Benefits, Development Strategies and Laws for SMEs in Ethiopia

Overview of the SMEs

Ethiopia is one of the poorest countries in the world, ranking #173 out of 187 countries, according to the United Nations Multidimensional Poverty Index. The underdevelopment of Ethiopia’s socio-economy is a byproduct of high poverty, unemployment, slow economic growth and alarming population growth, This cannot improve the through further investing in large manufacturing industries and companies. The government should instead direct investments to SMEs, which have shown contributions of more than 50% in GDP and 60% of employment in developed countries.¹

Benefits of SMEs in Ethiopia’s economy and development

Economically, SMEs can boost economic growth and accelerate socio-economic progress by providing traders with the resources to exploit market opportunities and further accelerate the development of rural regions. Socio-economically, SMEs benefit deprived communities with the financial stability to afford a better quality of life.

The Ethiopian government continuously creates reformed policies to promote SMEs development. According to FDRE, there are three strategies for developing SMEs, planned to be in effect from 1997 – 2025.²

Strategy 1 – Micro and Small Enterprises Development Strategy of Ethiopia (1997 – 2010): ADLI is a development strategy that aims to achieve initial industrialization through robust agricultural growth and close linkage between the agriculture and the industrial sector. [4] 

Strategy 2 – Micro and Small Enterprises Development Strategy, Provision Framework and Methods of Implementation (2011 – 2015): The success of ADLI in Strategy 1 will promote the full industrialization of agriculture.

Strategy 3 – Industrial Development Strategic Plan (2015 – 2025): If the first two are successful, the economic level of Ethiopia should reach the middle-level income by 2025. 

• Some Asian countries (Japan, Thailand, Taiwan) have previously implemented ADLI and have recorded that agriculture cannot single-handedly sustain industrialization without assistance from other strategies. For ADLI to become successful, there needs to be:
• Large financial support for SMEs without increasing the tax rate on SMEs business owners.
• Training for small farmers and SMEs to specialize in mass production and advance into industrialization of agriculture. In 2012/2013 data, smallholder farmers contributed 96% (241 million quintals) of crop production while the remaining 4% (10 million quintals) came from commercial farms. Unfortunately, crop production has decreased substantially due to low agricultural development during the end of strategy 1 and strategy 2.³

• Reformed policies for easier accessibility and affordability of land to small farmers and SMEs. This will reduce workers migrating in search of employment, child labour from lack of family finances and overpopulation of Addis Ababa.
• Establish street vendors and home-based businesses by providing formal spaces for transactions and elevate them into commercial based markets.
• Upgrade the information technology and market awareness for traders in the agriculture sector, market and distribution development.
• Better infrastructure for small farmers and SMEs by providing transportation, quicker business transactions, easier accessibility to resources and electrification of rural regions.
• Provide accurate documentation of ALDI’s progress to adjust policies accordingly.
• Provide easy market demand consultations for traders. Performing consumer demand and market-based studies will increase consumer-based production and create awareness of quality products.
• Strengthening the precautional strategies for adverse environmental impacts (drought and famine) to preserve crops during a severe lack of food and resources. There is a goal to accumulate 405,000 metric tons of emergency food grain supplies annually, as stated in the 2015/2020 GTP plan on the United Nations Ethiopia Growth and Transformation Plan II (2016).⁴ However, in early May, Ethiopia faced food shortage due to locust infestations on farms and the outburst of COVID, which presented severe consequences to the economy.

Ethiopia is predominantly dependent on agriculture for economic development. The annual economic growth shifts between 5% to 11%, making it the 4th most growing economy in the world.⁵ Suppose new strategies support ADLI by accelerating agricultural and industrial output, building multiple linkages between the two sectors and formulating policy reforms for cross-cutting sectors (health, education) There could be substantial growth in the economy.⁶

Starting SMEs and the governing laws

According to the Commercial Code of Traders and Businesses (1960), a person is considered a trader if he/she is involved in purchasing, building, repairing, maintaining items (not by handicraftsmen), with an intent to resell for profit.⁷

For a trader to start a small or micro business, he/she would first need to register in the commercial register, which is authorized and monitored by the MCI (Ministry of Commerce and Industry). The commercial register consists of two sub-registers; A local register kept at regional states and a central register kept within the DCCR (Department of the Central Commercial Register), a special division established by the MCI in Addis Ababa. The trader will present an application to either local or central registers within the first two months of starting a commercial business. If the trader fails to do so, it will be considered illegal and lead to penalization. The registers contain information such as; name, DOB, nationality, objects of trade, previous trade and registration information, trade name, address of the business, business plan… Once a business license is issued, MCI will carry out supervisions to monitor the success of the establishment. Suppose a business has ceased operation, or the trader is considered incapable of carrying on the registered trade; MCI will submit a notification to the trader and cancel the business registration.⁸

When applying for a business license, there are three types of forms to take into consideration:

• A sole proprietorship: are individually owned businesses. SMEs prefer this method due to the unlimited liability and the small capital needed to establish them.
• Private limited company: Ownership of business ranges between a min of 2 and a max of 50 persons. It is for high profit-making companies with large capitals, where liabilities are limited to shareholders.
• Share company: Business can be formed by a minimum of 5 people with a minimum of 50,000 ETB capital.

Challenges of the MSEs in Ethiopia’s economy, finances and policies.

Although the FDRE has made promising efforts, the business sector of Ethiopia faces challenges both internally and externally.

Internal challenges

Management: The lack of professional training and capacity building of SMEs owners in production and management resulted in businesses remaining stagnant. Most SMEs are primary income generators; therefore, owners involve themselves in all aspects of the business. Some traders run multiple establishments but lack full-time commitment for each one, resulting in slow business development.

Education: Most traders enter the business sector with self-taught experience. A study conducted by ADA reported the youth were more successful in running a business as compared to older generations as a result of certifications in higher education. Ethiopians educated by foreign countries in business and management are more responsive to futuristic equipment and methodologies compared to traders who are accustomed to traditional methods of manufacturing. The government makes notable exceptions to involve them in the business sector.

Finances: Since SMEs are the primary income generator of traders, the profits are invested in resolving personal affairs rather than the business. This creates low finances to manage, acquire resources and cover insurance expenses.

Information: The unavailability of updated information technology disadvantages SMEs by not linking their objects of trade with customer demands and current trends of marketing and distribution.

External challenges

Gender Inequality: Especially in rural regions, women are not given the same opportunities to start SMEs. According to ADA, women in SME are more successful in creating and maintaining businesses. They earn more income and become the primary breadwinner in their household.

Finances: “When I first started my business, I didn’t have enough money to rent my own office space”, says Engineer Getaneh Terefe, a medium-sized business owner. “At the time, to save money, my friends and I rented a villa and divided the space amongst ourselves. I had saved enough money to buy equipment’s and pay office rent to do my work.”

Granted, MFIs provide outstanding loans to women as an attempt to increase the women force in SMEs by using cash-flow based loan appraisal methods.⁹ However, traders prefer to obtain their finances from family loans, iquub or personal savings as an alternative to MFI. To borrow money from MFI, traders will need to present the required amount in collateral possessions. ‘Excessive collateral requirements and restrictive MFI policies such as demanding clients save 15% to 20% of the loan amount over six months are significant obstacles to acquiring start-up capital from MFIs. Only 9% of the entrepreneurs studied started with a loan from an MFI plus their savings.’¹

Bibliography

ADA asbl, First Consult PLC, “Small and Growing Businesses in Ethiopia”, October 2017.

Ministry of trade and Commerce, “Commercial Code Of The Empire Of Ethiopia Proclamation No. 166”, 1960

Engida, Ermias et al, “The Role of Micro and Small-Scale Enterprises In The Ethiopian Economy, Government Intervention And Alternative Strategies: A CGE Analysis“, ResearchGate, 2017,

IMF, Ministry of Finance and Economic Development, “The Federal Democratic Republic of Ethiopia Poverty Reduction Strategy Paper: Growth And Transformation Plan 2010/11-2014/15, Volume I“. IMF Staff Country Reports, vol 11, no. 304, 2014, pp. 38 – 41. 

IMF, Ministry of Finance and Economic Development, “The Federal Democratic Republic Of Ethiopia Poverty Reduction Strategy Paper: Growth And Transformation Plan 2010/11-2014/15, Volume II“. IMF Staff Country Reports, vol 11, no. 305, 2010, pp. 19-26. 

Ohno, Kenichi, “ADLI And Future Directions for Industrial Development“, 2009

Luning, Eelko, and Daan Giesen, “Key Success Factors and Analysis Of SME Development: Ethiopia“, ADA, 2006

FocusEconomics, “The Fastest Growing Economies in the World (2019-2023)”, 2020

https://www.focus-economics.com/blog/fastest-growing-economies-in-the-world.

United Nations Ethiopia, “Growth and Transformation Plan II”, 2016,

https://ethiopia.un.org/en/15231-growth-and-transformation-plan-ii.

Yaregal T. Geremewe, “The Role of Micro and Small Enterprises for Poverty Alleviation”, International Journal of Research Studies in Agricultural Sciences (IJRSAS), Volume 4, Issue 12, 2018.

1 (Tilahun Geremewe)

2 (Engida et al.)

3 (“United Nations Ethiopia”)

4 (“United Nations Ethiopia”)

5 (“FocusEconomics”)

6 (Ohno)

7 (“Ministry of Trade and Commerce “)

8 (“Ministry of Trade and Commerce”)

9 (“asbl ADA”)

10 (“asbl ADA”)