An official of American Export Import Bank was reported to have advised members of Uganda Manufacturers Association to seek cheaper loans abroad rather than choke with exorbitant interest rates charged by local banks. Most Ugandan banks charge interest rates ranging from 20 to 28 percent for business loans compared to the 5 to 12 percent that the US Exim Bank may charge.
To get a loan from any reputable bank you need to have financial statements which the bank uses to understand how your business has been performing for say the last two-three years and what the current financing need and payment capacity of the business is.
This is where the Ugandan businessman starts having a challenge. In most cases the Ugandan business does not have books of accounts and automatically becomes ineligible to receive bank financing. Even the business that has accounts may have different books for different audiences.
It is a global practice in places where accounting standards are lax or non existent that business managers and owners maintain three sets of accounts. The set of accounts prepared for the tax authorities will usually show the business making very little sales and having a lot of expenditure.
Earlier this year, the newspapers reported that the Parliamentary Public Accounts Committee was shocked that a well known business in Uganda had not made profits for over 15 years!
The second set of accounts is prepared for the banker. The report to the banker will portray a very rosy picture of the business; high sales, low expenses, excellent cash flow.
The true state of the business usually falls between what the taxman receives and what the banker is shown, that is the third set of accounts which is usually maintained by the owner of the business.
One reason why the Ugandan bank will charge high interest rate to a Ugandan business is because either the business does not have financial statements or if they exist the statement is hard to believe. The banker is therefore forced to increase her lending rates to cover hidden risks that cannot be identified from financial statements.
Financial statements aside, no bank will lend to a business in the absence of a security. The insistence of banks that borrowers provide collateral security is a big hindrance to the growth and maturity of businesses. I will illustrate using the example of Mukasa a small time flour miller who is making sales of Shs2 million or so every month.
If Mukasa had access to financing he would buy grain in bulk during the harvest period and use this to feed his mill when grain is off season. But the banks will not give him a cent unless he provides security to support his loan application.
Mukasa starts taking money from the mill first to buy a plot of land and then later to develop the land into a residential house. It takes Mukasa four years to complete the house. By the time the house is complete, the mill has been bled of cash to the point of near death. Now armed with a land title and good valuation report for his property Mukasa goes back to the bank with another loan application.
The banker is happy with the security but her face darkens when she sees Mukasa’s accounts. The monthly bank deposits have fallen from Shs2 million to about Shs300,000. The banker concludes that the proposition is too risky and declines the loan. Another good business is killed; it is the dance of death.
Some local banks have tried to solve the “collateral security” impasse by using warehouse receipts. The item the bank is financing is kept in a warehouse and only released with the consent of the bank. The warehouse system only works for businesses that deal in tangible products and may not work for service businesses. The warehouse operator is not a charity; therefore the warehouse receipt imposes additional costs on the borrower.
The banker on the other hand has to contend with the new risk of understanding and supervising the warehouse.