Some of the government's out-of-the-box solutions go a long way in bringing growth back to the beleaguered MSME sector.
Some of the government's out-of-the-box solutions go a long way in bringing growth back to the beleaguered MSME sector.
These are tough times for the country's micro, small and medium enterprises (MSMEs). The worst fears of the ill effects of demonetisation and Goods and Services Tax (GST) have come true. The twin disruptions of the economy, coming in quick succession, have bled MSMEs - which contribute over 28 per cent to the country's Gross Domestic Product (GDP) - white.
A Reserve Bank of India (RBI) report of August, titled the Mint Street Memos, shows how the demonetisation of November 2016 and flip-flops around the GST since July 2017 pushed small enterprises into deep crisis. The report notes that the ban on high-value currency notes led to further decline in the already-falling credit to the MSME sector - making up around 45 per cent of the country's manufacturing output. Incidentally, the share of credit to MSMEs in the overall bank credit has declined steadily to around 14 per cent - a little over Rs 12,40,000 crore of the overall bank credit of more than Rs 86,50,000 crore - by the end of March 2018 from about 17 per cent in March 2007, reveals the RBI report.
Just as MSMEs were recovering from the impact of demonetisation, they were sucked into a vortex of woes caused by the GST. The biggestever, indirect, tax reform replaced more than a dozen Central and State levies and tried to unify the sprawling economy. But the complexities of the new regime led to increase in compliance costs.
It is only recently after many changes were brought about by the GST Council - the supreme, policymaking body of the GST regime - that some sanity has returned to the GST regime. However, the changes seem to have come far too late. Many small enterprises have been driven out of business and hundreds of thousands of their employees have lost their
jobs. Moreover, despite numerous measures to simplify the system, exporters, especially those in the MSME sector - small businesses account for over 48 per cent of India's exports are battered by delayed refunds and are woefully short of working capital.
There is no specific, reliable and official data to quantify the pain in the MSME sector. But the textile hub of Panipat; hosiery industry of Tiruppur; auto parts and machinery clusters of Coimbatore, Pune and Nashik; diamond and textile industries of Surat; leather factories of Kanpur; and brassware industry in Moradabad; among others, have been recounting the same sad story of businesses shutting shop and employees being laid off.
According to an estimate by Centre for Monitoring Indian Economy (CMIE), nearly 50,00,000 workers have lost their jobs over the past year. The Mumbai-based consultancy adds that unemployment rate in the country has risen to 6.4 per cent in August this year from 4.1 per cent last July. According to the Union Labour Ministry, which puts out jobs data once in five years, the unemployment rate was 5 per cent in 2015-16.
But none of these numbers specifically spells out joblessness in the MSME sector, except for the figures published by the Rural Industries Department of Tamil Nadu. It estimates that more than 5,00,000 people in the State lost jobs after 50,000 small units shut shop in 2017-18, with Tiruppur and Coimbatore worst hit.
Meanwhile, credit flow to businesses, especially MSMEs, has further dropped with many bank scams breaking out. The infamous Nirav Modi-Mehul Choksi-PNB fraud and many others have led to tightening of lending procedures at banks and thus squeezed the credit flow to small businesses. Interestingly, the space vacated by banks was quickly filled up by non-banking finance companies (NBFCs). No wonder, banks' share of total MSME loans in formal credit dropped to 90 per cent in 2018 from 92 per cent in 2015. During the same period, the share of lending from NBFCs almost doubled from 5.5 per cent in 2015 to 10 per cent in 2018. However, the past three months have been particularly bad for small enterprises. The loan tap of NBFCs also dried up following the collapse of IL&FS and the resultant mayhem in the stock, bond and money markets.
Prolonged pain among MSMEs - the robust engines of economic growth has set alarm bells ringing in the top echelons of the country's administration. In fact, no government can afford to ignore the turmoil in the sector that comprises around 6.40 crore units and employs over 11.10 crore people.
Hence, it was not surprising that Prime Minister Narendra Modi made an intervention early last month with 12 booster shots for the ailing MSME
"The present criterion based on investment in plant and machinery prevents small enterprises from investing in better technology or machines for fear of getting out of the micro- or small-scale bracket."
sector. It seemed as if Diwali - the popular festival of lights celebrated all across India - came a few days early for the country's small enterprises as the prime minister rolled out a series of measures to address the malaise in the sector. The measures included easy and cheaper credit, relaxation in labour laws, easier compliance with environmental rules and changes in company laws.
Mr Modi announced that a dedicated portal would be operationalised for sanctioning loans up to Rs 1 crore in 59 minutes. He also added that all GST-registered MSMEs would qualify for a 2 per cent interest subvention on fresh or incremental loans. For exporters, interest rebate would be higher in the range of 3 to 5 per cent.
Small businesses were also assured of relief from the dreaded Inspector Raj - labour inspectors visiting factories, harassing MSMEs over compliance of labour laws and often closing the matter after pocketing a hefty bribe. The prime minister added that factory inspections would henceforth be sanctioned only through a computerised random allotment. Besides, inspectors would have to upload reports on portal within 48 hours and account for why they had gone to a factory.
A major issue addressed by the prime minister's incentives is access to markets. Accordingly, public sector undertakings (PSUs) have been asked to procure 25 per cent - up from 20 per cent earlier - of their purchases from MSMEs compulsorily. Of the 25 per cent, 3 per cent would be reserved for women entrepreneurs.
In fact, a GeM (Government e-Marketplace) a government-owned special purpose vehicle set up in 2016 for online procurement, has been playing a vital role in bringing in transparency in government procurement. It has also facilitated MSMEs to get business from the government by providing their goods and services to various departments and PSUs.
In the past two years, GeM has grown substantially getting more than 1.5 lakh suppliers, of which about 40,000 are MSMEs, registered with it. Besides, transactions worth more than Rs 14,000 crore have been made on the platform. The recent announcement of the prime minister now makes it compulsory for all PSUs to be a part of GeM. Now, a mandate to procure a greater amount - 25 per cent - of government purchases and compulsorily through the GeM platform promises a more business for MSMEs.
Another Diwali gift from the prime minister goes a long way in solving the delayed payment problem of small enterprises. Most often, small businesses, which are already constrained for cash, suffer from delayed payment by their clients. This further complicates their cash crunch crisis and constrains them for expanding their businesses.
Mr Modi has asked State-owned companies to get on board the Trade Receivables Discounting System (TReDS). The online platform, set up according to RBI guidelines in 2014, facilitates financing of trade receivables of MSMEs from corporate buyers through multiple financiers. MSMEs' invoices are auctioned on TReDS, and MSMEs can select the best discount rates offered by multiple competing financiers on the platform. This way, small businesses are able to get their discounted payment (a portion of the payment is retained by financiers as interest) - for invoices raised against their clients - from financiers immediately and are thus able to deploy the money as working capital.
TReDS, which has been operationalised a few months ago, has seen good participation from financiers and private companies. With State-owned companies set to join the system, TReDS is likely to be a powerful tool in addressing the financial needs of small enterprises.
The government and the RBI have unveiled many more reforms in the past few years to provide relief to the beleaguered MSMEs. In the Union Budget 2018-19, Finance Minister Arun Jaitley had cut Corporate Tax
for units with a turnover of up to Rs 250 crore from 30 to 25 per cent. In a single stroke, the measure has reduced tax burden for 99 per cent of companies filing tax returns in the country.
However, this incentive may fall short of completely alleviating the problems of MSMEs. "Even though the step is welcome and will definitely benefit the sector, most small and micro enterprises are based on the business structure of proprietorships and partnerships, which are not covered in the announcement," points out Jitendra Gupta, the president of Laghu Udyog Bharti, an all-India association of micro and small industries in the country.
Earlier, the government had rolled out an intelligent incentive to encourage MSMEs - over 95 per cent of the MSME units operate in the informal segment - to shift from informal to formal segment. Accordingly, the government has promised to bear the employers' contribution of 8.33 per cent of the Provident Fund for the first three years after the units come under formal fold. A shift to the formal segment would help small enterprises access formal channels of credit. It would also enable them to adopt modern technology and best business practices and scale up their businesses.
The biggest push towards largescale formalisation of the MSME sector is perhaps the government's decision to change the definition of the sector. The Centre has introduced an amendment to the MSME Development Act, 2006 - the MSME Development (Amendment) Bill, 2018 - to redefine the sector based on annual turnover as the single criterion from the present one of investment in plant and machinery.
Accordingly, micro enterprise will be defined as a unit with annual turnover of up to Rs 5 crore, small enterprise with annual turnover between Rs 5 crore and Rs 75 crore and medium enterprise having annual turnover of more than Rs 75 crore and up to Rs 250 crore.
"The change in definition of MSMEs is to free them from Inspector Raj. The present criterion prevents small enterprises from investing in better technology or machines for fear of getting out of the micro- or smallscale bracket. With the turnover definition, no inspector can trouble an MSME unit on the basis of money spent on plant and machinery," stresses MSME Minister Giriraj Singh. Dinesh Chandra Tripathi, the presi-
dent of Federation of Indian Micro and Small & Medium Enterprises (FISME), concurs with the minister. He adds: "The proposed turnover-based classification of MSMEs will support setting up of new MSMEs with modern technologies, which so far were beyond the definition of MSME due to archaic historic investment-based definition."
Meanwhile, the RBI too has done its bit to improve the condition of MSMEs. The central bank has classified all working capital loans to MSME units as priority sector lending, thereby providing a boost for credit flow to the sector. Moreover, 180-day NPA norms - instead of the current rule of classifying a loan as NPA if a repayment instalment is missed beyond 90 days - are applicable for all MSME dues between September 1, 2017 and December 31, 2018 if the account was standard on August 31, 2017. This new norm covers both registered as well as unregistered MSMEs.
Successive governments have rolled out several initiatives to empower the MSME sector. But unfortunately only a few measures have been helpful, and a majority of the units in the sector continue to face many hurdles. This sorry state of affairs is partly due to inherent shortcomings within the sector. Moreover, laudable as the policies may be, their shoddy implementation has also resulted in small enterprises languishing in their current state of crisis.
All said and done, a major obstacle to growth of MSMEs is their inability to access timely and adequate finance. Credit appraisal continues to be a major challenge for most of the country's small businesses as over 95 per cent of the MSMEs operate in the informal sector. A lack of adequate credit leaves most of the sector stranded at the bottom of the business pyramid, with obsolete technology and mediocre business practices.
According to a new report by the Omidyar Network and BCG, MSMEs still find access to formal credit a challenge. The report reveals that nearly 40 per cent of lending to the sector still happens through informal sources. The report pegs the total MSME credit demand in 2018 to be around Rs 45,00,000 crore and adds that only Rs 25,00,000 crore will be met through formal channels. It points out that the remaining Rs 20,00,000 crore of unmet credit demand will be financed through informal channels at very high interest rates, at least twice as high as in the formal market.
However, there is a shining ray of hope on the horizon. A new set of financiers, such as fintech companies, peer-to-peer lending platforms, microfinance companies, small finance banks and new-age digital finance companies throw up unlimited opportunities for funding the MSME sector. In the past two years, in fact, traditional NBFCs have shown how they can be another supplementary source of funding to small businesses along with banks. This growing ecosystem of MSME financing can really do wonders for the sector.
The Omidyar-BCG report interestingly notes that there is great potential for digital lending of MSMEs. It reveals that digital lending to the sector can grow by around 15 times to touch about Rs 7,00,000 crore in annual disbursement by 2023. The report recommends that digital lenders align themselves with the needs of MSMEs through measures, like lever-
"The cut in Corporate Tax to 25 per cent will definitely benefit the sector. However, most MSMEs are either proprietorships or partnerships and are not covered in the announcement."
President, Laghu Udyog Bharti
aging supply chain ecosystems and e-commerce platforms and embracing next-generation data analytics.
"We could actually see a real opportunity for digital lending to MSMEs. You can do this business at 30-40 basis points lower than the traditional way of lending to the sector. Not only can one do better quality business with more data, it can also be done in a more efficient manner at a far lower cost," stresses Omidyar Network Partner and Managing Director Roopa Kudva. "The current programmes do not serve the riskiest, new-to credit MSME segment, where support is most needed, while digital lenders can address this segment efficiently," adds Ms Kudva.
The government can alter its programmes and fund the sector on the lines of innovative schemes of this new class of financiers. However, it should clearly steer away from some populist schemes, like the Pradhan Mantri Mudra Yojana (PMMY) and the recently-announced Rs 1-crore loan in 59 minutes. Crassly populist by nature, such schemes do not serve the purpose they claim to serve. At the same time, they will wreck the already-sinking banking sector.
Bankers are worried by loan schemes, such as PMMJ and the 59minute credit, which they believe could lead to higher NPAs of MSME loans. The Mudra scheme, launched in April 2015, aims at providing loans up to Rs 10,00,000 to non-corporate, non-farm, small and micro enterprises. It is not mandatory to seek collateral security from beneficiaries under the Mudra scheme.
According to official data, almost 13 crore people have been given loans under the scheme with a little over Rs 6,00,000 crore sanctioned up to May 2018. The government has been hailing the scheme as a game-changer. But experts point to flaws in its design. They opine that waiving off mandatory collateral clause may be good politics but bad economics.
Besides, average loan sanctioned under the scheme works out to Rs 46,530. This amount cannot in any way provide jobs to others let alone launch a start-up. Moreover, information sourced through a petition filed under the Right To Information Act reveals that number of large-size loans exceeding Rs 5,00,000 disbursed under the scheme by banks are mere 1.3 per cent. There is potential of these loans turning sour due to pressure from the government. Moreover, there are reports of some bankers and bogus beneficiaries colluding and defrauding banks.
Beyond credit, small businesses in India are hampered by very poor infrastructure and a lack of proper access to markets. High rentals of industrial plots, bad roads and congested ports, among others put Indian MSMEs at a disadvantage compared with their counterparts elsewhere in the world. Small enterprises are hence rightly asking the government to fix infrastructure, provide access to land at competitive rates, lower power tariff, easier rules for inter-State business, direct and indirect tax breaks and support for adoption of modern technology and world-class business practices.
In fact, some of the government's out-of-the-box solutions, such as TReDS, GeM, government's contribution towards PF of newly-formalised units and a new definition of MSMEs, go a long way in bringing growth back to the MSME sector. India has made considerable progress in the ease of doing business (EoDB) ranking. However, this score is limited to large businesses in Mumbai and Delhi. A better EoDB ecosystem down to the last rung of the country's business pyramid can make a world of difference to small enterprises. It is only then that the real engines of growth can power the Indian economy to a roaring start.
"The proposed turnoverbased classification of MSMEs will support setting up of new MSMEs with modern technologies, which so far were beyond the definition of MSME due to archaic historic investment-based definition."
DINESH CHANDRA TRIPATHI
Prime Minister Narendra Modi's Diwali gift to empower MSMEs
MSMEs are slowly recovering from the twin disruptions of demonetisation and GST.
"The current government programmes do not serve the riskiest, new-to creditMSME segment, where support is most needed, while digital lenders can address this segment efficiently."ROOPA KUDVAMD, Omidyar Network
A recent report reveals that nearly 40% of lending to small enterprises happens through informal sources.
A major obstacle to growth of MSMEs is their inability to access timely and adequate finance.
Innovative schemes, such as TReDS and GeM, go a long way in bringing growth back to MSME sector.
A new set of financiers, such as fintech companies, throw up unlimited opportunities for funding MSMEs.