Download complete project materials on Impact Of Non-Interest Financial Institution In Small And Medium Scale Enterprises Expansion In Nigeria
CHAPTER ONE
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1.0 INTRODUCTORY CHAPTER
1.1 BACKGROUND TO THE STUDY
Banks are the most important financial institutions in a modern economy. They perform some very important functions for society and this process significantly influence the level of economic activity, the distribution of income and the level of prices in a country (Iqbal &Molyneux, 2005). Right from the pre-independence to the present day time in Nigeria, conventional commercial (interest-based) banks and financial institutions have controlled the economy.
These banks have performed several functions of banks in an economic system which among others includes the provision of business capital for entrepreneurs. However, the entrepreneurs and investors have often encountered several problems with the system of banking being operated by these conventional banks among which are high interest rates, high risk of business environment with less security, inflation etc. This situation has seriously militated against the rapid growth in the productive sector of the economy thereby affecting the overall economic growth of the country (Okeke & Ojukwu, 2012).
Thus, Zaki (2001) stated that for Nigeria to propel the rest of African economy, an integrated financial system with deep and efficient financial markets capable of improving access to finance and wooing international investors is highly essential.
It is in this direction that the Central Bank of Nigeria (CBN) under Chukwuma Soludo issued a draft framework for non-interest banking (Islamic banking) in March 2009 – an initiative intended as a platform for seamless and robust link to international financial markets. The draft was as a result of the amendment of Central Bank of Nigeria Act of1999, in 2007, that incorporated Islamic banking among others to expand and broaden the nation’s financial markets.
The draft of Islamic banking framework was also necessitated by the effect of global meltdown that castrated our financial system and slowed the growth of the economy. The framework released by the CBN spelt out guidelines for the establishment, operations, Shari’ah governance and supervision of Islamic banks which can be standalone full-fledged institutions, subsidiaries or windows.
Two banks – Jaiz Bank Plc and Stanbic IBTC – were granted licenses to operate based as a full-fledged Islamic bank and window respectively in the same year and both began operations in 2012. Sterling Bank Plc joined the market in April 2013 as a window (Ado, 2014).
The emergence of Islamic banking in the country is welcomed by a cross-section of Nigerians, evident from the demographic makeup of the banks’ customers and there is significant growth in the size of the sector. Jaiz bank, which was licensed to operate as a regional bank, now has a national license to enable it to penetrate the southern part of the country.
The other two operators that operate as Islamic windows offer Islamic banking products and services in all their branches nationwide. This has helped expand the reach to prospective clients even in the southern part of the country where the majority of the population are not Muslims (Ado, cit).
Islamic banking has the same purpose as conventional banking: to make money for the banking institute by lending out capital. Because Islam forbids lending out money at interest (riba), Islamic rules on transactions known as Fiqh al-muamalat have been credited to avoid this problem.
The basic technique to avoid the prohibition is the sharing of profit and also, via terms such as profit sharing, mudharabah; safekeeping, wadiah; joint venture, musharakah; cost plus murabahah and leasing ijara (Siyanbola, 2013).
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In an Islamic mortgage transaction, instead of lending the buyer money to buy the item, the bank might buy the item itself from the seller, and resell it to the buyer  at a profit while allowing the buyer to pay the bank in installments. However the bank’s profit cannot be made explicit and therefore, there are no additional penalties for last payment. In order to protect itself against default, the bank is registered as the buyer from the start of transaction.
This arrangement is called murabahah. Another approach is ljara wa Elitqana, which is similar to real estate leasing. Islamic bank handles loans for vehicles in a similar way selling the vehicles at a higher than market price to the debtor and then retaining ownership of the vehicle until he paid. This was Okeke and Ojukwu’s position also (2012) where they noted that prohibition to invest in certain sectors like; alcohol/drugs, pig related industry, interest related businesses, ammunition, pornography and prohibition on transaction that has to do with unseen are also are the foundation of Islamic financing.
In addition, Iqbal (1997), mentioned risk sharing, money as potential capital, and sanctity of contract as part of the principles. He explained that suppliers of funds should be regarded as investors not creditors. Money becomes capital only when it is combined with other resources in productive activity, and upholding contractual obligation as a sacred duty to minimize the risk of asymmetric information and moral hazard. Sanusi (2011), concurred with the above scholars on the principles of Islamic finance where he noted, under the principles lending is not a business. Investments are to be only in morally and legally approved causes the same thing with the western concept of socially responsible or ethical investing.
There are several other approaches used in business transactions. Islamic banks lend money to companies by issuing floating rate interest loans. The floating rate of interest is pegged to the company’s individual rates of return. Thus the bank’s profit on the loan is equal to a certain percentage of the company’s profit. Once the principal amount of the loan is repaid, the profit sharing arrangement is concluded. This practice is called musharaka.
Furthermore, mudaraba is venture capital funding of an entrepreneur who provides labour while financing is provided by the bank so that both profit and risk are shared. Such participatory arrangements between capital and labour reflect the islamic view that the borrower must not bear all the risk/cost of a failure resulting in a balanced distribution of income and not allowing the lender to monopolize the economy (Iqbal, 1997) as mentioned in (Siyanbola 2013).
Conventional banks are not formed on participatory arrangement as such entrepreneurs experience a lot of untold hardship via excessive interest charges and unfriendly terms of trade resulting in untimely business collapse which is unhealthy for the economy. These and many more reasons informed the government decision to constitute various assistance commissions to improve access to finance by the SMEs (Itodo, 2011).
Various regimes in Nigeria did attempt to provide a solution to the problem of finance facing SMEs in the country. Some of the institutions and arrangements established by various regimes in the country to tackle the financing needs of SMEs for the past 30 years were: Small Scale Industries Credit Scheme (SSICS), Nigerian Bank for Commerce and Industries (NBCI), Nigerian Industrial Development Bank (NIDB), SME apex unit of Central Bank, National Economic Reconstruction Fund (NERFUND),
The African Development Bank/ Export Stimulating Loan (ADB/ESL), Nigerian Export Import Bank (NEXIM), National Directorate of Employment (NDE), Industrial Development Coordinating Center (IDDC), Community Banks, People‘s Bank, Family Economic Advancement Programme (FEAP), State Ministry of Industry SME Schemes, Small and Medium Industries Equity Investment Scheme (SMIEIS), Bank of Industry (BOI), Small and Medium Enterprises Development Agency of Nigeria (SMEDAN), and Credit Guarantee Scheme for SMEs (Anthony, 2005 and Itodo, 2011).
Despite these effort SMEs are still battling with the financing problem. This is due to lack of collateral, lack of guarantor, high interest rate, government bureaucracy, stringent documentation/ requirement, mistrust, risk avoidance among others. With exception of SMIEIS most of the institutions were established to give loan or financial assistance to SMEs not to partake as co-owner of the enterprise (Bazza, Maiwada & Daneji, 2014).
There is no doubt that these efforts have not yielded the desired results. Up until now SMEs are still struggling to keep afloat as the problems persist. Though all hope is not lost as the unfolding non-interest financial institutions shows the potentials of safety net in ameliorating the situations of the SMEs through their various products of equity holding partnership; vis: Murabaha, Musharaka and Ijara (Sobaloju, 2014). Islamic finance emphasizes partnership in profit and loss sharing, asset-backed financing and abhors interest on use of money which are absent in most cases with the conventional banks and the government palliatives mentioned earlier.
During turbulent times, especially the 2007-2009 global financial crises, Islamic finance showed some degree of resilience to financial shocks. Islamic finance, thus, is not only considered as a feasible and viable alternative for the conventional system but also a more efficient, productive and equitable way of financial intermediation (Dusuki, 2013).
This view was also held by Alzalabani and Nair (2014),though Islamic banks have slightly suffered from the global recession, they emerged largely unscathed from the initial banking meltdown as Islamic banks are not allowed to deal in mortgage-backed securities or credit-default swaps, two of the practices behind the so called ‘banking crisis’.
Islamic bank has many more layers of risk assessment and management which could help protect them from the problems afflicting conventional banks. Not many liquid hedging instruments to hedge in islamic market, no way to sell asset through credit derivative transaction(not shariah compliant) Islamic banking is essentially about fund and asset management, Islamic bank deal in real asset financing rather than selling and buying money as it is obtained in the conventional banks (Thijs, 2013).
With all the aforementioned, it will be interesting to find out whether Islamic bank has been able to make better the situation of the SMEs in the country hence this research work.
1.2 STATEMENT OF THE RESEARCH PROBLEM
It has been rightly observed by many scholars that Finance is one of the major constraints that hinder the survival; growth and development of Small and Medium scale Enterprises in Nigeria as in other developing countries (Bazza, Maiwada & Daneji 2014). Sources of Financing SMEs in Nigeria are grossly inaccessible. Even where it is available, it is not feasible to obtain.
This is because of high cost of fund and stringent requirements which must be met. As a result many SMEs failed to meet the requirements hence could not get the needed fund. Yet the contribution of SMEs towards employment creation, productive utilization of capital and financial resources, wealth creation, innovation, development and poverty alleviation worldwide has become indisputable (Sibanda & Pooe, 2014) cited in Fatoki and Garwe (2010).
SMEs access to capital remains the most commonly cited challenge mainly due to lack of collateral security to secure bank loans for startup capital. For those that manage to secure the bank loans, it is reported that their growth get stunted, and thus perform poorly as a result of the interests charged on their bank secured loans for startup capital (Fatoki & Garwe, cit).
Conventional banks, over the years have been no good friend of the SMEs as no special preference is granted them in term of facilities disbursement. Many stringent conditions discourage the SMEs from applying for business expansion finance from the banks. Interest charged on facilities can sometime be a nightmare for many small businesses forcing them to untimely liquidation (Sobaloju, 2014).
Some of the past works on the impact of non interest financial institution on SMEs were not carried out in the domain of the current researcher. So many developments have also taken place after the works of the previous researchers. The case study organization just got license to cover a wider domain less than a year ago. All these put together incited the researcher’s interest to revisit the work and find out if there is any impact non interest financial institution has on the expansion of SMEs in Nigeria.
1.3 OBJECTIVE OF THE STUDY
The main objective of this study is to examine the Impact Of Non-Interest Financial Institution In Small And Medium Scale Enterprises Expansion In Nigeria.
Further objectives of the study are:
To determine the extent to which Murabaha impacts on the performance of SMEs in Kaduna.
To determine the level of access to Ijara wa itqana by the SMEs
To determine the benefits derived by the SMEs on Mudarabah
To determine the impact of musharaka on SMEs performance.
To determine the impact of qard Hassan on SMEs expansion.
1.4 RESEARCH QUESTIONS
The study will examine the following questions.
Does Murabaha have any significant impact on the performance of Small and Medium scale enterprises in kaduna?
Does Ijara wa itqana have significant impact on SMEs performance in Kaduna?
Does Mudarabah have any significant impact of SMEs performance in kaduna?
Does Musharaka have significant impact on SMEs performance?
Does qard Hasan has any significant impact on SMEs performance?
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1.5 RESEARCH HYPOTHESIS
The hypothesis that would be tested in this study is stated below:
H1: Murabaha have no significant impact on SMEs performance in Kaduna.
H2: Ijara wa itqana have no significant impact on SMEs performance in Kaduna.
H3: Mudarabah have no significant impact on SMEs performance in Kaduna.
H4: Musharaka have no significant impact on SMEs performance.
H5: Qard hasan have no significant impact on SMEs performance in Kaduna.
1.6 SIGNIFICANCE OF THE STUDY
The study intends to explore the positive impact Non-interest financial institution has on the SMEs. How will SMEs expand more taking advantage of interest free facilities offered by the Non-interest financial institutions?
The study will expose the benefits of products and services offered by non-interest financial institutions to the benefit of individual, firms and the government. Also, the study will contribute to the existing literature on the subject matter by investigating empirically the role of non-interest financial institution in the expansion of SMEs.
It will expiate the misgivings associated with the acceptance of non-interest financial institutions especially by the non-Muslim populace.
It will enhance more active investment in non-interest financial institution to serve as a panacea to the undue financial difficulties businesses are exposed to as a result of interest based financing.
This study will provide workable recommendations to policy-makers on how to develop the economy with the aid of immense opportunities made available by the non-interest financial institutions.
1.7 SCOPE OF THE STUDY
The researcher tends to limit the scope of this study to the activities of non-interest financial institution in Nigeria as it concerns Small and Medium scale enterprises. The activities of Jaiz Bank in Kaduna from 2012 up till 2016 will serve as case study. The choice of Jaiz Bank was determined by the fact that it is the only full-fledged non-interest financial institution in Nigeria as of when this research was carried out.
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