Micro Firms, Miniscule Support

By ARUN SINGHAL

Food thought for Govt – Is it a typical case of everybody talking about MSMEs and no bank giving adequate export-credit support?

Micro, small, and medium enterprises (MSMEs) play a vital role in the Indian economy, contributing 31% to the gross domestic product (GDP), 48% of exports, and generating over 11 crore jobs. MSMEs are, therefore, a key driver of economic growth and development in India.

There are approximately 633.88 lacs MSMEs in India. Micro enterprises dominate the MSME sector with 630.52 lacs (99%) of the total estimated number of MSMEs, followed by small enterprises with 3.31 lacs (0.52%) and medium enterprises with 0.05 lacs (0.01%). Out of 633.88 lacs, the estimated number of MSMEs, 324.88 lacs MSMEs (51.25%) are in rural areas and 309 lacs MSMEs (48.75%) are in urban areas. (SOURCE: Confederation of Indian Industries, 2021-22)

Classification

Micro: Investment in P&M < Rs.1 Crore & Annual Turnover < Rs.5 Crore Small: Investment in P&M < Rs.10 Crore & & Annual Turnover < Rs.50 Crore.

Medium: Investment in P&M < Rs.50 Crore & & Annual Turnover < Rs.250 Crore.

Importance Of Trade Finance for MSMEs

1. Scalable Financing: Trade financing is an excellent way for MSMEs to get the cash flow they need to grow their businesses. By eliminating the high costs that MSMEs typically face when exporting, they can increase productivity significantly. Factoring provides many benefits for businesses that sell goods and services to foreign buyers. It offers credit protection, working capital, and collection services that make it easier to deliver goods and services. Most importantly, funding is based on the value of your confirmed invoices, not your credit, so it’s a more flexible and scalable financing option than traditional bank lending programs.
2. Increased Cash Flow: Exporting merchandise requires sellers to maintain long working capital cycles. Additionally, it’s common to experience waiting times up to 90 days between the arrival of your goods and the receipt of payment.

These delays often limit how many orders an MSME can fulfil within a given timespan, which can be difficult for small businesses. One way to overcome this challenge is by using factoring, which allows you to receive an advance on your receivables so that you can fulfil more orders and grow your business.

Trade financing can help your business by issuing payments within days instead of waiting for months. With the right credit arrangements in place, you can expand your transaction flow and take control of your trade cycle. As a bonus, you’ll be able to offer your customers longer payment terms, which will help you compete for better negotiation conditions.

1. Guaranteed Payment: Exporters always want to be paid before sending out their merchandise, but importers usually want to wait until after they receive their product before making a payment. Trade financing bridges this gap by advancing the payment for the exporter. This way, the importer can pay the full amount after receiving the merchandise, and the exporter doesn’t have to worry about non-payment.

However, when working with foreign buyers, there’s always a risk of financial loss if your customer becomes insolvent. A trade financing intermediary will assume the risks of collecting payment backed by non-recourse credit protection, which will protect the exporter in case of non-payment.

1. Market Experience: Trade financing experts have the experience and knowledge when it comes to international markets that MSMEs likely lack. They know about compliance requirements for different foreign markets and can offer MSMEs services including currency regulation control and access to other region-specific services. Advanced market insights and on-site support from trade financing experts will help MSMEs establish best business practices, leading to growth in turnover.

Banks can often lack the flexible financing options that MSME exporters need to realize their growth objectives, but an MSME trade finance partner can help them create customized solutions that meet the distinct needs of their company.

1. Simple Paperwork and Process: Trade financing is a type of funding that helps small and medium enterprises and MSMEs to grow their business by simplifying paperwork and back office processes, as well as providing financing for exports.

Additionally, trade financing can also help MSMEs support your entire supply chain through a process called reverse factoring. Reverse factoring allows MSMEs to offer early payments at a lower cost by leveraging the company’s off-balance sheet credit.

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Even with a large domestic market, MSMEs will need to focus on exports to sustain high growth. The government can support this by providing collateral-free export financing and insurance through schemes like the extension of ECGC coverage or ECLGS guarantees.

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Suppliers who work with MSMEs will have access to increased cash flow that will help them keep up with the increased production demands of their MSME clients. These favourable payment terms can help small and medium businesses achieve more vital financial positions and establish a presence in new markets.

Challenges of MSMEs in Trade Finance:

1) Many MSMEs are not familiar with trade finance and as a result, they are not able to get the funding they need for purchasing inventory.

2) MSMEs often lack capital due to inadequate access to finance and credit. This prevents them from being able to effectively manage cash flow and working capital, which in turn limits their business growth potential.

3) Trade finance is often seen as a complex subject matter, which deters MSMEs from exploring the full potential of cross-border transactions.

4) Due to a lack of knowledge, MSMEs are not able to take advantage of all the benefits and incentives provided by the government in this regard.

5) Some of the biggest issues MSMEs face are an inability to attract talented and tech-savvy manpower, poor infrastructure and utilities, lack of innovation, a technological knowledge gap, and a lack of marketing know-how.

6) The lengthy procedures for securing a loan and the amount of paperwork and documentation required often make the process unappealing and difficult for MSMEs to manage.

Although these challenges might seem daunting at first, they actually present a great opportunity for MSMEs to improve and become more competitive on a global scale. By addressing these challenges head-on, MSMEs can lay the foundation for sustainable growth and success.

Challenges for MSMEs:

1. MSMEs often face challenges when trying to access trade finance from banks in order to boost their export business. Receiving an export order is not the only criterion for getting trade finance.

Despite government directives and banks’ internal guidelines/schemes to promote exports, it has been observed that while assessing any export finance, banks do take cognizance of export orders, but the final decision to give a loan or not depends on their traditional way of working capital (WC) assessment, which is based on MSMEs’ balance sheets, credit reports, present and future plans, security/collateral, etc.

1. MSMEs typically have a more difficult time securing financing for export orders from banks due to being seen as high-risk market segments with a lack of strong balance sheets, proven export track records, or adequate security or collateral.

Often, the only way an MSME can finance an export order is if it’s backed by a letter of credit. This puts them at a disadvantage compared to larger businesses who can more easily access traditional lending from banks.

Road Ahead:

MSMEs are being adversely affected by the Covid-19 lockdown, facing liquidity issues, delays in payments, an increased risk of default, supply chain disruptions and a shortage of labour, among other challenges. In the post-pandemic period, they will need to scale up their sales and business operations.

MSMEs will require liquidity to survive the ongoing economic crisis and international trade will be a vital form of relief for them in the days to come. Therefore, providing access to trade finance must be a high priority for all stakeholders working to mitigate the economic damage.

Exporting can help SMEs to grow. By exporting, MSMEs can reach larger markets and learn new skills that make them more profitable and increase their business growth. The government, MSMEs themselves and banks all have a role to play in making this happen.

Conclusion:

Unless governments intervene to support the supply of export credit from commercial banks, MSMEs will suffer from shortages of export credit that could prevent them from accessing essential liquidity and opportunities globally.

In order to keep the Indian economy moving forward, governments need to prioritise interventions that will unlock trade finance for MSMEs. With this in mind, the need for export-led growth becomes more pertinent than ever.

Even with a large domestic market, MSMEs will need to focus on exports to sustain high growth. The government can support this by providing collateral-free export financing and insurance through schemes like the extension of ECGC coverage or ECLGS guarantees.

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ARUN SINGHAL is the founder and CEO of Source.One, India’s leading technology driven commodity distribution company. With over a decade of experience in running commodity businesses, across finance, transportation and now chemicals, Arun has a deep knack of solving Distribution Businesses through innovative usage of Technology and processes.

He has worked across MNCs and Startups. He has also run a parallel career into Education and moved up as a Corporate Coach to Sales Teams in Kotak Bank.

He has seen disruption from close doors, across Industries as varied as Derivatives and Road Transportation, to now Chemicals Distribution.

He started Source.One, to streamline Commodity Distribution in India, with the help of Technology, operational excellence and Data science. A modern-day evangelist, Arun is credited with coming up with innovative theories and explanations of New age Business models.

Arun is an alumnus of Hindu College, Delhi and MDI, Gurgaon