SMEs - will the leopard change its spots?
by George Mangion
Following the removal of levies on certain products starting on 1 January 2000, a number of local manufacturers promptly reduced prices to counter increased competition. One newspaper report mentioned that some local manufacturers had expressed concern about many aspects of this new development as they feared they would be at a disadvantage when competing with imported products who benefit from economies of scale.
The removal of protective levies have been announced on a number of locally manufactured products such as insecticides (in aerosol cans), paper-based products such as toilet paper, paper handkerchiefs, kitchen rolls and napkins. The levies on some products were substantial such that one manufacturer considered reducing his retail selling price by at least 10 to 12 per cent.
VAT is chargeable on the CIF price plus levy. This means that a lower amount of VAT will now be charged to the consumer following the abolition of levies. On the other hand a levy was always considered as a cost (except under CET when an exemption from ETI was allowed on products falling under levy).
This means that a lower absolute profit per item will be earned by retailers under the new scenario. One observer commented that importers of competing products can have a field day especially if they source equivalent items at "stock-lot" prices.
According to one article, Italian firms can often offer very competitive prices especially in paper products. On the positive side, this liberalisation gives more spending power to consumers and could also raise quality levels and after-sales service.
As a remedy to cushion the inevitable financial consequences arising out of restructuring, an organisation was formed. This organisation is a company called the Institute for Promotion of Small Enterprises (IPSE). In order to achieve its long-term strategic objectives IPSE Ltd. will manage three programmes. These are:
1) Enterprise Formation and Growth
2) International Competitiveness and,
3) A Programme for Industrial Restructuring. The company's shareholders include representatives from the Employers' Association, the major unions and the Chamber of Commerce. IPSE has launched three individual schemes targeting small- and medium-sized enterprises who can be assisted financially according to their business plan.
These schemes fit a number of enterprises of different sizes who can come forward and choose a "service provider" from a list of over 80 accredited firms and individuals. Basically IPSE will also fund one half of the cost of the preparation of a three year business plan and where applicable, an export marketing plan.
These schemes have recently been helped by a "Fast Track" scheme aimed at firms who were hard hit by the removal of levies which started on 1 January 2000.
This is an encouraging move and one hopes that applicants will come forward and make use of this assistance. No doubt more schemes will be announced as different levies will be disbanded over a three-year period.
The first wave of liberalisation is expected to involve local manufacturers who collectively employ 1,000 workers. As more levies are gradually lifted, one expects stiff competition from importers of competing products some of which are already well marketed locally, but with an important difference that they will be cheaper as a result of the removal of levies.
The question remains whether retail prices of locally manufactured products, which have been protected by high levies in the past years, can be discounted to match cheaper imports. This leads us to the question whether the removal of a protective barrier for the past eight years may have given companies a false sense of unlimited protection.
For those who missed the chance to restructure their manufacturing process, IPSE is encouraging them to step forward with their three-year business plan. It is to be emphasised that such a strategic plan can take many forms and directions.
One really has to carry out a detailed SWOT analysis. A SWOT analysis covers the main business strengths, weaknesses, opportunities and threats. Once this analysis is concluded then one must tackle the weaknesses and the threats in an objective manner. No doubt weaknesses can vary from one business to another. It is common to find that some deficiencies are encountered in any or all of the main components: These are:
Poor logistics, factory space, stores warehousing
Lack of finance
Inadequate market penetration, local or export
Poor product design and little innovation
Inadequate research and development
Poor management and no training of work force
Saturated markets for existing products
Lack of accreditation for entry in export markets
Safety regulations not met.
Each of these weaknesses needs to be addressed by an alternative and bold strategy. Out there in the market place, competition will single out the men from the boys in a very short time.
We cannot pontificate that protection to local manufacturers from cheaper but better quality imported products can be extended forever at the expense of the Maltese consumer. A restructuring process must be carried out during the coming three years to buttress the challenges from imported products including, later on, agricultural produce.
Consumers have suffered due to a reduced range of choice for the past eight to nine years. The shield of protective levies jacked up prices of imported products and discriminated in favour of locally produced items. During those years, local producers could flourish and increase their local market share at the expense of higher priced imports.
Venture Capital
How can a local manufacturer survive this new scenario of increased competition especially if no funds are available from locally generated business? In a strict sense, the liberalisation process is intended to restore a level playing field for both importers and local manufacturers. Over the past years, Maltese consumers had a limited choice of either paying an extra tax on imported products or settle for a local equivalent which was only marginally cheaper.
This is evident when one considers the heavy levies imposed on a wide spectrum of products particularly furniture. We must now face the music and learn how to restructure our business. Luckily there is awareness among SMEs that IPSE will hold their hands to guide them on the correct path to restructure.
It is essential that owner managed firms who in the past relied on a captive local market gear-up to face stiffer competition. Importers will be rushing to their overseas principals to catch up with this price differential.
It is also beneficial for consumers at large to be able to access a wider choice of products, which were previously discriminated in a price structure resulting from high levies.
The answer to this dilemma is not easy. There must be a concerted effort by all the social partners to nurture the local manufacturing industry when facing formidable challenges of overseas counterparts. If we look to entrepreneurs in the US they thrive on equity investment. A recent survey shows that they prefer a collaborative approach. By contrast in the UK, owners are much more wedded to the personal ownership of their businesses.
Professor Colin Mason (University of Southampton) is quoted as saying that recent studies show that American industry is much bigger than European competitor. It has greater research facilities and a complex structure of venture capital agencies. Above all, he affirms that the attitude in the US is pro risk.
Many of the investment managers in the US making decisions about the opportunities put in front of them have themselves been entrepreneurs. By comparison to local banks these are mainly interested in loans and overdrafts backed by collateral.
Very few of the two major banks do take a stake in companies, in the main they want to see a repayment program and a good return on a loan. Professor Mason reiterates that US venture capital managers will look in proposals for the quality of innovation, the definition of potential markets and the capacity of the individual businessman to deliver. Collateral comes second place.
Export or die
Owner managers, for example, rarely appreciate that there are different requirements for satisfying the norms to qualify for venture capital. To refer back to our overseas competitors, one notices that the informal part of both the UK and US industry is mainly composed of business angels and/or soft loans from government agencies. While soft loans are available locally under the Industrial Development Act there are no much things as "business angels".
Business Angels are usually wealthy ex-business people with disposable capital and a keen interest in innovative ideas. A typical example is the successful financing of business start-ups in Silicon Valley California.
Part of the problem in Malta is that as general rule businesses are not "investment" aware.
The attitude of Maltese SMEs to venture capital would welcome the money which angels offer but they do not welcome equity participation. Typically one hears the attitude: "I want 100 per cent of my business, however small, rather than 50 per cent of a much bigger and successful operation".
Angels, in contrast, are interested in a high return but they also want to play a part in developing the company. On the local scene, IPSE is encouraging SMEs to come forward and present their business plan. This plan should emphasise the long-term strengths (at least three years) and a restructured plan leading to sustained continuity.
Business Angels, on the other hand, are particularly interested in the degree of innovation in the product and a detailed strategic plan on its projected market. Like IPSE, angels need to be satisfied that the applicant has done his homework (through the guidance of a service provider) and that he can deliver.
Promoting the spirit of entrepreneurship
In broad terms, US attitudes towards entrepreneurship are more positive than those in Europe. Americans admire business people who take risks and work hard to develop new ideas.
A clear example of this culture is the approach to failure. One should not treat someone whose business has gone down as a pariah; on the contrary as long as someone is prepared to make a fresh start, the US culture supports that individual. As was reported locally by Parliamentary Secretary Edwin Vassallo following a familiarisation visit to the US, a "small business act", which promotes the spirit of sustained entrepreneurship, is to be passed through parliament early this year.
This is welcomed and one looks forward to enrich our Maltese business culture by the US experience. One should never forget that a main feature of the small business unit is the lack of complexity of its management structure. The average small firm in Malta employing fewer than 10 workers were all owner-managed.
This direct dependence on the proprietor in Malta is striking but is also predominant in all member states of Europe Union. Such a factor constituted both a source of strength and weakness for the small firm. For example, it accounted for the occasional rapidity of decision-making; it made for better employee morale and ensured that the pursuit of solvency was not relaxed.
On the other hand, the skills and expertise of an individual in the small firm is demonstrably limited. The running of a small business manufacturing products protected by a shield of heavy levies could be effective as long as competing imported products remained discriminated by price differentials.
The vital question could now be posed. Can local firms find the strength to compete in the global village without the protection of levies? The answer is that nobody owes us a living. IPSE through its service partners strongly believes that it has a number of schemes that can address the balance and make the difference between a business plan remaining on the drawing board and one that gets the finance to get off the ground.
It is common to hear SMEs lament that Maltese banks were not doing enough to help them to grow. This is not entirely true. The strategy for the progressive business is to expand and enhance its market niche penetration particularly in the European export markets. As stated before there is a growing need for venture capital and perhaps the arrival of HSBC and Barclays will pave the way for such opportunities.
Conclusion
The debate over the supply of seed and start-up finance (high risk) to innovative SMEs is an on-going argument with one conclusive aspect, if seed and start-up investments are profitable, finance should be available. If they are not profitable, can new ways be found of making investments reduce the risk or increase the returns?
A good strategic plan is essential. If the venture capital industry were ever to get its act together in Malta the pickings for local SMEs could be very rich indeed. Our aim should be that through the agency of IPSE; companies start to recognise the rewards of capturing the vast export markets through innovative products.
By harnessing our limited resources as an island situated on the European periphery, we can look forward to forge strategic alliances so as to strengthen our chances of success. Only then will the proverbial leopard manage to change its spots and don a new skin more suitable for the export hunt.
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