Home Finance Lending to Micro, Small and Medium-Sized Enterprises in the Philippines:

Lending to Micro, Small and Medium-Sized Enterprises in the Philippines:

The Challenges, Risks and Emerging Solutions Offered by Fintech and AI

by internationalbanker

By Antonio Jacinto, Faculty – Graduate School of Business, Ateneo de Manila University





It is 4 AM, and Corazon (real name withheld) is starting another day from her humble dwelling. As the head of a single-parent household, she must feed her three children and then ensure she reaches the local market and has her fresh goods laid out on her stall by the break of dawn to accommodate the day’s buyers. If all goes well, she will have earned Php500 (about US$9.17 at the prevailing exchange rate) by evening, just enough to pay her local, informal lender while leaving enough to pay for food and other essential items at home. At the start of the month, she would have borrowed Php9,000 ($165) for critical working capital and committed to paying back the principal at Php300 ($5.50) per day over the next 30 days, aside from the usurious interest charges that the lender needed to be compensated for the high levels of default he encounters daily. After 30 days, she will borrow once again and hope that her good payment record will entitle her to a bigger loan of Php11,000 ($202) for the succeeding 30 days, enabling her to expand her goods for sale. This is Corazon’s day-to-day existence, with a high price to pay, but she has no other option to prevent her family from going hungry.

It is a scene all too familiar in the developing world, and the Philippines, unfortunately, is no exception. According to the latest poverty threshold, as defined by the Philippine Statistics Authority (PSA), “the average family income needed to meet the minimum basic food and non-food needs of a family with five members in 2021 was estimated at Php12,030 per month” ($220 per month). And by that measure, the PSA also reported that 3.5 million families (an estimated 19.99 million people, or 18.1 percent of the total population) were considered poor. The income distribution is highly uneven, and the World Bank has estimated the Philippines to have one of the highest levels of income disparity in East Asia, second only to Thailand.

Corazon would find herself at the bottom of the creditworthiness rankings, with no permanent address and no collateral to offer. She falls into the category known as “micro-borrower”, a subset of the better-known category “micro, small and medium-sized enterprises” (MSMEs).

In the Philippines, MSMEs are defined by the Philippine Statistics Authority by employment and by the Small and Medium Enterprise Development Council (SMED Council) by asset size as follows:

 Size  By Employment    By Asset Size
 Micro  1-9 employees    Up to P3,000,000
 Small  10-99 employees    P3,000,001-P15,000,000
 Medium  100-199 employees    P15,000,001-P100,000,000
 Large 200 and above employees    P100,000,001 and above

Furthermore, according to the Philippine Statistics Authority’s 2021 List of Establishments (LE), MSMEs comprised 1,076,279 establishments, or 99.6 percent of total firms, providing 64.7 percent of total employment.

Numerous challenges

MSMEs are hard-pressed to meet the usual five Cs of credit: Character, Capacity, Capital, Condition and Collateral. Capacity and capital are scarce from the start; there is often no collateral to offer; and various natural occurrences, such as drought and flooding, often hamper business conditions. Consequently, all these add up to the inability of the borrower to attain the much-needed track record to establish character. There is also the problem of the inability of lenders to conduct proper due diligence arising from the insufficient or inaccurate financial statements normally provided by MSME borrowers.

All these factors translate into high cash-flow volatility and increased default probabilities, resulting in strong reluctance from traditional financial institutions and compelling MSMEs to borrow from unscrupulous informal lenders.

These conditions were all exacerbated by the recent pandemic, when lockdowns compelled borrowers to leave their trades in the main cities, such as Metro Manila, and head back to their home provinces to wait out the crisis. Literally overnight, lenders to these MSMEs, particularly the micro-lenders, lost most of their investments and had to find financing to cover their own living expenses. The macro effect manifested itself in a contraction of the economy of -9.5 percent in 2020 (as measured by real gross domestic product [GDP]) but, fortunately, was followed by a modest recovery starting in 2021 of 5.7 percent.

For its part, the Philippine government has enacted three major laws in support of MSMEs—namely, Republic Act No. 9178 (“Barangay Micro Business Enterprises [BMBEs] Act of 2002”), Republic Act No. 9501 (“Magna Carta for Micro, Small and Medium Enterprises [MSMEs]”) passed in 2008 and Republic Act No. 10644 (“Go Negosyo Act”) in 2014. Through the Magna Carta, a body called the Micro, Small and Medium Enterprise Development (MSMED) Council, composed of government and MSME representatives, was developed and tasked with promoting the growth and development of small and medium enterprises. And in July, the government further affirmed its support for the sector at the National Micro, Small and Medium Enterprise (MSME) Summit 2023.

Fintech and AI opportunities

But what about the opportunities presented by the digital infrastructure, fintech (financial technology) and the recent significant emergence of AI (artificial intelligence)?

If there was any upside to the pandemic, it was the increased acceptance and demand for the digital infrastructure composed of e-payment systems, compelling telecommunications and technology companies to ramp up their capital expenditures on the systems required to meet the much-increased demand. According to Visa’s “Consumer Payment Attitudes Study”, conducted in 2021, “84 percent [have] tried going cashless” in the Philippines, reflecting the wide acceptance of e-payments. Furthermore, according to the Philippine Statistics Authority’s “Women and ICT Development Index Survey” conducted in 2022, the “smartphone was the most common ICT [information and communications technology] device present in households which can be used by any member”, with a presence in 84.9 percent of homes. And most recently, the Philippines had the highest average screen time spent on phones based on a study of nearly 50 countries, as per DataReportal’s recent “Digital 2023: Global Overview Report”.

Given the growing cellular coverage and accelerated acceptance of payment solutions, there are opportunities for fintech and AI to be utilized to reach out and offer financing solutions to MSMEs.

Fintech refers to the use of technology to provide financial services and products to businesses and consumers. AI, or artificial intelligence, pertains to the capability of computers and machines to simulate human intelligence. When combined, fintech and AI can create new and innovative ways to lend to MSMEs. These exciting opportunities encourage financial inclusion and positively impact various parts of the credit process with enhanced access, improved credit scoring, automated loan applications and upgraded risk assessment, as explained in detail below.

AI and fintech would provide MSMEs access to affordable and convenient financial services, thereby promoting financial inclusion. Digital platforms would enable MSMEs to open bank accounts, access credit, make digital payments and manage their finances more efficiently.

Concerning alternative credit-scoring approaches, fintech companies could leverage technology and alternative data sources to develop innovative credit-scoring models for MSMEs. By utilizing non-traditional data points—such as social-media behavior, online sales data and payment history—these models could create digital footprints and assess creditworthiness and repayment capacity more accurately. This would allow lenders to make informed lending decisions based on broader datasets.

For loan applications and processing, fintech platforms could offer digital loan-application processes, eliminating the need for MSMEs to visit bank branches physically. Through online platforms and mobile applications, MSMEs could submit loan applications, upload supporting documents and track the progress of their applications in real-time. The digitization of data collection, document verification and credit assessment would significantly reduce turnaround times and increase efficiency.

By also analyzing the transactions along the supply chain, fintech platforms could make better credit assessments and lend to MSMEs according to their current relationships with suppliers. By analyzing transactional data and integrating with e-commerce platforms, lenders could offer financing solutions tailored to the specific needs of MSMEs involved in the supply chain.

Furthermore, AI could assist in detecting fraudulent activities and mitigating risks. By analyzing transactional data in real-time, AI systems could identify suspicious patterns, prevent financial fraud and enhance the security of MSMEs’ financial transactions.

And eventually, AI-powered tools could provide MSMEs with simple yet effective financial-management solutions. These tools would enable MSMEs to analyze cash-flow patterns and identify cost-saving opportunities, helping MSMEs optimize their operations and improve profitability.

The caveat, of course, to the emergence of AI is the potential downside of it falling into the hands of those who may abuse it to disrupt or destroy rather than create or grow. This continues to be extensively discussed in academic, private and government circles, and the necessary “guardrails” must be deployed hand in hand with its growing usage.

Within the Philippines, according to the “Philippines Fintech Report 2022”, jointly published by FinTech Alliance.ph and Fintech News Philippines, regarding 216 fintech companies, the bulk of them were in the “Lending” category (65 companies), 51 fell in the “Payment” category, and the “E-wallet” and “Remittance” categories logged 29 companies each. These companies have already been using lending and payment algorithms, but the emergence of advanced AIs this year will surely further enable them to extend their financing reach to MSMEs and create multiplier effects that should resonate positively for the Philippine economy.

Although the challenges and risks faced by MSMEs are numerous, the opportunities presented by fintech and AI, aided by growing cellular coverage in tandem with establishing necessary guardrails, will surely open avenues for growth much sooner and more significantly than could have been imagined even just a few years ago.

As for Corazon, she could now apply for a new loan from the fintech app based on the text ad she had received, and the AI would quickly establish her as a worthy borrower based on her consistent payments to her mobile-phone company. She would finally be able to dispense with the informal lender, deal with a SEC (Philippine Securities and Exchange Commission)-registered fintech and receive much-needed loans at higher amounts and more reasonable rates with much longer periods of at least 100 days to fund her growing business. And she would still have some left for her family’s needs. There is much she can now look forward to, and hopefully, the new technological tools will soon enable her and her family to break away from the vicious cycle of poverty.

A new world beckons.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Ateneo de Manila University, Graduate School of Business.



Antonio Jacinto is a Faculty Member of the Ateneo de Manila University, Graduate School of Business in Manila, Philippines. He has more than 30 years of banking experience, having worked for a number of local and foreign financial institutions, including BDO Unibank, Inc. and ING Bank N.V. He is also a consultant specialising in banking, finance and economics.


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