Bet Big on MSMEs in Telangana

Bet big on MSMEs in Telangana

Low NPAs in the sector should drive financial institutions for proactive interventions rather than waiting for things to happen

The Telangana government has created efficient policy instruments around TS-iPASS, T-PRIDE, T-IDEA, RICH (Research and Innovation Circle of Hyderabad), TASK (Telangana Academy for Skill and Knowledge) and TIHCL (Telangana Industrial Health Clinic Limited) for the MSME ecosystem. The micro, small and medium enterprises (MSMEs) in the State today do not face power outages, voltage fluctuations and scarcity of industrial water. Tolerance to pollution is going down slowly but surely.

Digital technologies, particularly artificial intelligence and man-machine learning, are changing the way businesses are moving. Large enterprises are also making a beeline to industrial parks and clusters like never before. Credit institutions, however, are yet to match these efforts.
The questions that arise now are: Where are the entrepreneurs? Why are they not crowding in? What to do to make the ecosystem deliver?

Copability and Capability

Risk profile of the MSME sector indicates the copability and capability of the financial sector. Business risks surrounding industry, markets, operational efficiency, management risks and financial risks impact credit quality and infringe on standalone credit risks. Low NPAs in the sector should drive financial institutions for proactive interventions and not wait for things to happen. Enhanced CGTMSE (Credit Guarantee Fund Trust for Micro and Small Enterprises) threshold to Rs 2 crore is again an opportunity for the banks to move to trust-based lending from the balance sheet and ratio-based template lending platforms.

Both MSMEs and entrepreneurs are also changing the way they run their businesses. The other day I noticed as many as 60 young men and women at Cherlapally in the shoes of their parents or grandparents. The aspirations today for most of them are moving from legacy and archaic systems to newer ways of doing things; catching up with emerging technologies; setting up new systems and moving to global markets as well.

Banks should view such enterprises differently and wherever such change has been occurring; human assets should be valued and embedded into their risk profiles. This should enable better credit scoring and higher volume of credit to meet the challenges.

Cross-holding Risks

Going forward, industrial clusters should provide lenders a risk mitigation platform and for borrowers, scope for moving to value chain from supply chain management. But such clusters should have an interdependence between large enterprises and MSMEs in a seamless manner cross-holding the risks. All shall be on ERP platforms enabling easy data-based monitoring.

According to a recent report by the Planning Department, Adilabad, Gadwal, Rajanna Siricilla, Siddipet and Warangal districts require skill adaptation, promotion and skill building in textile technologies (handlooms, powerlooms, technical textiles, fabrics, apparel and readymade garments).

All other districts in Telangana, except Wanaparthy, require skills related to food processing machining, chemicals, and heat treatment. Wanaparthy district requires skillsets related to solar technology. TASK should also encompass providing for industry association interface and incubation centres in at least four key districts – Warangal, Nizamabad, Adilabad (around IIT) and scaling up the VTIs, ITI and polytechnics both in regard to technologies and faculty.

Mudra-enabled banks show more performance in the MSME sector but lending lags for manufacturing ones. Textile Mudra has extended the threshold to Rs 20 lakh at the extreme and this also provides a great opportunity for banks and NBFCs to lend for manufacturing MSMEs since the State is set to emerge as a major operator in the sector both in domestic and foreign markets. The future of MSMEs rests on embracing digital technology.

Declining growth in lending to the sector from commercial banks provided a great window of opportunity to the NBFCs. The latter are devising credit products based on GST data driven by the latest relaxations in thresholds and submission of returns and take very limited recourse to the credit rating agencies. CRAs have not been able to come up with a rating tool for new enterprises that the lenders can latch upon readily. Banks would do well to look at their lost loan book during the last five years. They should extend credit without cross-selling products like insurance and MF that led to the shortage of working capital upfront.

Competitiveness of future MSMEs comes from knowledge-based enterprises and global markets. Entrepreneur development centres in the DICs, NIMSME, and MSME-DI should work in collaboration to identify and train entrepreneurs and develop shelf of projects around the prospects within the shortest possible time. Lending institutions should tweak their products to cater to such situation providing environment for growth.

Disciplined Accounting

The MSMEs’ rate of vertical growth has not much to cheer as micro and small tended to remain in that status for decades. Product differentiation and price differentiation continue to be drawing less attention. Organisation of their sales books needs the willpower to move on disciplined accounting track. This would mean a change in the mindset of most of them. Digital training of both bank staff and MSMEs needs tools for kick-starting learning appetite within optimal costs for such initiatives.

Banks should consider failure as integral to the development. The GoI in its draft industrial policy has recognised Industrial Health Clinic modelled on TIHCL as a key intervention. Revival of a viable enterprise revives dormant fixed assets and sustains employment in the sector.

The government is also committed to seeing the MSMEs in good health. Seventy-five MSMEs through TIHCL are set to join the recently turned around Rajarajeswari Spinning Mills, Sirpur Kagaz Mills and the likes, with special support from the government.

Opportunity mapping as indicated in the infograph unfolds a large canvas for those who can take the risks and manage them well. Time and tide wait for none. Banks and NBFCs would do well to seize the emerging opportunities in the sector.

https://telanganatoday.com/bet-big-on-msmes-in-telangana

India Did Well: Needs More Reforms

The political economy of India enters the 72nd Independence Day with a sense of pride, no doubt, with the third largest economy of the world on an uptick of 7.5% growth rate. What is more, there is hope of consistency in such growth. GST, a showpiece of cooperative federalism, is the major indirect tax reform on the road to stabilization after the recent rate modifications and relaxed quarterly return submission. All it now needs is bringing fuel prices under its ambit. Yet, the nation cries for more reforms to ensure equity and social justice to all.

The Worries:

Core Consumer Price Index inflation accelerated to a 3-year high in July 2018 at 5.7%, while Wholesale Price Index moved to a six year high. Inflation is set to breach 5% in 2018, crossing the benchmark rate of 4%. Fiscal policy will be under severe pressure during the current year with States’ contribution to the widening deficit as warned by a recent Study of State Finances by the RBI. Impending General Elections 2019 to Lok Sabha would add more fuel to this fire.

The rise in stock-market indices driven by more domestic investment of about Rs.66666cr in the backdrop of foreign portfolio investors pulling out Rs.4,583cr in 2018 thus far, has little to cheer as the balance of payments position continues to be weak. IMF in its Annual External Sector Report cautioned India against relying on global financial markets to fund current account deficit of 3% of GDP.  The over-valued US dollar in the wake of increasing oil prices is enough cause for our future worry. A few economists have already predicted a burst of the bubble sooner than later with the exodus of FIIs.

Developed India:

70 reforms during the last 71 years have led to the present status of development. The nation has a large unfinished agenda on education and health reforms. I would add one more: water security in the country.

National Water Commission’s (2012) recommendation for establishing Water Regulatory Authority in each State to ensure use and allocation of water as a precursor to attaining equity and social justice is yet to gain acceptance in the wake of water wars.

Government of Telangana holds a beacon light in water policy with the world acclaimed Mission Bhagirath assuring to provide drinking water to every household in the State every day and Mission Kakatiya, tank-linking project that cleaned up 30000 of 46000 tanks in the state. Adaptation to climate change, demand management and water use efficiency in the wake of ever declining ground water resources also deserve greater attention.

Fiscal Responsibility:

Fiscal deficit is bound to exist to some degree or the other as the State has a constitutional responsibility to ensure welfare, safety and security of all the citizens. The earning capabilities are not neutral to size of the villages on one side and the natural resource base of the villages on the other. Such fiscal deficit occurs right from decentralized level to the State and Central level.

The resources should preferably be from the sub-regional fiscal allocations – i.e., the panchayats and mandals, for the assessment of the need can best happen at the village level and not at the District and State levels. Therefore, there is need for insisting on a transparent mechanism of sub-regional allocations and releases of the resources.

The ability of the villages to levy taxes and cess just does not exist and even if it existed, it has to be integrated with the regional pool of resource. For example, property taxes, drinking water cess, drainage cess, etc can be collected at the village level and their deployment for effective maintenance can be ensured through a decentralized monitoring mechanism that should include professional surveillance and social audit.

Natural disasters are unpredictable and so are the resources required for restoring normalcy in the affected areas. Many a time the expenditure cannot wait assessment of damage. These will initially cut into the budgetary allocations for various sectors but have to be replaced with appropriate fiscal initiatives. A few states have recurring floods while a few others have frequently occurring drought. Each disaster cannot be treated with the same brush.

 “There is enough evidence of growth leading to reduction in poverty: Prof S.S. Bhalla has proved (Inclusion: January-March 2012) that during the 21-year period (1984-2005) growth was around 55% and poverty decline was about 2 percent per annum (in log terms). In the five year period since 2004-05, as the growth increased the pace of poverty decline also more than doubled to 4.7% per annum.”

Reaching the poor through Jan Dhan and Mobile access led to greater financial inclusion and the social benefits of schemes like Mid Day meals programmes with the twin aim of higher enrolment and lessening poverty at the Union level; Kalyan Lakshmi schemes easing the burden of marriage costs, schemes meant for financial and social security for the farmers through ‘Rythu Bandhu’ and Rythu Bhima of Telangana Government serving as role models; making MNREGS more inclusive, 2-bed room houses for the poor from Telangana Government; and central and state schemes for providing houses to the poor etc., are all in the direction of economic empowerment of the poor and social security.

Investment Climate

If investment climate has to distance from state led incentives, there is a case for more tax reforms. While the GoI may be happy at the steady inflows of direct taxes, there is a case of reduction in the income tax and corporate tax. Both are possible if the Government can eye on increasing the share transaction tax where the tax administration expense is almost zero. Both the buyer and seller of the shares buys or sells with an eye on gains. The present STT at 0.15% can move to 1%. Since the tax deducted instantly moves to revenue kit of GoI as all demat accounts FRBM comes with ease.

Finally, In the backdrop of unprecedented pile up of NPAs, financial sector reforms leading to improvement in governance of the PSBs cry for immediate attention. This should preferably start with the winding up of the Department of Banking with the GoI. All these reform measures have the potential to take the growth to higher trajectory with stability at the expected ten percent per annum.

Published in Telangana Today's Opinion Column on 15th August 2018.

Reclassifying MSMEs

Turnover definition causes more confusion

Definition of MSMEs - Contentious

The outdated definitions of MSMEs are set to change. Union Ministry of MSME introduced an Amendment to the MSME Development Act 2006 to redefine the sector basing on annual turnover as the single criterion.

While change in the definition from the sole criterion of investment in plant and machinery that has facilitated Inspection Raj is long overdue, again moving to single criterion of turnover is fraught with greater risks than before for the MSMEs.

Globally,they are the backbone of the economy with some definitions showing their contribution accounting for 95% of the world’s GDP.

The term "SME" encompasses a broad spectrum of definitions. The definition varies from country to country. Generally these guidelines are based upon either headcount or sales or assets or a combination of any two or all of them. Some are backed by law while others are by practice and policy.

Indian MSMEs that significantly contribute to economic growth are already suffering several disabilities and while resolving one, leading to many more would be disastrous. The objective of change in definition of the sector should be providing jobs, wealth and innovation.

When the economy is set to be the third largest in the world with increase in WB rankings of Ease of Doing Business, it is important to ensure that each segment of the economy, more so the sector that has the largest potential for employment creation and enterprise promotion, moves in tune with the developed economies. Definitions vary across the multilateral institutions like the World Bank, UNIDO, OECD etc.

World Bank defined SMEs based on Employment and Assets. Out of 18 countries in Asia, Caribbean, East Africa, West Africa, South Africa, Latin America, North America, Eastern Europe six countries defined in terms of Assets, Employment and Turnover. 9 countries defined in terms of two of the three criteria – either assets and employment or employment and turnover. Only four countries including India defined in terms of a single criterion – assets or employment. Philippines, Thailand Bolivia, Mozambique and Rwanda defined in terms of employment as single criterion, employment.

or example the Inter-American Development Bank defines SMEs as having a maximum of 100 employees and less than $3 million in revenue. In Europe, they are defined as having manpower fewer than 250 employees and United States define them with employees less than 500. As general guidelines, the World Bank defines SMEs as those enterprises with a maximum of 300 employees, $15 million in annual revenue, and $15 million in assets. In Kenya, there are different definitions of SMEs which are yet to be consolidated. For example, a national baseline survey of MSEs carried out in 1999 defines a small enterprise as one which employs 6-10 people while a medium one is expected to have 11-100 employees.

Employment as a criterion to define the sector has widely been prevailing. Number of employees by itself is no indicator for efficiency of the enterprise. It is also no guarantee for growth. In fact, there would be a positive effect of economic growth on jobs. This criterion applied singly has again the consequence of services sector like the IT getting undue advantage as even 10 employees can contribute to a turnover of Rs.500cr annually.

Turnover as a single criterion has the deleterious consequences of over-flexibility. It also has the immediate consequence of picking up NPA status with the turnover threshold of Rs.75cr annually for the small and Rs.500cr for the medium. Presently the gross NPAs of the MSME sector stand at around 7-8 percent.  

Depending on trade cycles, the turnover may increase or decrease the redefined thresholds. Whenever such change occurs, it would be well-nigh impossible to reclassify and extend or withdraw the entitlements of incentives, wherever available for this sector. It will be preposterous to presume that GST would resolve the moving turnover thresholds for qualifying the enterprise in a particular category. Obtaining credit would become more difficult.

Any two criteria defining the sector would be more rational and lead to better growth of the sector. Doing away with investment in plant and machinery is welcome but replace them with employment and turnover. It will also be possible to attract more global investments into the sector. This would help MSMEs engaging labour on more competitive terms than now and also measuring their contribution to the turnover.

Modified version of the article has been published in the Hindu Business Line Today.