Trace the origin of most big organisations. They were like gentle river-water fishes in their initial days. Small-to-Medium enterprises (SMEs) as they’re called in financial parlance. But SMEs would aspire to swim with the whales in the vast corporate ocean. All they needed was timely financing to make that quantum leap, give a free rein to their spirits.
Timely access to credit may have made some SMEs the business Godzillas that they are today. The history of India’s economy is replete with examples of large organisations that started off as small business entities. Imagine if they had been deprived of commercial loans to increase working capital, build infrastructure, acquire machinery, and employ skilled labour. The economy would have lost much of its vitality.
Why do SMEs struggle to get funded?
Lest forgotten, SMEs withstood the global slowdown in the 2000s. They create FDI-boosting opportunities. According to a report published before the pandemic, the Micro, Small and Medium Enterprise (MSME) sector creates 113 million jobs. MSMEs contribute 29 per cent to India’s GDP and comprise nearly half of its exports. They employ over 11 crore workers.
Yet SMEs and MSMEs are made to feel like distant cousins when they turn to lending institutions or banks to support their businesses. Doubts galore. Are these fly-by-night operators? Will their businesses be profitable in the long run? Will the company sink in the quicksand of bad debt?
Going by a recent report published in a leading daily, banks exposures to better-rated, large borrowers are declining. There are recent incipient signs of stress in the MSME and retail segments, warned the Financial Stability Report of the Reserve Bank of India. The demand for consumer credit across banks and NBFCs has dampened, with some deterioration ‘in the risk profile of retail borrowers becoming evident’, it said.
Challenges from competitors, limited market access, inability to adapt to changing industrial scenarios, geographical isolation in some cases, strict loan eligibility criteria by banks, a short repayment tenure and, more poignantly, the vagaries of nature, further hinder their progress. Turn the clock back to the 2015 Chennai floods. According to conservative estimates, the region’s Micro & Small Industry sector were potentially losing Rs 840 crore every week owing to the extreme weather event. Since most SMEs and MSMEs operate in sub-optimal locations, they’re more vulnerable to natural hazards and consequently inspire less confidence from lending institutions.But going by recent evidence, the SME segment is finally getting a much-needed push, courtesy some government initiatives.
What are the types of government loans or initiatives to support SMEs?
The Union government’s fresh guidelines to include wholesale and retail traders in the MSME segment is expected to benefit as many as 25 million traders battered by the Covid-19 pandemic. In general, the Indian government has been keen to incentivise the priority sector which, in turn, should benefit SMEs. To cite an example, if an SME player specialises in a priority sector such as steel, it can apply for loan at affordable interest rates. Why wouldn’t lenders reciprocate?Existing schemes like Pradhan Mantri Mudra Yojana (PMMY) offer credit to SMEs from the non-agricultural sector.
‘MSME business loans in 59 minutes’, ‘Credit Guarantee Fund Scheme’ for micro and small enterprises, ‘National Small Industries Corporation Subsidy’ to aid small organisations with finance and technology, ‘Credit Link Capital Subsidy Scheme for Technology Upgradation’ to reduce cost of production of goods and services for SMEs and ‘Udyogini’ to support women in meeting their capital requirements to start a business, all have given SMEs a lift in recent times.
In fact, the government has not only extended support to women entrepreneurs, it has launched skill-training programmes to drive their businesses. Certain schemes are intended to keep alive the entrepreneurial zeal of women, who might not have higher education but can still develop their business acumen.Additionally, there are special grievance cells for MSME owners. Many complaints are attended through this monitoring system.
What are the documents required for SME loans?
Even the loan application procedure is less rigid nowadays, with banks asking for proof of sole proprietorship, trade licence, audited balance sheets, address and KYC among the key documents. In fact, many lenders encourage borrowers to apply for loan online with minimal documentation.
How can SMERA help?
Specialised SME rating firms such as SMERA Ratings Private Limited (erstwhile SMERA Gradings & Ratings Private Limited) (SMERA), not only help companies get cheaper and faster credit, they offer comprehensive services such as operational performance, technological expertise and product capabilities. SMERA was set up in association with SIDBI, Dun & Bradstreet India (D&B) and several banks in both public and private sector in 2005 exclusively for Indian SME segment. It serves as a check for what can be improved in the enterprise. It measures organisations on benchmarks specific to SMEs.
SMERA is not only a rating agency...
Other than providing an assessment of business and financial risks, SMERA acts as transmitters of information for SME’s financial planning. Lack of network often results in SMEs not having access to crucial information. In addition, most SMEs in India are found wanting in skilled personnel to manage their activities. They aren’t able to report their financial results, earnings, and business projections that enhance their creditworthiness. Rating agencies have the tools to fill these lacunae. Also, with limited experience in domestic and international markets, SMEs lose considerable ground to big players. SMERA ensures these gaps don’t become an impediment. That’s not all.
Through SMERA’s discerning eyes, SMEs are able to assess their own projects. Will SMEs be able to execute their project commitments in a timely manner? Are they guarded against factors affecting cost overruns such as delayed payments, changes in designs, inadequate project analysis and material price fluctuations? Rating agencies ensure these factors don’t serve as bottlenecks. Site inspection and discussion with management about feasibility of a certain project also comprise their offerings.In addition to this, SMEs benefit from SMERA’s integrated research system that provides forecasts and in-depth analyses of India’s economy, which is crucial for significant business decision
How SMERA can make a difference in accessing funds
Of course, what matters eventually is whether SMEs can access finance to propel to the next level. A mere glowing recommendation from a rating agency should suffice for lenders, right? Wrong. It all comes down to the ‘credibility’ of the rating agency.
Lending institutions are mindful of taking any rating agency at face value. It isn’t lost on them that corporates do occasionally indulge in rating shopping – they choose a rating agency that can be misled – to avail of easy loans. Banks thus don’t rule out rare cases of SMEs approaching unaccomplished rating agencies with requests for a minimum BBB- rating, broadly the cut-off rate for loan eligibility.
While top banks do have their own internal rating systems to screen SMEs, it does make a significant difference if credible rating agencies provide their own independent and unbiased assessments. A credit rating agency of SMERA’s pedigree will have wider acceptability in banks. And sure enough, SMEs with ratings from reputed agencies enjoy a distinct advantage in getting loans disbursed over those who don’t.
Moreover, each bank generally has a separate rating process and disclosure requirements to disburse loans that consume a significant amount of time. SMERA’s comprehensive, transparent and reliable rating process has a wider acceptance within India’s banking system and facilitates quick credit dispensation. SMERA ratings also take into account industry dynamics that enable SMEs to compare their strengths and weaknesses with their counterparts in the same line of business. This is achieved through statistically-derived, industry benchmarks for various ratios.It must be noted that SMERA has completed over 50,000 ratings across sectors and geographies.
If good business credit keeps SMEs in fine health, the high interest rates act as a deterrent. Often cold-shouldered by lenders that usually prefer a safety-first approach or demand unreasonable collaterals, SMEs are compelled to borrow from Non-Banking Financial Companies (NBFCs) at inhuman interest rates. Which brings the focus back on banks, the principal lenders
How SMERA can help access these loans at an affordable cost…
Should banks do more when it comes to financing SMEs? When banks calculate their capital adequacy, different loans are given different weights. These are essentially called risk weights. The risk weight reduces for safe borrowers. Banks or any lending institution may need a bit of convincing that some flourishing SMEs can qualify in this category. Also, the vintage of the promoters and the company’s operational track record assumes importance when lenders consider loan eligibility. Vintage gives confidence about the safety of funds lent to an SME.
SMERA’s 360° rating methodology becomes significant here. Through this methodology, banks get complete clarity on an SME’s financial risk (accounting quality, past financials, financial flexibility), management risk (the company’s experience in the relevant sector, aspects of governance, integrity of owners) and business risk (market position, operating efficiency) and the organisation’s vintage. SMERA’s standardised rating system makes it easier to benchmark a business entity’s parameters and validate claims. Bankers and lenders thus have crucial information to finance SMEs and, in certain cases, are even encouraged to offer lower interest rates.
SMERA’s ratings categorise SMEs and MSMEs based on size such that they’re evaluated among peers. This enables rational comparison of companies of the same size, thus ensuring that the smaller companies are not at a disadvantage while applying for credit.Features such as SMERA’s eight-point rating scale indicating SMEs relative standing compared to other similar entities, and QR code-enabled reports through which bankers can establish the latest rating of an SME from SMERA’s website are in sync with the times
The road ahead
Reputed SME rating agencies that have set high yardsticks of analytical rigour can give confidence to lending institutions. They help reduce considerable time and transaction costs in loan disbursement processes. SMEs thus have a chance to leverage their ratings to negotiate better borrowing deals. High ratings foster an amicable association between banks and SMEs. Banks can recommend other business entities to join hands with the SMEs whom they’ve backed with timely funding. In doing so, banks too contribute to accelerating growth in the SME sector.
But as can be inferred from this article, rating agencies aren’t mere intermediaries between borrowers and lenders. The wide spectrum of their offerings such as assessing a firm’s capability to honour business obligations, presenting an all-inclusive assessment of its financial and operational compositions, and giving a through report of the SME’s health comprise their core functions too.
With rating agencies in their corner, SMEs can waltz their way to new heights going into the future. They have the steel. They need support. They have SMERA.