According to the National Bureau of Statistics, there are over 41 million micro, small, and medium enterprises (MSMEs) in Nigeria providing 60% of the country's jobs. Despite their crucial role in the Nigerian economy, access to credit to grow and scale their business remains elusive.
While the Central Bank of Nigeria (CBN) has made efforts to encourage more lending to MSMEs, structural issues continue to prevent them from doing so. A 2017 survey by SMEDAN revealed that less than 6% of MSMEs in the country had accessed financing even though 40% had personal banking relationships.
The reasons for this include a lack of access to data on these businesses. Due to their informal nature, most MSMEs do not keep an accurate account of their expenses making it difficult for lenders to estimate their risk level or carry out identity verification.
“There's not enough data to be able to adequately appraise them for a loan," Adedapo Sobayo, CTO at YC-backed Moni says. "You need to start thinking of alternative data sources, and even when you do that, how do you really understand their unit economics in order to give them the loan that they need, not too much or not too less," he adds.
On the other hand, the scale of their business makes it difficult to have any collateral that gives lenders the confidence to extend loans. Only 10% of Nigerian MSMEs earn profits above ₦500,000 monthly. Assuming lenders somehow figure out a way to give out loans, they still have to deal with the issue of recovery.
Several experts have pointed out that the absence of consequences for defaulting borrowers hamstrings lenders. While commercial banks simply refuse to lend, fintechs charge high interest rates to cover for any losses.
But if economic activity will be stimulated, access to loans needs to get easier and less risky for all parties involved. Activity in the informal sector provides some clues that fintechs can tap into.
Building on existing social structures
Lending takes place in the Nigerian economy even if the scale remains undocumented. Whether it is the brother providing startup capital for a family member or friends rallying to lend another friend money for their business, lending occurs.
Per Moniepoint’s Informal Economy Report, 70% of businesses in Nigeria's informal sector have gotten a loan but while only 12.2% of this demographic have gotten a loan from a bank, 70.7% got loans from friends and family; another 2% got loans from cooperatives.
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Encouragingly, 15.1% of businesses have gotten a loan from a loan app showing the increased role that fintechs play in extending credit.
For these businesses, getting a loan from a family member or friend is heavily built on trust and convenience.
While a financial institution wants to know a business’ cash flow and their ability to repay, a friend often needs little convincing as the relationship replaces KYC. Loans from friends and family also come without an interest rate, and when they do, they are often lower than a financial institution would charge.
Cooperatives, on the other hand, have existed in Africa for hundreds of years. Members often organise around common interests and pool resources enabling members to save and access loans.
While there’s little data around the number of Nigerians who belong to cooperatives, there were 1.8 million Nigerians in 82,460 cooperatives as of 2010. And in 2023, the CEO of the National Cooperative Financing Agency of Nigeria (CFAN), Emmanuel Atama, claimed that 30 million Nigerians belonged to a cooperative.
Already, some Nigerian fintechs are leveraging the same principles used by these institutions, including YC-backed Moni.
The result of a successful experiment, Moni leverages social capital to disburse loans. Access to loans is contingent on membership of a cluster, where individuals are financially interconnected.
A default by one member not only jeopardises their own future loan eligibility but also impacts the cluster's creditworthiness. Cluster members are required to contribute funds to a shared pot, which serves as collateral. In the event of a default, the cluster risks forfeiting this collective deposit.
CEO Femi Iromini shared an experience that happened before it launched formally with Techpoint Africa.
Once, they gave a loan to a member of a cooperative who failed to repay on time. Worried that it would affect their chances of securing future loans, other members of the cooperative pooled money to repay the debt before kicking the defaulter out.
Other startups, including Sycamore, Carbon, PiggyVest, and Cowrywise have built products modelled after different aspects of this phenomenon. Sycamore has focused on providing a peer-to-peer lending infrastructure.
Meanwhile, Carbon recently launched “Circles" which is essentially a digitised form of the ajo system that has been practised across Africa for hundreds of years.
Informal lending may be tough to scale
While acknowledging that fintechs can leverage these habits, Babatunde Akin-Moses, CEO of Sycamore points out that there’s a significant cost that comes with such an operation.
“The challenge with building on top of informal lending is the fact that you might need boots on the ground, and that's not very scalable. When you go to VCs and you tell them that you're going to engage 1,000 agents just to get maybe 50,000 customers they might not like that."
Having established that lending in the informal sector thrives on trust, the question is whether fintechs can apply the same principles to their operations. Sobayo argues that fintechs can leverage the same principles that cooperatives run on but Akin-Moses is less optimistic.
“If you look at digital lending, somebody wants to be able to log into an app that they've not used before to get money instantly. That's very different from how friends and family lending works so it assumes a pre-existing relationship. Can you have a pre-existing relationship with everybody? That is obviously not possible,” he notes.
He also highlights the conflict in motivations between the two models. Fintechs are designed to maximise profits, whereas cooperatives and personal networks prioritise mutual aid and social benefit over financial gain.
This mismatch in incentives means that cooperatives can offer loans at single-digit interest rates, whereas fintechs driven by profit would likely decline such low-margin opportunities, underscoring the distinct approaches of these two models.
