Credit and finance for MSMEs: The growing interest of lenders in cash flow based credit comes against the backdrop of the Reserve Bank of India (RBI) suggestion to adopt cash flow based loans. cash rather than on the balance sheet.
Credit and financing for MSMEs: The credit gap in the MSME sector is huge, around Rs 20-25 lakh crore, according to a June 2019 report by the UK Sinha Committee constituted by the Reserve Bank of India (RBI). This is at least equivalent to Pakistan’s gross domestic product (GDP) of Rs 20.08 lakh ($262.61 billion) in 2020, according to World Bank data. The reason for the huge credit gap is twofold: firstly, the lack of assets among MSMEs such as land and buildings etc. lack of financial data and credit history among small businesses.
As a result, lenders over the past few years have started to recognize the cash flow based approach to extending credit to MSMEs through alternative data sources such as UPI transactions, tax returns, declarations GST, bank statements, CIBIL score, point of -sale data, and more. The loan amount generally ranges from Rs 20,000 or less to Rs 2-3 crore.
Cash flow based loans are generally working capital loans needed on a short-term basis to manage the operational expenses of a business such as rent, salaries, administrative expenses, business travel, purchasing raw materials, etc. Buy now, pay later, invoice financing, supply chain financing, co-loan, etc. are some of the unsecured credit options for small borrowers depending on their needs and on the cash database of their companies.
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The growing interest of lenders in cash flow based lending comes against the backdrop of the RBI’s suggestion to adopt cash flow based lending rather than balance sheet. “To improve the ratio of credit to gross domestic product (GDP), access to credit and the cost of credit must be resolved by relying less on collateral and increasing cash flow-based lending,” RBI Governor Shaktikanta Das told a webinar. on Investor Education organized by the National Council of Applied Economic Research (NCAER) in December 2020.
However, the share of cash flow lending in the overall lending that banks and NBFCs do together is currently very minimal as it requires “much more discipline on the part of the lender while even closer monitoring of Unit cash flow is needed for lending,” Ajay Srinivasan, director of Crisil Research, had said at the SME Artha event hosted by Financial Express in November last year. This means proportionally that operating expenses (OpEx), at least in the early stages of business establishment, remain higher, Srinivasan said.