Banks rework funding strategies for MSMEs

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Mumbai: Banks are redrawing their strategies on funding micro, small and medium enterprises (MSMEs), expecting the transition to the goods and services tax (GST) will improve their credit profiles and enhance their borrowing capacity.

The strategies mainly comprise launching new products and hand-holding existing MSME borrowers in improving cash flow prediction models and GST compliance, according to bankers.

MSMEs are starved of capital because of limited access to bank credit. One of the key reasons for this has been lack of documentation and wherewithal to predict future cash flows, maintain accounting, and comply with taxation, bankers said.

Currently, bank finance to MSMEs is mainly based on pledged immovable properties such as land and buildings. Such credit is bundled as loan-against-property. Banks also assess the moveable assets of manufacturers such as stock of goods to ascertain cash flow to sanction credit to small companies.

According to Romesh Sobti, managing director and chief executive officer at IndusInd Bank, typically small and medium enterprises disclose only 60% of their turnover, balance sheet or stocks.

“Now (under GST) you are forced to disclose 100%, which means your balance sheet should become stronger and better. And therefore the ability to borrow from banking system should grow,” he said while speaking at the second quarter earnings on 12 October.

Since the GST implementation, banks have seen a rise in demand for working capital from MSMEs.

Rolled out on 1 July, GST works on a refund mechanism where the manufacturer can claim input tax credit for the inputs which it has used in the manufacture of the final product. This mechanism has strained the finances of small and medium enterprises because of delayed refunds, leading to a rise in demand for working capital.

Bankers said that the GST council’s decision to allow SMEs with an annual turnover of less than Rs1.5 crore to file GST returns on a quarterly basis, against the current practice of monthly returns, should help ease their compliance burden.

To help smaller companies tide over the GST transition, the country’s largest lender, the State Bank of India (SBI), has launched a product to provide working capital loans to MSMEs, based on their input credit claims.

The loan, to be given for nine months, will be given outside the sanctioned bank finance. The loan amount will be either 20% of the existing fund-based working capital limit or 80% of input tax claim due, whichever is lower.

Sobti said that IndusInd Bank is open to introducing a similar product.

“To start with, we are looking at how to help existing MSME customers in terms of maintenance of relevant documents and compliance, which for them is the biggest challenge. We are not keen on new product but to tweak existing offerings based on the borrower profile and tax claimed,” said a senior official of a mid-sized private sector bank, requesting anonymity because the lender is in silent period ahead of quarterly earnings.

According to India Ratings, industry participants’ ability to tide over working capital mismatches during the implementation phase and beyond would be relative to their balance sheet strengths and capital market access.

“The ability of banks to fund these mismatches depends on the risk weights attached to such lending. Although it would be beneficial for the banking system, given the low incremental credit deposit ratio, banks may refrain from providing additional financial supports to entities with a weak credit profile,” the rating agency said in a note 5 October.

Outstanding loans to MSMEs were at Rs4.56 trillion as of 18 August, latest data available on the Reserve Bank of India website showed.

According to Ajay Srinivasan, director at Crisil Research, the SME loan book growth of banks is expected to be in the range of 5-7% annually in the next 2-3 years. On the other hand, non-banking financial companies would increase their SME lending book at a much faster rate of 20-25%.

MSME loans have been de-growing for the past few months as the sector faced issues owing to demonetisation and later the transition to GST. However, the de-growth, which had peaked in the months following demonetisation, has been showing signs of stabilising.