The big problem of micro and small enterprises

A few months ago, the NBFCs (non-banking finance companies) were the flavour the season. Now the MSMEs (micro, small and medium enterprises) are. Both, for the wrong reasons.

The NBFC sector stole the limelight when many started staring at stark asset-liability mismatches as a result of their greed for growth, mispricing the risks. A sudden rise in the short-term rates caught them unawares. The MSMEs are credit-starved and many of them are not able to service their loans as their businesses have gone for a toss.

More than banks, the NBFCs were meeting MSMEs’ credit needs but they are being forced to rein in growth in their loan books. In fact, many of them are selling their portfolios as they do not have adequate liquidity to support loan assets.

The banking industry’s exposure to the micro and small industries declined from 3.1 per cent of gross domestic product (GDP) in 2013-14 to 2.22 per cent in 2017-18. During the same period, bank loans to the medium-scale industries too dropped from 1.1 per cent to 0.62 per cent of GDP.

The NBFCs stepped in, sensing the opportunity. Their share in financing the MSMEs rose from 7.9 per cent in December 2015 to 11.3 per cent in June 2018. They get funds from the banks to be on-lent to MSMEs. In fact, bank lending to NBFCs grew by a staggering 26.9 per cent in 2017-18.

According to MSME Pulse, a TransUnion Cibil Ltd-Sidbi quarterly publication, the share of public sector banks (PSBs) in the MSME loan pie has dropped from 55.8 per cent in June 2017 to 50.7 per cent in June 2018. During the same period, private sector banks’ share has grown from 28.1 per cent to 29.9 per cent, and that of NBFCs from 9.6 per cent to 11.3 per cent.

The bad loans of the PSBs in the MSME segment rose from 14.5 per cent in June 2017 to 15.2 per cent in June 2018

The bad loans of the PSBs in the MSME segment rose from 14.5 per cent to 15.2 per cent during this period but the private banks’ bad loans in this segment declined marginally to 3.9 per cent even as 5 per cent of the NBFC loans turned bad.

The Inclusive Finance India Report 2018, an ACCESS publication authored by Alok Misra and Jay Tankha, has traced how the share of MSMEs in the overall industrial credit has been going down. It has been stagnant at around 13.8 per cent for past two years, down from 15.7 per cent in 2010. Between 2010 and 2018, the medium industries’ share dropped dramatically from 10.1 per cent to 3.8 per cent but the large industry’s share has risen from 74.1 per cent to 82.3 per cent.

Indeed, credit flow has been drying up for the MSMEs but why are their businesses in a mess? Both demonetisation and the goods and services tax (GST) traumatised most of these units, a Reserve Bank of India (RBI) study (Mint Street Memo) says.

While contract labour in businesses such as apparel and gems and jewellery suffered as the employers used to pay the wages in cash, the new nationwide tax increased the compliance costs. The turnover shrank and many units got rid of thousands of employees. Quoting the Labour Bureau’s Sixth Annual Employment- Unemployment Survey, a recent Business Standard report has pointed out the unemployment rate rose to a four-year high in 2016-17, the year of demonetisation.

There is hurry to alleviate the pain of the MSMEs as elections are round the corner. The GST Council last week decided to move two million such units out of the scope of the tax by raising the exemption threshold of annual turnover for GST registration from Rs 20 lakh to Rs 40 lakh.

Ahead of that, the RBI allowed lenders having up to Rs 25 crore fund and non-fund exposure to the stressed MSMEs a one-time loan recast. They can continue to treat these assets as “standard”. Incidentally, in June 2018, the RBI had allowed certain relaxations to the banks in regard to treatment of all stressed MSME loans that were earlier applicable to only those that were GST-compliant.

While MSMEs need support, the worry is the rise in bad loans. Prime Minister Narendra Modi launched the Pradhan Mantri Mudra Yojana in April 2015 to provide loans up to Rs 10 lakh to the non-corporate, non-farm, small and micro enterprises for income-generating activities. Commercial banks, regional rural banks, small finance banks, cooperative banks, microfinance institutions and NBFCs give such loans, the interest rates of which are in the range of 8-12 per cent.

The non-performing assets (NPAs) of Mudra loans given by PSBs have nearly doubled to Rs 7,277.31 crore in 2017-18 from Rs 3,790.35 crore in 2016-17 (Rs 596.72 crore in 2015-16). The PSBs had given Rs 92,492.69 crore Mudra loans in 2017-18 and Rs 71,953.66 crore in 2016-17.

Overall, Rs 2.53 trillion was disbursed in 2017-18 and Rs 1.80 trillion in 2016-17, taking the total corpus to Rs 5.73 trillion in past three years. For 2018-19, the target is Rs 3 trillion.

While NPAs of PSBs in Mudra loans are 3.43 per cent, the overall loans in this category have 5.38 per cent NPAs as on March 31, 2018.

The Inclusive Finance India report says that despite its shrinking market share in the MSME segment, the PSBs hold a dominant position in the segment below Rs 10 lakh (79 per cent market share) and the overall bad assets of the banking industry are as high as 11.2 per cent in this pocket. “The higher NPAs in this category have to be seen as early warning that target-based lending does not work in the long run,” it says.  

This has hit the nail on the head. Indeed, there are at least 63 million MSME units employing around 111 million workers and accounting for 45 per cent in manufacturing output and 40 per cent of exports but target-based lending is not the panacea for them.

Targets can work for opening deposits as bankers can grab anyone walking on the pavement near a bank branch and force a deposit down one’s throat. Such depositors don’t need to keep money in the account and even if there is just one transaction in two years, banks won’t complain. But this does not work for loans. Under pressure, many banks are in perennial search of Mudra loan seekers. In the process, the credit risks are rising. What we are seeing today is just the beginning.

The columnist, a consulting editor of Business Standard, is an author and senior adviser to Jana Small Finance Bank Ltd. 

Twitter: @TamalBandyo