Can Kenya’s Fintech Boom Address the MSE Finance Gap?

Kenya is at the epicenter of an explosion in fintech startups and nano credit providers – more than 300 fintechs and 20% of all African fintechs are based in Kenya. However, they are yet to meet the financial needs of micro and small enterprises (MSEs). It is estimated that in 2021, MSEs in Kenya had an estimated credit demand of $1.1 billion and growing, among increasing demand for other financial services. Fintechs in the country are already serving some MSEs but could have a wider reach and distinct value propositions for MSEs beyond digital credit. 

A majority of fintechs in Kenya provide nano credit to consumers, which has been marred by various challenges including a lack of transparency and responsible lending, leading to late repayments and high default rates. CGAP has published extensively about the regulatory and consumer protection risks related to these lenders, and we will dive deeper into the intersection of digital nano credit and MSE finance in a future blog. It’s important to first zoom out and give a broader perspective of how recent financial innovations are shifting Kenya’s MSE finance market. 

Digital consumer credit volumes are four times digital enterprise credit

In 2021, CGAP commissioned Simon, Kucher & Partners (SKP) to estimate the size of the MSE and low-income credit markets in Kenya, and to assess the potential of fintech firms to meet the needs of those markets. For the purposes of this research, MSEs and low-income consumers were defined as those with maximum annual earnings of approximately $8,500 and $3,000, respectively. SKP used a combination of secondary data and primary interviews with customers to arrive at their market sizing estimate. Though there are methodological limitations to the accuracy of this type of market sizing approach (which are detailed in their full report), we believe the findings yield directionally useful insights.  

SKP estimated the combined value of MSE and low-income consumer credit disbursed in Kenya in 2021 to be about $40 billion. And, although the challenge of disentangling MSE and household finances is well known, SKP teased the two apart through their multi-method approach. 

As part of this research, CGAP and SKP spoke with 25 leading Fintech providers in Kenya and found that only five of them had significant focus on and reach with MSEs, with a market share of around just 2%. 

Moreover, digital credit extended as personal consumption loans was higher at $6 billion – four times that of digital credit extended as business loans at $ 1.4 billion. This corroborates what previous research has shown us – that digital credit is more popular among consumers and is often used to cover consumption such as ordinary household needs, airtime and personal or household expenses rather than enterprise or business needs.

Credit is an important bottleneck, but not the only one for MSEs

We also conducted qualitative interviews with MSE owners in Kenya as part of our research. These conversations revealed that while there are demand-side barriers affecting uptake – such as preference for informal sources of finance, low digital capacity, lack of trust and gender norms – there are also important supply-side constraints like poor customer journeys, perceptions of aggressive collection practices, high user fees, and lack of supporting solutions like earning management. 

Take the case of Zainab, an entrepreneur running a printing business and a fast-food café in Nairobi’s Kibera slums. Zainab’s customers pay her in cash, and some pay via mobile money, but she incurs withdrawal charges when she converts the mobile money to cash. To mitigate this cost, she has signed up as a mobile money agent and now asks her customers to withdraw cash from her as a mobile money agent, for which she earns a commission from the provider instead. Another MSE owner, Zacharia, runs a matatu business in Nairobi and expressed his frustration at not being able to monitor daily receipts from the passenger fares as they are received in cash and thus difficult to verify. 

These two experiences point to another challenge beyond credit: payments and earnings management for MSEs. These MSEs have growth ambitions; Zainab would like to expand her reach to corporate clients and take her business online, while Zacharia would like to expand and acquire another matatu. Without financial services that support these MSEs from start-up capital to short-term credit for working capital, and financial tools that aid with earnings visibility and management, these ambitions are unlikely to be realized.

Fintechs can help digitize MSEs and access a range of relevant DFS 

Fintech providers in Kenya have the capacity to provide MSEs with tailored financial services that not only meet their need for credit but also address other challenges as outlined above. However, fintechs have historically focused almost exclusively on the provision of nano credit due to the quick growth and profitability they tend to experience. Fintechs may also argue that the lack of digitization of MSEs acts as a barrier to providing more holistic financial services, as they lack the data trails necessary for the development of digital financial services (DFS). Rather than seeing this lack of data as a barrier, fintechs can help MSEs digitize, moving them closer to accessing DFS that best serve their businesses.

We are, however, slowly beginning to see some solutions that are providing improved MSE propositions. For example, Safaricom’s Lipa na M-PESA enables MSEs to collect payments on the till and use the money collected to make other transactions from the till – dealing with Zainab’s digital payments problem. We are also seeing fintechs such as MarketForce360 and Wasoko digitizing supply chain and order processes for MSEs in retail, where stocks are ordered digitally on mobile phones and delivered to the MSE’s premises. This paves the way for the development of digital data trails, which in some cases are being used to advance stock credit to MSEs – a process popularly known as buy now pay later (BNPL). So far, few fintechs have ventured into the provision of digital financial management tools that can assist MSEs with business management and possibly build useful data trails for access to financial services. 

New regulations are helping build confidence and rebuild trust in fintech offerings

Digital finance risks such as data privacy and negative customer experiences are also being addressed through the introduction of new regulations such as the CBK Act of 2021 and the Data Protection Act. The Central Bank of Kenya now requires digital lenders to obtain digital lending licenses, disclose all conditions, fees and charges for loans and the total amounts to be paid back, and to seek approval prior to changing their pricing models. The Data Protection Act ensures that DFS providers adhere to consumer data privacy requirements. More recently, the central bank started requiring fintechs to disclose and provide proof of their source of funds in a bid to curb financial crime. 

This is a commendable improvement from when the only requirement for digital lenders and fintechs was simply to be registered with the central bank. This change in the regulatory landscape should provide customers – including MSEs – with confidence and rebuild their trust in fintech offerings. In addition, an improved awareness among fintechs of MSEs as a profitable and differentiated segment with unique financial needs should help create room for the development of improved digital credit and suitable DFS for MSEs.