By Prithviraj Dasgupta and Shrishti Singhania
Credit and Finance for MSMEs: Harish (name changed), a pharmaceutical manufacturer with an annual turnover of Rs 1.5 crore is trying to perfect the balance between sales and collection of payments on time. His buyers, pharma distributors, have been delaying payments owing to Covid. Instead of getting paid within a month as agreed, he often receives payments two months after supplying the goods. Despite the month’s delay, he needs to take care of expenses such as employee salaries, supplier payments and GST.
Global Alliance for Mass Entrepreneurship and Dun and Bradstreet India estimate the magnitude of the delayed payments due to MSMEs to be up to Rs 10.7 lakh crore, equivalent to almost 6% of India’s GVA (Gross Value Added). We spoke with 19 micro and small entrepreneurs spanning sectors and geographies in connection with the exercise which gave an experiential overlay to what the numbers revealed.
Normalisation
“Aisa to hota hi hai”, (it happens like that), was a common refrain. Far from recognising delayed payments as a breach of contract that calls for monetary compensation, MSMEs largely view payment delays as an unavoidable cost of doing business. Such acceptance leads to entrepreneurs agreeing to long credit terms unfavourable to their businesses.
A floral arrangements entrepreneur shared, “There are so many players in my industry who are willing to work for negligible margins – they readily agree to long credit periods with shorter delivery timelines. Such terms are unsustainable. I have had to stop working in such arrangements.” For every entrepreneur who refuses to accept delayed payments, there are several others who are desperate for business and comply, indirectly helping to perpetuate delayed payments.
A few others have switched to models which involve selling only on advance payments or after explicitly factoring in the cost of a longer credit term into their pricing. They are no longer willing to sacrifice prompt payment at the altar of sales. A plastic film manufacturer shared that he offers his buyers two rates – “In case they want to purchase on credit, a higher price is mentioned because it includes the interest charged while the price is lower if they pay for the material in cash.” Another plastic manufacturer shared how he has stopped extending credit altogether. “Need plastic? – come to me. Need credit, go to a bank”, he puts it cryptically.
Uncertainty
While detrimental in itself, protracted credit terms are but a small part of an entrepreneur’s ongoing battle with delayed payments. Many have said that a lack of certainty around cash flows is even more difficult. Predictability is valued over promptness as one entrepreneur described, “If buyer A says 30 days and pays in 45 days and buyer B says 60 days and pays on the 60th day – then I would prefer buyer B to A.”
Managing an enterprise requires constant oversight of cash flows. Any uncertainty over it affects the planning of its business activities. A supplier of bakery products had to take drastic measures to control costs, “There are institutions which regularly delay payments, and the delay keeps compounding. Initially, at 15 days, the delay soon became one month. They don’t pick our calls or inform us when the payment will be made. We are a small business and cannot provide credit, so I had to stop production to control costs”.
The impact of uncertainty is not limited to just the inability to plan for the business, but also adds to cost due to resources deployed to collect payments. When enterprises struggle to maintain adequate margins to survive, the additional cost hinders the enterprise’s growth. A food distributor based out of Kolkata shared that he employs a collection team of three; two are assigned the task of following up on payments telephonically while one commutes all over the city physically visiting the offices of clients. This team works on re-sharing invoices misplaced by the client’s office, balance and invoice reconciliation, payment reminders and ease of collection. These measures made better financial sense than bearing the brunt of delayed payments.
Power Differential in Buyer-Seller Relationships
The nature of a buyer-seller relationship is fraught with power imbalances. A seller is intrinsically dependent on the buyer every step of the way: right from the issue of the first purchase order, through quality certification and payment upon delivery, to future orders.
These entrepreneurs mentioned that it is key to develop a form of leverage which is not dependent on offering lower prices or flexible credit terms. One such lever was differentiation through better quality and customer satisfaction. A manufacturer of awards and trophies invested in research and development to offer unique and innovative designs to buyers, as well as a dashboard for the buyer to check the inventory and product availability. This ensured that he retained customers even if they were being offered lower rates elsewhere because of the convenience and quality of the service and products.
Another way was to ensure that their buyer pool is diversified so that no single buyer constitutes the bulk of their business, and the different credit periods are synchronised to optimise cash flows. “I have a rule of thumb- sell 60% of my products to retail buyers since they generally pay on time while the demand is steady; sell the remaining 40% to corporates where the margins are low and credit periods are lengthy. The volume helps generate profit.”
The nature of the product or service also determines the leverage. Many of these entrepreneurs supply products which have a niche market or are critical to the production process, and they generally get paid on time or in advance. If you are in the water bucket manufacturing business, the demand is unlimited, manufacturing is easy, but it is hard to create product differentiation in that market and one would find it hard to sell for cash payment or advance.
The relatively weaker position of MSMEs vis-a-vis institutional buyers also highlights the limited success of market solutions such as invoice discounting, or institutional safeguards such as the MSMED Act and MSME Samadhaan. Buyer apathy can come in the way of legal recourse and market solutions.
According to an Atradius report, 75 per cent of Indian enterprises faced problems in collecting payments on time representing 67 per cent of their receivables and the experiential narratives that we gathered help us understand the underlying causes with greater clarity. The problem of delayed payments not only affects the individual MSMEs, but also impacts the competitiveness of the economy as a whole, as these additional costs either translate into higher prices or, the inability of enterprises to grow, and therefore miss out on the benefits of economies of scale. A good payments culture based on buyer accountability will serve to strengthen the MSME ecosystem and will do a lot of good to the economy.
Prithviraj Dasgupta and Shrishti Singhania are Consultants at Global Alliance for Mass Entrepreneurship (GAME). Views expressed are the authors’ own.
