Applying Blockchain to Solve the Funding Problem for SMEs

Solving the puzzle. Image by kevinamrulloh

Small and medium-sized enterprises, otherwise known as SMEs, are the lifeblood of economies all over the world. But ensuring that they reach their full potential is an issue that has remained without a viable solution for decades.

Banks are inherently risk averse, and so their tolerance for SME lending is relatively low. Last year’s report from the World Bank estimates that 70% of small, medium and micro-enterprises are unable to access the credit they need.

Inability to bring in capital continues to cause enormous harm to small businesses. It stifles growth and causes cashflow difficulties, with businesses identifying the lack of working capital as a major reason for corporate failure, second only to the lack of market demand for their products or services.

Even if small businesses can secure loans, they’re often left with uncompetitive, and unfavourable interest rates that can be crippling. Just when small businesses are supposed to be rapidly growing, they’re often tied up servicing their debt.

Crowdfunding has come in to fill the gap in the market, but it comes with a number of disadvantages. Most existing equity crowdfunding platforms focus solely on start ups or early stage businesses in specific sectors (in particular technology and brewing), meaning that this new funding route is closed to most SMEs from other sectors. The majority of platforms also limit investor reach, resulting in incomplete raises and wasted potential.

Both equity crowdfunding and peer-to-peer lending, at least theoretically, have the most potential in solving the problems of SME financing — but the current system doesn’t work as efficiently as it could. That’s where blockchain comes in.

Blockchain helping SMEs to grow and thrive

Social lending has been a popular means of generating capital for hundreds of years (people who have money giving to people who need money), but it has fallen out of fashion alongside the rise of modern financial institutions. P2P is currently seen as something niche and specific — a service created for a small number of businesses reluctant to trust the banks or incapable of securing funds from elsewhere.

Image by geralt

But P2P is likely to find its feet with the advent of blockchain. The decentralized nature of blockchain circumvents the need for an intermediary, an attribute which could help revive peer-to-peer lending practices — digitising what was once a manual process.

Blockchain naturally connects all parties on a system, so the customer would be linked directly to investors, with full transparency and a real-time view of finances on an immutable ledger.

The business fundraising process has traditionally been a complicated one, dominated by a handful of powerful banks. But by negating the need for third parties, blockchain makes it significantly easier and faster for small and medium-sized companies — not just technology start-ups — to raise funds through equity.

The removal of these barriers reduces the need for complicated paperwork that has previously precluded SMEs from engaging with banks. The automated nature of the whole process means that commissions, excessive brokerage fees associated with selling shares, and other overheads can all be slashed.

Importantly, the use of blockchain enables SMEs to sidestep the banks which, especially following the 2008 crash, have been acting more conservatively. Blockchain also opens up businesses to investors from all over the world, enabling both investors and start-ups to seize opportunities which had previously been closed to them.

Image by lmaresz

What’s next for blockchain funding?

Blockchain has the potential to completely reinvent the wheel when it comes to SME funding. The technology shows real promise in solving things once and for all: the inefficient and antiquated system of bank business loans is one that’s ripe for disruption.

The real challenge, going forward, will be the legality of smart contracts, and the global regulatory framework needed to establish true peer-to-peer lending across borders; just because it is legal one country, does not make it so in the next. However, the power and potential of blockchain and smart contracts is being recognised across the business and political spectrum, so whilst it may take regulators some time to catch up, we expect that broader adoption will lead to sensible regulation.

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