Credit and Finance for MSMEs: Banks and non-banking financial companies (NBFCs) over the past few years have started to acknowledge the cash flow-based lending approach to solve credit-related challenges MSMEs face instead of asset-based secured lending. Experts pointed out that traditional lenders, mostly banks, depending on collateral so far are now taking a pragmatic view of the scenario. “With new businesses mushrooming in the country on one hand and division in family assets happening on the other, collaterals are also depleting. Hence, banks are moving towards cash flow-based assessment,’ Dhrubashish Bhattacharya, Head – MSME Business, Bank of Baroda told Financial Express Online. The credit gap in the MSME sector was roughly Rs 20-25 lakh crore, according to a June 2019 report by the UK Sinha Committee constituted by the Reserve Bank of India (RBI).
So, what does it take for MSMEs to secure cash flow-based bank or NBFC loans without mortgaging their assets? Primarily, it requires promoters to share adequate business data that might help lenders to gauge the financial health of the business at present and in future. Arun Nayyar, CEO at digital lending platform NeoGrowth told Financial Express Online that alternative data sources such as digital transactions data related UPI, RTGS, NEFT, and IMPS, apart from GST, and past credit history with on-time repayment is taken as a sign of being a responsible borrower by financial institutions. Data around income tax returns, bank statements, point-of-sale data, and more could also come in handy.
However, to get MSME promoters to share that data is the biggest problem in delivering credit, according to small business lending platform U GRO’s Managing Director Shachindra Nath. This, said Nath, is a mindset problem among MSMEs that the less information they share with the lender, the better it is for their credit score. Even today, 90 per cent of U GRO’s customers refuse to share their GST information and 67 per cent do not share their bank account details. “Just like you don’t hide your symptoms from a doctor, a business cannot hide information from a lender,’ said Nath at the panel discussion on Alternative SME Financing for the event FE Boardroom 2022 organised by Financial Express last week.
While data-sharing is the primary requirement in cash flow-based lending model, MSMEs need to ensure that capital is deployed for the purpose it was availed for even as the promoter must also take full ownership of his/her MSME unit irrespective of how much stake they have in the company, said B Sankar, Chief General Manager-SME and SCF, State Bank of India at the webinar.
“It is their unit and they are responsible for the people working with them, their livelihoods and their families. So, the hands-off attitude about the business doesn’t go down well with the lenders,” Sankar added. The final ask from lenders is for MSMEs to repay loans on time. One bank default can cut out not just the promoter himself or herself but future generations as well from the formal lending system. “So, repay loans on time and work on creating a robust credit history, so that we, the lenders are with you in your growth story,” he said.
Even as securing credit via the cash flow-based model is relatively easier than raising an asset-backed loan, the former entails a higher interest rate. In comparison to traditional bank credit with an interest rate between 8-17 per cent, cash flow-based loans levy as much as 30 per cent or more and minimum around 12-13 per cent depending on the financial information including CIBIL score. In other words, the interest rate is decided based on the risk profile of the borrower.
“When an MSME applies for a loan with us, we check their credit rating, past track record, the certainty around business growth and repayment. These factors are taken into account when we decide the interest rate,” Alok Mittal, Co-founder and CEO of lending platform for MSMEsIndifi told Financial Express Online.
For instance, a higher interest rate would include borrowers who might have some default in their previous loans, or their ‘degree of formalisation’ might be low which means while they might be claiming a Rs 2 lakh turnover per month, only Rs 35,000 of that might be visible in bank statements, explained Mittal. On the other hand, those enjoying a lower rate of around 12-20 per cent would be businesses in operation from the past five years with regular cash flows, strong banking history, and zero defaults. Launched in 2015, Indifi has so far disbursed more than 40,000 loans across over 400 cities.
Particularly during Covid, digital lenders had come to the rescue of MSMEs through their cash-flow based financial model. For instance, Ahmedabad-based logistics company HGR Logistics was impacted due to the delay in payments from its clients in automotive, apparel and other sectors as Covid forced multiple businesses to shut their operations temporarily in 2020. The company even shifted to pharma logistics but had little capital to finance day-to-day operations.
“We were facing a financial crisis that time. I knew banks would not give me a loan during Covid and particularly to businesses like logistics that were facing the highest impact of the pandemic. While looking for unsecured loans online, I randomly came across Indifi. My CIBIL score of over 780, GST details, the sales figure of my business for the past five years, and other details were good enough for me to get a Rs 25 lakh loan at around 16 per cent interest rate. It helped me recover from that period as I didn’t have any asset to mortgage had I opted for a traditional bank loan,” Moral Agrawal, Managing Director, HGR Logistics told Financial Express Online.
However, in the case of new enterprises seeking credit in the absence of cash flow data and any asset as a loan guarantee, the promoters can leverage collateral-free Credit Guarantee Fund Trust for Micro and Small Enterprises (CGTMSE) loan scheme set up by the government and SIDBI. Importantly, Finance Minister Nirmala Sitharaman in her budget speech in February this year had announced revamping the scheme to facilitate additional credit of Rs 2 lakh crore for micro and small enterprises in the upcoming financial year.
The current limit under CGTMSE, however, is up to Rs 2 crore. If the promoter of a new enterprise without any business data or collateral wants to raise beyond Rs 2 crore, it is less likely for lenders to support him/her. “How will someone give you more than Rs 2 crore in such a situation,” said Bhattacharya. “We counsel new entrepreneurs to start with an amount permissible under CGTMSE backed by the government guarantee and grow the business for around a year or two before seeking a bigger loan,” he added.
Among other prominent collateral-free schemes for MSMEs by the government has been Emergency Credit Line Guarantee Scheme (ECLGS). However, it is applicable only for existing borrowers on the books of the banks as of February 29, 2020.