Credit and Finance for MSMEs: Specifically, large businesses pay their suppliers within around 86 days, whereas micro-businesses take much longer (around 119 days) to pay their suppliers.
- By Pawan Bindal
Credit and Finance for MSMEs: Most small business owners want their customer payments should come on time. When their customers delay payments, business owners, in turn, delay payment of their suppliers. And this leads to a chain reaction, a vicious cycle, – a vicious cycle that chokes the growth engine. And fixing this vicious cycle needs to be a top priority.
Delayed payments mean that MSMEs are usually struggling for liquidity, and this constrains their growth prospects. The common argument we hear is that MSMEs don’t get paid on time by large corporates who naturally have greater negotiating power. We decided to dig deeper into the real issues behind why MSMEs don’t get paid by their customers in time. More specifically, we wanted to test if the size of the customer/supplier had a bearing on whether it made/received payments in time.
We studied financial data relating to over 300 businesses from the Ministry of Corporate Affairs. We divided the sample into four segments – micro (turnover around Rs one crore), small (turnover around Rs 11 crore), medium (turnover around Rs 60 crore), and large (listed companies, turnover more than Rs 1000 crore). We then computed the time taken to pay suppliers (median days payable) and time-taken to receive payments from customers (median DSO – day sales outstanding) for each of these segments. The results were startling.
Our research shows that smaller businesses are more likely to delay payments to their suppliers, whereas larger companies pay much faster. Specifically, large businesses pay their suppliers within around 86 days, whereas micro-businesses take much longer (around 119 days) to pay their suppliers. Large companies may be able to pay suppliers faster simply because they have access to cheaper bank finance. The large business may also be having greater awareness about the MSME law, which requires them to pay their micro and small suppliers within 45 days. In fact, most of the large companies in our study reported that they had nil “dues over 45 days to micro/small suppliers”. This suggests that compliance for the MSME law is on the rise.
We also examined how quickly various businesses received sales dues from their customers. This was done by calculating the median DSO for each size segment. Large businesses receive their sales dues quickly (around 21 days). On the other hand, MSMEs must wait over 70 days to get payments from their own customers. This suggests that large businesses get their sales dues faster and hence, have the cash flows to make supplier payments faster. While small businesses get their dues late, and in turn are forced to delay payments to their suppliers. This seems to generate a chain reaction or a vicious cycle of delayed payments in MSME space.
MSME-MSME Trade Focus
Estimates suggest that trade transactions between MSMEs are more than 80 per cent of all trade transactions. The research findings thereby imply that it is the MSME customers that (mostly) delay payments to their MSME suppliers. On the other hand, the implementation focusses of the MSME law (45 days rule) is mainly on large firms. Thereby, the bulk of the trade (MSME to MSME, where delayed payments is a greater issue) gets ignored while tackling the problem. The delayed payments issue is causing an increasing number of MSMEs to seek finance. While finance to MSMEs is welcome, much of this credit growth is coming through NBFCs. The share of NBFCs in MSME credit grew from 13 per cent in 2013 to 21 per cent in 2018 as per SME Pulse Report – CIBIL TransUnion.
Need for Transparency
The 45-day rule for payments exists, and actively enforcing it for MSME customers buying from MSME suppliers could be an option. However, active legal enforcement of this rule to MSME customers would be highly impractical. There already exists a huge pendency of around 70 per cent of delayed payment cases. Importantly, there needs to be a greater understanding of why MSME to MSME payments is being delayed so that an appropriate solution could be found. In our research, we observed that many MSMEs have started to wait for the GST credit (which can usually take 1-3 months) to appear before they make the full payment to the (MSME) supplier.
The other obvious reason for MSMEs delaying payments is that they find it difficult to obtain trade finance. We hence need a more vibrant eco-system of MSME-MSME trade finance in India, whereby MSMEs source finance in lieu of invoice flows. In the UK, the factoring market is currently estimated to be about 100 times bigger than that of India. We do have initiatives like TReDS to facilitate invoice discounting. However, such initiatives and recent fintech companies are also focused on B2B trade where the buyer is usually a large corporate and as the research suggests, this is not the real problem.
(Pawan Bindal is a co-founder at TimePay. Views expressed are the author’s own)