GENERAL ACCESS TO FINANCING – BASIC PROBLEMS

Under this credit line funding is allocated for projects, which:

• are export orientated;

• create new jobs;

• develop the transport, industry, processing of agricultural production and tourism.

Not eligible for funding are projects in the sectors of agriculture, trade, and real estate property business.

Eligible for funding can be only investment projects of SMEs covering the following conditions:

• Size of the credit - up to EURO 100 000;

• Possibility of the beneficiary to co-finance not less than 25% of the value of the project;

• Maximum term of the credit shall be 5 years with an optional grace period up to 2 years;

• Interest rate - the trimestrial EURO LIBOR plus added value.

According to an agreement between the State Savings Bank and the Bulgarian Industrial Association, SMEs shall be funded.  The credits submitted shall be in the range of BGN 5 000 to 50 000, with grace period of up to 3 years and an option for a negotiable grace period, annual interest rate of 14.5%.  The credits shall be extended only for production purposes, on the condition of minimum 30% own participation of the SMEs.

Under the programme an expert support shall be provided for the development of a business plan and a credit reasoned statement.

Minimum 30% own participation is required. The credit shall be extended only for production purposes.

The programme supports entrepreneurs from the small and medium-sized businesses in the sectors of trade, services and the small-scale production to get a permanent access to financial aid.

Sole traders and small family businesses who need between BGN 900 and 3 600 may have access to loans without collateral by establishing self- managed co-operatives. There are no specific restrictions to small enterprises..  The programme acts in the region of Vidin and Sliven, and shall enlarge its action throughout the country. The first amount to be applied for by an enterprise is BGN 900; no collateral is required.

2.2. GENERAL ACCESS TO FINANCING – BASIC

conservative policy in lending to SMEs. Most banks prefer to hold mostly risk-free and low-income generating assets, and SME lending is unattractive due to a range of objective and subjective factors. These include high transaction costs involved in extending small loans, inability to set up the collateral required, etc. Naturally, the SME sector is not homogeneous and, therefore, the attractiveness of an enterprise to financial institutions varies with SME size, maturity, industry, etc

Bulgarian small and medium-sized enterprises run into many difficulties when they apply for a bank loan, the main reasons being as follows:

They have no personal credit history.

Among the main criteria for loan disbursement in the country, is the sound financial condition of the company and its economic history. These criteria are in effect an insurmountable barrier to all small and medium-sized enterprises (SMEs) that have been recently set up in business and are not in a position to satisfy such conditions. Even the ones that were set up a couple of years ago and have good economic indicators find it difficult to meet these requirements. One additional circumstance that entrepreneurs admit quite frankly is the underreporting or non-reporting of the profit because of the heavy tax burden. For that reason, most of the small and medium- sized enterprises applying for loans cannot submit to the commercial banks reliable information about their operations. More often than not, the companies do not have any business plans or accounting records, which they need to attest their turnover.

The size and type of required loan securities.

When seeking medium or long-term loans, SMEs are often not in a position to offer the loan securities, which fulfill the requirements of the banks. The equipment they have is frequently obsolete or functionally depreciated. The newly established companies are particularly sensitive to this problem. The banks normally require collateral ranging between 160% and 200%, which makes the borrowings unachievable and more often than not economically unprofitable. They tend to have a preference to mortgaged real estate in compliance with the provisions of Regulation No 9 of the Bulgarian National Bank (BNB). There is a single Bulgarian bank, i.e. Eurobank AD, which accepts in security warehouse receipts.

The interest rate levels.

The average lending rate ranges between 14% and 18%. According to entrepreneurs and representatives of the branch associations, most SMEs cannot afford this rate, since their average profit is somewhere between 10% and 15%. This also applies to the Encouragement Bank, which was specially set up to assist the development of such enterprises. The banks on the other hand claim that given the market set-up, this should be the normal rate, furthermore that the international financial institutions impose explicit conditions concerning the market interest rate levels. Regardless of the high interest rate spread (approximately between 9.5% and 10%), the banks also assert that they are going to have difficulty covering the lending risk, their expenses and taxes at lower rate levels. For a long time, the banking system has not been in a position to cope with a very serious problem, i.e. the level of operating expenses. According to BNB data, the

ratio between the operating expenses and the total income in 1999 was about 65.1% - a fairly high level with respect to these expenses.

Bulgarian SMEs cannot make long-term financial projections, nor can they guarantee any stable income.

The lack of long-term corporate strategies and the resulting absence of financial planning are mostly due to the unstable economic environment.

Sometimes they also result from the small entrepreneurs’ underestimation of the necessity to have their businesses managed on a scientific basis.

The expenses and the cumbersome loan disbursement procedure, as well as the unhurried decision-making process, which causes uncertainty and puts SMEs to additional expense.

For the small and medium-sized enterprises, the disbursement of loans is associated with significant expenses and often these enterprises cannot afford such expenses. SMEs incur expenses for having their business plans mapped out, for banking charges on the loans, etc. SME-borrowers often apply to more than one bank for loans, which involves a couple of business plans that have to satisfy the requirements of individual banks. The small enterprises cannot afford to hire business advisors for financial reasons.

The minimum turnover requirements or requirements for a high minimum value for the amount of the loan.

In actual fact, the commercial banks do not make much difference between the expenses that they incur for the disbursement and servicing of large- scale or small loans. Given this fact, and especially in situations where the demand for loans surpasses the supply, it would be much more profitable for a bank to attract a small number of large customers than a large number of small borrowers.

The additional conditions imposed by the banks.

Quite often, loan disbursement is coupled with some additional requirements.

A typical example would be the condition where the borrower should open an account with the bank that is going to extend the loan. Thus, if several loans are to be disbursed to a single borrower by a couple of financial institutions, the borrower will have to open an account with each of these institutions, which will cost him a lot of money.

The commercial banks’ reluctance to extend investment loans to SMEs.

Looking for such loans is associated with the general technological and economic condition of the small and medium-sized enterprises in the country.

The priority significance of investment loans is conditioned by the need of the newly established enterprises for financial resources, as well as by the necessity to modernize the obsolescent equipment in the privatised companies, to upgrade the quality of production, and to enhance SMEs competitiveness. On the other hand, it is the obsolescence and functional depreciation of the equipment that makes it unsuitable to be used as collateral for long-term loans.

Other circumstances in the way of SMEs to bank loans.

Among these are the violations of the banking confidentiality and the usual emphasis that is placed on the loan security when making decisions on the

disbursement of loans, rather than on the future generation of cash flows, on the companies’ management characteristics, on their ability to repay the debt, etc.

The basic problems encountered by the commercial banks in lending to SMEs are:

The bank capital adequacy requirements, assessment of the risk-bearing exposures and making risk-covering provisions.

From the point of view of the commercial banks, the Bulgarian Banking Act is too restrictive. It was enacted at a time quite different from today and has to be amended, as the banking system is much more stable at present and some of the provisions of the act have to be brought in line with some other statutory documents. Bankers usually account for the behaviour of the banks by referring primarily to the statutory regulation of their operations. In this context, they claim that the shortage of free lending resource should be considered to be the major obstacle to the development of investment lending.

For example, BNB Regulation No 9 stipulates that a loan against mortgaged real property in a housing building is to be preferred to a loan guaranteed with production buildings, machines and equipment, which the Bulgarian companies can offer for the making of provisions. As the provisions are an expense for the banks, they affect their financial results. This is the reason why every bank endeavors to have as little provisions made as possible, which results in fewer expenses for the bank and in a better financial result.

Some BNB acts and decisions that cannot be appealed through the court and the requirement for a formal authorization by BNB for a number of operations that are typical of the business of banking.

The criminal liability for officer who have advanced unsecured loans that have not been repaid.

There are still some discrepancies between somewhat moderate provisions of the Bank Act concerning the requirement that the whole loan should be secured by a specific form of collateral and the still restrictive requirements for loan securities provided for in the Penal Code (Art. 220, Para 3).

The inconsistency between the National Accounting Standards and the International Accounting Standards with respect to lending.

The National Accounting Standards comprise strict rules, which often fail to take into account the loan-related circumstances and leave no room for any judgment.

The frequent amendments to tax legislation and the customs arrangements.

They make the business environment quite complex and unpredictable.

The problematic debt collections for the lenders.

This problem is associated with both the actual liquidity of the security and with the public collections. Since the Government has precedence over all other creditors, the public collections become an irremovable obstruction to obtaining a loan. Furthermore, the period needed to collect a security is too long (in case of any legal proceedings instituted by the debtor, the lawsuit may take years to complete).

There is no secondary market for the security in the country and the legal proceedings are sluggish and ineffective.

The prohibition against selling or pledging the assets of privatised companies up to 10 years following the company’s acquisition.

This applies to transactions where the buyers have to meet serious post- privatisation commitments, such as rescheduled payments, repayment of the privatised company’s debts, implementation of investment programs, etc.). In the majority of cases this prohibition is not absolute and allows permission by the privatising authority, wherever the dispositive act is in relation to assets, which are above the minimum percentage stipulated in the privatisation contract. Anyway, such a prohibition exists.