“The Unseen Sector”: Research paper by International Finance Corporation & World Bank

Meeting report

The Chairperson said that reports were clearly indicating that small, medium and micro enterprises (SMMEs) were dying. The triple challenges which the country was faced with were poverty, unemployment and inequality. The numbers of the unemployed were growing daily, especially among the youth. This was a huge crisis. If there were no interventions to address these issues, the country would not be at peace. SMMEs could not continue to remain stagnant, they needed to grow.

The Committee had received the reports about the fifth Parliament. They were not here to complain, but rather to determine the gaps and make plans to fill them. The Department needed to interact with the private sector and people who had knowledge so that they could close that gap. Their role as a Portfolio Committee was to do oversight in the Department.

Committee matters

Ms M Lubengo (ANC) moved the adoption of the agenda, which Mr H Kruger (DA) seconded.

Mr King Kunene, Committee Secretary noted that there had been an amendment to the 3rd term Committee programme. The Committee was to be briefed by the International Finance Corporation (IFC) & World Bank Group, as well as the German Cooperative and Raiffeisen Confederation (DGRV). On 20 November, the Committee would receive a briefing on the 2019/20 performance report, with the findings and recommendations of the Auditor General (AG). On 27 November, the Committee would have the 2019/20 annual revised annual performance plan.

In this term, the approach was more on inducting and capacitating Members on the work that the Committee would have embarked on. On 4 December, the approach would be summarising what had to culminate in the processes of making legislation. 

Mr Kruger moved the amendments, which were seconded by Mr H April (ANC)

Mr T Langa moved for the adoption of the minutes, to which Mr Kruger seconded.

 

“The Unseen Sector”: International Finance Corporation (IFC) & World Bank briefing

Mr Rajeev Gopal, Senior Country Officer, IFC, said the IFC was developed in 1996 and had been operating in South Africa since 1994. South Africa was now their largest portfolio in Africa. Among other roles, the IFC also offered advisory services to help develop SMMEs. They worked across a range of sectors, but SMMEs were its focus.

Ms Amrei Botha, Senior SME Specialist, IFC, said “The Unseen Sector” was an in-depth assessment of the micro, small and medium enterprise (MSME) landscape in South Africa. The report offered a foundation for constructive dialogue between the public and private sector to strengthen MSMEs and their contribution to the South African economy and job creation.

The report measured the MSME sector size, the MSME financing availability and illustrated the key barriers they face in terms of access to finance, skills and markets in South Africa.

The report findings had been generated from research and interviews on the business, financial and regulatory environment related to MSMEs. The IFC and the World Bank had produced the report with the help of Genesis Analytics, in partnership with South Africa’s National Treasury.

“The Unseen Factor” formed part of the IFC’s SME “Push Programme” focused on optimising the job creation potential of MSMEs.

What did SA’s MSME sector look like?

• In SA, MSMEs employ between 50-60 percent of South Africa’s workforce;
• They contribute 34% of the gross domestic product (GDP);
• Its market size was approximately 5.78 million, of which only 14% was formalised;
• Total funding provided to the MSME sector was currently R230 billion;
• Commercial banks account for the majority of the financing extended to formal MSMEs, representing 68.9% (R160 billion) of the current formal MSME funding supply.

The IFC worked with partners to grow the MSME sector because they believed small businesses had a vital role to play in the economy. The aim of the report was to reach under-banked and financially excluded MSMEs; to increase MSME formalisation rates; to optimize the job creation potential of MSMEs; to spark increased public-private sector collaboration; and to reduce unemployment and thereby poverty and inequality.

The report’s key findings demonstrate the big opportunity for financial and government actors to strengthen the MSME environment. There were many challenges to small business growth ranging from regulatory issues to finance access. The report outlined the following eight key findings:

• Stagnant sector;
• Low rate of entrepreneurship;
• Bigger than expected sector size;
• High level of informality;
• Urbanisation;
• Declining black ownership;
• Drop in female ownership;
• Limited diversification of funding sources.

The IFC believed that coordination between the public and private sector could make a big difference to MSMEs.

The following recommendations were made by the report to build a stronger MSME sector:

• Build better data by collecting better data and reducing fragmentation. More frequent SME studies should be conducted and the Quarterly Labour Force Survey (QLFS) should be leveraged. Data should be digitised and made accessible.
• Sharpen policy by simplifying the MSME definition. MSME procurement requirements and payment of invoices should be improved.
• Increase formality by tailoring the tax regime and reducing red tape (on businesses). The digital ecosystem should be promoted and incentives, packages and programmes should be designed.
• Expand access by serving informal enterprises, increasing access to finance; diversifying the sector and; reducing cost to serve MSMEs.

Discussion

Mr V Zungula (ATM) asked if the IFC had any statistics regarding the local versus foreign business ownership in South Africa. He had read a report that explained that in Africa, eight out of ten young people were entrepreneurs, but compared to that ratio, only one out of two were entrepreneurs in South Africa. From the IFC’s perspective, what could be done to encourage entrepreneurship activity in South Africa?

Given the terrible state of SMMEs in South Africa, particularly in the townships, were big companies such as Shoprite, venturing deep into the township economies, likely to worsen the problem?

Mr Z Mbhele (DA) said the issue of micro-financing had been touched on as part of the contextual analysis, but it had not come through strongly in terms of the baskets of recommendations – even in the finance pillar. His intuition of late was that micro-financing was a key lever that had not been harnessed enough in the South African context, given the low rates of formalisation. Was the IFC aware of data that would back that up?

The exemplary micro-finance model that had made the rounds in the last couple of years was the Grameen Bank. He understood that it held a completely different context in South Africa. However, he was curious to know of any fundamental barrier that may hinder success in that regard, or if there was a possibility of replicating that model in South Africa. Micro-finance might be the key lever to implement, as opposed to ‘faffing around’ with a multitude of programmes. Perhaps, South Africa should keep it simple, keep it straightforward and make it effective.

Ms K Tlhomelang (ANC) agreed with the recommendations. She would like to know if the IFC had done any research on why there had been a decline in female entrepreneurs. Looking at the reality, one usually saw women selling peanuts and vetkoeks in the street.

The Chairperson agreed with Ms Tlhomelang’s statement. The notion of women being bound only to house and kitchen work had to come to an end. Women needed to be public participators. There was nothing that women could not do.

Mr T Langa (EFF) noted that the electronic copy of the presentation did not have all of the slides. He felt that there was important information on the presentation that was not captured in the electronic copy, and requested to have all of the slides of the presentation.

He honed in on the issue of the Department of Small Business being closed. This Department had served only one term – from 2014 to 2019. Obviously, the objective was to develop strategies that would assist people from start-up. As a former businessman, he had tried to use these government facilities to kick-start his business, but he had not received any assistance from the government. There were many other businesspersons who could attest to this. He was here with a passion to assist the Committee in ensuring that taxpayers’ money was used appropriately and effectively. Money lost was not easily recoverable – this was a fact. This Department had been one of the worst performing departments in the 5th Parliament and if the Committee overlooked that, then they did not know what they were doing. He believed that the Department had to be closed -- not entirely, but as a separate department. It must be taken back to the Department of Trade and Industry (DTI).

Mr H April (ANC) agreed with Mr Langa. Having been a former businessman himself, he had also struggled tremendously to get any assistance from the government to start his business. When looking at the presentation, it was rather eye-opening to know about all of the systems that were in place. He started to wonder why he did not get any assistance when there was so much help available. Access and information were the two aspects that really needed to be paid attention to.

He believed that the low level of entrepreneurship was directly linked to the fact that academic curricula in South Africa did not encourage entrepreneurship. It was training children to be employees, and not employers. It was training them to be Shoprite cashiers. If this was not addressed, one could not expect entrepreneurship to expand in the country. It started from the level of basic education. Children needed to be educated on the importance of entrepreneurship to ensure that the economy did not comprise only of employees.

The high level of informality in the sector was the result of people running away from the red tape that was implemented, and the compliance that was required from businesses in South Africa. In his home-province, Gauteng, there was a street called Small Street, in which probably billions of rands were generated by those informal businesses. Most of them had no registration because they were running away from taxes. He would even go as far as saying that those businesses made more money in the informal sector than in the MSME sector. There were so many people resorting to the informal sector because they did not want to comply. The Unseen Economy generated trillions of rands if one looked at the reality of what SA’s economy was made up of. Without getting people to want to register their businesses and comply, one really could not assist the economy.

The presentation had underlined three issues: building data, accessibility to finance, and the decline in black-owned businesses. He believed that these issues were fundamental and had been prevalent for a very long time, but had not been properly addressed. Another problem was that there were many businesses that were ‘black businesses’ under false pretences. This also perpetuated slow transformation in that area.

He believes that this Department was very necessary to bring in the kinds of changes needed, and to ensure that funding happenned, even on a small scale.

The Small Enterprise Finance Agency (SEFA) should run some programmes in schools so as to encourage entrepreneurship from an early age. They could even give students opportunities to present their ideas, and the Small Enterprise Finance Agency (SEFA) could fund these ideas. This way an entrepreneurial culture could be developed within schools.

Mr F Jacobs (ANC) shared Mr Mbhele’s views on micro-financing and the Grameen Model. It was no longer important just to describe the problem, but rather to decide what had to be done. He was really keen to see how the IFC’s second report would deal with the issues raised by some of the Members.

Members were weary of international corporations coming into our country with the mere purpose of profit maximisation disguised as development. Development was big money and South Africa did not want any ‘development’ agent to come and maximise profit instead of offering genuine help. He thought that was the main concern of the Members.

He said Mr Langa’s point was relevant – the Department had made many mistakes. However, they could not lament about the past -- they should find ways to move forward. The Department did not have the luxury of just complaining, they had to grapple with these unemployment challenges.

The one thing he would like to see was a synergy between the IFC and SEFA. South Africa had its little bit of financing, but it needed to maximise it. South Africa did not want intermediaries because they did not add any particular value – they took more than they gave. Furthermore, one did not want the IFC to be an intermediary, but rather a public-private partnership that was definitely helping the Unseen Sector. He would like to know where the IFC saw linkages between government finance and themselves as an international finance entity.  

He believed that the IFC had captured the essence of the Unseen Sector. However, how was the Committee to provide oversight and steer the Department so that in the next five years it could maximise the impact of jobs? Everyone laments about the current situation, about youth unemployment, but it was up to them to roll up their sleeves and figure out what was needed to be done.

IFC’s response

Ms Botha said that the study had been done to establish the debate on the Unseen Sector, and the action that needed to be taken. They had found that two years ago there had been a lot of discussion on the issue, but there was a great lack of practical data and concrete evidence on the issue. The fundamental aim of the report was to establish the debate and to move into action. The report in itself was not the goal -- the goal was the insights it provided that may allow people to move into action.

When it came to local and foreign ownership, the first issue was that a lot of South African businesses were employing foreign nationals. There was a belief that there were different levels of productivity – it was cheaper and easier. In that regard, it was important to be cognisant that the job creation potential of SMMEs often went to foreign nationals instead of South Africans. The other issue was that foreign ownership was a material issue in South Africa and evidently, in the informal sector, there were many foreign informal businesses operating in South Africa. With that came a far greater level of collaboration within those businesses. What this meant was that these businesses joined forces and were able to obtain goods at bulk discounts, therefore allowing for cheaper selling prices. This disrupted the business ecosystem and caused many challenges for South African businesses. The issue of foreign ownership was therefore very critical and a material issue that needed to be unpacked further – both in terms of the level of competition among foreign-owned businesses and South African business, but also in terms of the issue of employment.

Regarding encouraging entrepreneurial activity in South Africa, there were three points that were highlighted in the IFC research. A Member had mentioned that the education system – both from the secondary and tertiary level – was creating generations of employees and not employers. She supposed that that had been a strategic decision that needed to be made in order to transition. Being an entrepreneur was seen as a ‘lesser’ alternative – it was almost seen as the last resort if you were not successful in finding employment. One needed to change that culture, and that would need a deliberate effort from media and private sector stakeholders to change those perceptions and social norms. Of course, the point of reference played a role. Given SA’s history as a country, many individuals did not have a parent or grandparent that ran a business, and in many African countries, generations after generations did not grow up with someone in the family running a business. It was very important to be cognisant of that reality.

SA’s social grant system that creates alternatives for unemployed persons to get some level of income, also played a part. In many African countries, such as Nigeria for example, there were no such systems. If one was not employed, one had to find a way to generate income and so culturally, that leads to entrepreneurship as well.

Encouraging entrepreneurial activities was of the utmost importance, and as much as actions were needed, there was also a need to change the perceptions and mind-set of the country.

The state of the township economies would be worsened when larger corporates entered that space. She believed it definitely had an impact. It was not fully unpacked in the study, but it was an issue that needed further attention.

Micro-finance was absolutely a key lever. It was actually unpacked in quite a bit of detail on page 99 of the full report. South Africa had quite a unique situation. It had a development micro-finance sector and a profit micro-finance sector, which had different associations. Both of those associations report the contractions of the micro-finance sector. As had been stated, the SMME sector was stagnant, and the micro-finance sector over recent years had contracted, with fewer players involved. 

Secondly, there were two pieces of regulation which had really good intentions, also had many unintended consequences for micro-finance. The first one was the Finance Intelligence Centre Act (FICA). A lot of the clients being served by micro-financing institutions still did not have things like identification documents. One needed a bank account to be able to benefit from micro-finance -- a micro-finance institution could not approve of a grant or a loan if there was no bank account. FICA therefore makes it very difficult for people to get access to finance in the informal sector because they do not have a bank account.

The second was the National Credit Act (NCA), which limits the interest rate that a micro-finance institution may charge for a loan. This makes it very difficult for the NCA to make a profit out of serving small businesses. A lot of their costs were not based on systems and digitisation, so it was very difficult for them to profit. The result of this was that a lot of micro-finance firms focus on consumer lending, and not productive lending to small businesses.

Lastly, compliance issues were a problem. The same reporting requirements that apply to commercial banks also apply to microfinance institutions. The difference was that micro-finance institutions do not have electronic software, or large management information systems departments, and all of those facilities which commercial banks would use, to comply with those reporting requirements. This was why micro-finance firms often chose to operate informally and were not registered.

Ms Botha said the key difference with the Grameen Model was that the founder, Muhammad Younis, actually made an effort to understand the needs of the people and thereafter developed a funding model based on the needs and behaviours that existed in the market. Therefore, the fundamental purpose of the IFC’s second phase of research was that they could have the data and insights that would allow them to build the models and product sets that serve the Unseen Economy. South Africa had previously made the mistake of taking what worked for a first world, formalised market, and imposed it on informal businesses and expected it to work. There was a real opportunity to understand the unique needs of the informal economy and actually develop fit-for-purpose solutions for it, not only relating to access to finance, but also to financial accounts, bank accounts and payment methods etc.   

Unfortunately, the IFC did not know the reason for the decline in female business ownership. Factually, they knew that it was happening, but they did not know why. In the second study, they had actually biased the sample towards women in order to understand their unique needs. The study had revealed that a lot of women struggle to get a legitimate seat at the table – not being seen as professional business owners. This was even reflected in the sectors that women choose to operate in -- women tended to be in sectors where the product could speak for itself, such as the manufacturing, wholesale or retail trade. They shy away from services sectors where they need to present themselves. The IFC believed that there was a separate study needed to specifically address the decline in female entrepreneurship.

Ms Botha said the Department of Small Business Development was absolutely necessary. Coordination between different departments was crucial. It was incredible how many different departments had a direct and indirect impact on the fate and state of SMMEs in the country. It was very fragmented, and there was a critical need for a body to take ownership and leadership of coordinating all these efforts across the various departments.

The low rate of entrepreneurship, the high level of informality and the choice of businesses to remain unseen, was unpacked in the IFC report in more depth.

Some entrepreneurs did not want to register for tax. The real issue was that small business owners were sole proprietors and personally responsible for generating that income. The moment they had to stand in long queues, or spend a lot of time filling in paper work, meant that they were not making an income during that time, so eliminating queues, reducing paperwork and making things happen faster was far more critical in addressing factors encouraging formalisation.

In Indonesia, the government had introduced a 1% tax rate for businesses which required no fancy audited financial statements, and had a very simple application process. They had also struggled with high levels of informality, and after the implementation of the 1% tax rate, businesses registered for tax. In return, the government then reduced the tax rate to 0.5%. The consequence of that strategic decision was that most Indonesian businesses today had a tax identification number (TIN) which allowed for funding providers to have a unique identifier that could check, for example, how many loans a small business owner had across multiple financial services providers. This meant that legislation could actually have many strategic consequences. In Indonesia, with the TIN, one could check how many businesses there were in the country, whether the stock of businesses was increasing or decreasing over time, and there was a unique identifier in the financial system. This became a power tool to generate data.

Cash and value chains were very important. In their second study, the IFC unpacks cash in great detail. Cash was a fascinating phenomenon in South Africa. Businesses operate in cash for various significant reasons. It was an accounting system, and a tool that could calculate profit. It was not just a payment mechanism. Cash was a very complex issue, but one where there was much opportunity.

She had spent the last two years engaging with SEFA, and had seen a great improvement in the agency. A lot of SEFA’s funding flowed to beneficiaries through intermediaries, and the IFC had made a proposal to SEFA to help them to become a direct lender, and to do it effectively.

Deutcher Genossenschafs and Raiffeisen Confederation briefing

Mr Veit Gesenheus Regional Programme Director: Deutcher Genossenschafs and Raiffeisen Confederation (DGRV), gave a briefing on the importance of cooperatives.

He said cooperatives were an effective social and economic inclusion instrument that build community resilience and promote self-helping sustainable communities. DGRV was the apex organisation in Germany. More than 5 514 cooperatives were members of their confederation, and within these cooperatives there were about 890 000 jobs. Cooperatives were found not only in the agriculture sector, but also in other sectors. DGRV was using German taxpayers’ money provided by the German Ministry for Development and Cooperation in order to support cooperatives within the Southern African region. They did not come with their own solutions. Instead, they support national governmental and non-governmental players to help support the cooperative sector in South Africa.

Mr Bongumusi Ntuli, Project Manager: DGRV South Africa, said the Confederations intended outcomes for supporting cooperatives were:

• Culture of self-help and self-reliance;
• Education, skills, support, mentoring and coaching;

• National saving culture;
• Ownership transformation of industries and banks;
• Access to affordable financial services.

Co-operatives were important for achieving national development plan (NDP) imperatives. The NDP required that SA to move from passive citizenry receiving services from the state, to one that systematically includes the socially and economically excluded, where people were active champions of their own development and where government works effectively to develop people’s capabilities to lead the lives they desire. The constitution, among other measures, commits leadership, citizenry and the state to improve the quality of life of all citizens, and free the potential of each person.

A cooperative model mobilizes people’s own energies and spirits to address their common concerns, resulting in equality, togetherness and a sense of self-worth. They provide their members the chance to own their own businesses, with dividend sharing, and help them create opportunities such as starting small businesses, growing farms, building family homes and educating, feeding and clothing their children without perpetual state dependency. They also create solidarity mechanisms to re-enforce the traditional social security system, which was largely undeveloped, by setting up schemes to cater for expenses related to education, illness, death and other unexpected socio-economic problems. Moreover, by integrating the poor and the relatively well off in the same income-generating opportunities, cooperatives also contribute to the reduction of exclusion and inequality.

Cooperatives contributed the following towards achieving the Africa Agenda 2063 and Sustainable Development Goals (SDGs):

• A prosperous Africa based on inclusive growth and sustainable development;
• An integrated continent, politically united and based on the ideals of Pan-Africanism and the vision of Africa’s Renaissance;
• An Africa of good governance, democracy, respect for human rights, justice and the rule of law;
• A peaceful and secure Africa;
• An Africa with the strong cultural identity, common cultural identity, common heritage, shared values and ethics
• An Africa whose development was people-driven, relying on the potential of African people, especially its women and youth, and caring for children;
• Africa as a strong, united and influential global and partner.

Essentially, DGRV emphasised that cooperatives were the only inclusive and viable institutions that communities could use to cooperate themselves out of indebtedness, generational poverty and youth apathy.

Discussion

The Chairperson thanked presenters, saying she believed that the observations were similar to those of the IFC.

The DSBD also had a concern about its name -- it referred only to small business development, but not to cooperatives. If the Department wanted to reach its target of 11 million jobs, it needed to include cooperatives.

Mr Zungula requested more information on the available co-operatives in terms of how many were in the agricultural sector, the financial sector etc. He would also like to know the types of challenges that were faced by co-operatives in the different sectors.

Mr Mbhele asked where one could find more information about the kind of support, empowerment and training activities that the DGRV carried out in South Africa. He had done a quick Google search, but had not received much information from the website.  

Mr Langa wanted to emphasise that it had seemed that when the Department was removed from the DTI, there had been a plan. One may question why the Portfolio Committee had failed in the 5th Parliament. In his opinion, all fingers were pointing at the Parliamentarians who had been supposed to oversee and ensure that service was delivered.

Mr April sought clarity on how much money the taxpayers were actually investing and into what projects were they actually investing. Why would the preference be to go through commercial banks which were primarily driven by profit in terms of distribution of the funds that DGRV would have? Co-operatives were the biggest players in the ecosystem of the South African economy, so where and how did co-operatives get to know about the DGRV?

Mr Jacobs expressed his opinion that cooperatives were not working in South Africa because of South African problems, such as greed and a whole range of others. He thought that the presentation emphasised the fact that co-operatives should be a viable economic model, in addition to other models. This Portfolio Committee must assert that the co-operative model was a model for getting people to come together outside of government. It was a concept and model that the Committee could certainly endorse.

He suggested that perhaps next year, Members should recommend to the Department that it should look at creating co-operative spaces, summits and engagements so that this could be put on the national dialogue, and not make the same mistakes.

DGRV’s response

Mr Gesenheus said he was in no position to say how much money Germany was investing into South Africa. DGRV was not an official instrument of government, but rather an independent partner. They were not part of government negotiations between Germany and South Africa. They were financed by German taxpayers’ money through the ministry. He could share the budget of the DRGV. They had regional projects and an annual budget of roughly €1 million (about R16.2 million).

He agreed that there was very little information available on DGRV and even less information about the activities that carry out in South Africa. DGRV was very happy to share this information with the Portfolio Committee.

When it came to the information and data on cooperatives, they had the same issue as the Members had. Data on cooperatives was very weak.

Mr Ntuli reiterated Mr Gesenheus’s response regarding their inability to provide the information on the amount of money that was being invested by Germany. They had been hoping that the Department responsible for cooperative development would have the information, but they too did not have it. Thereafter, they proposed that the cooperative government develop a cooperatives register which would give more information on the various activities of cooperatives. However, that proposal had not taken off, as it was not a priority of the Department. The DGRV had also commissioned a study by one of the apexes that they were supporting, but that too had been a disaster. This had indicated that perhaps in South Africa there were structures that claimed to be representing cooperatives, but were not representing them. They had immediately stopped supporting any apexes thereafter. The DGRV was still committed to a project that would clean up the cooperative system and register.

He explained that the DGRV did not make use of commercial banks, as Mr April had mentioned. They used their money directly for the Social Democratic Party (SPD) initiated training intervention, and they had used their money to support apex bodies. However, they had changed their approach now and would like to pilot. In the past few weeks, they had been to the Eastern Cape and KwaZulu-Natal, and their Head of Programme from Africa was here and had gone to the pilot projects in KZN and the Eastern Cape. They were in direct communication with the cooperatives there.

They would welcome any potential project that the Portfolio Committee may consider was needed. They may not be able to cover every project that was brought to them, but they wanted to be meaningful and impactful where they saw potential.

They also shared the same sentiment as Mr Jacobs regarding his suggestion of developing cooperative spaces.       

Mr Gesenheus explained that DGRV would be happy to facilitate a study tour for the Portfolio Committee to be exposed to an example. This could not be a blueprint for any other country, but it could inspire and show how powerful this model of cooperatives actually was.

The Chairperson expressed her opinion that the Department had been empowered.

She said that most of SA’s municipalities were in rural areas and they relied on grants. She really appreciated the prospect of incubation centres, which would unlock certain stumbling blocks.

As a Portfolio Committee, they had a great role to play in their Department. Perhaps in each financial year, they should adopt their annual performance plan (APP) and check what could assist them to reach a particular target.

She commented that whoever came to present before the Committee was trying to widen its perspective, so that they would know what needed to be done to reach a particular target. She believed that the through the presentations, the Committee was being empowered.

The meeting was adjourned.