By Kanti Bejjavarapu
The significance of credit cannot be overstated for a business, and MSMEs are not an exception. Often touted as the growth engines of the nation, they are major contributors to job creation and economic development. The segment by itself contributes 30% to the nation’s GDP, according to MSME Ministry data. Despite the market’s tremendous growth, there is a considerable credit gap that needs to be addressed. According to a recent Blink Invest report on MSME, about 40% of MSMEs in developing countries have unmet financial needs. For India, this credit gap is Rs 25 trillion. Furthermore, the report also highlighted that the debt demand of MSMEs in the country is Rs 69.3 trillion, which is also growing at a CAGR of 11.5%.
The MSME sector is still riddled with financial bottlenecks due to a misalignment of credit availability, accessibility, and affordability. These issues have been creating a multi-million dollar credit disparity. However, primarily to delve deeper into the solutions, understanding issues is essential.
Understanding the issues
Owing to the nature and size of the businesses, MSMEs require small amounts of working capital for the short term in order to keep the operations afloat. However, traditional lenders shy away from giving loans to these segments as they consider them risky. The reasons for the risk vary, from lack of collateral to an unreliable credit score to being new to credit (NTC). Also, their inability to prove creditworthiness to potential lenders is another factor that prevents these small businesses from accessing credit. Therefore, a major chunk of these borrowers turn to informal lending sources instead of conventional lenders.
Although the average loan ticket size has increased for small and medium-sized businesses, it has remained unchanged for micro segments, indicating an uneven distribution among MSMEs. It increased from Rs 4.9 million in Q4 FY20 to Rs 5.9 million in Q4 FY22 for small businesses. During the same time period, it went from 9.5 million to 14 million rupees for medium-level enterprises. However, it has stayed constant at Rs 900,000 in microenterprises, indicating a credit disparity. Given the importance of MSMEs for India, the problem requires attention, and technology is generating a wide range of solutions.
Technology as a solution
Today, technological advancements have been transforming businesses, and NBFCs and other private segments have been adopting them to increase their productivity. Digitalization is one example of how it has transformed the credit lending process. Furthermore, AI has played a major role in easing several operations for tech businesses, and it has the potential to reduce the credit disparity. In addition to that, access to reliable data in an “easy-to-access and analyse” format is unlocking credit supply for the MSME sector.
Assessing creditworthiness with data
As digitalization has taken centre stage, the lending and credit landscape has evolved dramatically. Earlier, there were only a few ways for businesses to maintain or create a good credit score. However, now there are several other ways. Today, almost every business in this segment has adopted digital payments. According to IBEF data, MSMEs make 72% of their payments digitally, with the remaining 28% made in cash. This digital payment leaves a digital trail online. Bank data collected with permission as information collateral and their private GST information can be used to better understand their creditworthiness. Additionally, compliance filings like those from the Ministry of Corporate Affairs (MCA), trends from the Employee Provident Fund Organization (EPFO), litigation data, and other information can be pulled for deeper analysis. Overall, a company’s digital footprint can be used to determine its credit worthiness with the aid of data intelligence.
Automating processes with AI
With AI, lenders can assess loan applications and recognise the ones that have the potential to be repaid on time. This assessment can help lenders make more informed lending decisions. The automation of the process to assess this data can surprisingly reduce the processing time for these loan applications, making more businesses accessible to credit.
Furthermore, technologically advanced financial institutions are moving to an automated underwriting process using AI, which has improved asset quality. Furthermore, by providing a quicker and improved onboarding process, AI automation has led to credit underwriting at lower costs, quicker decision-making, enhanced methods for managing risks, fraud detection, improved security and compliance, accurate credit monitoring, and quicker debt recovery.
Addressing the credit disparity
India experienced a growth of 39.5 percent CAGR over a period of ten years thanks to the emergence of digital lending companies in the nation. According to a report by Experian, India’s digital lending market had a value of USD 270 billion in 2022 and is projected to grow to USD 350 billion by the end of 2023. However, there is a pressing need to address the common industry pain points: prolonged loan processing times, a lack of process transparency, extensive paperwork and documentation, and high costs. Some new-age lending companies are already doing this by utilising the power of AI and data in conjunction with digital platforms. As a result, it has enhanced the lending experience for MSMEs and is supporting their success in the rapidly developing digital economy.
By increasing credit flow to the MSME sector, several lending startups have been attempting to close credit gap. They are working swiftly with these cutting-edge technologies to ease borrowing for these MSMEs who face limitations. As a result of their quicker verification procedures and tailored loan offerings, they are increasingly becoming the preferred lenders for Indian small businesses. With this progress, it is anticipated that proper usage of AI and data will ensure inclusiveness and reduce credit disparity for MSMEs.
The author is head of product strategy, Happy