Banking & Lending for MSMEs – Key Bottlenecks And Solutions

The Indian MSME sector for years had the potential to establish and emerge as one of the leading contributor for economic growth. The Government and banks have begun to realise the importance of MSMEs and are taking collective efforts to utilise their potential to the fullest.

Small enterprises showed great vision around the Indian economy and continues to be the cornerstone of the country having survived the onslaught of industrialisation and IT revolution with timely adoption of technology.

The growth of small enterprises is exponential, but the acceleration of credit flow to small businesses is on the downside, indeed, a worrisome problem. The problem of safeguarding its sustainability has proved to be an unforeseeable challenge.

The Government and financial institutions are working for hand in glove to come up with an effective plan to help the MSME sector.

History Continues

The credit constraint for MSMEs financing in India has been a topic of discussion since the 1960s when it was included in the list of priority sector.

The quantification of loan approvals is difficult to ascertain since many of these sectors are in the informal segment with no documentation and liquid collateral. The situation makes underwriting tedious for banks.

India has witnessed the evolution of various initiatives and models to plug this gap and meet the credit needs of the unorganised sector but in futile.

Obstinate Problems

Traditionally, banks felt lending to small businesses was a relatively risky affair, and have embraced conservative policies to minimise both credit risk and cost of delivery. They prefer financing formal and medium enterprises over small enterprises, leaving a gap in the market.

The challenges faced in access to formal credit includes:

•         Long processing times
•         Lack of transparency in timelines
•         Insufficient loan sizes
•         An absence of adequate and timely banking finance
•         Limited capital and Improper market knowledge
•         Non-availability of suitable technology
•         Low production capacity
•         Ineffective marketing strategy
•         Constraints on modernisation & expansions
•         Lack of skilled labour at an affordable cost
•       Continuous follow up with various government agencies to resolve problems due to lack of manpower and knowledge etc.

These issues have been persistent and slowing the MSME sector for years, and this ultimately provokes the businesses to seek informal sources whatever be the interest rates.

Semi-formal and informal sectors remain largely under-served especially when the loan requirement falls below INR 5 lakhs. Nearly, 90% of Indian MSMEs are dependent on self-funding and forcing about 40% to borrow from informal sources.

The MSME credit demand stands at 45 lakh crores distributed between formal credit and easy credit. Borrowing under the formal credit is 25 lakh crores, 15 lakh crores in entity and 10 lakh crores in invisible credit. Informal credit is about 20 lakh crores and will continue to grow in the years to come.

Non-banking finance companies (NBFCs) with localised presence and domain knowledge have begun to identify and look at the small business finance market as an opportunity.

NBFCs catering to the informal segment rely on:

•         the clients’ income
•         developing templates to understand the margins
•         assessing cash flows of local businesses

Besides, they have a robust in-house process of credit and security verification.

Promising Financing Developments

Technology has made inroads into every industry and finance industry has been the forerunner in adopting it.

Going paperless was just the beginning, but it eventually indicated a disruptive platform in the form of ‘Digital Lending’. It completely revolutionised the banking sector by bringing down the time and document verification.

The Government of India and the RBI, since 2016 have implemented policies that have encouraged the MSME sector to be receptive to digital lending. The launch of UPI and the GST in 2017 led to a significant number of small enterprises to formalise and digitise their businesses. API-based data availability now allows for end-to-end digital lending with loan approval times under one day.

Constructive Initiatives By The Government

The proximity of credit flow to the MSME sector was prioritised by the Government of India and they swiftly brought measures to address it at the earliest. Some of them that have boosted the industry include:

• Nationalisation of banks
• Priority-sector lending
• Microfinance promotion
• Pradhan Mantri MUDRA Yojana (PMMY) scheme was launched for providing MUDRA loans, up-to 10 lakh to the non-corporate and small/micro companies
• Borrowers can approach lending institutions like Commercial Banks, RRBs, Small Finance Banks, Cooperative Banks, MFIs and NBFCs. They can apply online too through this portal. MUDRA is categorised into three products namely ‘Shishu’, ‘Kishore’ and ‘Tarun’ to signify the stage of growth, funding needs of the beneficiary micro unit or entrepreneur and also provide a reference point for the next phase of growth
• Approval of loans in just 59 minutes up to ₹ 1 crore. It is aimed at promoting automation, reducing the lengthy loan approval process and frequent visits to bank branches. The loan amount ranges are 10 lakh to 1 crore on the interest of 8% with disbursal in 7-8 working days
• Trade Receivables Discounting System (TReDS) for easing the financing of trade receivables of MSMEs from corporate buyers through multiple financiers

A Changeover Has Begun

In the midst of these developments, an alternative source of funding gained traction in the form of invoice discounting, a quick way of gaining access to working capital. Besides, fintech companies are making their presence felt by providing financial aid to small businesses. This was expected following the delay by the Government to swing into action. The informal sources capitalised on the pain points by introducing speedy loan approval and digital verification of loan seekers making it a logical and straightforward approach for the MSME sectors.

According to a study, the MSMEs turnover is close to 250 crores and is the major contributor to the country’s economy. The MSME informal borrowing, today, is 60% and as per analysts will hit 80% by 2023. The figures look achievable as more and more small businesses switch to more comfortable and cheaper credit through digital lending.

It’s the digital era and the results attained with its adoption has been remarkable. This means a fall in costs of data connectivity which is the lifeline of the digital world. In the longer run, the digital revolution will rewrite banking in India by creating a branchless digital bank. These APIs will enable to tap the entire MSME sector and bring the whole economic setup under one roof.

The time is ticking for the good.