Financial technology (Fintech) companies are encountering difficulties in obtaining capital for business expansion, as per a report from the Financial Technologies Services Providers’ Association. The report reveals that the failure to access funding has led these companies to dilute their ownership stakes in an attempt to secure financing.
The 2023 FITSPA report discloses that out of the 128 Fintechs operating in Uganda, 58 percent prefer equity financing over debt financing. This preference arises from the absence of physical assets that financial institutions typically require as collateral for loans. Fintechs base their valuations on intangible assets and intellectual property, making equity financing a more feasible option, even though it results in the dilution of existing shareholders’ ownership.
Uganda has witnessed a rapid proliferation of Fintechs due to growing demand for financial inclusion. However, these businesses require substantial capital, often attainable only through debt. Surprisingly, Fintechs are now shunning debt financing in favor of equity, a shift that poses certain risks such as dilution of ownership and potential alterations to their business model and product mix.
Under debt financing, interest payments on loans are tax-deductible, reducing the company’s taxable income and offering potential tax savings. Moreover, once the loan is repaid, the company’s obligation to the lender ceases. Equity financing, on the other hand, means shareholders retain a claim on future profits indefinitely.
The report also emphasizes that securing and repaying a loan demonstrates a company’s financial discipline and revenue-generating ability, thus making it a less risky investment. Nevertheless, the report cautions that while debt financing has its advantages, the obligation to repay the loan, irrespective of the company’s financial performance, can strain its operations, potentially leading to business collapse.
In case a company cannot meet its repayment obligations, it may face financial distress or bankruptcy. Therefore, the report underscores the importance for companies to establish a robust business model and a dependable revenue stream before taking on debt.
In Uganda, credit is notably expensive, especially for small businesses. Interest rates currently average around 20 percent for ordinary borrowers, with prime borrowers facing interest rates between 15 and 18 percent.
