Bank as partner in growth

The MSMEs rely on bank finance for their operations. Over the years there has been a significant increase in credit extended to this sector by the banks. As at the end of March 2011, the total outstanding credit provided by all scheduled commercial banks (SCBs) to the micro and small enterprises (MSE) sector stood at Rs 4,785.27 billion as against Rs 3,622.90 billion in March 2010, an increase of 32%. The outstanding credit for the last four years to the MSE sector is given in Table 1.1.

The total MSE credit as a percentage of adjusted net bank credit (ANBC) has been increasing since 2007 (chart 1.1). In March 2011, it stood at 14.8% for the public sector banks (PSBs).

Despite the increase in credit outstanding to the sector, the MSME borrowers feel that the lenders are not doing enough for the MSMEs and are catering more to the needs of the large corporates. This gap in perception needs to be bridged.

In terms of the recommendations of the PM’s Task Force on MSMEs, banks have been advised to achieve a 20% year-on-year growth in credit to MSEs; the allocation of 60% of MSE advances to the micro enterprises is to be achieved in stages viz. 50% in the year 2010-11, 55% in the year 2011-12 and 60% in 2012-13, besides achieving a 10% annual growth in the number of micro enterprise accounts. The RBI is monitoring target achievements by banks on a quarterly basis. While the banks have met the target of 20% y-o-y growth in credit to the sector, the target for the micro units is still an area of concern. The banks have been advised to device strategies to step up their lending to micro units.

There is a difference between credit and money. Unlike money, credit has to be self-liquidating on a viable project and has a cost. It is to be appreciated that banks are highly leveraged bodies that lend money placed by depositors with them and, therefore, have to practice prudent lending and be cautious and sure of the safety of the money of their depositors. On the cost of credit, my message to the MSMEs is that as interest costs are a very small fraction of their operating costs, only approximately 4%, do not ask for low interest rates from the banking sector, and instead ask for credit at competitive rates.

Factoring

Considerable delay in the settlement of dues/payment of bills by large-scale buyers to MSMEs affects the recycling of funds and business operation of these units. Though the government has enacted the Delayed Payments Act, 1998 many MSME units are reluctant to pursue cases against major buyers. After the enactment of the MSME Development (MSMED), Act 2006, the existing provisions of the Interest on Delayed Payment Act, 1998 to Small-Scale and Ancillary Industrial Undertakings, have been strengthened.

Banks have been advised by the RBI to sanction separate sub-limits within the overall limits sanctioned to the corporate borrowers for meeting payment obligations in respect of purchases from MSME sector. In practice, however, the legislation did not improve the position of MSEs because of their dependence on large businesses for continued business.

The problem has to be institutionally tackled by factoring and banks should provide such services for MSMEs. To facilitate factoring services, the government has recently passed the Factoring Regulation Bill that would address delays in payment and the liquidity problems of MSEs. Factoring provides liquidity to enterprises against their receivables from customers. Factors would be entitled to take legal recourse for recovering assigned debt and receivables from buyers of goods and services. The Factoring Bill creates the legislative environment for factoring and makes the process easier.

Sickness

Growing incidence of sickness among SMEs is yet another area of concern (table 2). The number of units identified as potentially viable as a percentage to total sick MSEs is around 8% whereas the number of sick units found unviable was a high 85%. The units placed under nursing stood at 5.22%. Timely detection of sickness is critical for a unit’s revival. In order to hasten the process of identification of a unit as sick, a proposal for modifying the extant definition of sickness, in line with the recommendations of the Working Group on Rehabilitation of Sick SMEs, is under RBI’s consideration.

For viable units, timely and effective rehabilitation .through renegotiation of loan terms, induction of fresh funds, business restructuring, change of management etc. may become necessary. The process should be quick, cheap and fair to all stakeholders and acceptable to all. In case a unit is not found viable, recovery of the dues of lenders through a fair and swift legal mechanism should be the focus. As it is observed that rehabilitation of sick MSMEs could not be taken up due to non-availability of promoters? contribution in a large number of cases, we have recommended to the GOI to set up a Rehabilitation Fund for MSMEs.

All SCBs have also been advised on May 4, 2009, to review and put in place a MSE loan policy, restructuring/rehabilitation policy and non-discretionary one-time settlement scheme for recovery of non-performing loans.

Role of banks

Banks have a vital role to play in addressing several problems faced by the sector. Banks have to view themselves not just as providers of credit but as partners in the growth of these enterprises, by hand-holding first generation entrepreneurs. In financial management, MSEs do not have the size to support the competence they need. Operational skills, including accounting and finance, business planning, marketing and human resource management, etc. can often pose a challenge and necessitate support for the MSE borrowers. Typically, for instance, they operate with a woefully low productivity of capital and have either too little or too much cash. The tools for dealing with this are fully developed e.g. cash?flow forecast and cash flow management.

The financial management needs of these businesses are predictable. And worldwide they fall into a small number of categories, well-known to any experienced banker. Banks should provide financial consultancy/financial management services to their MSE borrowers to give them holistic guidance and support. Banks could set up special industrial and management consultancy departments to address functional inadequacies and market gaps.

Bank branches need to ensure greater participation in the affairs of their MSME clients by a convergence of credit services and non-credit services. But for this, the bank staff should be trained through customised training programmes to meet the specific needs of MSEs such as knowledge of markets, use of technology, etc. Banks need to innovate to create products specifically suited to the requirements of MSMEs and should take a longer term view of its relationship with such entities while pricing such products.

As the availability of timely and adequate credit is a key requirement for this sector, banks should introduce a single window facility for providing loans to MSMEs. To cater specifically them, banks can set up Centralised Processing Centres, which will handle the appraisal, sanction, documentation, monitoring, renewal and enhancement activities. As in any area, there would be a higher failure rate for start-up MSMEs. However, despite the risk, the financing of these enterprises is a must for ensuring inclusive growth. Banks will, therefore, be required to build up their risk assessment and risk management capabilities and provide for any instance of failures as a part of their risk mitigation process. The top management of banks should put in place a credible, proactive and a functional monitoring mechanism to review the progress in actual, concrete outcomes.

The bank staff has to be sensitive to the need to nurture these enterprises and to ensure that they get the necessary support during the initial phase. The performance of branch managers in dealing with the sector should be included as a criterion for evaluation of their performance.

MSMEs should understand that as customers of bank credit, they have certain obligations to fulfill by way of repaying bank loans, maintaining proper books of accounts, submitting information correctly and more importantly, sharing information about financial problems when these arise so that they can work together with the bank in resolving these. It is in the interest of MSEs to get themselves rated by independent rating agencies, as it could enable them to negotiate with their bankers for interest rate reduction, larger loan size or even obtain faster processing of their loan applications etc.

Senior-level representatives of SME/SSI associations in each state are members of the empowered committee set up by the RBI at its regional offices. MSE associations need to use this forum not only for removing bottlenecks in the smooth flow of credit to the sector and for reviewing the accessibility of bank finance to more and more MSEs, but also highlight gaps, if any, in the attitude and skills at the bank branch level. I would urge upon the industry associations/chambers to take up region-specific issues relating to MSEs with the concerned regional director of RBI and SLBC convener, banks. Issues that cannot be resolved at the regional office level could be brought to the notice of the central office.

Every MSME has to constantly seek to transform itself in line with changing environmental factors. To borrow from management thinker Peter F Drucker, entrepreneurs have to keep in mind four things in their growth phase. These are: the need to be open to potential new/unintended markets or applications for products developed by companies; the need to focus on cash flows instead of focusing only on profits as these are the lifeline that keeps the company going; creating a management team as the business develops; and lastly, the need to constantly ask the question as to what the business needs at this stage and whether one is concentrating on the right things.

The writer is deputy governor, Reserve Bank of India

(Excerpted from his speech at the ?SME Banking Conclave 2012?, organised by the SME Chamber of India, in Mumbai on Feb 4.)