They’re not household names and they don’t set the stock markets alight, but medium, small, and micro enterprises (MSMEs) are the unsung heroes of most economies, driving growth, employment, and innovation. According to the International Finance Corporation (IFC), MSMEs make up 90 percent of all businesses and provide more than half of all jobs worldwide.
The jobs and wealth generated by MSMEs are vital to achieving the Sustainable Development Goals – especially SDG 8: Decent Work and Economic Growth. As A2ii notes, “Aside from their economic impact, MSMEs also have a social dimension. They aggregate large parts of the population as owners, employees, and/or family-owned micro businesses.”
Yet most MSMEs, especially in emerging economies, either lack any insurance cover or are woefully underinsured. Research by Cenfri suggests that in Sub-Saharan Africa, for example, only two percent of MSMEs have any insurance, whilst in India – where MSMEs provide livelihoods for more than 100 million people – only five percent were protected against health and business interruption risks during the COVID-19 pandemic.
The MiN Learning Note, Managing risks (more) effectively: Rethinking insurance for MSMEs – produced in 2020 by the Best Practice Group (BPG) on Insurance for MSMEs – clearly notes that the COVID crisis has once more highlighted the “extreme vulnerability of MSMEs to exogenous shocks and risks.” However, the pandemic is just one infrequent and specific shock, and even in a pre-COVID world, MSMEs faced multiple risks. A2ii lists hazards such as fire, flood, or sickness; financial risks arising from cash flow challenges, price fluctuations, and credit; as well as operational or strategic risks like competition, market forces, and poor strategy and planning.
Given the scale of the protection gap and the associated market opportunity, it is perhaps surprising that more insurance companies are not moving into the sector. According to the UNDP Insurance and Risk Finance Facility, which will be officially launched during an event this coming Monday – register here – at the height of the pandemic there were more than 436 million enterprises in the hardest-hit sectors worldwide at risk of at least serious disruption – that’s a huge potential market. UNDP’s aim to provide business interruption insurance to more than 170 million MSMEs in just ten developing countries would generate US$4.37 billion in premiums per annum alone. Yet banks and insurers in emerging markets rarely offer specifically-designed insurance products for MSMEs, and even alternative financial institutions, such as microfinance institutions (MFIs), savings and credit co-ops (SACCOs), and microinsurers are failing to meet the needs of the MSME market. As Cenfri puts it, “providers, regulators, and development partners need to rethink MSME insurance because current approaches are clearly, with a few exceptions, not working.”
Some of the barriers are on the MSME side. Inadequate risk management strategies, rapidly changing risk management needs, and lack of awareness of insurance are some of the reasons why such businesses are left “out in the cold”. But more significantly, a lack of innovation and imagination in parts of the insurance industry also hampers progress. Some insurers have been slow in recognising that MSMEs are a largely untapped market. They offer relatively few product types and, crucially, tend to treat the entire MSME ecosystem as one homogenous sector – failing to understand how risks differ between different types of businesses in different regions and countries.
“Classical microinsurance is based on the assumption that basic insurance needs of underserved individuals are relatively homogeneous, and at least can be served with standardised products,” observe the authors of the Learning Note. “Based on that prerequisite, microinsurance products are highly standardised to keep complexity and costs down. This basic approach does not effectively serve this market. MSMEs differ vastly based on size, age, sector, and a multiplicity of other factors.”
Even where insurers do offer MSME-specific products, they often haven’t been designed with small business needs in mind. “Shrinking existing policies doesn’t work… the bulk of MSME-targeted insurance policies currently available are effectively standard corporate policies that have simply reduced the size of the premium and pay-out. This approach does not consider the specific and unique needs of different MSMEs, nor the contextual realities within which they operate, and it has clearly been unsuccessful to date.”
Rather than simply considering size, segmenting MSMEs according to whether they are ‘survivalist’ or ‘aspirational’ is a more useful starting point. The primary objective of a survivalist enterprise is to earn income in order to live, while aspirational businesses want to do more than just survive – they want to grow, and therefore need enterprise-specific insurance products which enable them to do that.
Generic product offerings rarely differentiate risks or constraints faced by different sectors of value chains. To move beyond reactive risk transfer and address these risks properly, insurers should design products that prompt better risk management and mitigation by businesses.
According to Cenfri, MSMEs don’t need insurance per se – what they need is to improve their resilience to risks. “Building resilience requires a holistic approach to risk that incorporates understanding, prevention, management, and mitigation. Insurance policies focus on the response to a risk event… but this is just one component of resilience and hence just one part of what MSMEs require.”
Better risk management leads to increased productivity and innovation. One of the key takeaways from a recent series of webinars by the ILO’s Impact Insurance Facility was that insurance schemes can increase the willingness of agri-SMEs to make riskier and potentially more profitable investments. This, in turn, helps them scale up their businesses in the future.
As with other types of insurance, a customer-centric approach is key: understanding the particular needs of the business and the business owner will enable insurers to develop products which are more likely to be attractive. This might involve holistic risk solutions that bundle insurance and non-insurance risk management services – for example in Ghana, where a transport company installed tracking devices in trucks to monitor driver behaviour and offered driver safety training. Technology is increasingly offering viable and innovative options to do this.
Insurers also need to rethink conventional distribution. “For insurance to fulfil its potential in building resilience for businesses, the sector needs to explore alternatives to traditional broker distribution models,” says Rinehard-Smit. “Broker distribution models for MSMEs are neither attractive to brokers nor appropriate for MSMEs.” Value chain aggregators such as banks or agri-businesses could function as meso-level policy holders, while innovative digital platforms are worth considering as they aggregate enterprises engaging in the same activities within specific value chains. Other, more traditional aggregators like lenders and co-operatives may also provide viable distribution options for insurers.
“Companies that want to insure SMSEs should keep an eye on increasing price sensitivity, the desire for more flexibility, and structural changes in the course of digitalisation,” advises MunichRe. “Irrespective of size, age, industry, or location, the way small businesses acquire insurance services is likely to change in the near future. Accordingly, insurers should adapt to their clients’ new requirements and changing expectations.”
The MiN BPG on Insurance for MSMEs aims to build on the challenges and opportunities identified in the Learning Note and advance the conversation around ways to approach taking advantage of these, such as digital platforms and value chains – so watch this space in the coming months!
If you would like to contribute to the discussion, join our BPG by becoming a member of the MiN today!