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The Role of Small and Medium Enterprises in Job CreationNigel TwoseDirectorDevelopment Impact Department1Large is beautiful2

Source: Enterprise SurveysLarger firms tend to be more productive, pay higher wages, offer more training and often better working conditions.Firms training, wages and labor productivity by firm size and country income groupLarger firms pay higher wagesFigure uses 138 household and labor force surveys for 33 countries over 19912010.Source: Source: WDR 2013 team based on Montenegro and Patrinos (2012)Compared to micro enterprises, small firms typically offer a wage premium of 1030%, but large firms offer a wage premium of 2050%.

2Then why do SMEs matter?SMEs address a developmental challenge: Job creationJobs are the pathway out of poverty, and promote shared prosperity.SMEs account for over 80% of net job creation and 67% of jobs in developing countries.195% of formal jobs in LICs and 70% in MICs.1 Job growth rate of smaller firms is twice the average of all firms. SMEs have potential to increase productivity, raise wages and reduce poverty. Create value in the supply and distribution chain by providing materials and services, and distributing goods of larger enterprises.Can foster innovation, improve competition and facilitate labor migration to more productive sectors of the economy.1 Source: Ayyagari, Demirguc-Kunt, et. al. (2011) 3Firm Size WBG Definition: # EmployeesEnterprise Surveys Definition: #EmployeesIFCs Financial Markets Definition: Loan Size Bucket in USDMicro0-100-4$1K - $10KSmall10-495-19>$10K - $100KMedium50-29920-99$100K - $1M*Large>=300 >=100 >$1M**US$2 million for more advanced countries, including Argentina, Brazil, Chile, China, Colombia, India, Korea, Mexico, Morocco, Peru, Russia, South Africa, Thailand, Tunisia.

INTERNAL USE ONLY34But not all SMEs can grow into large firmsSmaller companies are more likely to go out of business, and face stunted growth, which impedes economic growthThis is particularly important in lower income countries since small firms have the highest share of employment.4

Source: Hsieh and Klenow (2011) Many firms are born small and grow little (stunted growth)45* Small= 5-20 employees, medium= 21-99 employees, large >= 100 employees. Source: WBGs Enterprise Surveys covering 46,566 firms in 106 countries.

Firm SizeCountry income groupConstraints that stunt SMEs growth potentialAccess to Finance: The major obstacle for SMEs. MENA: lowest access globally (20% of SMEs have credit line from financial institution).Infrastructure: Reliable power supply is major constraint in low-income countries.MENA: Approx $106 bn annual infrastructure investment & maintenance needs by 2020 = 6.9% of MENA GDP. Infrastructure jobs represent ~8% of jobs in MENA (average).Investment Climate: Informality is a key issue in middle-income countries and SMEs. Taxation is an important constraint for high-income countries.MENA: Informal sector produces about 1/3 of GDP; 67% of workers are employed informally.56Additional developmental challenges for MENAFindings

ChallengesOften prosperous, but need to generate sustainable jobs outside resource sectorSome countries have weak institutions for their level of wealth, important to form/implement policies to generate jobs in non-resource sectorsResource rich countries67High Growth SMEs (HGS) create the majority of new jobs in developed markets:USA: 4% of private firms, but create 70%+ of net new jobs.1Europe: 510% of firms, but create 5080% of jobs.2IFC definition: HGS have 10-250 employees, and experienced 20% average annual sales growth for 3+ years.

So which SMEs can grow?Growth orientation The best predictor of growth is the desire for growth.Some organizations propose psychometric testing to assess entrepreneurial characteristics (e.g. IADB, Awethu Project in S. Africa, BDC in Canada). ExperienceEntrepreneur has track record and knows the sector. Start-ups are not a safe bet look for firms that are 3 to 10 years old. Some basic education needed, but advanced not required. OpportunityEntrepreneur sees an opportunity, and is not afraid to take a chance. May pursue undefended niches in 2nd and 3rd tier cities.How to identify HGSBox source: IFCs SME and Jobs Committee. IFC interviewed relevant organizations. These are the most common factors mentioned by the organizations interviewed, and backed up by research. Additional sources: 1 Birch et al; 2(Holzl)

78Encourage financial institutions to lend to SMEsPromote scaling-upStrengthen financial infrastructure Provide advisory support to improve organization, processes, credit assessment, monitoring capabilities, and information technologyHow can we best support SMEs?Source for figure on IFC products through impact: SME and Jobs Committee (2012) SME and Jobs, May.Underserved SMEsWomen owned BusinessesValue Chain PartnersSMEs in Fragile StatesClimate Mitigation Commercial BanksNon-Bank Financial InstitutionsPrivate Equity FundsFinancial Infrastructure ProvidersDFIs

LoansEquity Risk Mitigation

Bank Capacity BuildingFinancial Infrastructure

SME TrainingProducts Partners in Development Target SMEsImpact Growth Improve productivityIncreased Income

Inclusion & Jobs

Poverty Alleviation 89IFCs activities focusing on SMEs and job creation1. Strengthen our reach to SMEsProve innovative equity investment concept: SME VenturesImplement investment climate reforms for SME enabling environment e.g. business entry reforms, credit bureaux, collateral registriesProvide financing and advisory services to help SMEs growth Improve access to infrastructure (e.g. power reliability)Provide finance through corporate value chains, not only financial institutions.

2. Invest in deepening our shared understand of job creationMicro-case studies for manufacturing, agribusiness and services sector (India, Ukraine, Indonesia, and Africa) as well as financial markets (Sri Lanka, Pakistan, Lebanon and Argentina)Macro-case studies in Tunisia, Jordan, Sri Lanka and GhanaDirect, indirect and induced.9Innovative Investments: SME VenturesEstablished in 2010 and focused on fragile states offers blend of risk capital and advisory services. Currently offered in Liberia, Sierra Leone, Central African Republic, DRC, Bangladesh and Nepal. Since inception, the local Fund Managers have invested USD $6.8 million in local SMEs. Advisory offering includes management and financial skills training for SME owners and managers, improved governance for SMEs, investment climate, and envt & social guidance. Challenge: Is there a viable market niche for funds?Lessons Learned from SME Ventures SuccessesChallengesDemonstrates how to reach SMEs in fragile statesDifficult to do in local currencies Raises market awareness about private equityLimited scale how can we operationalize in many more countries?Enables local SMEs to improve operations, governance and accountabilityLimited SME experience and capacity of fund managersProvides tailored support and assistance to the businesses in which the local Fund investsReluctance to straight equity by local entrepreneurs10Habib Bank: Pakistan Electricity is a main constraint to business growthSMEs prefer to use short term instead of longer term loans for funding needs, from working capital to capital investments. Micro-case studies: Lebanon and Pakistan11From 2000 to 2010, 494 Firms financed by IFCs private equity funds created, net of job loss, ~300K jobs Strong growth compared to small portfolio.Fransabank study: Lebanon Access to finance is major concern for entrepreneurs with limited track record or without relationship with the BankYouth prefer unemployment to working part-time or in low-skilled jobs

Common preliminary findings:SMEs are mostly family businesses Limited SMEs with women owners or managersFirm growth and job creation have been significantly affected by political instability and economic downturnJob preservation was considered a success, given limitations of enabling environment

1112Micro-case studies: Sri Lanka

Commercial Bank of Ceylon in Sri Lanka* Annual job growth 12% (two times the economy)Job creation ~2.7K Equal for men and women More labor productivityExtrapolation: 140K to 330K jobs 1.4 4.3% employment in 201110 to 31 jobs created per $100K of credit provided*Note: Study has methodology caveatsDirect JobsIndirect JobsMultiplierSector, CountryMriya2,5057,3903Agribusiness, UkraineSafal*4,20024,0006Steel, AfricaPRAN2942,1987Agribusiness, BanglshEcogreen1773,64621Chemicals, IndonesiaOCL2937,15624Cement, IndiaMicro-case studies in Manufacturing, Agribusiness and ServicesSupply chains & distribution networks provide multiple of direct jobs

Invest in labor intensive sectors and Financial Institutions (FIs)Invest in larger non-FIs & sectors facing international competitionJordanShort-term job growthLong-term job growth13TransformationsJordan (Employment per $million invested)Direct/IndirectInducedFIs107+40%Non-FIs14+45%Higher number of jobs can be associated withlower value added per job1. Macro and Sector LevelStep up competition increases the incentive to reach out to SMEsOvercome information asymmetries (e.g. credit bureaus, collateral registries)Study other approaches to support SMEs (e.g. supply chain finance, new technologies)Liberalize to encourage entry and lending, but enforce prudential regulations Step up shared learning on job creation effects2. Client LevelIncrease/guarantee funding to financial intermediaries for underserved groupsthe primary constraint is capitalFund through corporate value chainsTrack jobs and implement micro-case studies3. SME LevelTry to identify/support High Growth SMEs through higher risk financing, plus advisory supportImplement comprehensive approaches for youth employment and entrepreneurship training e.g. E4E, but alongside capital, not self-standing trainingConsider informal SMEs for skill development programs, but create incentives to formalizationFocus on under-served segmentsConsider cash transfer programs!

14The way forward14ANNEX1515

Gender difference is strongest in MENA in shares of farming, self-employment and wage jobs.Labor productivity has been stagnant in MENA for many years.Jobs in MENA vs. Other Regions

1616Countries with High Youth Unemployment *Demand for jobs for the young typically outstrips supply.Mostly rural (e.g. SSA) or urbanizing (e.g. MENA); solutions differ.Policies and institutions, especially around education and private sector growth, are typically weaker for countries troubled by youth idleness and unemployment. Essential part of solution is appropriate skills development, with foundation laid by good education.

* 2013 WDR1717E4E strategyE4E focuses its interventions on targeted sectors constrained by skills gaps (priority growth sectors) and cross-cutting enablersBased on E4E Status Update: Pursue sector solutions (retail (MAF), construction, health care) following deep dive analysis by leveraging IFC partnerships and clients (including large employers)Invest in a range of provider types to maximize impact and reach (e.g. education providers, content developers, student lending, banks, education funds, etc.)Bringing to bear IFCs global footprint and network (e.g. LAC Study Tour, global IFC clients)E4E Priority Heat MapJordanEgyptMoroccoTunisiaTourismConstructionISHealthcareISICT/BPO/OffshoringASASLogisticsManufacturingASRetailISHigh potentialLow potentialNote: IS = Ongoing IS project, AS = Ongoing AS project; Status as of October 2012181819Finance: Smaller firms have less access to financing

Source: IFC (2010). Scaling-up SME Access to Financial Services in the Developing World.

Use of bank financing: Small firms: 14%Medium firms:18%Large firms:25%Source of financing for working capital and fixed investment needs (%)1920Informality has barely decreased worldwide in the last decade going from 52.8% to 49.1%.Almost one third of workers worldwide are still poor, and about half of them are informal, with women accounting for a disproportionately large share of the informal workforce.Informal firms provide a large portion of jobs in developing countries, but informality is closely linked to poverty

Source: ILO, IMF, World Economic Outlook.

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