Small and Medium size Enterprises Grading | Beacon Ratings
Corporate Sector
Small and Medium size Enterprises Grading
Small and Medium Size Enterprises Grading Introduction Small and Medium Enterprises (SMEs) contributes significantly to the economic development in Ghana. The main challenge for SMEs raising finance is information asymmetry between lenders and SMEs. SME grading provides informati
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Beacon Ratings Corporate Sector
Small and Medium Size Enterprises Grading Introduction Small and Medium Enterprises (SMEs) contributes significantly to the economic development in Ghana. The main challenge for SMEs raising finance is information asymmetry between lenders and SMEs. SME grading provides information on creditworthiness, credit risk and credit quality on SMEs and thereby facilitates financing for SMEs. There is therefore SME credit grading to support investors and financial institutions to make smooth SME investme
Small and Medium Size Enterprises Grading
Introduction
Small and Medium Enterprises (SMEs) contributes significantly to the economic development in Ghana. The main challenge for SMEs raising finance is information asymmetry between lenders and SMEs. SME grading provides information on creditworthiness, credit risk and credit quality on SMEs and thereby facilitates financing for SMEs. There is therefore SME credit grading to support investors and financial institutions to make smooth SME investment and lending decisions.
Rating methodology
Beacon Ratings SME grading is an independent professional opinion on business fundamentals of SMEs. The grade assigned represents a relative assessment of business fundamentals, both qualitative and quantitative, underpinning the performance of SMEs.
Industry growth prospects
Industry growth prospect is assessed to determine performance and associated risks of the industry. Industry parameters such as
Demand-supply situation
Level of entry and exit barriers
Industry competition
Availability of substitutes
Technological trends
Government support
Seasonal situations
Operational performance
SMEs with relatively strong positioning and high market share in their business segment have competitive advantage and long-term sustainability. In evaluating performance of operations, the following are assessed:
Products and services profile
Scale and size of operations
Timely availability of raw materials, manpower and utilities
Bargaining power with key customers and suppliers
Value addition in the product and services
Product and service distribution networks and channels
Business contracts with customers and order quantities
Operating activity and efficiency are assessed using financial ratios such as:
(a)Cost of production per unit compared to competitors
(b)Stock turnover
(c)Debtors’ collection period
(d)Creditors’ payment period
(e)Turnover to total assets
(f) Current capacity utilisation
(g)Operating expense to income
(h) Sensitivity key drivers, selling prices and input costs.
Supply chain partners
Supply chain partners need to be operationally effective and efficient for SME to be competitive as they play key role in the smooth running of the SME. The scale, efficiency and effectiveness of such business partners are assessed. The business partners include:
Suppliers
Vendors
Bankers
Customers
Infrastructure and technology
SMEs use of modern technology and infrastructure helps to achieve an efficient production cycle, reduce wastes, sustain quality products and demonstrates the willingness of management to grow the business within changing times.
Operating efficiency
Operating activity and efficiency are assessed using financial ratios such as:
Cost of production per unit compared to competitors
Stock turnover
Debtors’ collection period
Creditors’ payment period
Turnover to total assets
Current capacity utilisation
Operating expense to income
Sensitivity of key drivers, selling prices and input costs
Management performance
The performance of management is critical in determining the quality of management for effective and efficient management of SMEs. Parameters evaluated include the following:
Business insight and vision
Track record and experience
Succession planning
Employee relations
Future growth strategy and approach
The quality of management is critical in determining the effective and efficient management of SMEs. While large entities employed professional managers, SMEs mostly rely heavily on owners and family members to manage the business, making it necessary to evaluate their track records and experience. Parameters include:
Track record and strategy
Succession planning
Employee relations
Financial performance
Audited financial statements and bank statements are assessed to determine financial performance, financial position, cash generating capacity, financial risks and business efficiency of SMEs.
Profitability: Profitability is a measure of earnings generated as against the resources deployed. Profitability indicators are:
Gross profit margin
Operating profit margin
Net profit margin
Return on assets
Return on equity
Gearing and debt coverage: Borrowed funds typically have fixed obligations in the form of interest and principal repayments, irrespective of the cash flow generation. Gearing and debt coverage indicators such as:
Debt to total assets
Debt service coverage
Interest coverage
Liquidity management
Working capital: SMEs need to operate an optimal working capital to sustain operations. Working capital is assessed using:
Current ratio
Quick ratio
Cash ratio
Cash flows analysis iscritical in assessing creditworthiness of SMEs as it provides indication of whether operations are capable of funding itself or rely on external sources of finance. Cash generating capability measures cash flows from:
Operating activities
Investing activities
Financing activities
SME rating scale and definitions
Imported table
Beacon-SME 1
Highest credit worthiness in relation to other SMEs
Beacon-SME 2
High credit worthiness in relation to other SMEs
Beacon-SME 3
Good credit worthiness in relation to other SMEs
Beacon-SME 4
Above average credit worthiness in relation to other SMEs
Beacon-SME 5
Average credit worthiness in relation to other SMEs
Beacon-SME 6
Below Average credit worthiness in relation to other SMEs