Time for IBDS to 'take the next step'

Successful investment in small and medium-sized enterprises (SMEs) in the emerging markets, regardless of whether in start-ups, early-stage or later-stage entities, is increasingly predicated on the availability of business development services (BDS). The premise is that there is a range of technical competences lacking in most SMEs, and that they are often unavailable and rarely affordable to them, especially at early stages in their development. Further, with specific reference to inclusive businesses, SMEs often require specialised BDS, or IBDS, focused on how they engage with consumers, producers, suppliers, distributors and/or employees.

The scope of IBDS required is extensive, and is perhaps best understood through the lens of emerging-market SMEs’ weaknesses. Such SMEs are generally informal, often family-owned, lack rigorous processes, organisational structures and robust corporate governance arrangements. Putting these in place is time consuming, costly, and distracting for small management teams, which are generally very focused on day-to-day operations and, in the IB context particularly, focused on a driving mission (social and/or environmental) which can obscure the importance of ‘getting the basics right’. The unaffordability of having a rounded management team from day one means that talent is often ‘lopsided’. For example, an IB may have a strong social sector specialist, a competent operating team but limited financial expertise on board. The ability to detect and diagnose challenges in domains where skills are absent hampers businesses significantly and, in the case of financial management, can sink them. The allocation of limited resources can also be problematic: young IBs cannot afford costly mistakes—in other words, putting many or all their eggs into the wrong basket—but lack experience in strategic planning, market testing and outreach.

IBDS seeks to address these absences and weaknesses by bringing to bear skills, technology, best practices and know-how which SMEs cannot afford, source or deploy, and yet are critical to their development or survival. Since the late 1990s, following years of heated debate about the appropriateness of such ‘subsidies’, it is now accepted that both direct investments in SMEs and pooled investment vehicles such as debt and private-equity funds, almost always need to be underpinned by technical assistance funding or BDS in order to increase the chance of success.

Although the unquestioned presence of BDS is welcome, IB practitioners must now focus on applying the following four lessons learned, among others, in order to enhance the effectiveness of BDS.

First, IBDS must, in the first instance, focus on financial management, controls and planning. Such is the romanticisation of the impact thesis in many IBs that it obscures the basic, if tedious, reality that the success for IBs, like any other businesses, is driven by cash flows, healthy balance sheets and well-managed P&Ls. Few management teams pay sufficient attention to these areas, consumed by other ‘day-to-day’ tasks.

A second, related point, is that IBDS must be sequenced. The emphasis on monitoring and evaluation and, above all, measurement, since the mid-2000s, often distracts from critical business-building IBDS. By all means, baselines are important, but the adage, ‘no business, nothing to measure’ is often obscured by an unbalanced focus on measurement.

Third, IBDS must be as inclusive and participatory itself as possible. This means that investee companies must be engaged in the design and terms of reference, where possible, of interventions. Company buy-in is critical in order for IBDS to be effective, and rigidity on the part of IBDS providers must be avoided; in other words, both parties must be willing to course-correct if the BDS needs of the business were misdiagnosed ex ante or more pressing focus areas emerge.

Fourth, all parties must maintain a keen focus on sustainability. This can be achieved in various ways: cost-sharing, capitalisation of BDS costs where the former is unaffordable, with reimbursement as the business grows and so on. Above all, if an iteration of the business in which BDS is no longer required or cannot be routinely afforded by the business, then its survival is effectively reliant on the presence of long-term subsidy.

Given IBs’ broad range of BDS needs, the question arises of the availability and effectiveness of practitioners on the ground. In recent years, there has been a proliferation of BDS providers in regional hubs, such as Nairobi, Accra, Lima, Mumbai and Bangkok. As BDS funders, especially development finance institutions (DFIs), increasingly stress the use of local consultants, a market opportunity has flourished. The challenge is that these relatively young consultancies are often strong in the most ‘prominent’ and accessible areas of impact investing, in other words, the ‘social’ rather than the ‘business’ areas. Few staff have sufficient operational and financial experience and, most importantly, scar tissue, which comes from starting, building and/or investing in SMEs themselves. The BDS interventions they design and implement therefore tend to reflect their strengths, rather than the most pressing needs of the IBs themselves.

This short piece has sought to identify some of the key needs and challenges associated with IBDS. The fact that ‘to BDS or not to BDS’ is no longer a major ideological schism in the sector is edifying: puritanical divisions between investment and BDS in the 1980s and 1990s contributed to mortality rates in emerging-market investment portfolios of 70% and higher. This said, it is time for BDS provision to professionalise in the very way that SMEs themselves are encouraged to ‘take the next step’. Capacity needs to be built in BDS providers themselves, above all in the area of financial management and strategic planning.

This blog is part of the September 2016 series on Inclusive Business Development Services, in partnership with the Inclusive Business Accelerator. Don’t miss the whole series on support available to inclusive business from practitioners, donors and intermediaries including Afrilabs, DFID, Endeva, EY and many more…