MSME sector has been the backbone of any nation. For any nation to become a financial superpower, its citizens should become self-reliant and financially independent. The growth of MSME and its contribution to the nation’s GDP and employment generation is a great indicator of move towards financial prosperity of its citizens.
MSME in India has been a significant contributor to India’s GDP. As per Ministry of Micro, Small, and Medium enterprises (MSME), India currently has more than 4.8 crore MSMEs and it creates 1.3 million jobs every year and is the second largest employer, next only to agriculture. Around 45% of India’s industrial output is from MSME. The growth of MSME is important to India for many reasons. The selfreliance of the rural & semi-urban population would give the much required impetus for the development and infrastructure building of rural regions. This in turn would reduce the exodus of rural and semi urban population to urban areas. This development is very essential to India at this juncture as there is a great disparity in income levels and infrastructure between the urban and rural areas. Thus, MSME can act as a tool for promotion of balanced regional development.
Typical profile of MSME business owners:
- Less educated
- Individual proprietorships and mostly family owned businesses
- Longer vintage- more than 10 to 15 years in same business and know their business well
- Most dealings are in cash – no documentation of the income like income tax return, VAT or bank statement
- Primarily cater to local market economy
- Low on documentation like registration, license, etc.
- Currently financially excluded: Most customers have no bank accounts, no loans from banks (primary source of funding is informal sources)
Small players in the MSME have been surviving without much support from the government and banks for a very long time now. For MSME’s to thrive, there has to be a collective effort from the government and private players to take the MSME growth to the next level. Though MSME industry has been growing at a great pace, it is still facing a lot of challenges to live up to its potential.
Some of the key challenges that MSME sector is facing are:
1. Lack of adequate access to credit:
Though MSMEs have good cash flow, they have been denied loans from formal financial players including banks, as MSMEs mostly operate in a cash economy, where they buy in cash, sell in cash, pay for expenses in cash. Therefore MSME’s cannot furnish the documents to establish cash flows, as required by banks/NBFCs for obtaining credit. There is huge potential for scaling up of many businesses and generate employment in MSME. The lack of availability of easier loans has hurt the possibility of scaling up of MSMEs and is capping their growth. For example, a seller who sells food in a small shop or on cart near a busy bus stand can easily make Rs. 2000 a day. Had he been a salaried employee, this income would have easily fetched him a loan from banks/NBFCs. The small hotelier, in spite of having a good cash flow cannot get any loan due to lack of necessary documents for loan from banks and hence is unable to scale up his business.
2. High Cost of credit
As MSMEs have limited access to credit from formal banks, they are forced to take loans from local money lenders. The interest rates would be exorbitant and this will eat up all of their income from business leaving very less just to survive.
3. Lack of proper infrastructure
The absence of proper infrastructure facilities hinders the growth of MSMEs. The lack of infrastructure necessary for production, distribution, and services hinders the performance of MSMEs and acts as a hurdle in their path of growth. Access to reliable power, good roads, water supply, labour training/skilling facilities are some of the infrastructure facilities that are must for smooth operation of MSME businesses.
4. Access to Market
As MSMEs are small and unorganised, they lack the ability to market their products in distant urban markets. They also lack ability to invest in branding and marketing. Thus, most of their products are sold in local and near by market and to middle men. All these result in lower realisation and lower margins. Also, negotiating power of MSMEs is low. All these push MSMEs into vicious cycle of low production, low value and lower ability to invest. Therefore products and services are more or less bound to the rural areas and hence are unaware of the bigger demand in bigger markets.
5. Labour skill sets and technology
Lack of proper training and limited exposure to technology has led to very slow growth of the MSME industry. Also, their ability to invest in new technology and in skill improvement, makes it difficult to compete with large and organised players within and outside the country. For e.g. cheap imports from China has rendered many of the MSMEs uncompetitive in India and many are forced to move out of business . The absence/poor quality of educational and research institutions in the rural areas also hurts the MSME industry immensely.
Possible solutions to address the challenges
The government and the private players have to collectively work towards removing the hurdles in the path of growth for MSMEs. Some of the solutions are already taking shape and are in the right direction of putting the MSMEs in their rightful place.
1. Financial Inclusion – Access to credit
Faster, easier, and transparent access to loan is of prime importance to propel MSME’s growth. NBFCs like Vistaar Financial Services, few new banks, and SFBs are playing an important role in meeting the unmet demand for credit from MSMEs. The total unmet demand for credit from MSME is around Rs.2.9 trillion. Building credit products that meet MSME’s demand, developing robust processes to reach them fast in an efficient manner is the need of the hour. However, cost to serve and risk associated with MSME lending continues to be high. Government could come out with business friendly credit guarantee scheme, which will help to further the objective of credit penetration in MSME space.
During last 30 plus years, post nationalization of banks, banks’ penetration to MSME segment has been very low at 5% of the market (source: Ministry of MSME). Therefore, some of the NBFCs have identified business opportunity in MSME segment and have developed innovative business models to address the needs of these customer segments. Some of these NBFCs have been able to develop a model wherein they are able to address these customers’ needs and fund them. Dealing with SB segment, requires a channel reach in hinterlands and more so in rural and semiurban markets. Also, these businesses being family run units need door delivered service. They find it difficult to leave the place of business as any absence results in loss of business, which makes it difficult for them to access bank credit.
2. Financial inclusion- Savings & Investment
The government of India has proactively and aggressively taken many steps to move the majority of the rural population into mainstream banking. The Pradhan Mantri Jan Dhan Yojna has been a big success. Over 27 crore bank accounts were opened by Feb 1st 2017 since its inception in 2014 and around Rs. 665 billion has been deposited in these accounts. This has given a shot in the arm to boost the growth of MSMEs. Developing and offering micro savings and investment products to suit these customers will go a long way in fulfilling the savings seeds of these customers.
India is on the verge of leap frogging. The rural population of India that was disconnected with technology for decades is suddenly embracing the latest smart technology. The rural population of India is leapfrogging directly from Brick and Mortar banking to smart banking. The JAM initiative (Jandhan Aadhar Mobile) is moving majority of account holders to smart banking. The unique identifier in the form of Aadhar has reduced the KYC requirements and has boosted the faster processing of loan applications. Apps like BHIM have made the transactions faster and safer.
3. Marketing and Technology upgradation scheme for MSMEs
Ministry of MSME has identified the need to give the visibility to the larger market that MSMEs need. They have taken many initiatives to market the MSME products to the wider market and boost their growth. The Technology upgradation scheme focuses on enhancing competitiveness of MSME sector. This initiative focuses on building energy efficient technologies in MSME, encourage MSMEs to acquire product certification and adopt technologies mandated as per global standards. (Source: http://www.dcmsme.gov.in)
4. Infrastructure building in rural areas
Infrastructure in rural India can make or break the dream of having a thriving MSME industry. Rural areas need to have the necessary educational institutions with the right quality and quantity of educators. 24 hour power and water supply and good roads are something that need immediate attention. Gram sadak yojna is another initiative from the Government of India that is focusing on connecting all villages to the urban centres. The success of this project could be an impetus to the growth of MSME industry.
All the above solutions and initiatives can come to fruition if the solutions are embraced wholeheartedly by the rural population. The acceptance of the latest technology and understanding their power is important to the growth of MSMEs.
Key Recommendations: Banks have traditionally treated the Micro segment of MSME as being high risk customers and hence have shied away from lending to them. However, NBFCs manage to lend to the MSME sector by innovating credit evaluation processes and also aligning the cost structure to SBs. NBFCs are able to effectively serve specific segments, which the banks are not well placed to do. And the NBFCs focused on the MSME segment have evolved their own risk policies and credit assessment methods to be able to address the needs of the MSME customers.
Some of the key recommendations are given below:
1. SBs (MSMEs) is a large customer segment and credit gap is large (RS.275000 cr). There is a need for integrated approach from banks, NBFCs, Government and RBI to address the needs of this segment.
2. NBFCs are critical link in financing SB customer value chain and therefore, there is a need of access to long term lendable resources from Banks/DFIs
3. Including both indirect lending and securitisation under priority sector guideline will improve capital flow to MSMEs and will help to further the objective of financial inclusion.
4. Banks own ability to address this customer segment needs is limited on account of channel reach, cost to serve and ability to deal with these customers directly. Banks lending to NBFCs with business focussed on MSME segment need to be classified as priority sector in line with Microfinance and affordable housing.