KSA عربي
KSA عربي
Global عربي
SMEs typically find it challenging to obtain financing in Saudi Arabia and SMEs lucky enough to obtain loans under acceptable terms must still put-up valuable collateral.
While providing collateral is a mainstay of banking and lending the fear of potentially losing a valuable asset drives SMEs away from traditional finance.
That said, SMEs in KSA looking for collateral-free financing have several avenues that they can turn to.
Financing as whole in Saudi Arabia strictly abides by Shariah law, thus banning the use of interest-bearing credit, excessive speculation, and haram activities.
That said, many Islamic financing contracts do come with clauses that require collateral, such as Tawaruq and Mudarabah. Some that typically don’t include:
- Mudarabah: A profit-sharing agreement whereby the lender enters into a partnership with a borrower for a project or business, and then distribute the profits from the project based on agreed upon terms.
- Musharakah: The lender and the borrower enter into a partnership and share in the profit and losses. In a Diminishing Musharakah, the borrower (who isn’t required to enter into the arrangement with any financial capital) tends to buy the lender’s stake in the project over time.
Read more about: Musharakah vs. Standard partnership agreement
One of the most common forms of collateral-free financing is selling ownership stakes in the company.
For SMEs looking to grow into startups and then full-fledged companies, that would mean looking for angel investors, VCs and other institutions in the startup ecosystem such as incubators and accelerators.
Financing from these institutions usually comes in the form of investment, with no loans involved and no collateral. As investors, these institutions also provide connections, mentorship and other resources to help nascent businesses grow and succeed.
The primary disadvantage of this form of funding is that it is dilutive, requiring founders to give up an ownership stake in the.
Furthermore, the startup ecosystem is geared towards businesses looking to scale up and grow into startups and large businesses. SMEs that can’t scale will find it difficult to tap into this ecosystem.
Read more about: Angel Investing: A Guide to Investing in Early-Stage Venture
Crowdfunding allows businesses to raise funding for a project from a large group of people through online platforms. This type of funding comes in a variety of forms, including:
· - Soliciting donations from those eager to help the business.
· - Obtaining funding in exchange for rewards and benefits offered by the business.
· - Offering ownership stakes or profit-sharing schemes for those who invest.
· - Borrowing through peer-to-peer lending, whereby the business borrows from a large pool of individual lenders at an agreed upon rate or a fixed rate offered by the platform.
Whether it is peer-to-peer lending or other forms of crowdsourcing, collateral is typically not required. However, by its nature, this form of collateral-free financing opens the business up to public scrutiny, so any obligations offered by the business must be met.
Read more about: What are the different types Crowdfunding Platforms in Saudi Arabia?
Microfinance institutions provide SMEs with small loans. These institutions provide credit to businesses who have been traditionally shut out of the finance sector
Apart from requiring no collateral, these institutions typically forego other requirements demanded by banks, including extensive business records.
That said, the loan sizes are very small and may be unable to meet the needs of businesses looking for extensive funding. Also, some of these institutions provide funding at higher interest rates.
Read more about: Microfinance in Saudi Arabia
Wait, there’s more
The forms of financing here are but a few options for SMEs and startups to obtain collateral-free financing in Saudi Arabia.
Other forms of financing include: credit card-based financing, trade and installment-based financing, revenue-based financing, and collateral-free loans, charitable programs, and government backed programs.
We will be discussing these other forms of funding in the second installment of this piece.
Read more about: Are installments Halal?
Disclamer:
This post is for educational purposes only, and does not constitute investment advice or a solicitation to take any financial action. It should not be relied upon when making investment or financing decisions.
