How MSME lenders are leveraging technology to reduce risk in unsecured lending

Credit and Finance for MSMEs: In the absence of formal documentation, compliance reporting, and robust credit score, merely about 20 per cent of MSMEs are able to secure credit financing from the banks.

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  • By Neel Juriasingani

Credit and Finance for MSMEs: The contribution of micro, small and medium enterprises (MSMEs) to the economic and societal growth has been acknowledged all around the world, more so in India. Over 70 million MSMEs in India produce over $147 billion in products – about 45 per cent of the country’s industrial production. These businesses also employ about 110 million people. The contribution of MSMEs to India’s gross domestic product stands at approximately 29 per cent. Despite the tremendous growth and potential, MSMEs face some major issues related to financing, which hinder their prospects. In the absence of formal documentation, compliance reporting, and robust credit score, merely about 20 per cent of MSMEs are able to secure credit financing from the banks.

Due to this many MSMEs have to rely on unsecured borrowings from NBFCs and informal lenders to fulfil their financing needs. This includes funds required for working capital, covering up the seasonal business cycle, procurement for last-minute orders, bad sales month, low collections or simply for business expansion.

Digitization is making it easy for lenders to access the credit profile of borrowers from a centralized agency. But as we have seen a lot of business owners get left out because of no scores or bad scores, there comes a need to build scores using alternate data, that can to a high degree of accuracy predict such people’s ability to pay. With due permissions, such fintech companies keep a tab on financial transactions such as EMI repayments, utility bills such as electricity, phone etc., as well as income tax returns etc. to build a holistic profile.

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Invoice discounting is another tech-powered way for financers to secure their lending to MSMEs. Both lenders and MSMEs can register at several popular invoice discounting digital marketplaces. MSMEs can gain quick access to working capital in 24-72 hours by selling their unpaid receivables. On the other hand, the lenders have an opportunity to earn low-risk high returns through a unique short-term investment. At the heart of such innovation is a huge online database of lenders, potential borrowers, and their invoices due for maturity. Technology brings this alive by providing real-time access to these data points to respective parties. The parties could also negotiate terms and enter into an online agreement without any hassle of documentation.

To safeguard their lending to manufacturing-based MSMEs, lenders can partner with new-age insurance companies. These companies may deploy connected sensors to the respective equipment (mortgaged for the loan) to keep a tab on equipment health. Such deployment also ensures that the production cycle does not have frequent downtime. Since machinery and equipment make a large part of the capital financing requirement, there will be a lot of demand from lenders to deploy IoT sensors to secure their mortgaged assets.

The same concept could be applied for a small ticket loan to an MSME owner, whereby his smartphone could be taken up as virtual collateral. In case of any delays in EMI, a lender can gradually impair the user experience on the device and in cases of default, the device can be locked and rendered unusable for the borrower. The borrower, therefore, has a strong reason for paying the EMIs on time, making the loans significantly less risky. There are countless other use cases in which technology simplifies the lending for NBFCs focused on MSME segment. As the adoption increase, there will be more success stories, which will further expand the ecosystem. This data-driven secured financing ecosystem will soon unleash the true potential of India’s MSMEs.

(Neel Juriasingani is the CEO and Co-founder at Datacultr. Views expressed are the author’s own.)

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