1.Financing of the private sector

Depending on the credit opportunities - the underground privatization, bank credits - the private companies fall within two groups: large, which form a small share, and small and medium-sized, which are the major part of the private sector as regarding their number and the number of employees.

For the better part of the large private companies the start-up capital and the financial sources are as follows:

(1) The lack of efficient legislature at the beginning of the reforms enabled the transfer of intangible assets from the state of the private firms in the form of experience, established business connections, market positions, know-how. The established markets and the profitable business spheres gave the large business the opportunity to accumulate considerable capital

(2) Transfer of financial resources from the state to the private firms, which through price differences compete unfairly.

(3) The deposits, insurances and shares attract the savings of the citizens, which are then traded on the stock markets and as a result of that the large companies opened banks, financial and broker houses, insurance companies, and had the opportunity to attract capital from abroad. Their stock market speculations and the high dividends which they promised, given the lack of control on the part of the state, gave them the chance to issue and distribute shares quickly and accumulate capital.

The second group of private firms, mostly small and medium-sized companies with enterprising owners, gives the image of the young private sector. Their main sources of finance are the advanced payments in construction and the sales and bank credits in trade. The small commercial firms which have up to three employees,usually do not take credits. The medium-sized companies use credits and in certain cases bank loans. Most of the large commercial companies operate with short bank credits. It is not favorable for their investment policy that they cannot make use of a grace period and deferred credit and must provide very high credit guarantees - from about 80% in 1991 to 120% to 1994.

The high interest rates, which are connected to the stabilization measures since the beginning of the reforms, establish a stable tendency of using the savings, especially in the small and medium-sized business, both at the start and in the later expansion of the business. This is favored by the growing amount of savings of the citizens.

Table 16

Deposits of Citizens and Companies in Commercial Banks

(mln. lv.)

Source: NSI, BNB

Chart 3

(mln. lv.)

From the end of 1992 to October 1994, the deposits of the citizens increased threefold and reached 218 bln.leva, while the deposits of the firms doubled. The citizens prefer to keep their savings in domestic currency, while the deposits of the companies are basically in foreign exchange. The data shows that firms react faster and more efficiently to changes in the financial sector, while the curve of the citizens' savings is flatter and reflects a constant behavior.

Generally, however, both types of deposits mark a constant growth, which creates considerable financial resources for expansion of entrepreneurship and investment. The transformation of these resources into capital is a function of the general macroeconomic environment, the traditions and experience in entrepreneurship and the governmental policy towards private initiative, etc.

The savings of the citizens are a basic source of investment for entrepreneurship. According to the NSI survey, 63% of the private firms have started with their own or family capital, 22% have taken mortgage-secured loans, 18% credits from friends and 12% mortgage-unsecured loans.

The bank credit investments for the period 1985-1990 were rising slowly, with almost all of them being directed to the state sector. After 1990, the state firms are still being the largest credit taker, with 67% of the total credits taken in 1990 and 42% of them in 1993. The corresponding shares of the private sector were 10% in 1990 and a lowly 9% in 1993. One of the reasons are the high interest rates, the difficulties with the guarantees provision, especially in the private sector. The state sector is continuing to accumulate debts, including bad debts, which hinders its restructuring and privatization. On the other hand this has a negative effect on the banks' portfolios and destabilizes the banking system.

Table 17

Bank Credits

(mln. lv.)

Source: Statistical Year Book, NSI, 1991

Chart 4

Average Amount of Credit to Registered Private Firm

(mln. lv.)

* Source: BNB

The data shows that the average credit amount of a private firm is going down. This is due to the increase of the number of private firms on the one hand and the restrictive credit terms on the other. This ongoing tendency deprives the private sector prom fresh resources for expansion of production, participation in the privatization, foreign markets intervention, etc. This is to say that the future growth of the private sector is impossible without a new credit policy.

2. Tax concessions for the private sector

The tax concessions for the private firms are provided by Decree #56 on Business Activity. Art.87, Par.4, Section 1 envisages that the juristic persons which carry out business activity without state or municipal shares should "pay revenue tax of 30% if their annual taxable revenue is up to 1 mln.leva". For the other juristic persons and private firms which taxable revenues exceed 1 mln.leva, the tax is 40%. This 10% tax concession is given by the government exclusively to private companies.

The next section of the same paragraph provide how the private companies could reduce the amount of their taxable revenue by using their resources or credit redemptions to purchase explicitly listed fixed tangible assets. These two sections encourage the private juristic persons to invest their revenues in fixed tangible assets and in this way expand.

As a whole, the tax concessions for the private sector are insufficient to aid considerably the private business and in this way balance for the high investment risk in the transition economy.

3. State funds providing incentives for the private sector

The tax concessions for the private sector do not require any special selection of the firms; they are given automatically. Another approach of the policy to boost the sector is through special investment funds, which give credit preferences o the basis of certain priorities. The crediting procedures are complicated - they demand a selection as well as preparation of convincing projects and certain guarantees. This means that the stimulation of the private sector by special funds requires more time, administrative expenses, establishment of priorities, monitoring, etc. With this incentive approach, the government or other institutions form on their account funds, mostly revolving ones.

The following analysis tries to provide general information about the funds, established exclusively to stimulate the private sector or the ones with general purposes but accessible for the private sector. They are divided conventionally in two - with domestic and foreign financing. They differ not only in the source of finance, but also in their management and policy.

"Small and Medium-sized Enterprises" Fund

The fund was established with Decree #108 of June, 1991 and the first meeting of the Management Board of the fund was on 11.07.1991. It used to be managed by 17 people, but their number has been reduced to 4.

The fund has the following main objectives:

1. Organization and operative management of the fund and the governmental policy of boosting the small enterprises.

2. Operative control, analysis and monitoring of the small enterprises.

3. Organization and consultancy aid to the small enterprises.

4. Coordination, organization and participation in international projects on methodological, financial and normative issues of the small enterprises.

The fund provides soft loans to small firms, restores 50% of the investment credit interests, single financial assistance, etc. The terms for financing investment projects are:

The credits interest rate is according to the base interest rate of the Bulgarian National Bank: in the grace period, when only the interests on the credit are paid, it is 50% of the base interest rate of BNB; after the grace period, when the payment of the principal begins, it is the same as the base interest rate of BNB.

During the grace period, in the cases of construction works when the debtor has no revenues, it is possible to arrange capitalization of the interests by months. The maximum redemption period is 5 years, except for food-processing companies, for which it is 2 years.

Until 1994 the fund have financed only 15 projects of 15 companies. The fund credits cover up to 70% of the investment in buildings, equipment, infrastructure, R&D, and the maximum credit amount is 5 mln.leva.

The project control is done by submitting monthly reports on the part of the debtor on the payments and sales, the level of capacity usage, assessment of the critical proportions, etc.

In 1995 the fund plans to expand its activity by subsidizing the small enterprises of young families. The aim is to make young people acquire management skills. A credit-guarantee program is being prepared and it is expected to be implemented by the middle of June.

Incentives to job creation

This policy is designed for both private and state companies. Decree #110 of the Council of Ministers of 1991 envisages the extension of credits with a 10% lower interest than the base one to firms which create new jobs. Art.2, Par.3 of the Decree stipulates that the Ministry of Labor and Social Welfare should issue Regulations on the terms and conditions of the partial coverage of the interest on credits for job creation. The concession regards private and state enterprises that have taken credits to expand production and thus created new jobs. The unsettled moments in the Regulations, their restrictive character and the bureaucratic procedures of credit extension limit the effect of its application.

In spite of the fact that only up to 3% of the Professional Training and Unemployment Fund (PTUF) could be used, until the end of 1993 such concessions were given to 4 state companies (1 899 000 leva) and 26 private firms (3 782 000 leva). 932 jobs on labor contracts were opened, 231 of them in the state sector and 701 in the private. In other words the PTUF have contributed about 6 000 leva to every new job.

From the beginning of 1994 to September 1994, preferences envisaged by the Regulations were given to 3 state and 12 private firms for the total amount of 7 504 000 leva, of which 675 000 leva for the state and 6 899 000 leva for the private companies. In 1994 there were opened 1000 new jobs.

Most of the new jobs created with these concessions are in industry, agriculture and transport.

These Regulations are hardly efficient because their terms and conditions are vague and managers are not interested in them and because the crediting process is so slow, that in real terms the subsidy of the credit is devaluated. The whole philosophy of such a concession is to be questioned: the incentive to new jobs creation lies not in the concession itself, since the firms will create these new jobs anyway, but rather in the idea of providing such concessions.

Agricultural Credit Center

In 1993, the Government initiated the establishment of an Agricultural Credit Center (ACC) - a specialized financial institution, in the form of a joint-stock company with authorized capital of 106 mln.leva, for extending short and long-term credits (up to 7 years) to agricultural producers. The main shareholders are the Foreign Aid Agency with 90% of the shares, State Fund "Zarno" and the foreign trade company "Agromachinaimpex" as well as some other state firms, which produce agricultural equipment.

The Regulations of the fund stipulate that investment credits in agriculture are given only to private farmers and cooperatives based on private property. The credits are designed for purchasing of fixed tangible assets - agricultural equipment and buildings.

The priorities of the fund according to its Statute are:

boosting the production of some agricultural commodities - grains, sugar beat and oil-yielding crops. 75% of the resources of the center are set aside to this purpose.

incentives to livestock-breeding - 20% of the funds are given to private livestock breeders.

5% of the finances are meant to aid the less developed agricultural regions and regions with ethnic problems.

The maximum amount of a credit is 200 000 leva for farmers and 500 000 leva for cooperatives, given that these limits are adjusted to inflation if it exceeds 33%. The minimum amount of a credit for the private sector is 20 000. The interest rate is 1/3 of the base interest rate plus 3 points and the grace period depends on the type of credit. The amount of the principal is adjusted to the exchange rate. The credits can be secured with the arable land and other assets that have a total value of 180% of the amount of the credit. The ACC does not recognize as a guarantee the temporary land ownership rights, since the special law on agricultural credits has been passed.

The Regulations of the ACC specifies the credit terms - redemption period of 7 years, branch and other priorities in extending the credits, type of the credit guarantees, interest rate, etc.

After the initial fixed interest rate, there was established a floating exchange rate - 1/3 of the base interest rate plus 3 points. The credit interest rate is adjusted to the exchange rate of the lev for the whole period. Some concessions are envisaged in the cases when the exchange rate grows faster than the selling prices of the agricultural commodities. Thus, the offered interest rate is more favorable than the interest rate of the commercial banks.

Until the middle of 1994, the ACC has given 3 credits. The first two total 124,3 mln.leva - 69,2 mln.leva for grain production, 17 mln.leva for livestock-breeding and 38,1 mln.leva for private cooperatives. The credit applications are submitted in the branches of Balkanbank and then transferred to the ACC for evaluation. It is based on the projected efficiency and the priorities of the ACC. The existing system of crediting is inefficient because it does not establish direct relations between the credit borrower and the ACC. Given the lack of financial experience on the part of the credit borrowers, it often depends on the good will of the bank officers to receive a credit.

Along with the subbranch and product priority credits, the ACC finances also large private land owners. The third credit of 30 mln.leva was extended for this purpose, without any restrictions concerning the credit investment, other than those provided by the Regulations. There is a requirement for the credit borrowers - they should become shareholders in the fund with 5% of the total amount of the credit. This aims at securing fresh proceeds in the ACC, whose capital was sharply reduced after the extension of the three credits.

Bulgarian Investment Fund

This fund was established on 02.18.1992 as a financially independent private institution which aims to promote the private business through:

new business investment

privatization of existing enterprises

foreign capital subscription

financing of projects

The BIF is a joint-stock company with authorized capital of 1 mln.leva and the main shareholder being First Private Bank, Insurance and Reinsurance Company "Bulgaria", 168 Hours Pressgroup, the American company Control Leasing and Management. The evaluation methods are based on Japanese and American programs.

4. Foreign sources of support to the private sector

Credits from the World Bank

According to the agreement made between the World Bank and the Republic of Bulgaria on the 09.30.1993 in Washington, the country received a loan of $ 55 mln. for financing of investment projects and boosting export. From BNB the funds are distributed by First Private Bank as financial mediator. The credits are given to firms whose projects meet the requirements of the credit lender:

1. The credit borrower should submit P&L reports and balance sheets for the last three years (if the company existed then) or as of 06.30, 09.30 and 12.30. of the previous year for newly established companies as well as description of the business object.

2. The economic argumentation should be accompanied by the usual set of documents: supply contracts, sales contracts, building contracts, land purchase offers, service offers, etc. The credit borrower must submit minimum 3 offers of different potential suppliers of equipment, raw materials and materials in order to choose an acceptable investment variant.

3. Detailed business plan of the project.

The credits of the World Bank are divided in two groups:

Group A - financing of investment projects;

Group B - purchasing of foreign raw materials and materials for production of export items.

The general terms of the credits for both groups are:

1. Maximum amount - $ 3 000 000 for group A and $ 6 000 000 for group B.

2. Credit period:

Group A - 3 to 10 years with maximum grace period of 2 years;

Group B - up to 180 days

3. The interest rate is determined by the market and the risk evaluation for the given project. The requirement for efficiency rate of at least 15% places the minimum interest rate at 15%, too.

4. The World Bank finances up to 50% of the amount of the investment projects of Group A. For Group B, the bank finances 100% of the foreign expenses and 70% of the domestic expenses for foreign goods which are supplied locally or 70% of the nominal value of the letters of export.

5. The credit borrowers from Group A could be newly established private or privatized companies, or private companies operating on leasing in state enterprises.

6. The borrowers of the credits from Group B should prove their expertise in foreign trade by submitting documents of at least two successfully concluded export transactions in the last year. They should have irrevocable and untransferable letter of credit, opened or confirmed by a first class bank. The letter of credit should cover the export product, manufactured of the raw materials and materials, purchased with the credit. The transaction payments are done by letters of credit; the letter of credit for the purchase of the production on behalf of the credit borrower should be opened before the letter of credit for the supply of the raw materials and materials.

The terms of the World Bank show the level of trust in the potential Bulgarian credit borrowers. The crediting of investment projects is restricted by the prerequisite for 15% minimum efficiency. Not many businesses can have such efficiency in the Bulgarian economic reality. What is more, the majority of the private companies are small and medium-sized firms with feeble market positions and authority, which are necessary requirements for rapid sales and hence rapid returns. In such case, the investment credit of the World Bank is not profitable for a large part of the private firms.

The credit terms for firms of Group B reveal the intention of the credit lenders to secure themselves against any risk. The sixth term of the World Bank is particularly explicit in this respect. The requirement of a preliminary letter of credit on behalf of the credit borrower, which should cover the cost of the exported product, manufactured of the raw materials and materials, purchased with the credit aims to cover the credit 100%. The private companies that are able to provide a guarantee by a first class bank are definitely able to get first class credits from such a bank. In such case the credit of the World Bank becomes irrelevant, given the not so favorable 15% interest rate. The submitting of proofs for at least two successfully concluded export transactions is also oversecuring the credit lender. The private companies, functioning in insecure and legally unsettled market conditions, would be absolutely right to consider such information confidential. This again makes the World Bank credits unattractive for the majority of private companies in Bulgaria.

Credit line from the European Investment Bank

The EIB finances projects from ECU 40 000 to ECU 25 000 000, given that the credit amount should not exceed 50% of the project value. A priority has been given to projects developed by small and medium-sized enterprises and joint ventures in which the foreign shareholder is from an EU country. The state enterprises are also given access to the credit line but do not enjoy privileges.

The projects should be in one of the following branches:

- industry

- food-processing

- tourism

The projects that would enjoy the preferences should be in :

- textile industry

- confection and accessories production

- footwear industry

- automobile spare parts manufacturing

- electrical appliances production

There is also a list of the so-called "excluded branches". Projects in these branches are not financed by the credit line. These are:

- steel production

- ship building

- automobile industry

- synthetic fibres production

The restrictions also apply to some projects in the retail business and the real estate trade (except for the industrial buildings)

The abovementioned restrictions are not applicable to the small projects (under ECU 500 000) and to projects regarding ecology and the efficient use of energy.

The project costs are recognized to be:

- the costs of the fixed tangible assets and current assets (working capital)

- the interests during construction

- the costs of the circulating assets (raw materials, materials, stocks, work in progress, finished products, spare parts)

Purely financial costs, like equity investment, are not financed.

In certain cases the costs of the purchased buildings and equipment are also regarded as project costs.

The terms of the credit line are identical to those of the World Bank - the interest is again 15%. The financing period and the grace period are not explicitly mentioned. This makes the credit line vague for the potential credit borrower. The fact that the extending of both credits is going with a very slow pace suggests that the terms are not attractive for the private entrepreneurs and these initiatives have not been made popular enough.

Since the establishment of the European Bank for Recontsruction and Development in April 1993, there have been financed 11 projects for 9 mln. This makes 33% of the project costs. The credit terms have not yet been made public. The financed projects are a part of the investment plans of the bank in Bulgaria.

Bulgarian-American Investment Fund

The fund is an American private organization, established by the US Congress with the SEED Law, which aims at helping the development of free entrepreneurship and enterprise in Bulgaria.

The activities of the fund include:

establishment of new businesses and help for entrepreneurship

establishment of joint-ventures

providing opportunities for foreign investment in Bulgaria

expanding the financial market in the country

providing managerial and operative assistance to the Bulgarian business and government

assisting the privatization of state companies

The fund began its activity with mln. For the 3 years of its existence, there have been approved 208 projects for mln., given the fact that the resources given so far total ,2 mln. They are in foreign exchange, the annual interest rate is 14% and depending on the project there is a one year grace period.

The PHARE Program - local strategies for economic development and employment support

The pilot program of the project "Local strategies for economic development and employment support" is financed by the PHARE Program and is the third direction in the program for employment and self-employment support and development. The program started officially in April 1993, with the first preferential credits being given in april 1994. The preferential terms regard the 15% annual interest rate and the six months grace period for the principal. The redemption period is 2 years and the amount of the credit varies between 130 000 leva and 460 000 leva.

The project is managed by a Pilot Committee, which includes representatives of the Chamber of Economy, the Bulgarian Chamber of Commerce and Industry, the two largest trade unions, the Ministry of Labor and Social Welfare. The resources of the project are channeled in two trenches - the first in april 1994 and the second in November 1994 - of the total amount of ECU306 000. The mediator banks are Sofia Bank Inc. for Sofia and First Private Bank for Montana.

The criteria for the candidates are:

1. They should be unemployed or about to be laid-off.

2. They have successfully completed the training course provided by the program consultants.

3. They should submit a detailed business plan, which will be assessed on the basis of established criteria.

4. They should have access to technologies or be able to manage the project.

5. They should be able to rent the necessary premises.

The credits are extended for production or production servicing. They do not have to be secured by a pledge, although a pawn contract for the machines is signed.

Credits for working capital, a tailoring operation, the food processing industry, souvenir production and construction works have been given so far.

There are certain requirements to the project: it should provide new jobs, provide information about the anticipated business results, the expected returns on the basis of some financial indicators, comply with the ecological and the labor safety standards. After the project has been approved, the candidate should present the legal registration.

The following projects were approved by the end of February:

In Sofia - 29 projects for the total value of 14 mln.leva with 81 new jobs and another 154 expected to be provided soon.

In Montana - 12 projects for 4,4 mln.leva; 31 new jobs created with 51 more on the way.

5.Summary

The analysis of the main sources of credits and aid for the private sector shows some common tendencies. One of the problems with the financing of the private sector is the lack of compact information on the preferences available. This limits the access to the different programs and their effect.

Bulgaria is one of the few countries without a special policy to the private sector and especially the small and medium-sized firms. There is neither a concept of such a policy nor a necessary legislature and institutions. The lack of a global strategy of the structural reform and the branch and regional development makes impossible the adoption of a consistent policy for stimulating the private sector.

Instead of a definite and consistent policy, there are some sporadic attempts to implement some elements of the traditional West European promotion principles - moderate tax concessions, establishment of national and regional funds for encouraging and developing the local private business. These initiatives are separated from one another, they are not carried in the framework of a total policy, and that is why they are not very efficient.

Rough estimates show that the abovementioned initiatives have provided assistance to only 326 companies, which is far from the serious support that the 330 000 private firms need.

In spite of the popular criticism of the foreign aid sources, one could boldly state that they have helped much more companies (206) than the state (66). More than 0 mln. have been invested in private projects. Unfortunately, these funds do not generally provide more detailed information about the credit borrowers, so that one could analyze the types of firms that were given credits to.

In principle, the credit terms of the foreign sources of support for the private companies are very restrictive and are applicable in economies where the private sector have established positions and developed enough in respect to finance and training. Because of the restrictive requirements, only the large and already prosperous private firms could have access to the foreign aid sources. In this way there exists the danger of these funds providing opportunities for the large private business to expand, while those who start a business or do not have big assets are being disregarded. The incentives provide by the government show a similar tendency. They are too complicated, require particular selection and monitoring, allow misinterpretation and misapplication on the part of the state institutions, which leads to bureaucratic misbehavior.

Almost always, it is necessary to have special legal motives for the institutionalizing of the funds and their managing bodies. There are problems with the registration of such specific institutions. That is why, as the international experience also suggests, it is necessary to create only one institution, which will coordinate all preferences and policies, to give a common legal regime of the financial institutions that support the private sector, and to establish clear terms and criteria for the credit extension. Not least, it is also necessary to simplify the monitoring and control of the efficient use of the respective preferences and credits, and to avoid duplication. It is necessary to reassess the whole policy of the foreign funds and make it compatible with a general priorities policy of the government in the transition. The incentives should be directed to the small and medium-sized business and not to the private sector in general, since such a concept does not exist any more. The private sector is a category versatile enough to be treated in the same way.