The SME Segment May be Best Bet for Banks Going Forward
2 August 2013
Regulation and technology are changing the banking business model while the SME segment may be the better investment going forward. The Small and Medium Enterprise (SME) is a vital segment for the economy in the US and globally. The growth rate for SME on a global scale has been on the rise. More specifically, we anticipate the highest growth rates to come from the BRICSA countries (Brazil, Russia, India, China, and South Africa). . In India for instance, SME accounts for about 45 percent of manufacturing and 40 percent of total exports. Many governments and experts believe that economic recovery will come from SMEs in emerging markets. This rise of SMEs is primarily attributed to their increasing tendency to reach foreign markets. Their growth and overall strategy patterns demonstrate success in trading within the global marketplace. For financial institutions, the revenue opportunity from SME is high. Traditionally, banks would provide loans to SMEs and offer standard billing fees (non-discounted high fees) to these clients. For instance, it’s very much like walking into a branch as a retail client and paying $35.00USD for a Wire transfer. The banking relationships between lending and transaction type services were highly tied together between the SME and bank. Today, banking relationships with SMEs are highly different for a number of reasons. For instance, many SMEs are able to find alternative financing so lending is not a leading cause for the relationship. Accessing financing once the SME is established is less of a problem. Also, many SME are cautious about the future and have been much more frugal about spending their money. On aggregate, their cash on hand is much healthier than it was years ago. But it goes much further than lending. SMEs have different needs as they expand their growth to foreign markets. They need trade finance and other FX type services. And it’s not just the SMEs that are changing – local banks are also equipping themselves with enhanced products and services to meet those needs. The competition for this market segment among banks is increasingly fierce and represents an important opportunity for growth. The competition is highly fragmented and its’ intensity highly depends on the specific geography. However, the regulatory environment has caused banks to focus on their balance sheet while taking a cautious approach to growth markets. This may explain why several global banks have scaled back their market expansion strategy while local banks have stepped up their game. Global banks are cherry picking their clients in those emerging markets which generally fall outside of SMEs. This leaves a great opportunity for growth from smaller banks and the industry is seeing a more aggressive investment into technology from those smaller banks to serve SMEs. Traditional business models have changed significantly. The culprit is technology. New technology and business processes change the way businesses operate and interact with their bank. In sum, the ability for clients to switch banks has never been easier. While banks have strengthened their balanced sheets, both regulation and technology continue to drive unprecedented challenges. Banks will need to be smart about where to invest their capital and the SME segment seems like a good option.