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Development of Smes in Ghana: Analyzing the Constraints to Growth

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Background of the study Ghana’s experience with macro-stabilization and structural adjustment appears to be in line with that of many other developing countries that have pursued similar policies. Their experience reveals that such programs do not lead automatically to the resumption of growth, let alone ensure the transition onto a higher growth path. The recent experience of transition economies has shown that price stabilization and opening up may not be enough to achieve a rise in the trend rates of investment and growth. Recognizing this evidence, policy emphasis has shifted to pinpointing complementary policies that will lead an economy from stabilization to growth. The policy debate today focuses on reforms. Ghana immediately after independence made tremendous effort towards achieving full employment and socio economic development through public investment in medium and large scale enterprises. Notwithstanding the direct involvement and the effort of the government, the sector is saddled with a lot of constraints, including scarce capital, intensive technology, foreign exchange constraints, poor management, corruption and inadequate attention to economic viability and market prospects which has resulted in poor performance of the industries in terms of output and employment (Steel & Webster, 1992). Following an economic recession in the 1980’s which resulted in the retrenchment of workers from the civil service, the rationalization of production in the private sector under the Economic Recovery Programme (ERP) was launched in 1983, and the high population growth rate of 2.6% per annum, coupled with the inability of the medium and large scale enterprises to grow and expand over time to absorb the idle labour, the SMEs has become an important option and alternative source of employment. SMEs have been of great importance to the development of economies. In Europe for example, the Heads of State and Government from the European Parliament met in Lisbon in March 2000 to form an agreement on the future goals of the European Union. The main goal formed is for the European Union to become "the most competitive and dynamic knowledge-based economy in the world, capable of sustainable economic growth with more and better jobs and greater social cohesion". In order to reach this goal, one of the main aspects that the Lisbon strategy addresses is the importance of the development and growth of small and medium sized enterprises (SME), especially those SMEs that are knowledge-based and technology-intensive. Recognising the development potential of SMEs in Ghana, a large number of institutions, organizations and programmes, both governmental and private sector-oriented have been established in the country at the national, regional, district and even the community levels to provide various support services to the sub-sector. These include the Rural Enterprises Project, the National Board for Small Scale Industries (NBSSI), Ghana Regional Appropriate Technology Industrial Service (GRATIS), Community Based Rural Development Programme (CBRDP) and the Department of Community Development. For reasons stated above, the interests for SMEs, especially in knowledge-based and technology intensive sectors, have increased in recent years. Policymakers, regulators and researchers all over the globe are striving to improve the conditions for SME development. Among the questions listed high on the agenda, financial needs of small companies are often discussed to establish how sustainable growth of such companies can be reached. This involves both micro-foundations such as needs at different growth stages, gaps between the needs and supply of funding, and the nature of the private equity and debt contracts, as well as macro-economic implications of small business finance like consolidations within the bank sector, monetary shocks, and regulations of venture capital. (Berger & Udell, 1998) In Ghana, available data from the Registrar General indicates that 90% of companies registered are micro, small and medium enterprises. This target group has been identified as the catalyst for the economic growth of the country as they are a major source of income and employment. Data on this group is however not readily available. The Ministry of Trade and Industry (MOTI), in 2008 estimated that the Ghanaian private sector consists of approximately 80,000 registered limited companies and 220,000 registered partnerships. Generally, this target group in Ghana is defined as: Micro enterprises: Those employing up to 5 employees with fixed assets (excluding realty) not exceeding the value of $10,000 Small enterprises: Employ between six (6) and twenty-nine (29) employees with fixed assets of $100,000 Medium enterprises: Employ between 30 and 99 employees with fixed assets of up to $1 million. Data from the Social Security & National Insurance Trust (SSNIT) reflect that, by size classifications, the Ghanaian private sector is highly skewed, with 90% of companies employing less than twenty (20) persons, and a small number of large-scale enterprises. A typical profile of this target group is as follows;
They are dominated by one person, with the owner/manager taking all major decisions. The entrepreneur possesses limited formal education, access to and use of new technologies, market information, and access to credit from the banking sector is severely limited.
Weak Management skills are, thus inhibiting the development of a strategic plan for sustainable growth.
They experiences extreme working capital volatility.
The lack of technical know-how and inability to acquire skills and modern technology impede growth opportunities. Many non-financial constraints inhibit the success of such enterprises. SME owners are reluctant to be transparent or open up involvement of their businesses to outsiders. They seem to be unaware of or oblivious to the obligations and responsibilities they have toward capital providers, and the need to acquire or seek support for technical services like accounting, management, marketing, strategy development and establishment of business linkages. Management and support services are perceived to be cost prohibitive and non-value adding. SMEs have not taken full advantage of Government-sponsored business support services such as the National Board for Small Scale Industries (NBSSI), which operates in the 10 regional capitals under the Ministry of Trade and Industries, and the Ghana Regional Appropriate Technology and Industrial Service (GRATIS), a foundation that provides skill training and basic working capital tools for start-ups. Policy interventions for the promotion of SMEs have generally had the following broad themes: Adequate support structure, transfer of appropriate technology, entrepreneurial training and labour skills development, access to sources of funds including reducing collateral requirements, and providing safeguards for the credit delivery system, and promoting linkages between large and small industries. Without a holistic approach covering the key developmental constraints of SMEs, SME financing schemes implemented in isolation are unlikely to be effective.

Problem statement There are many who believe that the single most important factor constraining the growth of the SME sector in Ghana is lack of finance. There are however other factors that can be adduced for this problem of funding and include: a relatively undeveloped financial sector with low levels of intermediation, lack of institutional and legal structures that facilitate the management of SME lending risk, and high cost of borrowing and rigidities interest rates. Other constraints are lack of transparency of SMEs businesses to especially outsiders such as accountants, marketers, strategic development experts, and management and support services providers. Because of the persistent financing gap, many interventions have been launched by governments and development partners to stimulate the flow of financing to SMEs over and above what is available from exiting private sector financial institutions so as to facilitate their growth. One important explanation often given is that SMEs do not normally get much public attention, and the fact that it is problematic to get the information needed to conduct studies since SMEs usually are not listed on the Stock Market; thus not obligated to provide the public with detailed financial information. However, financing problems are often more critical in SMEs, due to the limited ability to generate internal funds and the limited access to the external capital market. Financing problem will not just limit SMEs growth potential but also, in many cases, threaten their existence, which stresses the need for more researches dedicated to SMEs and their growth.

Objectives of the study
The objectives of the study are:

• To establish the role played by SMEs as a conduit for economic development. • To assess the performance of SMEs in Ghana for the last decade • To highlight and analyze the effect of constraints on SMEs growth in Ghana. • To re-assess the stage model of SME growth • To set a broad, strategic recommendations on stimulating the growth of SMEs in Ghana.

Research questions

The research questions are:

• How do SMEs facilitate or stimulate economic development? • What have been the performance of SMEs in Ghana for the past two decades • What are the binding constraints facing SMEs’ growth in Ghana? • What are the theoretically and empirically validated explanations of SME growth? • What broad strategies can stimulate the growth of SMEs in Ghana?

Significance of study It is of significance that efforts are made to fully identify the role of SMEs in economic development of Ghana and to highlight and analyze the constraints on their growth. The study will result in an improvement in the costs associated with firm-level growth and investment, with a special emphasis on SMEs. In particular, it would identify and analyze the policy, regulatory, and market constraints on firm-level growth and investment in Ghana. This analysis would set a roadmap for policies and institutional interventions, which is hoped, to help create an environment that is conducive for the growth and development of SMEs in Ghana. This research work is to once again seek for a theoretically sound and empirically validated explanation of SME growth to serve as a broad conceptual framework for research and policy-making regarding the business growth phenomenon. Ideally, such a framework would need to capture, in a rigorous and consensual manner, the current state of scholarly understanding of the dynamics of SME growth, including the distinguishing characteristics, problems and requirements of growing SMEs. The research would also contribute to academic knowledge in terms of policy formulation and its resultant impact on the growth of SMEs in Ghana.

The Scope of the study The survey was conducted on SME’s operating within Kumasi, Accra and Tema Metropolitan areas of Ghana.

The Limitations of the Study The study focused on SMEs in Accra, Tema and Kumasi; thus the research findings cannot be generalized for Ghana as a whole; to make such generalization, the researcher needs to take a bigger study that involves several towns and villages in Ghana to cover more or larger geographical areas of the country. Hence giving a lot of time and funds, the researcher would have used a wider population.

Organization of the study The study has been divided into five chapters. The first chapter introduces the study which is followed by a review of existing relevant literature on the subject matter in chapter two. The research methodology for the study is discussed in chapter three. Chapter four deals with the presentation and discussion of findings whiles chapter five which is the final chapter, treats the summary, conclusions, and recommendations.



Background of the SME sector

SMEs have made valuable contributions to the overall development of Ghana, forming about 92% of enterprises in the country; they provide the livelihoods of most Ghanaians. According to the Ghana Living Standards Survey, 2006 (GLSS-3), 13% of the population sampled were employed by government or private firms with 69% self -employed and 18% with no regular jobs. With this, a significant number of SMEs are located in the rural areas where they make a crucial contribution to the livelihood security of the poor; as sources of essential goods and services, employment and income outside the traditional farming activities. Other quantitative contributions of SMEs can be measured in terms of value added, foreign exchange earnings through export, as well as savings through the production of import substitutes.

SMEs train workers in-house and on the job, teaching employees valuable skills and offering a breeding ground for entrepreneurial and managerial talents for both men and women. Indeed, many large industries start small and managers as well as employees improve on their skills as these enterprises grow.

SMEs enable risk-taking and motivated individuals to find avenues for their talents to new types of business activities and innovations. Some small businesses contribute to the improvement of forward and backward linkages as auxiliaries to large-scale enterprises .In fact, a strong and productive industrial structure can only be achieved where micro, small, medium and large enterprises not only co-exist but also function in symbiotic relationship. They tend to develop in almost all the regions of Ghana and thus contributing to reducing the concentration of industries in urban areas, thereby promoting balanced economic growth between the administrative regions as well as the rural and urban areas.

SMEs can therefore contribute immensely to income distribution by alleviating poverty and reducing income disparities among social groups and the closer integration of women and people in rural/deprived areas with the national economy. According to Anderson (1982), cross sectional and time series data available, strongly suggest the fact that industrialization process normally begins with rapid growth of small scale industries, some of which expand to medium and large scale firms while the rest survive the market niche where they can remain competitive with large scale enterprises.

As a result of the contributions made by these enterprises to the development of the economy, various SME support institutions including public and other non-governmental organizations are involved in the promotion of micro and small scale industries. The Rural Enterprises project is one key institution in this area. The project became effective in 2003. However, the impacts of this project are yet to be measured.

The Concept of SMEs

The term SMEs has been given different explanations and definitions at both the international and local contexts. In the context of international studies, the term ‘SME’ refers to private enterprises, both in the manufacturing industry and the service and trade sectors, with fewer than 250 employees. (Ayyagari, Beck, & Demirgüç-Kunt. 2005). In Ghana, the definitions for small scale enterprises vary from one organization to another. The Statistical Service (1993) for instance, defines small scale enterprises as those enterprises employing not more than 29 persons. The National Investment Bank also defines a small-scale enterprise as one that employs nine or fewer workers or one that has fixed assets not exceeding ten million cedis (Ghana Chamber of Commerce, 1972). The National Board for Small Scale Industries (NBSSI) (2004) defines small scale enterprises as those that employ more than nine workers with investment in plant and machinery, excluding land and buildings, to the tune of 10 million cedis or US$100,000 (Ghana Industrial Census, 1987). The NBSSI and Friedrich Ebert Foundation, in two surveys commissioned in the Central Region in 1990, defined small scale industry as an industrial or a service unit with labour strength of up to nine persons, irrespective of the level of investment, both household and non-household unit (Aquaah-Harrison, 1990 & Star International Consultants Limited, 1990).

SMEs are generally sub-divided into three categories: Micro (0-9 employees), Small (10-49 employees), and Medium sized (50-249) employees. Large enterprises are defined as enterprises that have more than 249 employees (World Development Indicators database).

The USAID (1996) defines a micro-enterprise as an informally organised business activity which is owned and employs poor people; employs 10 or fewer people, including the micro entrepreneur and any family workers; and is not engaged in crop production. The European Commission (EC, 1996), defines SMEs as enterprises which (i) have fewer than 250 employees, (ii) have either: (a) an annual turnover not exceeding Euro 40 million, or (b) an annual balance sheet in total not exceeding Euro 27 million, and (iii) are independent, i.e. 25 or more of the capital or voting rights is not owned by one other enterprise, or jointly by several enterprises. Micro and small enterprises are those that (i) have fewer than 50 employees. The International Labour Organisation (ILO, 1986) defines small-scale enterprises to include modern industrial firms employing up to 50 people, family units of three or four people, villages of cottage industries, associations, companies, co-operatives, owner-operators, mini-firms and the self-employed in the informal sector of the economy.

Most of the definitions of small scale industries are based on either the number of employees they employ or the value of their fixed assets (Harper, 1984). The problem associated with such definitions is that the cut off point for both the level of employment and the value of fixed assets vary between countries, nationals, agencies and individuals.

Some scholars are also of the view that, it is difficult to give just a single definition for SMEs since it is too difficult to distinguish between small, medium and large scale industries. According to Hoselitz (1968), there are two approaches in dealing with the problem. The first approach in his view is to find quantitative measures such as employment with power, horse power or capital equipment at some convenient valuation. The second approach to handle the problem is to focus on the financial aspects such as the nature of management, sources of capital, market and management-worker relationships (Staley & Morse, 1965).

Evans (2008) notes that it is very difficult to define SMEs in Africa and for that matter Ghana. However, it is statistically accepted that micro firms are made up of one to nine employees, while small firms have about 9 to 49 employees, medium-size enterprises consists of 50 to 249 employees, while large firms are enterprises with over 250 employees. In some cases, turnover or the strength of balance sheet is used to judge whether a firm is small, medium or large. In the United Kingdom, a small business is one whose turnover is not more than £5.6 million or one with a balance sheet of not more than £2.8 million and employs more than 50 workers. A medium-size company must satisfy at least two criteria- a turnover of not more than £22.8 million or a balance sheet total of not more than 11.4 million pounds or have not more than 250 employees on its pay roll.

Theoretical discussion

In finance literature, different theories are discussed to explain the capital structure decisions in a company. These include the Modigliani and Miller’s (1958) optimal capital structure theory and Myers’ (1984) pecking order theory. These theories intend to explain factors that influence a company’s choice between internal financing and external financing, and between debt and equity. Since empirical evidence of these theories has been primarily based on data from large and established companies, the question of how well these capital structure theories fit in the specific context of SMEs arises.

According to Landström (2003), there are three major approaches in SME financing research: in one end of the spectrum, there are those who believe that the existing capital structure theories are applicable to both big and small companies, on the other end there are the researchers who believe that completely new theories are needed to explain the specific situations of the SMEs. The third category of researchers takes a position in the middle and thinks that existing theories can be applicable to SMEs with certain adjustments.

In the field of SME financing researches, there are also constant debates about whether there exists a financial gap in SME financing, referring to the mismatch between demand and supply on the capital market (Landström, 2003). Accordingly, the financial gap does exist and is mainly caused by information asymmetry between financier and entrepreneur. Cressy and Olofsson (1997) confirm with empirical evidence that SMEs in certain sector have more difficulty to finance their investment needs than others.

Internationalization of SMEs

A remarkable and extremely important business phenomenon of the 20th century is the internationalization of large and small as well as established and new venture firms (Sapienza et al., 2005). Next to the fact that young and small firms increasingly tend to internationalize, another novel element of the globalization trend has been the impressive rise in foreign direct investment (FDI). Yet, it is widely acknowledged that SMEs, in general, are subject to substantial financing constraints, which may potentially hinder exploiting their full growth potential.

Nowadays, the majority of SMEs in almost all industries face growing competition due to internationalization (European Commission 2003). Even primarily domestically oriented SMEs must operate internationally in order to guarantee their competitiveness and viability (Etemad, 1999). During the recent years, SMEs have taken up an increasingly active international role (Oviatt & McDougall, 1999). As the world economy is becoming gradually more integrated, internationalization and FDI activities are likely to gain further momentum (Lu & Beamish, 2001). A financial environment that supports SMEs' growth is an indispensable condition for the success of small businesses.

By extension, inadequate access to external finance improperly hampers economic growth and welfare. Many countries spend substantial sums of public money to moderate equity and debt gaps that are assumed to be present, particularly among small firms. A wide range of policy schemes, such as direct loans, interest subsidies and loan guarantees, have been established to alleviate finance rationing of SMEs (Cressy, 1996 & European Commission, 2003).

Relationship between internal resources and firm investment

An extensive literature documents the relationship between internal resources and firm investment (Harrison & McMillan 2003). In business surveys, companies repeatedly allude to the lack of external finance as a major obstacle to their investment and innovation activities (Harhoff & Körting, 1998). These findings suggest the presence of finance rationing phenomena, which are typically considered as problems of moral hazard and adverse selection due to information asymmetry. Jaffee and Russell (1976) and Stiglitz and Weiss (1981) argue that banks may ration credit rather than increase interest rates to clear the market as the latter may deter good borrowers and result in incentive problems.

In equity markets, Myers and Majluf (1984) describe why firms may need to sell new stock at a discount. Financing constraints occur for various types of firms and/or projects, for example for starting entrepreneurs Holtz-Eakin, Joulfaian, and Rosen (1994) and innovative projects like Research and Development (Hall, 2002). Fazzari, Hubbard, and Petersen (1988) even find evidence of significant capital market imperfections for publicly traded manufacturing firms in developed markets.

Characterization and development of micro and small enterprises

There are many studies on SMEs which consider SMEs for economic development in both developed and developing countries. SMEs have been recognized as a major source of employment and income in many countries especially in the Third World. In Africa and Asia, the majority of the population lives in rural areas where Small Scale enterprises provide 20-45 percent of full time employment and 30-50 percent of rural household income. Latin America which is more urbanized has an estimated 50 million micro and small scale enterprises, employing 120 million people (Scott, 2000).

Micro and small-scale enterprises are characterized by low returns on investment and generally use simple, low cost technologies .They serve local, low-income market, and jobs are often part-time or seasonal. Many of them are in the informal sector which means that their operations are not properly regulated. In developing countries, small-scale enterprises tend to be concentrated in a small number of industrial sectors, but they along with medium-scale enterprises and account for a large proportion of those employed in the entire manufacturing sector (Scott, 2000).

In general, SMEs are believed to have six characteristics: minute in size; transitionary life cycle; widespread presence; diverse nature; importance both in their own right and also the economic system as a whole; and a close relationship with larger producers either by metamorphosis, or through direct and indirect interactions (Wan, 2002). Other characteristics that have been pointed out are that they are often owned, managed and run by family members and have a less complex production process due to lack of resources and skilled labour. They often have a simple management and administrative organization and do not undertake high-risk jobs and are usually involved in subcontracting market (Hillary, 2000; & Scott, 2000).Mead and Liedholm (1998) summarized the characteristics of SMEs under seven main headings

Size of labour: the real number of employees is estimated to be more than the registered number which is reported in most official statistics;
Size distribution: SMEs can be of any size, ranging from one person working alone to a company with 50 employees;
Labour force characteristics: the labour force consists of family members, hired workers, trainees and apprentices that vary according to the size of the firm;
Location: the majority of SMEs operate in rural areas or in the suburbs or peri-urban areas of the city.
Composition of activities: Most SMEs are primary vendors and small traders and manufacturers, of which most important sectors are apparel, food and beverages, and wood and forest products;
Gender: the majority of the SMEs are owned and operated by women as home-based enterprises; and
Efficiency: resource, labour and capital efficiencies vary according to company size: Surveys show that enterprises with 2-5 workers have a larger return per working hour than others.

These characteristics have implications for both development and the environment. Various studies have highlighted the potential of SMEs to generate employment and income in the national economy, promote skills acquisition and transfer of technology, make use of locally available raw materials and appropriate technology, (Yankson, 1987).

The Role of SMEs in the structural transition from low-to middle- income levels

It is important to highlight the role played by SMEs in the transformation of economies from low-to middle-income levels because there are significant structural differences between the two. The exercise is particularly relevant to Ghana as a country at the threshold of achieving middle-income status. This section helps to contextualize the potential of SMEs in stimulating structural change during the process of economic development.

Within the large debate on change, the study focuses on the role played by SMEs in stimulating structural transformation in the industrial sector. This is important because the literature on structural change suggests that apart from oil-exporting economies, most countries have depended on their industrial sectors to achieve high level of GDP per capital, (Holmes and Zimmer, 1994). This generalization holds even after controlling for differences in initial endowments and level of agricultural development. For very advanced countries, the percentage share of manufacturing in GDP declines and the services sector becomes more important, but there are almost no examples of countries that have reached that level without going through a phase in which manufacturing became the most important sector of the economy.

Before analyzing the role played by SMEs in structural transformation, this section sketches the process of transformation identified by the literature. Low-income countries tend to have a high dependence on agriculture and the exploitation on natural resources. A significantly large percentage of their GDP is contributed by these sectors, which also employ a major portion of the work force (for most low-income countries, agriculture contributes the largest share to output and provides employment to the majority of the workforce). As opposed to this, industry contributes a small percentage of GDP at this level of development (in general, for low-income countries with a per capital income of less than $500), and is composed of a few large firms and a large number of micro-and small enterprises (SEs), (Keasey & Watson, 1993).

The services sector is relatively large but underdeveloped, and consists predominantly of single entrepreneur micro-and SEs. With development and industrial growth, agriculture sheds labor and its contribution to GDP falls in percentage terms. At the same time, there is growth in the services sector, which includes all trading and retailing activities. As the economy approaches high middle-income status ,the contribution of agriculture as a percentage of GDP becomes the largest sector, but the literature strongly suggests that it is manufacturing with its dynamic growth potential that has been the ‘engine of growth’ responsible for this transition. Snodgrass and Biggs’s (1996) exhaustive study on SMEs reveals interesting patterns in this regard. It shows that, in low income countries, it is the micro-and SEs that dominate the industrial sector.

As economies approach middle-income levels, medium-size firms come into their own alongside large firms, which dominate the more basic and heavier industries. This phase of development also witnesses a significant increase in plant and firm size as micro-size and SEs grow, and new medium-size and large firms enter the industrial sector. The evidence on enlargement of scale persists even after controlling for the variation in capital-labor ratios across industries. An important factor stimulating structural change from low-to middle-income levels appears to be the growth in size and scale of SMEs. This transformation occurs because firms are able to exploit economies of scale and scope and move down their learning.

Beyond the point, the literature finds a positive correlation between firm scale and the rising per capita income of economies. The findings on structural change reveal that the percentage importance of SMEs in an economy’s industrial structure goes up initially at low levels of development, peaks at the middle-and high middle-income level, and then declines as the economy continues to develop.

This suggests that SMEs play a vital role in the structural transformation from low-to middle-income status. They provide employment and output in the early and middle stages of structural transformation, and facilitate the transition itself. This does not lessen the importance of large-scale enterprises in the transition. The percentage importance of SMEs in industrial employment increases much more rapidly than large enterprises for middle-income countries. The evidence suggests that, at best, SMEs act as catalysts of change, and at the very least, as enablers of structural change that is triggered by large-scale enterprises. From an empirical point of view, it is important to note that there have been almost no successful transitions in which the SME sector has not played an important role. (Keasey and Watson, 1993)

SMEs as drivers of growth While the previous section clearly illustrates the importance of SMEs as conduit for structural change, the literature is far more ambiguous about the role they play in stimulating growth in low-income economies. The main argument in favor of SMEs is that; their allocative efficiency is higher from a social point of view because they face lower wages and higher capital costs than large enterprises, and because this better reflects the social cost of labor and capital. For this argument to hold, it needs to show that SMEs use all factors of production (and not only labor, which almost always has a social opportunity cost) more efficiently than large-scale firms. Supporting evidence is, at best, ambiguous. It suggests that large-scale firms not only have a higher output per worker but also significantly higher total factor productivity. Although this result is sensitive to technological indivisibilities in different industries, the literature does not presume that SMEs in those industries where technology is divisible are more efficient than large-scale firms. The efficiency of SMEs is explained better by factors other than size, such as the type of industry they operate in or type of technology used in a particular sector. Apart from the static context described above, the literature also takes dynamic analysis into account. First, it is argued that SMEs constitute “...a seedbed or nursery which is an essential part of the forest of firms whose component trees are decaying as well as growing” (Little, Mazumdar, & Page, 1987). Second, sectors dominated by SMEs are better able to exploit dynamic economies of scale. SMEs allow a large number of entrepreneurs and the self-employed to survive, but there is little evidence to show that the number of entrepreneurs is a sufficient or necessary condition for growth. Snodgrass and Biggs (1996) argue that the literature shows little conclusive evidence to suggest that a large number of SMEs allows a significant number of entrepreneurs to enter an industry and develop into larger firms. In fact, the literature points out more failures than successes in this regard. However, there is considerable evidence to show that sectors dominated by SMEs are better able to exploit ‘dynamic’ gains through learning that widely dispersed, both geographically and in terms of the number of firms. The literature suggests that sectors dominated by SMEs tend to generate higher levels of competition and mobility than others. This produces higher turnover among firms, given the ease of entry and exit in these sectors, in turn, forcing higher levels of learning among firms. This occurs through two mechanisms. First, the discipline imposed by competition forces firms to innovate faster in order to survive; however, this effect is sensitive to the level of technological development in a sector. Second, easy entry into the population of firms allows greater experimentation, which increases the probability of a firm developing or adopting better organizational and technological traits.

Explaining SME Growth

Wider scholarly thought on business growth in the literature of economics may be found in works by (O’Farrell & Hitchens 1988; Hanks & Chandler 1992; & Holmes & Zimmer 1994). These are all substantial and critical published reviews of prior research which has attempted to explain the dynamics of growth in SMEs. In addition, Birley and Westhead (1990) provide a general review of the relevant literature as a precursor to reporting empirical findings on growth and performance contrasts in SMEs. Importantly, these reviews are broad in scope and comprehensive; and, by and large, they are not confined to the perspective of a particular academic discipline or to a single explanatory paradigm for growth. The most significant conclusions of the general reviews are summarised below.

In their review of alternative conceptual frameworks for explaining SME growth, O’Farrell and Hitchens (1988) classify available business growth theories into four main groups:
1. Mostly static equilibrium theories derived from the field of industrial economics that are insufficiently concerned with the dynamics of growth, and which tend to be preoccupied with attainment of economies of scale and minimisation of long-run unit costs. Many are considered to overemphasise the large firm as the ultimate stable outcome of growth, there being no perceived limit to the size that a business might achieve (Perry, 1982; O’Farrell & Hitchens, 1988). In this context, Penrose’s (1959) views on the availability of managerial time and expertise, and its impact on the achievable growth rate for a business, are most significant.
2. Stochastic models of firm growth, developed mainly in the field of economics, which, in summary, suggest that ‘many factors affect growth and, therefore, there is no dominant theory’ (O’Farrell & Hitchens, 1988, p. 1370). In this context, it is important to be aware of Gibrat’s (1931) law of proportionate effect which proposes that business growth rates are independent of enterprise size. O’Farrell & Hitchens (1988) cite empirical evidence which upholds Gibrat’s law for manufacturing SMEs; and they also allude to empirical support for the proposition that the variability of growth rate decreases with increasing enterprise size.
3. What are referred to as strategic management perspectives on SME growth which, according to O’Farrell and Hitchens (1988, p. 1373), have: . . focused attention upon the strategic dimension of achieving sustained growth and the way in which the owner-manager responds to business and personal environmental indicators. Hence, they concentrate upon the identification of the owner-manager’s policies and strategies for the conduct and development of the business and their subsequent translation into managerial action that will lead to sustained business development. These business strategies are thought to be determined by perceptions of what the owner-manager wishes to, or thinks he can, achieve through his business, in the light of the opportunities and constraints he sees. In turn, these aspirations and perceptions will be partly determined by personal characteristics. An important message emanating from the strategic management literature is that not all SME owner-managers have the desire, or indeed the capability in terms of resources and expertise, to grow their business (Perry, Meredith, & Cunnington, 1986). Marginal to comfortable survival at the present enterprise size, rather than growth, is most often the overriding strategic objective. The reasons for this are myriad, ranging from personal wishes regarding life-style to a disinclination to surrender control and/or be accountable to others within and without the business in order that it may grow (McKenna & Oritt, 1981; McMahon et al., 1993a; Petty & Bygrave, 1993). Theories that have their origins in the field of economics according to which SME growth is viewed as a series of phases or stages of development through which the business may pass in an enterprise life-cycle. These are the most prevalent explanatory devices employed by researchers and policy-makers for explaining growth in SMEs. Unfortunately, over time there have been a great many stage models of growth being proposed, and there is a bewildering range from which to choose for the purposes of research and policy-making. The number and nature of growth or development stages in these models vary widely from author to author, as do their emphases (Gibb & Davies, 1991). The extent to which SMEs are and must be managed in a holistic manner, and given evidence which suggests strategic awareness in owner-managers, is a key factor in successful growth and development. However, there are still serious questions about whether owner-managers are consciously or deliberatively strategic in their management style. Even casual observation would suggest that crisis management on a day-to-day basis is a fact of life in many SMEs. However, for strategic management perspectives on growth to be sufficiently plausible to act as the main conceptual framework for SME growth, it is essential to demonstrate more substantial longer-term vision and strategic intent amongst owner-manager, (Birley & Westhead, 1990). In the last decade or so, stage models of SME growth have been scrutinised with much more scholarly rigour than hitherto has been the case. Sound attempts have been made to integrate the multiplicity of models, and to ground them with an empirical as well as an experiential base. Much of this research has the added attraction of being well grounded in strategic management thought.

Stage models of SME growth

As indicated earlier, it has become very common amongst writers in the area to view SME growth as a series of phases or stages of development through which the business may pass in an enterprise life-cycle. In an often cited book of readings on the organisational life-cycle, Kimberly & Miles (1980); draw attention to: “the cyclical quality of organizational existence. Organizations are born, grow, and decline. Sometimes they reawaken, and sometimes they disappear”.

This quotation invokes a biological metaphor for business organizations which has been the source of much controversy in the literature of economics, business and sociology (Penrose, 1952; Kimberly & Miles, 1980).

A number of published literatures which focus specifically on explanations of SME growth based on life-cycle stages through which growing businesses might typically pass. These reviews or literatures consider all the best known attempts to develop, mostly inductively but sometimes deductively, life-cycle or stage models of SME growth.

Hanks, Watson, Jansen, and Chandler (1993) define a life-cycle or growth or development stage as ‘a unique configuration of variables related to organization context or structure’. Contextual dimensions considered include enterprise size and age, growth rate, and focal tasks or challenges faced.

Structural dimensions include structural form, formalization, centralization, vertical differentiation, and number of organizational levels.

Hanks et al. (1993) note that, at a superficial level, there are many commonalities between the life-cycle models. Nonetheless, commenting on wide differences in the specifics of prior life-cycle models, They observe that: the strength of a taxonomic approach to identifying and specifying stages in an enterprise life-cycle model is derived from the use of multivariate analysis of empirical data to reveal common patterns and relationships in the data. Hanks et al. (1993) derive a life-cycle model with four development stages and two disengagement (or arrested development) stages, as represented in Figure 1 on the next page. Hanks et al. (1993) further describe the various development configurations or stages in their taxonomic life-cycle model as follows:

1. Start-up – young, small enterprises with simple organisational structures and a mean of 2.20 organisational levels. The organisation is highly centralised and quite informal. There is little functional specialisation, with a mean of 1.50 specialised functions. Product development appears to be the focal priority. Mean sales revenues growth is 91 per cent per annum, and mean employment growth is 29 per cent per annum.
2. Expansion – slightly older and larger enterprises with more complex organisational structures and a mean of 3.18 organisational levels. The organisation is still very centralised and is a little more formal than in the start-up stage. Functional specialisation is generally adopted, with a mean of 3.4 specialised functions. Product commercialisation appears to be the focal priority. Mean sales revenues growth is 297 per cent per annum, and mean employment growth is 94 per cent per annum.

Figure 1: Enterprise Life-Cycle Model
1. Maturity – although not necessarily older, on average, than in the expansion stage, enterprises in this stage are typically more than twice as large. Organisational structures are more complex than hitherto, with a mean of 4.00 organisational levels. Centralisation is declining and formalisation increasing. There is a mean of 10.17 specialised functions. Mean sales revenues growth is 99 per cent per annum, and mean employment growth is 28 per cent per annum.
2. Diversification – enterprises are generally medium-sized with increasing tendency to have divisionalised structures. There is a mean of 5.70 organisational levels. Centralisation is low, and formality is highest for any stage in the life-cycle model. There is a mean of 15.30 specialised functions. Mean sales revenues growth is 37 per cent per annum, and mean employment growth is 57 per cent per annum.

Gestalts of SME growth?

Miller (1981, 1987) suggest that, rather than moving predictably through a sequence of developmental stages, businesses might instead ‘attain gestalts or patterns of strategy, structure, and environment that may emerge for any number of reasons’

According to Miller and Friesen (1984), Organisational structures, production systems, information processing procedures, strategies and environments; all tend to influence each other in such a manner that gives rise to a small number of extremely common configurations. Configurations may represent common organizational structures, common scenarios of strategy making in context, and even common developmental or transitional sequences.

Kazanjian and Drazin (1989) point out that organisational gestalts are appropriate responses to imperatives facing businesses, and that movement from one gestalt to another would not necessarily follow any developmental pattern...

As pointed out earlier, a sequence of stages might be inferred from the enterprise size and age characteristics typical for concerns in each stage of the Hanks et al. (1993) study. However, later in their paper Hanks et al. (1993, p. 24) observe:

Although the cross-sectional approach taken in this study is suggestive of life-cycle stages, it is impossible to differentiate between configurations representative of life-cycle stages and those suggestive of firms simply choosing to do business in different ways. This may be taken to suggest that what could be seen as life-cycle stages might alternatively be perceived as gestalts amongst the businesses studied. The point is, then, that the Hanks et al. (1993) model described at some length in this work is not inconsistent with an alternative gestalt perspective; although, on balance, it favours a stages-of-growth perspective. Also that a gestalt may, in fact, be a growth stage. The upshot is that some reliance can be placed on the Hanks et al. (1993) model in the knowledge that, as well as overcoming concerns that stages-of-growth models are frequently not empirically based. After a critical appraisal of recent research in the field, this paper has argued that reconsideration should now be given to a conceptual framework that represents SME growth as a series of stages of development through which the business may pass in an enterprise life-cycle. In particular, it is believed that some reliance can be placed on the Hanks et al. (1993) stages-of-growth model in the knowledge that, as well as overcoming concerns that such models are frequently not empirically based, it can also be claimed to at least partially answer the most prevalent objections to this type of model that have appeared in the relevant literature.

Empirical discussion

SMEs allow a large number of entrepreneurs and the self-employed to survive, but there is little evidence to show that the number of entrepreneurs is a sufficient or necessary condition for growth. Snodgrass and Biggs (1996) argue that the literature shows little conclusive evidence to suggest that a large number of SMEs allows a significant number of entrepreneurs to enter an industry and develop into larger firms. In fact, the literature points out more failures than successes in this regard.

However, there is considerable evidence to show that sectors dominated by SMEs are better able to exploit ‘dynamic’ gains through learning that widely dispersed, both geographically and in terms of the number of firms. The literature suggests that sectors dominated by SMEs tend to generate higher levels of competition and mobility than others. This produces higher turnover among firms, given the ease of entry and exit in these sectors, in turn, forcing higher levels of learning among firms. This occurs through two mechanisms. First, the discipline imposed by competition forces firms to innovate faster in order to survive; however, this effect is sensitive to the level of technological development in a sector. Second, easy entry into the population of firms allows greater experimentation, which increases the probability of a firm developing or adopting better organizational and technological traits.

Financing constraints that SMEs face for their foreign investments may severely hurt their growth potential. Obtaining sufficient financing serves as a buffer against unforeseen setbacks and allows SMEs to explore and exploit a broad range of challenging foreign investment activities (Westhead, Wright, & Ucbasaran, 2001). Several empirical studies report evidence that financing constraints have a greater impact on the investment behaviour of small firms Berger and Udell (1998) and that SMEs' growth is determined by their access to internal finance.

The European Commission has acknowledged the financing difficulties, both for equity and debt, of smaller firms and recognizes the existence of a market failure due to information problems and transaction costs (European Commission 2003). As a result of the financing gaps, small firms tend to rely more on self-financing, have lower liquidity and leverage, seldom issue equity, and rely more on short-term bank financing, trade credit and owner loans (Chittenden, Hall, & Hutchinson, 1996). The efficient and effective provision of finance is fundamental in ensuring that SMEs can exploit their growth opportunities. A positive association exists between external finance and business performance (Keasey & McGuiness, 1990).

They presented a number of reasons that account for the financing issues that SMEs regularly encounter. First, SMEs are disadvantaged in a number of aspects compared to large firms. They have a smaller pool of financial and managerial resources to survive critical periods. SMEs have a shorter expected life, may face intergenerational transfer problems and are expected to be less profitable (Ang, 1992). Large firms usually have better-trained management, advantages in raising capital, more favourable tax conditions and government regulations, and can better compete for qualified labour (Cressy & Olofsson, 1997). Empirically, failure rates are notably higher for SMEs (Brüderl, Preisendörfer, & Ziegler, 1992).

Second, agency and asymmetric information problems may be more pronounced for small firms. Agency costs are expected to be higher as a small business manager is likely to put his own and his firm's interest first. Additionally, solutions to agency problems are more costly to SMEs, thereby raising the transaction costs between small businesses and their financiers. Moreover, the fixed cost element of transactions puts small firms at a disadvantage. Monitoring SMEs is more difficult and expensive as information on them is less easily available, they have less credit history, are subject to less rigorous reporting requirements and the quality of their financial statements may vary (Pettit & Singer, 1985).

Furthermore, employing bonding methods like incentive schemes may be complex for SMEs. (Michaelas, Chittenden, & Poutziouris, 1999). All these elements result in SMEs often facing difficulties in signaling their creditworthiness.

Although a number of papers have revealed that exporting SMEs frequently face a lack of capital to finance their exports, there is not a single study in the literature that investigated the financing constraints SMEs experience when pursuing FDI (Crick, 2004). However, a survey by the European Commission showed that in particular SMEs that engage in outward internationalization activities may confront a shortage of capital (European Commission, 2003).

Prior research has documented a strong predisposition of equity investors towards geographically and culturally proximate investments (Grinblatt, 2001). This home bias is claimed to be due to cognitive bias towards familiar investments and lower information costs (Huberman, 2001). As geographical distance rises, reducing information asymmetries between firm and financiers becomes more challenging (Sorenson & Stuart, 2002).

Irrespective of the development level of countries, SMEs are an integral part of the economy all over the world. In the view of Fry et al (2004), there are four special ways that small scale enterprises affect society and the economy. The first impact of small-scale enterprises is economic and is due to the sheer number of small businesses that exist and that though each small business produces relatively few goods or services, when all small businesses are added together, the economic impact is substantial. The second impact of small scale businesses is seen in the number of people they employ. Even in the more advanced world, like the United States, over half of the private workforce is employed by small scale business and small-scale businesses have created more net new jobs in recent years than large businesses have.

The third impact of small-scale enterprises comes from the technological innovations they contribute. Most new products are created in small businesses. Small scale businesses are often run with fewer restrictions and more flexibility than larger firms. Accordingly, it is generally easier to bring new ideas into focus. Also, there are fewer layers of bureaucracy to work to get through, so new ideas are less likely to get buried.

Finally, small scale businesses are often run by creative entrepreneurs, who feel comfortable taking risks and grasping new ideas. To a great extent, their businesses probably survive in the tough competitive environment because they operate in this manner. Creativity and innovation are, thus, part of the success formula for many small scale business operators.

Evans (2008) notes that, the development experience of East Asian countries like South Korea, Japan, Taiwan, Hong Kong and Malaysia shows that they developed their economies on the back of their SMEs. He asserts that the big companies that rule the world economy today, such as Microsoft, Volkswagen, General Motors, McDonalds, Hewlett-Packard and Google, all began as SMEs. He indicates further that, in the United Kingdom, small businesses are recognized as the backbone of the British economy, accounting for more than half of UK’s turnover. In the countries that make up the Organisation for Economic Co-operation and Development (OECD) group, SMEs represent over 95 per cent of enterprises and in most of those countries they generate over half of private sector employment .He finally indicates that in New Zealand, nine out of every 10 businesses employ less than 10 people whereas in Japan, nearly 80 per cent of all employment is generated by SMEs.

According to the National Board for Small Scale Industries (2004), SMEs have a significant role to play in developing the rural areas. The Board has identified five important roles played by the enterprises in economic development of Ghana. These roles are seen in the areas of employment generation, use of local resources base, role in micro-credit, improvement in infrastructure services and export market potential.

SMEs also often encounter a policy environment which compounds many of their problems, usually because it is oriented towards large modern sector industry and fails to accommodate the particular characteristics and needs of micro and small-scale enterprises, to the point where policies may severely constrain or inhibit their activity.

According to ILO (1999) report, SMEs, particularly those in developing countries where the service infrastructure and business environment have not been developed, typically face operational problems which make it difficult to start-up and expand or develop to reach their full potential. Such problems could be generalised as follows: Lack of access to financing, Lack of access to the market, Lack of skilled workers, or poor access to skill development for workers, Lack of access to better technology and equipment, Lack of access to information vital to business management, and Lack of business management skills.

In the view of Barton (1997), studies of SMEs generally identify a long list of problems faced by owners and operators of small enterprises. On the financial side, he indicates that studies emphasise that the primary need is for a better access to working capital, although fixed or investment capital is a problem for certain types of businesses. In the non-financial area, he indicates that, micro enterprises must deal with numerous problems including the following: Marketing problems, Input supply problems, Technical or production problem, Legal and regulatory compliance and harassment, Transportation problems, Limited access to business facilities and infrastructure; and Human resource development and management problems.

According to Park (2008), some of the problems confronting the financial support system of SMEs, are lack of capital for loan service and investment, low accumulation of credit because of low saving rate as against high inflation rate, credit rationing, worsening efficiency in resource redistribution, inefficient loan guarantee system and lack of government policy funding for SMEs.

In Ghana, just as it is in most developing countries, the growth constraints of SMEs can be grouped under two broad heading. These are those that are of internal nature, such as entrepreneurship and management, and those that are of external nature, such as access to resources like raw materials, finance and foreign markets (Schmitz, 1992).

In their study on the impact of the Structural Adjustment Programme on the operations of small scale enterprises in Ghana, Steel and Webster (1992) indicate that the programme has forced small-scale enterprises to be more competitive in order to survive. They also note, however, that the growth of the small-scale enterprises has been slowed due to inadequate financial support and unfavourable regulatory environment such as taxation, registration and licensing of enterprises.

According to Abaka and Mayer (1994), small businesses by their sheer size and nature of operations have been found to be unable to get certain resources to exploit market opportunities. Similarly, Tettey (1994) argues that the lack of professional expertise makes small businesses very vulnerable against every little ‘economic shock’.

Sowa et el (2002) also note that the majority of the 41% of 1,222 firms which experienced a decline in output under the Economic Recovery Programme were located in Accra, Kumasi and Cape Coast, possibly because of the increased competition from imports in these areas. Furthermore, the increasing availability of imported replacement spare parts, associated with the Economic Recovery Programme, has continued to support the repairs sub-sector in areas such as electrical and mechanical. This notwithstanding, this same national policy measures have also made new vehicles and equipment available on the market, which has dampened the demand for repairs. Again, the increasing importation of new and unused clothing has reduced the demand for the products of the garment and textile sub-sector.

Acheampong (2001) also identifies the major problems facing the small-scale soap manufacturers in the Central Region as lack of capital, limited market, defaulting on the part of customers, lack of labour supply and scarcity of inputs.

In his study, Park (2008) reveals that lack of finance is not a major problem of SMEs in Ghana. The major problem is management and ownership. According to the National Board for Small Scale Industries (Annual report,2004), even in the face of the numerous SME support programmes available, the SMEs still face many and varied obstacles and problems. Some of the problems are inherent in the very characteristics of small businesses and start-ups, while others are a direct outcome of economic changes which may affect SMEs in a more crucial manner than they affect large-scale businesses. Some of the main problems and constraints affecting SMEs in Ghana identified by the Board are: Lack of managerial skills; Difficulties in raising finance; Lack of accessibility to information; Bureaucracy; Lack of export incentives; and Lack of specific programmes for women entrepreneur.

Yankson, (2007) asserts that only a few small-scale entrepreneurs have received training or technical advice from public sector training institutions. He affirms further that skill acquisitions among small-scale enterprises are basically through the apprenticeship system where master craftsmen or operators take on apprentices and give them on the job training. Generally, he notes that most of the master craftsmen have had low level (up to middle school) formal education or none at all.

Evans (2008) notes that, in most part of the world, a significant section of SMEs remains in traditional activities generally, with low level of productivity, poor quality of products and serving very small localized markets. There is also very little or no technological dynamism in the group. He notes also that in many countries, there is also a large under-class of SMEs that ekes out a bare survival. Ninsin (2000), on the other hand, regards small-scale enterprises as the “dumping ground for unemployed illiterate labour, especially during periods of severe economic crises.”

In his study of small-scale enterprises in Kumasi, Aryee (2007) noted that apprentices were overwhelmingly the largest group of persons engaged in small-scale enterprises accounting for about 86% of the total labour employed in the study sector. He noted further that the main reason for the engagement of apprentice labour was that it was cheap.

Summary of literature

Existing literature reveals that lack of formal training among small-scale industries and their low level of income have implications for the environment. For instance, ISSER (1992) reported that even though Ghana’s adjustment policies made small scale enterprises more competitive, they created constraints resulting in dwindling profits and, therefore, the inability of small-scale industrialists to adopt environmentally friendly technologies or measures to protect the environment. This could lead to a situation where, although information may be available on the environment, the low level of income among industrialists may hinder their access and their ability to optimally utilise the information in their decision- making process.

The level of income among small-scale industrialists determines the type and the level of additional investment that they would be able to make with low levels of income. Among small-scale industrialists, their propensity to spend their meagre resources on improved technology or on methods that would improve the efficiency of their production process becomes low. This further means that small scale industrialists would be more willing to continue with the use of environmentally unfriendly technologies or continue to use methods of production that would not sustain the environmental base of their operations.

The reliance of small-scale enterprises on local resources for their production activities has placed them in category of industrial activities that exert stress on the environment. The harvesting of raw materials (in the case of alcohol distillation, sugar cane and palm wine result in the denudation of the land, exposing the soil to erosion agents and to the growth of a successive of weeds that tend to reduce the value of the land. The disposal of hot water into the water bodies or onto the soil results in changes in the ambient temperature of the media, alter the chemical characteristics as well as changing the diversity of organisms that would otherwise have inhabited the media.

It is to achieve this that the mixed approach to research would be used in order to arrive at specific measure that would help reduce the constraints to SMEs development and growth in Ghana.




This chapter deals with the conceptual model used in collecting, analyzing and discussing the results and the subsequent writing of the thesis.

Research design and approach

The study used the survey method to ascertain the costs associated with firm-level growth and investment, with a special emphasis on SMEs in Ghana. In particular, it identified and analyzed the policy, regulatory, and market constraints on firm-level growth and investment in Ghana. This analysis sets a roadmap for policies and institutional interventions, which, it is hoped, will help create an environment that is conducive to the growth of output and investment. It is descriptive as possible.

Study population

The target population consist of some selected Manufacturing and Retailing SMEs in Ghana and the officials of the Ministry of Trade and Industries. Also officials from institutions, organizations and programmes, both governmental and private sector-oriented that have been established in the country at the national, regional, district and even the community levels to provide various support services to the sub-sector forms part of the population.

Sample size

The study used a total sample size of one hundred and fifty, of which one hundred were entrepreneurs or owners of SMEs and fifty were officials of Ministry of Trade and Industries, and institutions, organizations and programmes that support the sector.

Source of data

The study employed the use of both primary and secondary sources of data. The primary data were obtained from small and medium scale companies or Enterprises in the Kumasi, Accra and Tema metropolis. Secondary data in the form of annual reports for the period between 1998 to 2008 from the Ministry of Trade and Industry, Ministry of Finance and Economic Planning and other institutions that support SMEs growth in the country has been used.

Instrument of data collection

Self-developed questionnaires, participant and interviews were used to obtain the primary data. Secondary data were used and were obtained from the Ministry of Trade and Industry, Ministry of Finance and Economic Planning and other institutions that support SMEs growth in the country.

Survey methodology

This study used qualitative survey methodology to generate a ranking of macro-constraints on firms-level investment and growth in Ghana. These rankings were then used to identify binding constraints of firm-level investment and growth; particular emphases were placed on analyzing the constraints on growth that face small and medium enterprises (SME). Constraints were ranked on the basis of information collated through (i) a qualitative survey instrument used to learn what firms viewed as major constraints on enterprise investment and growth, and (ii) detailed interviews for insight into the roles played by the SMEs in the socio-economic development of Ghana. The survey instrument employed in this study is consistent with instruments used by researchers who have conducted similar inquiries in other countries. An advantage of this survey is that it analyzes constraints at a level of detail that is not found in other studies (on Ghanaian firms) that have used a similar methodology. In addition, this study attempts to capture local constraints as opposed to the generic constraints usually surveyed in other studies. To achieve this, the study divided export constraints into constraints related to the sales tax export refund procedure and those related to the duty drawback procedure, both of which emerge as major constraints in the Ghanaian environment. Similarly, fiscal constraints were broken down into constraints that arise from the rates of different taxes, the compliance costs associated with different taxes, and the policy uncertainty related to different taxes. When examining infrastructure constraints, the study considers not only tariff rates, but also the reliability of service, quality of repair/billing service, and the cost of backup arrangements. Finally, the study defines binding constraints more rigorously than others might. The survey instrument asked entrepreneurs to rank each constraint on a scale of 1 (least important) to 5 (most important) according to its degree of severity. Respondents were encouraged to score across the full 1-5 range, and special care was taken to ensure that there was at least some dispersion in their responses. Each firm was surveyed in a single sitting, by the researcher. For all firms surveyed, the researcher carefully recorded respondents’ answers to ensure accuracy. Entrepreneurs were interviewed at length on their perception of constraints, to balance the strengths and weaknesses of the qualitative survey approach. Many of the examples and insights acquired through these interviews are documented in the appendixes as clarifying evidence. Such information helps to give a sense of how these constraints are manifested in real-life obstacles and frustrations for business. The survey grouped the constraints on expansion identified by respondents into seven categories: i) Financial constraints; ii) Regulatory constraints; iii) Infrastructure constraints; iv) Macro-policy constraints; v) Human resource constraints; vi) Technology constraints; vii) Market constraints; The decision to use a qualitative methodology reflects the lace of large quantitative data sets on the manufacturing and retail sectors in Ghana. The most recent Census of Manufacturing Industries and the latest Survey of Small and Manufacturing Industries are dated, and do not contain data that is essential to this analysis. A disadvantage of research based on interviews is that it is time consuming and requires substantial resources. In order to contain research costs, a number of compromises were necessary. First, the sample size was kept small. Second, since the indicators generated are largely qualitative, they lend themselves to cross tabulation rather than rigorous quantitative hypotheses testing. Third, the geographical spread of the survey had to be kept to a manageable level. Inferences from the data set, therefore, need to be made with these compromises in mind.

Selection of sample sectors Given limited time and resources as mentioned above, the survey focused on a narrow group of sectors. In order to make the study representative, the survey concentrated on sectors and sub-sectors that account for the bulk of nonagricultural employment and productive capacity. Selected top officials of the Ministry of Trade and Industry, Ministry of Finance and Economic Planning, National Board for Small Scale Industry (NBSSI), Ghana Investment Promotion Center (GIPC), Ghana Export Promotion Council, etc were also interviewed to establish the role played by the SMEs as a conduit for economic development. Within manufacturing, the study concentrates on foods and beverages, garments and light engineering. These subsectors account for over 50% of manufacturing employment and value-added in both the SME and large-scale These sectors capture a balanced mix of activities the garments sector is largely exported, the foods sector is driven by domestic demand, and the light engineering sector is technology-intensive. The sectors also display a good mix of capital intensity. Finally, since the aim was to analyze the constraints on firm-level growth and investment, the sectors selected were those that showed average and above-average growth rates relative to all manufacturing growth during the 1990s.

Sampling procedures The research used the stratified sampling method in selecting the respondents from the various SMEs for the study. The stratified sampling method was used because it involves partitioning the entire population into sub-populations and then selecting elements separately from each sub-population. The officials were selected based on simple random sampling technique. The firms identified for the survey were done so based on convenience sampling. Since the aim was to analyze the constraints on firm-level growth and investment, the identity of these firms was not important as long as they were representative, keeping this in mind, the study attempts to ensure significant variation in the sample (discussed below). This approach, however, tends to be the results and this needs to be kept in mind when interpreting them. The sample firms, although ‘representative’, do not reflect the density distribution of firms exactly. However, this was not important for the study. The aim was not to test a quantitative hypothesis, but to generate a richer understanding of how the constraints on SME growth become operational. Another bias in the sample is that it consists only of ‘surviving firms’ since bankrupted entrepreneurs who had closed down their operations could not be interviewed. The sample consisted of 100 usable questionnaires, of which 55 of them were from the manufacturing sector and 45 from the retail sector. Fifty (50) officials from Ministry of Trade and Industry, Ghana investment promotion Centre, Ministry of Finance and Economic Planning, National Board for Small Scale Industries and others were also interviewed. The manufacturing sample was over-enumerated to allow the manufacturing subsectors chosen for analysis to be reasonably represented. The sectorial composition of the manufacturing sample includes 30 firms from the foods and beverage sector, 5 from the garments sector, and 15 from the light engineering sector. The next task was to stratify the sample by size given the study’s emphasis on analyzing the constraints on growth faced by SMEs. There is great variation in the definition used to classify SMEs in the policy and empirical literature. Much of the literature uses employment-based definition, and the definition use here is consistent with this. Snodgraa and Biggs (1996) point out that employment-based definitions are easier to make operational than asset-or turnover-based definitions. This is because firms are reluctant to share data on turnover or assets, but usually not as apprehensive about revealing the number of people they employ. This is even more important in contexts like Ghana’s where for tax or regulatory reasons firms are reluctant to reveal correct financial data. There is considerable agreement in the literature that enterprises employing 100 or more workers should be considered large, and enterprises employing less than 10 workers should be considered micro-firms. However, many sources disagree on the classification of firms employing between 5 and 100 workers. For the manufacturing sector in this case, the study used a definition of size that has been employed by the more comprehensive local and international studies. In order to stratify data by firm size, the following definitions of size below were used based on the total number of workers employed.
Micro, 1 - 9 workers
Small, 10 - 49 workers
Medium-size, 50 - 99 workers



Using the data collected during the study, this section ranks the constraints on SME growth according to firm size. Two control groups were identified; the first comprising large firms in the manufacturing sector to highlight constraints specific to SMEs; the second, a group of micro-firms in the retail sector to identify constraints affecting retail firms that develop into SEs in their growth phase. The section also analyzes the policy, regulatory, and mark-related factors that cause these constraint to emerge. This analysis provides a foundation for the policy recommendations that follow in Chapter five (5).

Financial constraints
Survey results Respondents scores show that credit market constraints, including the high cost of leasing and credit, act as binding constraints on firm-level growth (Appendix 2, Table A2.5). Table A2.6 in Appendix 2 indicates how respondents ranked the financial constraints variables. Table A2.6 (Appendix 2) shows that in the manufacturing sector, credit-related problems clearly act as binding constraints on SMEs but not on large firms, thus reflecting size-specific constraints. For the retail sector, Table A2.17 (Appendix 2) shows that formal financial sector credit constraints are binding for micro- and small retail firms. The main difficulties with credit are lack of access; collateral requirements of bank/financial institutions (FIs); lack of connections with banks; delays in the loan process; and corruption in obtaining finance. It is not only the lack of access to credit but also the high cost of finance that constraints SME growth. High interest rates were seen as a binding constraint by SMEs in all three sectors.

Access to credit:
Manufacturing sector The study’s survey reveals interesting patterns with respect to the financial structure of SMEs in Ghana. Of the sampled SMEs, most rely on self-financing or retained earnings. Among the pooled sample of SMEs, over 50% of fixed investment finance is self-financed and only 6% comes from Financial Institutions and commercial banks. Investors’ views suggest that initial investment tends to be self-financed while operations are largely financed by retained earnings (Table 1 below). In sharp contrast, large firms appear to rely quite heavily on commercial banks for both working capital and fixed investment finance. This reflects the pecking order theory of financial choices; the asymmetric flow of information between investors and entrepreneurs inclines firms to first finance investment through internal funds, then through debt, and finally through outside equity. What is interesting is that the Pecking Order Theory is less applicable to large firms in Ghana because they prefer and have easier access to credit. Explaining the relationship between firm type and choice of financial structure is an important area of future research. Another interesting finding of the survey is that SMEs do not resort to the informal lending market for fixed investment financing. This is shown in the Table 1.

Table 1: Sources of Finance by Percentage of Investment Financed – Manufacturing sector
|Financial Constraints |Pooled SME Sample |Small Firms (%) |Medium Firms (%) |Large Firms (%) |
|Sources of Fixed Investment |
|Retained Earnings |19.3 |12.5 |30.7 |32.1 |
|Commercial Banks |6.1 |9.4 |7.1 |20.3 |
|Development Financial Institution |0.0 |0.0 |0.0 |0.0 |
|Leasing |14.3 |2.5 |25.7 |9.1 |
|Self-Financing |55.7 |67.5 |36.4 |34.4 |
|Local Moneylenders |0.0 |0.0 |0.0 |0.6 |
|Family/Friends |4.6 |8.1 |0.0 |3.2 |
|Table 1 Continued |
|Trade Credit |0.0 |0.0 |0.0 |0.3 |
|Total |100.0 |100.0 |100.0 |100.0 |
|Sources of Working Capital Investment: |
|Retained Earnings |62.9 |66.3 |56.4 |40.9 |
|Commercial Banks |11.8 |5.0 |26.4 |40.9 |
|Development Financial |0.0 |0.0 |0.0 |0.0 |
|Institution | | | | |
|Leasing | | | | |
|Self-Financing |18.9 |26.9 |2.1 |8.8 |
|Local Moneylenders |5.3 |0.0 |10.7 |7.9 |
|Family/Friends |1.1 |1.9 |4.3 |0.0 |
|Trade Credit |0.0 |0.0 |0.0 |1.5 |
|Total |100.0 |100.0 |100.0 |100.0 |

Source: Survey data During the Survey, about 75% of respondent SMEs said they were required to provide fixed property as collateral because banks refused to accept movable and immovable assets other than land and buildings as collateral. In their case, the SMEs withdrew from the formal sector credit market altogether. Other applicants were forced to spend a lot of time negotiating with banks and following up the process. In some cases, even others providing the necessary collateral, feasibility studies, and financial statements, the process of the loan approval took well over six (6) months and was expedited only by the payment of bribes (loso). The high cost of lending to SMEs, poor lending expertise, and weakly enforced creditor rights reinforce the apprehension that lending institutions have toward SMEs. Levy (1993) finds similar results for Sri Lanka and Tanzania and argues that “these patterns are consistent with the finding that incentives for Financial Institutions to lend to SMEs are weak.” Leading the former to make collateral requirements even more stringent. The reluctance of lending institutions to lend to SMEs is explained by a number of factors. First, the small loans that SMEs normally apply for create high per unit loan costs for banks, making it uneconomical for them to lend to SMEs (Khan, 1997). Second, the SMEs suffer from a poor track record and weak financial accounting systems. This reinforces the banks demand for adequate collateral. Third, poor enforced creditor rights make banks risk averse and strengthen the demand for collateral. In Ghana, poor judicial enforcement rather than inadequate legal rules appear to affect creditor rights (Table 2. below). Especially important are delays in the collateral recovery process, which interviewees suggest, can take anything between 8 and 24 months. What banks perceive as ‘adequate’ collateral has to be immovable and of sufficiently high value to cover the risk of default. However, for SMEs, this almost defeats the purpose of ‘borrowing’ at all.
Table 2: Investor Protection Indices in Some Selected Countries (2001)
|Country |Creditor Protection Index (CPI) |Judicial Laint Index (JLI) |
|Ghana |4.0 |4.4 |
|India |4.0 |6.1 |
|Sri Lank |3.0 |5.0 |
|Malaysia |4.0 |7.7 |
|The Philippines |0.0 |4.1 |
|Indonesia |4.0 |4.4 |
|Thailand |3.0 |5.9 |
|Argentina |1.0 |5.6 |
|Brazil |1.0 |6.5 |
|Central African Republic |3.0 |6.8 |

Source: Survey data
CPI: An index measuring how well the legal framework in that country protects secured creditors. It will equal 4.0 (best) when: (i) there are minimum restrictions, e.g. creditors consent for firms to file reorganization, (ii) there is no automatic stay on collateral, (iii) debtor loses control of the firm during reorganization; and (iv)secured creditors are given priority during organization.
JLI: An index measuring the quality of judicial enforcement, ranging from 1 (worst) to 10 (best) and equal to the average of five sub-indexes measuring; (i) the efficiency of the judicial system, (ii) the rule of law; (iii) the incidence of corruption; (iv) the risk of expropriation; and (v) the risk of contract repudiation.
Sources: Rafael La Porta, L.S. Florencio and A,Shleifer. 1999. Corporate Ownership around the World Journal of Finance 54(2):471-517. OSEC Business Network, Switzerland, Heritage foundation; Index of Economic freedom 2009. Eventually, this limits SMEs access to credit and their growth becomes strongly tied to fluctuation in retained earnings, which are highly correlated with macroeconomics fluctuations. With constant investment opportunities, it is precisely in times of declining internal finance that SMEs cannot obtain finance on the margin for capital spending projects. Furthermore, as SMEs face asymmetric information problems in credit markets, they are likely to pay a premium to obtain outside equity. Ghanaian SMEs, which tend to be family-run businesses, decline toward equity financing, where investors participate in profits, ownership, and control. Equity finance will not resolve the financial problems confronting SMEs in Ghana’s existing financial structure.

Micro and small retailers:

The pooled sample of retail firms shows that 83% of investment finance comes from retained earnings and self-financing. Family/friends and formal-sector credit institutions and other local lenders contribute a meager 17% to SME finance. Table (3)- on page 53; shows that medium-size and large firms have better access to the formal credit market than micro-and small firms. In interviews, the smaller retailers interpret these patterns as evidence of them being rationed from the formal sector credit market.

Table 3: Sources of Finance by Percentage of Investment Financed –Retail Sector
|Financial Constraints |Pooled Retailer Sample (%) |Micro |Small |Large |
| | |Firms (%) |Firms (%) |Firms (%) |
|Sources of Fixed Investment |
|Retained Earnings |46.4 |42.5 |51.7 |50.0 |
|Commercial Banks |6.0 |5.0 |0.0 |25.0 |
|Development Financial |0.0 |0.0 |0.0 |0.0 |
|Institution | | | | |
|Leasing |2.3 |1.3 |0.0 |12.5 |
|Self-Financing |36.8 |43.1 |27.51 |12.5 |
|Local Moneylenders |0.7 |1.3 |0.0 |0.0 |
|Table 2 Continued |
|Family/Friends |7.8 |6.8 |20.8 |0.0 |
|Trade Credit |0.0 |0.0 |0.0 |0.0 |
|Total |100.0 |100.0 |100.0 |100.0 |
|Sources of Working capital Investment |
|Retained Earnings |86.0 |96.3 |83.3 |42.5 |
|Commercial Banks |4.3 |0.0 |0.0 |25.0 |
|Development Financial |4.3 |0.0 |0.0 |32.5 |
|Institution | | | | |
|Leasing |0.0 |0.0 |0.0 |0.0 |
|Self-Financing |3.3 |0.0 |16.7 |0.0 |
|Local Moneylenders |0.0 |0.0 |0.0 |0.0 |
|Family/Friends |1.3 |2.51 |0.0 |0.0 |
|Trade Credit |0.8 |1.3 |0.0 |0.0 |
|Table 2 Continued |
|Total |100.0 |100.0 |100.0 |100.0 |

Source : Survey data

Micro-enterprises in the retail sector tend to be small shops (specific or general purpose) owned by an individual and his/her siblings and employing one or two sales person. SEs in this sector includes retailers that have either become large general shops or have started multiple retail outlets (start of a chain). A single micro-enterprise started with family or personal savings, might not need access to formal credit markets, but once entrepreneurs expand their shop size, the need for access to the formal credit market becomes essential. At this stage, there is a quantum jump in the need to manage inventories, supply chains and imports: the group finds credit markets to be a significant constraint. The constraint becomes nonbinding for medium-size and large retailers because of their access to collateral. Interviews conducted suggest that growth potential is highest among small retailers; it is among this group that credit market imperfections need to be corrected most. Given the problems associated with the cost of finance and collateral requirements, it is important to develop appropriate instruments to alleviate the credit constraints on small retailers and integrate these firms into the formal market.

Small retailers identify the following as binding constraints on their ability to grow; (i) the availability of credit; (ii) the procedural and collateral requirement of Financial Institutions; and (iii) the delays in obtaining finance. The constraints on SEs in the retail sector are, therefore, quite similar to the constraints identified by manufacturing sector SEs.

The cost of credit financing

For SMEs, access to risk-sharing credit is also difficult because of its high costs (Table 4 ). The interest rate spread of banks per month increased from 3% during the second half of the 1980s to around 8% by the turn of the millennium. This increase in spread can be traced to the drag of the banking sector’s large nonperforming loan (NPL) portfolio, high overheads, and high cost of doing business in Ghana. Rising interest rates also reflect the consequences of high budget deficits. Coupled with this problem is the non-refundable insurance fee charged by Financial Institutions even if customers do not default.

Table 4: Binding Financial Constraints
|Financial Constraints |Pooled SME Sample |Large Firms |Exporters |
| Formal Sector Credit |
|Stringent Collateral Requirements |4.5 (53) |3.1 (67) | 4.14.1(42) |
|Lack of Connections with Credit Agencies |3.8 (47) |1.8 (27) |2.1(25) |
|Procedural Delays in Loan Disbursement |4.3 (53) |2.9 (53) |3.9 (42) |
|Lack of Access to Credit |3.8 (47) |2.7 (47) |3.9 (38) |
|High Interest Rates |3.5 (65) |2.3(100) |4.0 (71) |
|Corrupt Systems for Obtaining Finance |3.8 (65) |1.3(0.05) |1.8 (17) |
|Leasing: |
|High Cost |4.0 (31) |3.8 (33) |3.8(21) |
|Large Down Payments |3.6 (32) |3.5 (33) |3.3 (17) |

Source: Survey data.

Percentage of respondents is indicated in parenthesis.

The cost of leasing Appendix 2, Table A2.5 shows that the high cost of leasing is a binding constraint on firm-level growth. Appendix 2, Table A2.6 shows that high leasing costs are only a constraint on medium-size and large firms. This is largely because small firms rarely resort to lease financing, which other studies attribute to high regulatory costs. Very few of the sample retailers use lease finance, and the discussion here is confined to the manufacturing sector. In fact, among the sample of small firms, leasing accounts for only 2% of total fixed investment. The results of the survey suggest that medium enterprises that could not obtain lease financing were barred by the high costs and collateral regulations/ arrangement. This helps explain the high average scores given to large down payments in the leasing sector data (Table 4, page 55 and 56). There are two reasons why the cost of leasing tends to be high in Ghana. First, the cost of funding for leasing companies is much higher than the cost of funding for banks because of their (leasing companies) low credit rating. The cost of funding for leasing companies averaged approximately 25% per annum between FY2000 and FY2003, which was significantly higher than the cost of fund for the banking sector. Second, the cost of intermediation tends to be high because most leasing companies are small.

Infrastructure constrains
Survey Results Appendix 2, Table A2.6 shows that infrastructure-related problems are a key constraint on firm-level growth. The main constraints (Appendix 2, Table A2.8) faced by the manufacturing and Retail sector sample include: i) The high cost, poor service-quality, and unreliable supply of power; ii) An inefficient transport network that is unreliable and costly to use;

Manufacturing section SMEs also report that high cost of backup power makes delivery an even more binding constraint. Infrastructure-related constraints are equally binding on the retail sector. Higher rates of power, poor delivery, and poor reliability are serious concern for retailers. Within the retail sector, it is the micro-and small firms that are worst hit: given their size, the cost of setting up back up power is too high (Tables 5, page 58), which makes investment in backup power uneconomical. Retailers have to pay ‘commercial tariff rates’ which are much higher than the domestic or residential tariffs.

Table 5: Size-Specific Rankings of Infrastructure Constraints
|Infrastructure Constraints |Pooled Retailer Sample |Macro Firms |Small |Large |
| | | |Firms |Firms |
|Power | | | | |
|Availability |3.3 |3.1 |5.0 |3.0 |
|High Rates |3.7 |3.6 |5.0 |3.0 |
|Unreliable Supply |3.2 |3.3 |5.0 |3.0 |
|Poor Quality of Service |3.3 |3.3 |5.0 |2.0 |
|High Cost of Backup Power |3.5 |3.8 |3.7 |2.7 |
|Logistical Transport |
|Availability |3.3 |2.7 |5.0 |3.0 |
|High Rates |3.0 |3.0 |5.0 |2.0 |
|Unreliable Provision |4.0 |3.0 |5.0 |3.0 |
|Poor Quality of Service |3.4 |3.0 |5.0 |3.0 |

Source: Survey data.

Human resource constraints
Survey results Human resource (HR) constraints also appear binding on firm-level investment and growth (Appendix 2, Tables A2.6 and A2.9). Although different aspects of HR constrain affect different sizes of firm (Tables 6). For small manufacturing and retail firms, the constraint is manifested in the lack of trained middle management, and low levels of skill, education, and vocational training among workers.

Table 6: Binding Human Resource Constraints
|Human Resource Constraints |Pooled SME Sample |Large Firms |Exporters |
|Low-Skilled and Poorly Educated Workers|3.5(65) |3.3 (87) |3.5 (75) |
|Inadequate Vocational Training |3.5 (65) |3.7 (93) |3.9 (75) |
|Lack of Trained Middle Management |3.6 (71) |3.2 (80) |3.3(67) |
|Lack of Trained Higher Management |2.5 (35) |3.5 (80) |3.4 (67) |
| Table 6 Continued |
|Lack of Quality Technicians |3.5 (65) |3.8 (87) |3.9 (75) |

Source: Survey data
Percentage of respondents is indicated in parenthesis.

As manufacturing firms expand, the lack of trained higher management and qualified technicians emerges as a binding constrain - a natural consequence of the increased need for professional management. Restratifying the manufacturing sector rankings by subsector reveals that the lack of skilled workers and vocational training constrain export- and technology-intensive subsectors, i.e., textiles and light engineering. This clearly suggests that, for SMEs wanting to compete in the export market and in technology-intensive subsectors, the lack of skilled and trained workers creates a severe growth-bottleneck. Micro-retailers-which comprise single, small shops, use family labor, and hire one or two general-purpose helpers-do not find HR constraints to be binding. There is hardly any need for qualified technicians, management, or vocational skills, and since the entrepreneur is usually present in the shop, monitoring any hired help is not a problem. As retail operations become larger, more departmentalized, and geographically spread out, the lack of technicians, trained middle and higher management, and specialized and educated sales people becomes a binding constraint. The need to install systems to monitor employees also becomes an important concern. There are important quantitative and qualitative issues in the area of HR in Ghana. Some of the main issues that the entrepreneurs interviewed brought up were that:
(i) Workers were not educated enough;
(ii) Personnel were not adequately trained;
(iii) Lower-and middle-level personnel lacked the requisite skills;
(iv) Even where workers had degrees or certificates, the quality of training and education they had received was very poor;
(v) There was a significant mismatch in the skills required by employers and the training offered by institutions.

Macro- and monetary constraints
Survey results There is literature hypothesizes that macro-instability is an important constraint on growth. The survey scores confirm this expectation; both medium-size and large manufacturers report inflation and exchange rate volatility to be binding constraints as they ranked them high (Table 7). Inflation is binding constraint on small and large retailers. Retailers also report exchange rate volatility caused by unexpected devaluations to be a binding constraint on their growth

Table 7: Size-Specific Rankings of Macro and Monetary Constraints
|Macro and Monetary Constraints |Pooled SME |Micro |Small |Large Firms |
| |Sample |Firms |Firms | |
|High Cost of Foreign Exchange |3.5 |2.9 |3.8 |3.5 |
|Exchange Rate Volatility |3.5 |2.9 |4.0 |3.7 |
|Inflation |3.7 |3.4 |3.6 |3.1 |

Source : Survey data

Analysis of macro-policy and trends Ghana’s weakling macro-indicators during the 1990s, especially its rising external and public debt, and deteriorating current-account deficits, created a strong expectation of rising inflation within the business community in FY2000. The expectation heightened uncertainty and risk for investors, even though Ghana did not witness runaway inflation largely because its budget deficits were not monetized. Interviews with experts suggest that the increase in exchange rate volatility in the latter part of the 2002 strengthened the expectation of an uncertain and high-risk macro-environment. The rankings for this constraint clearly reveal entrepreneurs need for a stable macro-environment, one that does not fuel price inflation and instability.

Fiscal and regulatory constraints
Survey results Appendix 2, table 5 shows that there are three areas of regulation that impose binding constraints on firms-level growth. These include; (i) taxation, (ii) trade policy and procedure, and (iii) law and order. It is not surprising that taxation emerges as a binding constraint given that the dominant source of state revenue has shifted from tariff to income and Value Added Tax (VAT), which directly affect a much larger proportion of the population. Regulatory and fiscal constraints are binding for the sectors sampled, i.e. manufacturing and retail. An interesting finding is that licensing requirements and labor laws are not seen as binding growth-related constraints by the sample as they ranked them below ( Appendix 2, table 11). In fact during the survey, respondents made it clear that there were very few licensing requirements for retailing in Ghana.

The fiscal and bureaucratic burden The fiscal burden of tax rates is perceived as a binding constraint by the SME sample in the manufacturing and retail sectors. An example is the (15%) VAT and (25%) Corporate rate which were given a much higher score by large manufacturing enterprises. The fiscal burden alone can justify the high scores given to tax-related constraints by the SME sampled. Small and large retailers also find building/property tax rates, 3% flat rate of VAT and regulations to be a binding constraint, one that is peculiar to retail. These taxes come under District, Municipal/ Metropolitan administration, and require separate paperwork. High property tax rates and the bureaucratic burden associated with visits by Tax officials were identified as key constraints by retailers during the interviews. Ghana’s tax administration and regulatory procedures clearly impose a significant bureaucratic burden on firm-level growth in all the sampled sectors. It also shows that the uncertainty related to tax policy adds considerably to the bureaucratic burden. A detailed analysis of the scores given to the bureaucratic burden suggests that binding constraints emerge in tax administration and the corruption among tax authorities and other government agencies, (Appendix 2, table 11).

Market constraints

Survey results

Appendix 2, Tables A2.15, shows that high market transaction costs, inefficient contract repudiation, and distorted competition create binding constraints on the growth of manufacturing and retail firms in Ghana. The results show that firm growth is affected by inefficient markets.

The Specifics of retail growth

Adding product lines to a retail shop and extending the shop’s premises is a very different kind of growth from moving to other locations with more shops. The study’s retail sample shows growth of the first kind; there are substantial market-related difficulties in managing growth of the second kind. Expansion in the shape of more shops is a discrete process involving significant fixed cost. Shops are expensive to acquire and furnish. Presence at more than one location requires the owner to hire middle and higher management who can be trusted with the talks of looking after the business. Logistics such as inventory management and the movement of goods among locations and across time have to be carefully managed. The entrepreneur’s reliance on markets and long-term contracting increases manifold with the number of shops. Given the problems associated with long-term contracting, it is not surprising that few firms opt for geographical expansion. In most cases, if there is more than one sibling involved in a family-run business, or if the number of family members has increased by marriage, only then will a family consider increasing the number of retail outlets.

Market transaction costs

Market transaction cost variables and their scores are given in Table A2.14 (Appendix 2). These variables capture the costs of obtaining high-quality suppliers and goods and services. Some of the variables also reflect the cost of dependency on short-term spot market relationships. The result indicate that market transaction costs create binding constraints on firm growth, which is evident from the high scores given to most market transaction cost variables (Appendix 2, Tables A2.15) However, in the manufacturing sector sample, increases in firm’s size exacerbate the problem of purchasing high-quality raw material, intermediate goods, and spare parts (Appendix 2 ,TableA2.14,). Interviews suggest that these costs arise for two reasons. First, firms’ demand for high-quality inputs increases significantly as they enter their growth phase. Second, the ‘lack of a network’ of reliable suppliers creates high transaction costs for firms in their expansion phase. This suggests that ‘trust network’ are in short supply and when the scale of expansion increases, so does the cost of quality control. One consequence of poor supplier networks is the increase in inventory costs for manufacturing assemblers and suppliers. ‘Network effects’ are an important area of concern in the modern industrial organization and game theoretical literature. The lack of a network of reliable suppliers, buyers, and service providers can have /lock-in effects’ for firms and industries. Network effects arise because of divergence between the private benefits to firms and the social benefits to society. All firms may be interested in a reliable network of service providers and input suppliers, but no firm is likely to be large enough to meet sufficient demand for the market to provide high-quality input suppliers. In fact, every firm has an incentive to ‘free-ride’ on others and avoids investing in the creation of quality. This is a classic result of under-investment in these areas.

Reputation, brand names and specialization During the survey, the interview revealed that a number of small/medium-size and large retailers, trying to develop brand names, mentioned that they had had significant problems in finding reliable, high-quality suppliers of consumer goods. Micro-retailers did not have this problem since they rarely wanted to invest in quality by establishing a brand name. On the other hand, a number of brand producers mentioned that they had faced serious problems in marketing and selling their products through the existing network of medium-size and large retailers. Garment retailers complained that their suppliers could not assure quality, quantity deliveries on time or products that were specialized enough. Producers also faced competition from ‘counterfeit’ goods. Several manufacturers complained that after making ‘sunken’ investments in research and product development, they would find their products copied, sometimes even under their own ‘brand name’ and tag, in less than six weeks. This is a result of weakly enforced property rights.


Summary of findings The Government of Ghana’s commitment to liberalization and structural adjustment policies over the last decade and a half is a major policy break in the country’s economic evolution. However, evidence suggests that this shift in policy, which produced growth dividends in other South Asian economies, failed to bring with it the expected growth dividend in Ghana
The pronounced slowdown in growth in the manufacturing, retail, and wholesale sector, in particular, is largely explained by the fact that their growth rate of Gross fixed capital formation (GFCF) has halved. The trend of showdown in the GFCF growth rate is equally apparent in small-and large scale enterprise. This suggests that the sustainable, robust, and widespread revival of investment and output growth are policy imperatives that the Government needs to address with great urgency.
This study takes up these concerns by providing a broad, strategic direction for a growth and investment revival strategy for the manufacturing and Retail sector, based on a rigorous analysis of the factors constraining firm-level growth and investment in Ghana. The study places special emphasis on removing the constraints on small and medium enterprise (SME) growth and investment. The study uses the survey method to ascertain, in a quantitative way as possible, the costs associated with firm-level growth and investment, with a special emphasis on SMEs. In particular, it identifies and analyzes the policy, regulatory, and market constraints on firm-level growth and investment in Ghana. This analysis sets a roadmap for policies and institutional interventions, which, it is hoped, will help create an environment that is conducive to the growth of output and investment.
The study’s survey was carried out between August 2009 and April 2010. A qualitative methodology was used to rank macro-and micro-constraints on firm-level investment and growth in Ghana. Using a qualitative survey instruments (Questionnaires and Interviews), One hundred firms were sampled to ascertain what they viewed as major obstacles to their investment and growth. Also Fifty (50) officials of SMEs regulators were interviewed. The survey asked entrepreneurs to rank each constraint variable using scores on a scale of 1 (least important) to 5 (severe). The survey data was used to rank the ‘binding’ constraints that currently inhibit firm-level investment and growth in Ghana. Binding constraints were defined as constraints that obtained an average score of 3.5 and above (an above-average rank) and which over 30% (nearly one third) of the respondents ranked as an above-average constraint (a score of 3.5). unlike other studies, the dual-weighting procedure of defining binding constraints allowed greater precision and clarity in results.
Given the limitations of time and resources, the sample chosen for the survey was restricted to the manufacturing and retail sectors because of their significant contribution to Ghana’s gross domestic product (GDP) growth. The key findings of the study are that: SMEs are rationed out of the Ghana’s formal sector credit market, which emerges as a major constraint on firm growth. The findings suggest that credit rationing constrains SME growth and investment by increasing both the cost and risk of growth and investment; SME’s demand for formal sector finance is inhibited by the high cost of credit and lease financing.
An important new finding of this study is that regulatory costs are heavily biased against SMEs that have entered their expansion phase; this sets a strong incentive for firms to remain small The evidence shows that poor infrastructure, particularly in the power sector, increases the cost of growth for firms of all sizes. Low levels of skill, training, and education among workers and management raise the cost of firm growth. This is a consequence of the poor quality of education and training offered in Ghana. An important factor explaining this is the regulatory structure of education. Furthermore, the human capital constraint is exacerbated by the lack of investment in training by firms, in particular, the SMEs
Market transaction costs and inefficient contract repudiation constrain the growth and risk-taking ability of firms in Ghana. An outcome of high market transaction costs is weak linkages with high-quality intermediate goods and raw material suppliers. This is a consequence of poor ‘trust’ networks and an inefficient judicial system enforcing contracts. In particular, high market transaction costs and inefficient formal contract enforcement inhibit the development of SME.

Conclusion SMEs are the driving engine behind economic growth in developing, free-market economies. The development of the SME sector is synonymous with the establishment and expansion of a middle class to ensure political and economic reform. Entrepreneurs moving into the middle class generally do not have sufficient equity and collateral to establish growth-oriented businesses and access bank financing. Therefore, the analyzes of the constraints that hinders SMEs growth and development is in the right direction to promote economic and political stability through the rapid development of a middle-class SME sector.

Indeed, the identification and the analysis of the various constraints that hinders SMEs growth and development in Ghana that has been unearthed by this study has provided a proper insight into SMEs’ development and their constraints in Ghana.

Recommendations This section recommends a number of policy and institutional interventions to overcome the specific constraints on SME growth identified and analyzed in Chapter four(4), and focuses on binding constraints that are specific to SMEs, i.e., financial sector constraints, market constraints, and fiscal and regulatory constraints as well as Human Resource constraints. The study does not, however, provide any recommendations to overcome the macro-and law and order constraints identified in chapter four (4), since this is beyond its scope.

The following are recommendations to improve SMEs access to formal credit markets and to lower the cost of credit and leasing. These reforms are largely consistent with market inventive and do not rely on state subsidization:
1. Revisiting Collateral Requirements
2. Simplifying Lending Procedures
3. Enforcing Creditor Rights
4. Credit Registries and Credit Information Bureau

Consolidating and rationalizing taxes on financial institutions
To consolidate and rationalize taxes on financial institutions, it is recommended that:
1. The tax levied on financial and quasi- financial institutions, irrespective of the activities that they engage in, should be equalized over the long term.
2. To help develop a vibrant leasing and banking industry, the Government should actively support closures, consolidation, and mergers rather than keeping all enterprises alive but unable to withstand competition.
3. Raising the minimum capital requirements for banks, for example, will force the banking sector to restructure itself and make them vibrant.

Dispute resolution To strengthen and improve the judicial efficiency of commercial courts in Ghana for better dispute resolution, the following key themes; through successful initiatives can provide important guidelines for judicial reform in Ghana :
1. Increased accountability of judges;
2. Provide efficient judicial incentives;
3. formation of specialized courts;
4. Establishment of more Alternative Dispute Resolution Centres (ADR)

Taxation and regulation

The following measures are recommended and if implemented would lower the costs of fiscal regulatory constraints for SMEs.
1. Reform or Restructure Revenue/Tax Administration and Tariffs
2. Consolidate and Rationalize the current structure of district, municipal and metropolitan tax structures
3. Reforming Procedures, Audit Systems, and Tax-payer Education should be instituted
4. Reengineered to rescue face-to-face contact between tax-payers and tax officials;
5. Limit officials’ discretionary powers.
6. Establish a well-structured audit procedure for efficient self-assessment system for the tax payer.

Human resource The following measures are recommended to improve the Human Resource constraints;
1. Sector-specific vocational training should be provided by Educational
2. Create sector-specific ‘incubators’, which can offer consulting services, vocational training, and technology.


The study focused on SMEs in Accra, Tema and Kumasi; thus the research findings cannot be generalized for Ghana as a whole; to make such generalization, the researcher needs to take a bigger study that involves several towns and villages in Ghana to cover more or larger geographical areas of the country. Hence giving a lot of time and funds, the researcher would have used a wider population.


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In partial fulfillment of Master of Business Administration (MBA) at the Graduate School of Business; Central University College – Ghana, the Researcher is conducting a research on the topic “SME DEVELOPMENT IN GHANA; ANALYZING THE CONSTRAINTS TO GROWTH” to assess the role of the micro, small and medium scale Enterprise (SME) in the structural transition of Ghana’s Economy from low-to-middle-Income level and analyze the constraints to the growth of these SMEs development in Ghana.

Please, answer the questions that follow. Your response to the questions shall be treated with utmost Confidentiality,

Thank you.






QUESTIONNAIRE NO: ………………………………….



2. AGE………………………………………………….

3. HIGHEST LEVEL OF EDUCATION ……………………………………………………….

4. NAME OF YOUR ORGANISATION …………………………………..............................

5. YOUR POSITION /RANK ………………………………………………………………………….


7. MAIN DUTIES OF YOUR RANK/POSITION ………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………

8. CORE BUSINESS OF YOUR ORGANISATION ………………………………………………………………………………………………………………………………………………………………




1-9 10-49 50-99 >100


Please. Kindly rank the following constraints to growth on scale of 1 (least important) to 5 (severe) according to its degree of severity as manifested in real- life obstacles and frustrations for your operations or core business.



A. Credit:

- (i) Lack of access to credit

- (ii) Stringent Collateral requirement

- (iii) Lack of connections with credit agencies

- (iv) Procedural delays in loan disbursement

- (v) Corrupt systems for obtaining finance

- (vi) High cost of credit

- (vii) High Interest rate

B. Leasing:

- (i) high cost of leasing

- (ii) Large down payments

C. Export finance:

- (i) Lack of access to export finance


A. Power:

I) High rate of tariffs

II) Poor Service Quality

III) Unreliable supply

IV) Corrupt Utilities

V) High Cost of buck up power

B. Transport:

I) High rates

II) Unreliable network

III) Poor service quality

IV) Poor availability


a) Workforce with low levels of skills and
b) Inadequate vocational training c) Lack of trained higher management d) Lack of qualified Technicians

4- MACRO AND MONETARY CONSTRAINTS: a) High cost of foreign exchange b) Exchange rate volatility c) Inflation

5- FISCAL AND REGULATORY CONSTRAINTS: A- Taxation : i) High rate of Income tax ii) Tedious procedures for submitting Income tax statements iii) Speed and cost of resolving tax disputes iv) Tax policies uncertainty B- Regulations: i) Corruption among associated Government Agencies C- Tariffs : i) High tariff rates on import of raw materials ii) High tariff rate on import of intermediate goods iii) Unpredictable changes in tariffs


(i) Lack of high-quality suppliers

(ii)Lack of high-quality raw materials

iv) Lack of high-quality Intermediate goods

v) High cost of spare parts

vi) Competition from smuggled goods

(vii) Competition from counterfeit goods


(a) Inefficient legal recourse to contract


(b) Slow pace and high cost of commercial

dispute resolution






QUESTIONNAIRE NO: ………………………………….



2. AGE………………………………………………….

3. HIGHEST LEVEL OF EDUCATION……………………………………………………….

4. NAME OF YOUR ORGANISATION …………………………………..............................

5. YOUR POSITION / RANK ………………………………………………………………………….


MAIN DUTIES OF YOUR RANK/POSITION ………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………

1. In your estimation, do you think SMEs play any role in the socio-economic development of Ghana?

Yes No

2. If you answered yes to the above question, please state some of the roles played by the SMEs


Please state the SMEs Contribution to Ghana’s GDP (Gross Domestic Products) in the following years: (in percentages)

1998 2000 2002 2006 20008

……… ………. ……… ……….. ………..

3. In your estimation, can Ghana depend on the SMEs to achieve high levels of GDP and per capital Income


Please state reason (s): ……………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………… No

Please state reason (s): ………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………

4. As Ghana’s economy approaches or is geared towards middle- income level, can micro and small Enterprises grow; and can medium- size and large firms enter the Industrial sector?


Please state reasons: …………………….…………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………


Please state reasons: ………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………………

5. How does Ghana’s underdeveloped physical and social infrastructure create a binding constraint on SME growth in Ghana?

Please state your response: …………………………………………………………………………………………………….......................................................................................................................................




Table A2.1: Sector Breakup of Employment by Firm Size

|Firm size |Retail (%) |Manufacturing (%) |
|Micro (0-9 Workers) |99.73 |91.00 |
|Small (10-49 Workers) |0.12 |8.00 |
|Medium (50-99 Workers) |0.09 |0.46 |
|Large (100 or < Workers) |0.06 |0.54 |
|Total |100.00 |100.00 |

Table A2.2: Sector Share in Manufacturing Employment and Value- Added

|Sector |SME Sector |LSM Sector |
| |Employment (%) |Value- Added (%) |Employment (%) |Value- Added (%) |
|Foods and Beverages |23.6 |12.0 |14.7 |16.8 |
|Garments and Sewing |30.2 |30.2 |41.0 |23.5 |
|Light Engineering |19.5 |18.6 |10.8 |13.7 |

Table A2.3: Sample Establishment by Size Growth

|Firm Size |As Proportion of Total |As Proportional of Total Sample |
| |Establishment in Sample Sector | |
| |Manufacturer |Retailers |Growth Rate Type |Growth Rate |
| |(%) |(%) |(per Annum) |(per Annum) (%) |
|Micro |2.6 |60.0 |High (>25%) |31.48 |
|Small |23.1 |20.0 |Medium (5-25%) |37.04 |
|Medium |32.1 |0.0 |Low (…...

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