued in terms of

costs. SMEs with better risk rating would welcome the new pricing mechanism being

incorporated in the loan approval process as it will enable them to enjoy more competitive

guarantee fee compared with high risk borrowers. In addition to the adoption of risk-adjusted

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pricing mechanism, CGCMB is also exploring to embark on capital market activities to help it

to achieve financial sustainability.

Moving forward, CGCMB will fundamentally be a commercially driven institution.

However, the social development role that it assumed since its inception in the early 1970s

would not be sidelined. Its future involvement in social development role in the SME sector

would hinge much on the extent of government funding.

C. SME Outreach

1. Guarantee Schemes

As Malaysia’s leading credit enhancer for more than three decades, CGCMB has to-

date been instrumental in the establishment of more than 365,000 businesses,

guaranteeing over RM36 billion worth of loans. It currently offers both conventional

and Islamic guarantee facilities for SMEs from the various sectors of the economy and

the guarantee coverage ranges from 30% to 100%.

a)Conventional Guarantee Schemes

(1)Direct Access Guarantee Scheme

(2)Small Entrepreneur Guarantee Scheme

(3)Flexi Guarantee Scheme

(4)Credit Enhancer Scheme

b)Islamic Guarantee Schemes

(1)Islamic Banking Guarantee Scheme

(2)Islamic Direct Access Guarantee Scheme

2. Scope of Guarantee Beneficiaries

As a part of its transformation plan, CGCMB took several initiatives to further enhance

the outreach of its credit guarantee schemes to benefit a wider cross-section of the SME

community by expanding its beneficiaries to non-shareholder financial institutions.

a)Expansion of Scope of Guarantee Beneficiaries to Islamic Banks

Prior to 2006, only those financial institutions which are shareholders of CGCMB

could avail of the guarantee schemes and facilities offered by CGCMB. In 2006,

CGCMB made the strategic move to open its scope of guarantee scheme beneficiaries

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Credit Guarantee Corporation Malaysia Berhad Steering SME Development in Malaysia

to also non-shareholder financial institutions operating in the country. In line with this

liberalisation move, CGCMB forged strategic alliances with the Islamic financial

institutions in Malaysia to reach out to SMEs that prefer Islamic products for their

financing needs. CGCMB saw great potential in this partnership as Islamic finance

has not only experienced significant growth but is increasingly becoming a more

competitive form of financial intermediation in Malaysia as evident by the

encouraging performance of the Islamic banking sector.

Over the last five years, the Islamic banking industry registered double-digit growth

rate of about 20 percent. Financing to SMEs extended by the Islamic financial

institutions registered an increasing trend, growing at an average annual rate of 34.2%

during the period 2001 to 20064. As at the end of 2006, Islamic financing to SMEs

reached RM10 billion, representing 9.6% of total SME loans outstanding of the

banking system compared with only RM1.7 billion in year 2000.

Pursuant to a recent announcement by the government to establish Malaysia as an

international Islamic capital market center, the involvement of CGCMB in supporting

Islamic financial system is expected to become more vital.

b)Expansion of Scope of Guarantee Beneficiaries to Development Financial

Institutions

Recognizing the increasing focus and emphasis given on the role of the development

financial institutions (DFIs) that were set up to accelerate the growth of strategic

sectors identified by the government, CGCMB also initiated efforts to expand the

beneficiaries of its credit enhancement facilities to include these institutions, currently

numbering about 13. Bringing these institutions on board will not only provide

additional conduits for CGCMB to reach out to more SMEs but also provide alternate

avenues for SMEs to source their financing needs.

In 2006, six DFIs had approved RM6.9 billion of financing to more than 18,000 SME

accounts. Loans extended by DFIs to SMEs increased by 9.9% to RM13.2 billion as

at end 2006.

3. Expansion of Product Range

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4 Bank Negara Malaysia Governor’s Keynote Address at The Launch of Strategic Partnership between CGCMB andIslamic Financial Institutions - Feb 2007.

With increasing demand from SMEs for more customized and differentiated financial

products and services that accommodate their unique financial requirements, a

reflection of the diversified nature of the Malaysian economy, CGCMB undertook

various initiatives to provide not only innovative products but also attractive financing

packages and alternate sources of funding.

a) SME Loan Securitization

The Malaysian government has been continuously supporting SMEs in availing

access to credit at reasonable cost via its various funds. With the increase in demand

for such funds, the government has to consider other alternatives in the long run.

One such alternative form of financing is securitization of SME loans of financial

institutions.

Securitization of SME loans provides an alternative-financing mode for SMEs and

enhances access to financing at a lower cost via the capital market. It helps to

provide better risk diversification and enhances financial stability. The securitization

framework and its capital impact for the originator are premised on the expectation

that securitization is used to transfer significant level of credit risk to the capital

market.

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Credit Guarantee Corporation Malaysia Berhad Steering SME Development in Malaysia

Table 5 Benefits of Securitization of SME Loans

CGCMB has in early 2007 entered into the first ever SME loan securitization in

Malaysia, a move that paves the way for SMEs to secure funds from the capital

market through the issuance of bonds, asset securitization and collaterised loan

obligation. This initiative provides the originating financial institution with capital

relief to reduce the normal level of its own funds set aside against its credit exposure

to cover unexpected losses. The economic capital therefore, is a function of the

underlying loan portfolio risk as well as the financial institution’s policy to provide

capital cover for unforeseen events. The financial institution is able to transfer its

credit risk to the capital market, thereby enabling the capital relief from this

transaction to be channeled back to the SME sector.

b) Equity Funding

The growth in the private equity industry of the Malaysian economy has been slow

since its inception in the 1980s, with only around 17 major private equity type

transactions completed since the Asian Crisis of 1997. Such transactions have also been

very few in the SME sector. However, the increasing interest in the SME sector

resulting from increased resources and investments since 2004 has boosted the investor

confidence in the industry.

The government views venture capital as an important alternative to traditional sources

of financing. As a result, Malaysia’s nascent venture-capital (early-stage private equity)

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Figure 2 Structure of the First Synthetic Securitization Deal and CGCMB’s Participation

industry has been expanding rapidly, with most of the venture-capital firms linked to or

backed by the government. The government accounted for 37.8% of total venture funds

as at the end of 20055. In line with the government’s efforts, venture capital investments

from domestic private sector entities increased by 20% in 2005 (2004: 35.1%). In 2005,

foreign sources recorded the highest growth in investments (over 50%), totaling

RM262.2 million. This is followed by banks and other private sector entities.

According to Bank Negara Malaysia, a total of RM432 million was invested in 101

companies in 20056. This brought the total venture-capital investments as at end 2005 to

RM1.4 billion. The main beneficiaries were the Information and communications

technology firms, receiving 45.9% of all funding, followed by manufacturing sector

(20.3%) and companies in the life sciences (18.8%).

In line with the need for providing another avenue of financing to SMEs, CGCMB

ventured into equity funding activities. It had recently signed a joint venture agreement

with Aureos Capital Ltd to pave the way for greater access to SME financing. Aureos

Capital was identified as CGCMB’s strategic partner as it is a leading global manager of

24 SME private equity funds in Africa, Central America and Asia/Pacific with a total

committed capital under management of more than US$570 million.

The joint-venture agreement culminated in the establishment of a new company called

Aureos CGC Advisers Sdn Bhd. The aim is to provide equity funding (Fund) to selected

SMEs to not only grow and expand their business domestically and across the region

but also penetrate newer markets by leveraging on the wide global network presence of

Aureos. The Fund is contributed by both local and international institutions. The fund’s

first closing of USD25 million was in July 2007. With this collaboration, CGC hopes to

create a platform for a wide spectrum of investors to participate in the Fund to reach out

to SMEs requiring equity investments.

The Fund’s focus is on equity and quasi-equity investments in SMEs in Malaysia. The

Fund will concentrate on expansions, replacement capital transactions and acquisitions,

including management buyouts (MBOs). The Fund would generally take significant

minority equity stakes in investee companies, with board representation and the right to

participate in or influence the conduct of management.

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Credit Guarantee Corporation Malaysia Berhad Steering SME Development in Malaysia

5 Annual Report 2005, Bank Negara Malaysia.6 Annual Report 2005, Bank Negara Malaysia.

c) SME Credit Bureau

Historically, SMEs are considered a high risk group lacking in financial discipline and

unable to provide trustworthy financial track records. In view of the general lack of

positive perception, a major reason cited for their poor credit rating and bankability

by the financial institutions, SMEs found it rather difficult to gain greater access to

financing facilities. To overcome this perception, adequate and reliable credit

information mechanism, such as SME credit bureau was deemed a necessity to serve the

needs of both the SMEs as well as the potential lenders. Recognising the need, CGCMB

took the initiative to establish an SME credit bureau in partnership with Dun &

Bradstreet, a global operator and provider of credit bureau and risk management

solutions.

One of the most important roles of the bureau is to make available SME information,

which includes their operational and financial status to potential lenders. In addition to

relevant and timely information, potential lenders could also take comfort that the

information is independently provided, hence increasing its reliability. Currently,

information available for lenders to assess the creditworthiness of SMEs in Malaysia is

generally fragmented. Although there are a number of parties providing information on

SMEs, the information are mostly tailored towards specific requirements and does not

add the necessary values required from the perspective of potential lenders.

To bridge this information gap, the SME credit bureau would effectively consolidate the

fragmented information. This convergence of data from various sources would result in

a convenient, timely and efficient access to SME information and credit ratings to assist

the potential lenders to make a more objective evaluation of loan applications. With the

establishment of an SME credit bureau, significant opportunities exist to increase

lending activities to SMEs in Malaysia. The SME credit bureau also aims at promoting

greater transparency, professionalism and sound credit culture among SMEs. It is indeed

a big step towards a more sophisticated and transparent financing environment for

SMEs in Malaysia.

IV. Challenges Ahead

The upside potential of the SME sector, further enhanced by government’s concerted

efforts and focus in the sector, is generating greater interest among the financial institutions to

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gain a bigger share of the growing pie of SME financing. To remain relevant in the increasingly

competitive environment, CGCMB will have to continuously introduce innovative products and

services for SMEs and at the same breath able to manage the risk implications to ensure that the

net returns are in favour of CGCMB.

Transforming from an institution with high content of social consideration to a

commercially driven and self sustainable institution, by itself poses a major challenge to

CGCMB. Over the past three decades, the Corporation’s role and focus on promoting SME

sector development has generally been social developmental in nature, with guarantee fees

imposed very much subsidized. Following the recent change in strategies and directions under

the transformation plan, the Corporation is moving towards being a commercially-driven, self

sustainable credit supplementation institution. Various initiatives are needed to enable CGCMB

to wean itself from its current reliance on subsidized funds from the public sector.

To better serve the SMEs, the commercially-driven CGC would need to offer products and

services that are complementary to those provided by the financial institutions, and offer them

at competitive and not subsidized terms to enable CGCMB to achieve financial sustainability.

This in itself necessitates the Corporation to strike a right balance between the risk to be

undertaken and guarantee fees to be charged against the overarching objective of promoting

SME sector development.

CGCMB has been the sole provider of credit guarantees for SMEs whereby financial

institutions rely on CGCMB’s guarantee schemes for loans to SMEs, particularly those without

collateral and track record. However, with the change in the financial institutions’ credit

policies, the financial institutions are now stepping up effort to secure the SME market. With

robust credit assessment systems in line with the BASEL II requirements, the institutions have a

much higher risk appetite. The challenge for the Corporation is to remain relevant to SMEs as

well as the lending institutions.

CGCMB, nonetheless, welcomes healthy competition as it can only benefit the SMEs and

indirectly the overall market, thus meeting the nation’s objective of creating access to financing

with attractive cost for SMEs.

References

Bank Negara Malaysia, Annual Report 2006.

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Credit Guarantee Corporation Malaysia Berhad Steering SME Development in Malaysia

Bank Negara Malaysia, SME Annual Report 2005.

Credit Guarantee Corporation Malaysia Berhad, Annual Report 2006.

Malaysia Rating Corporation Berhad, Credit Analysis, July 2007.

Small and Medium Industries Development Corporation (SMIDEC), 2004.

SMIDEC and Small and Medium Industries Development Plan (SMIDP), 2001-2005.

Ninth Malaysia Plan, 2006-2010.

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