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The pros and cons of investing in SMEs
Published: June 8, 2020 |   Updated: December 21, 2021

It’s the “Kiwi Dream” to own a business – and with 97% of New Zealand businesses classified as small and medium-sized (SMEs), there’s huge potential for today’s smaller businesses to grow into tomorrow’s big success stories. Catalist is designed to list businesses that are well established, but still smaller than you’d expect to see on a traditional stock exchange - so you might wonder, what are some of the advantages of investing in these smaller businesses - and what are the risks?

Investing your money in a smaller business is an excellent way to help grow the local economy and if the business does well, enjoy a share of their profits. Imagine if you were one of the early investors in a business like Xero! It presents you with a unique opportunity to be a part of the growth of that business, which you might never get again.

SMEs have the potential to grow faster than larger businesses. It is often easier for them to diversify in order to expand, being typically more agile and innovative. Initiatives may include new product launches with expansion into new markets, resulting in higher growth.

Among other attractions of investing in smaller businesses is the likelihood of mergers and acquisitions in this sector, with larger businesses often snapping up smaller ones to expand their own businesses. In order to take control, they may offer to pay a healthy premium to the existing shareholders.

SMEs also tend to have greater exposure to the domestic economy. We’ve seen that first-hand with businesses in COVID-affected sectors such as retail, hospitality and tourism particularly hard hit. Generally, however, smaller business investments provide a buffer against a volatile global economy during an uncertain political climate, with a tendency to be less exposed to global trade conditions.

What about the risks?

There’s no doubt that investing in smaller businesses can involve a higher level of risk. Larger businesses, by their nature, have larger economies of scale, often with diversified income streams. If smaller businesses get into difficulty, they may not have substantial financial reserves to bear any losses.

Share prices for private businesses have also traditionally been volatile, with the need for investors to watch liquidity (their ability to buy and sell investments). Shares in these businesses have a history of being hard to sell, with potentially fewer buyers around - meaning it can be difficult to get a fair price for investments.

However, a market that periodically brings all investors together at one time offers many benefits, including maximising the chance that willing buyers meet willing sellers. Catalist works by holding regular auctions, which set a regular fair price for investments, reassuring investors with the knowledge of future trading opportunities.

This addresses some of the traditional risks of investing in smaller businesses – but as with any investment, there are always differing levels of risk involved. That is why it’s important you read all the information provided before making any investment decision.

Have a diversified portfolio

We’ve all heard the saying, “Never put all your eggs in one basket.” The same applies to investing and ensuring you have a diversified investment portfolio. SMEs shouldn’t be your entire portfolio – but it’s good to include some growth companies to give you access to their growth opportunities. Diversification helps reduce your risks if there is a downturn in any one business or type of investment.

Catalist’s stock exchange provides a new way to support SMEs, while providing investors access to new investment opportunities in a well-regulated environment. Weigh up the risks and the rewards, and if you’d like more information on how to invest, sign up on our website.

By Michelle Polglase