Will India get a Diwali gift later today by breaking into the ranks of the top 50 in Ease of Doing Business (EoDB)? India has made a significant rise in the global ranking from 142 to 77 over the past six years, thanks to concerted efforts from the government, and the answer will be known today. Unfortunately, a significantly higher rank now may get a lukewarm response from businesses in general, and MSMEs in particular. There are two reasons for this. The first is technical—reform is a continuous process, and the Doing Business ranking is an annual exercise for the World Bank. Consequently, all the recent changes that the government has introduced, since June 2019, will only be accounted for in the World Bank’s report next year. Meanwhile, Indian businesses have already discounted the gains from last year and are focused on today’s pain.
The second reason is that, all said and done, the World Bank study has its limitations for Indian entrepreneurs. As a global study, the ranking is based on 41 indicators across 10 categories to arrive at the performance of a country relative to the best performing country. But a small firm in India is grappling with regulatory cholesterol that goes way beyond those 41 indicators. With 58,000+ compliances, 3,000+ filings and 2,500+ updates, the compliance burden is complex and fluid. MSMEs are, for the most part, run by single entrepreneurs, and they bear a disproportionate compliance burden, compared to large companies. Handling the existing paperwork and staying updated with frequent legal changes drains their productivity and curbs their capacity to grow.
To make matters worse, additional compliances are the bureaucracy’s answer to most problems. For instance, in conversations with Pune-based MSMEs on EoDB, we found that the World Bank ranking is far from their minds. The single biggest hurdle they face is the strain on working capital. Not only are they severely strapped for cash, thanks to delayed payments from big buyers, they have been further burdened this year with an additional compliance in the form of a half yearly return on outstanding dues to micro and small enterprises (MSME Form 1).
That delayed payments are the bane of an MSME entrepreneur’s life is a well-documented problem for decades that has been resistant to all regulatory moves so far. In 2006, the government mandated that payments to MSMEs cannot be delayed beyond 45 days, stiff penalties were instituted. This had little impact, given the low bargaining power of MSMEs. In 2012, companies with audited accounts were instructed to make disclosures on outstanding dues to MSMEs in their annual reports. The problem persisted. In 2015, a redress mechanism was set up, through an online portal (MSME SAMADHAAN—Delayed Payment Monitoring System). Yet, given the fear of reprisal, small firms are loathe to complain in open. So far, just 27,455 applications have been filed by MSMEs on the portal for outstanding dues worth Rs 7,161 crore. In other words, less than half a percent of the 7.7 million units with Udyog Aadhaar have filed complaints on the portal. Ironically, the government itself comes through with a poor payments and redressal culture—more than 60% of the 2,861 applications pending against central and state governments, and departments have been unaddressed for more than 90 days.
The finance minister recently urged large companies to clear the Rs 40,000 crore dues owed to MSMEs—the amount owed by large companies is close to 9% of the outstanding loans from banks to MSMEs. This record of delayed payments, of delayed redressal, despite strict laws and open redressal system, does not, in any way, make for ease of doing business.
In June, the UK Sinha committee on MSMEs put out an excellent recommendation to set up an Information Utility (IU) to identify defaulters. To tackle the issue of asymmetry of power, an amendment of the MSME Act, 2006 has been sought such that all MSMEs mandatorily upload all their invoices above a specified amount (the committee suggested Rs 1 crore, but it could be lower) on the IU portal. A designated authority would then act as an intermediary, use the data on unpaid bills and then write to the defaulters to clear the bill within the next month. By automatically generating the details of defaulters online, there would be transparency to lenders, rating agencies and other MSMEs. While this solution needs more discussion with industry associations to iron out any concerns, the method of naming and shaming, through a third party, without initiation by the MSME could work to encourage an honest payments culture.
A digital, impersonal, transparent solution should have a better impact than a compliance driven one. In any case, the government should do away with the MSME Form 1, which is the half yearly return with the Registrar of Companies on outstanding payments to micro or small enterprises. Instituted early this year, this form asks all companies, including MSMEs, to give details on outstanding dues to micro and small companies, and reasons for those. This half yearly return has increased the compliance burden on MSMEs and more pertinently, the additional paperwork has had no impact on improving the culture of payments. As a starting point, the MCA can consider mandating this return only for large companies, with turnover more than Rs 250 crore.
A $5 trillion economy may seem far on the horizon for now, but faster growth cannot be achieved without greater productivity. Even if India breaks into the top 50 later today, our MSMEs will cheer only when they see an overhaul of the regulatory sludge that is sapping their energy today.