Problems related to Finance-

Problems related to Finance-

According to Vaidyanathan Committee, that laid a road map to revitalize rural credit cooperatives, the situation of finance for MSMEs is even worse than that of farm credit. In the World Bank’s “World Business Environment Survey” of more than 10,000 firms in 80 countries, SMEs worldwide on average named financing constraints as the second most severe obstacle to their growth, while large firms on average placed it as fourth. The Fourth Census stated that about 21% MSMEs in India were gone sick/ incipient due to lack of finance.

All these modes of finance can be employed but all have some degree of problem associated with them in providing capital to SMEs. The biggest problem is to arrange equity capital. Now debt capital can only follow equity and the absence of equity capital makes it difficult for many SMEs to raise debt.

The condition is so severe that less than 8% of the total bank credit finds its way to the MSMEs. Availing bank finance by MSMEs is a challenge on account of high interest rates, unreasonable demands for collateral, restrictive and conditional working capital limits and high procedural transaction costs. It also has to do with the attitude of the bankers. They are being chased for every amount they lend by their organization. Besides this banks also hesitate to lend to MSMEs because of the high administrative costs of small-scale lending; asymmetric information; high risk perception; and lack of collateral. Therefore banks are reluctant to lend despite the Government scheme which stipulates that banks should provide collateral free loans to MSMEs up to the limit of ` 1 crore. `

According to ‘RBI Statistical Diary 2011’, the lending to the MSMEs has been grown by more than 600 times between 1971-72 and 2009-10. This was ` 576 crore, ` 4464 crore, ` 18939 crore, ` 67107 crore, and ` 364001 crore in 1971-72, 1981-82, 1991-92, 2001-02, and 2009-10 respectively. But there exists a stark disparity amongst small players and big players within the MSME sector. Loans to bigger units are growing at a faster pace than loans to the micro ones.

The course of debt financing from a development finance institution has not been a runaway success. Bond finance as an option is as good as negligible even for a large corporate in India, let alone being workable for an SME. The MFI sector is growing but not rapidly enough and certainly not large enough to provide the required capital. The same may be said of the Venture Capital industry, which has shown noteworthy evolution but has to attain greater significance for India to achieve breakaway growth. Besides this SMEs also lack high enough returns to attract formal venture capitalists and other risk investors.

The biggest problem is that the SMEs lack transparency in their operations. The institutions find it very difficult to get the correct financial information and data from SMEs. There is no proper mechanism of having control on such information as a lot of transactions are still in cash. The management of accounting in MSMEs can be manipulative and this is one of the major road blocks for a private equity investors/foreign institutional investors to infuse capital in SMEs.

Therefore a large part of the capital required by SMEs still comes from lending by informal finance–wherein the cost of borrowing is significantly high. The situation is complicated by the fact that the preferred mode of finance is self-largely due to associated high interest rates. According to Fourth Census, only 11% of the total MSMEs depend on institutional finance, 1% depend on non-institutional finance, 1% depend on both institutional and non-institutional finance whereas a majority (87%) either do not use credit or self-finance their units. Lack of credit acts as a big handicap for these units, especially at the initial stages, in most of their operations like the ability to hire the best workers or to purchase the latest machinery and equipment or to acquire the latest technology etc.

Besides this the access of SMEs to the FDI is also hampered due to several problems. The decisions of investment by the foreign investors depend on the assessment of internal resources of domestic company and its competitiveness; domestic market analysis; and the market expectation about the product/ service of that company. The Indian SMEs hardly stand by upto these standards of the foreign investors and thus are not able to compete with the large units for FDI. Generally SMEs being ancillary units of large enterprises get this opportunity.

But unfortunately, most official investment reports do not separately identify FDI activity by the size of the investing firm. ‘A study of technology financing through FDI, for SMEs in India and other select countries’ (2004-05) IIFT, indicated that FDI approvals of Indian Government for SMEs accounted for about 6.0% of total approvals while the amounts were about 2% of the total amount approval.

Apart from credit availability at cost effective rates, another area of concern for MSMEs which has a bearing on their finances, is the long time taken by corporate in making payments for supplies sourced from MSMEs. These delayed payments further reduce their working capital available with the unit for productive use.

Therefore the Government should try to solve the above problems and to search new avenues for financing the SMEs so that the large amount projects of SMEs shall not being shelved due to lack of finances.