What is common to an emerging manufacturing workshop in a small industrial cluster near Nashik; a trader supplying stationery and office supplies to companies in Pithampur; and a local transport service provider in Tirupur? They are amongst the millions of growth-hungry MSMEs in this country with aspirations to make it big but held back due to one common constraint: Access to formal credit. Cash flow issues and working capital shortage force MSMEs to invest their time and limited bandwidth in shoring up funds through all possible means and at excessively high costs.
The MSME sector continues to be a key contributor to India’s GDP and is one of the largest employment enablers. Over 50 million active MSMEs across manufacturing and services sectors contribute close to 38 percent of the country’s GDP*. As one of the fastest-growing economies in the world, India needs to urgently address the problem of inadequate access to finance due to lack of financial information and paper-based, informal business practices. The good news is that the landscape is changing fast. With the twin measures of GST and demonetisation, more and more MSMEs are moving into the formal economy, creating digital footprints and enabling access to easier and cheaper credit. We are witnessing a huge surge in fintechs trying to address the credit demand through alternative lending mechanisms, giving the MSMEs a vastly improved experience over the traditional channels. In a short span of 5-6 years, fintechs today enable almost 30 percent of new-to-credit MSMEs with formal credit*.
Two primary factors are driving this change are the ‘digital-dividend’ and several policy initiatives. In the past four years alone, we have seen smartphone and digital adoption amongst MSMEs move from 45 to over 85 percent. Over 90 percent MSMEs use internet to aid business, with more than 65 percent using email and WhatsApp to communicate with customers and suppliers*.
For a cash-dominated sector, digital payments today contribute more than 60 percent of business. Policy initiatives, including UPI for payments and NACH for collections; demonetisation, which led to a digital economy transition; to the most tectonic shift of them all, GST, which has already doubled the number of registration from MSMEs.
So how do these changes impact the credit scenario for MSMEs? With a strong digital trail, it is creating a conducive environment for alternative lending mechanisms to take deep roots. The retail loans segment has already changed where it is possible today to assess and sanction a personal loan worth lakhs in a few minutes. A similar transformation has started in the MSME segment, where increasing access to non-traditional data is making a difference.
Unlike banks and NBFCs, which rely on detailed financial assessment and asset backed lending; several fintechs today are using business and accounting data, and trade or cash flow data as proxies for financials. Corroborative inputs like GST filings, IT returns, bank statements, payment/ POS data; as well as business activity surrogates like utility payments, EPFO data, etc. also help make informed decisions on lending. India’s API infrastructure has leap-frogged in recent years, and key initiatives like India-stack are driving fintech’s success in this space.
Use of data analytics, AI & ML are making it possible to run the wide variety of inputs through scoring algorithms and digital decisioning engines. Vastly improved sanction and document process are cutting down wait times before the MSMEs can access funds. Digital assessment and execution are enabling deeper penetration and credit reach across the country. With improving capabilities on electronic collection, it is possible to improve performance and enhance monitoring.
MSMEs are recognising the benefits of going digital on their business, with the promise of digital lending making their lives easier. In a recent survey, more than 75 percent MSMEs were comfortable using online means to reach lenders, with more than 50 percent being comfortable in giving lenders access to statements online*.
Distinct plays are emerging amongst MSME-focussed fintech players:
Ecosystem partnerships: Digital facilitators and invoice discounting players are relying on supply-chain links amongst corporates and their MSME ecosystems. This is perhaps the fastest-growing segment within alternative lenders, solving the short-term working capital problem. This mechanism also combines the digital advantage with cheaper cost-of-funds by collaborating with banks and NBFCs.
Platform/ Marketplace partnerships: Digital lenders are tying up with third-party MSME aggregators like e-commerce platforms; aggregators for tax and accounting services; B2B marketplaces; etc. Several of these marketplaces today are working on setting up their own NBFC platforms.
Direct reach: Pure digital platforms include – several P2P platforms connecting MSMEs with interested investors; and online aggregators who digitally connect MSMEs to institutional credit.
Payment data-led players: These offer merchant cash advance
TReDS platforms: These RBI-backed marketplaces match banks interested in low risk, short term credit, with corporate-accepted MSME payables.
These are still early days for the fintech-MSME evolution, with just over $2 billion to $3 billion enabled in MSME credit. However, estimates suggest a 10x growth over the next five years**. Two important enablers needed to drive this growth will be:
Data availability and the consent mechanism: The SC ruling on Aadhar and related measures have set back some platforms. Recent indicators suggest that the government and regulators are keen to work out a solution allowing for easier API driven access, while at the same time respecting the data privacy objectives.
Digital-only processes for KYC & legal documentation: To enable millions of MSMEs on credit, digital KYC is a must. Likewise, if online credit documentation (e-signed/ digitally signed) can be made legally tenable, it will be a giant leap in the quest to empower every single MSME in this country.
* BCG-Omidyar Report titled ‘Credit Disrupted’, 2018 ** RBI Report on MSME Credit, 2018, NITI Aayog Estimates