Little Cheer for Bank Nationalization

INDIA NEEDS TO DO SOMETHING MORE…

CRISIS OR NO CRISIS

                                                                                   

The Day of Bank Nationalization in India passed off on Sunday. Smiles were kept years behind. None talk of village adoption scheme; no Chairman would go to a village these days to see how their rural branches are helping the farmers or the MSME is financed. No pride in ownership. No regret for bad governance.

But for a full page pull-out by the All India Bank Employees’ Association on the 20^th July, 2020, who remembers the Nationalization Day? Neither the employees, nor the disappointed customers that include even the Banks’ own pensioners, nor those seeking credit from them recall the Day. People are only alert on wearing masks and spiriting their palms before handling the currency received from outsiders. Everyone cries wolf on the ever-bulging non-performing assets. The only solid reform that we boast of is the Insolvency and Bankruptcy Code. Job creation is hurt badly in the organized sector with near-65% of MSMEs shutting their windows in pandemic. Their markets are yet to revive.

Banks in UK, Iceland, and even the US resorted to the most criticized and least preferred route of nationalization of banks, when they confronted a crisis. The then OBAMA initiative that received positive response of stock markets since the announcement of Toxic Loan basket takeover under a joint Government-Private Fund, was however inadequate to retrofit the lost confidence in the financial system. 

The revival of ‘protectionist’ actions would seem to be asserting more in finance than in trade.  While the regulators of G-20 would be meeting at the shortly, global regulatory regime has serious limitations and they should be realigned with domestic regulations that have compulsive cultural characteristics. 

Events so far have proved beyond doubt that a global regulatory regime would not be able to provide appropriate solutions to the type of recession that had set in due to pandemic. No prediction as to when it would end. Annual Balance Sheets for 2020 are waiting for finalization in several institutions. Basel III may have introduced a modicum of discipline and uniformity in risk discipline among Banks globally. Several regulators sought more flexibility. It is important for India to realize its distinction in the emerging economic scenario and how necessary it is to turn the head on the screws.

At the commencement of Covid attack, India did well and even till now, we do not find people scrambling for food because farmer and rural India stood by the nation.  The biggest blunder of the system is more announcements than actions and imperfect monitoring and undependable statistics. All the rating agencies, IMF and World Bank kept the ratings low and estimated growth of 42% in 2021. Opening the economy with lot of courage has not been taken too kindly by Corona that has been surging every day crossing the 10lakh persons. India took the 4th rank in the world in Corona affected nations.

Second, we have the key sectors like Steel, Zinc, other Metals and Coal as also the transportation system largely in the public sector. We entered the Commodity markets and derivative markets in our anxiety to mix with the globe. WTO is almost nearing collapse with most countries choosing to adopt policies that secure their own nations and people, not caring so much for the global discipline. 

Third, there was no demand recession of the magnitude that the other countries in the globe faced.  Still the rural areas where still 65 percent of our population lives, drive the demand growth.  Having said that some facts that can be hardly ignored: there is a steep decline in job growth; steep declines have also set in the private sector trumped up by the global recession; the urban and metro retail chains took a severe beating; the real estate and housing boom that irrationally stepped up land values across the country took the first heat-stroke and with them, the dependent MSME sector that is seen as the engine of growth.

Fourth, Banks that lent heavily for the retail sector and real estate sector started facing the continuous decline in their performing assets.  They lost confidence in the resurgence of the demand and the productive capacities of the manufacturing sector.  Most public sector banks even, refused to go with the RBI to pump credit. 

Atma Nirbhar Bharat Abhiyan, the stimuli announced to combat Covid-19, injecting more than Rs.20lakh liquidity, still face risk aversion from the Banks. This high liquidity released only moved to the investments in treasury instruments and to quote Subba Rao, former Governor, gave confidence to depositors in the Banking system that their monies are safe with the Banks, notwithstanding PMC Bank resolution still waiting at the doors of the RBI. It has two windows: one, investments and the other credit. The latest report on Investments not withstanding the $10mn investment announced by Google, all the investment projects are reported to be lagging behind and the cost over-run of the projects already swallowed the entire incentive package.

MSMEs are yet to come out of the two shocks of demonetization and GST. After the redefinition, and after a host of digital platforms placed within their reach, the access to credit by all counts is a poor show. Out of the National Credit Guarantee Trust linked credit incentive to the standard assets, Banks disbursed only 50% or less. This was supposed to be automatic release of 20% additional working capital. The second window to the stressed assets through Sub-ordinated debt is yet to open as the operating instructions were received only a few weeks back.

SIZE – AN IRRATIONAL CONCERN

Merger of PSBs taken up while the economy was slowing down is yet to show up the results. The market value of the SBI post-merger is way behind its peer, HDFC in the private sector. Sanctioning Rs.1200cr to a known defaulter in its books and erstwhile chronic NPA resolving through IBC, does not hold SBI in any high esteem either among global peers or its own clients. Government of India, by merging PSBs to 10 from 28 did not gain either in image or confidence of the people. Several clients say that corruption has become endemic in PSBs and not even acknowledging a complaint, or a letter of customer is so habitual that the latter are in the lurch.

While the Government’s efforts to digitize the delivery system have borne fruits reasonably going by the way the MNREG wages and other direct benefits reached the intended groups during the last two years, financial inclusion is way behind. The reach of banks to the poor has declined.

Regulator’s job is to make sure that the vertical and horizontal growth of institutions should not be allowed to go with a feeling that because of their size they are insulated from collapse and that the Government and regulator had to do something to keep them afloat even in the worst event like bankruptcy.  This is where the RBI should reformulate its views and ensure that the organizational structures irrespective of their affiliations do not overboard the governance and do not oversize.

The silos-based regulatory system currently in vogue, with the RBI regulating Banks and NBFCs, Stock Markets by the SEBI, Pensions by the Pension Fund Regulatory Development Authority, Insurance by the Insurance Regulatory Development Authority, and Commodity Futures by the Futures Market Commission should be effectively brought under Financial Services Regulatory Authority. Department of Financial Services, Union Ministry of Finance may have persons of eminence but when it comes to examining micro issues for macro management, it left lot to deliver. Collective wisdom needs to emerge to improve financial regulation and governance that affects 130bn people does not brook delay.  

India, for example does not have credit risk insurance of the order prevailing in either Italy, or Germany or South Africa.  The Credit Guarantee Trust for Micro and Small Enterprises is but a poor cousin of the trade and credit risk. Credit Risk could not be introduced in India as the IRDA was apprehensive of the consequences of credit default.  It is perhaps of the opinion that the moral turpitude would reach new dimensions if credit risk is introduced. 

Percy Mistry Committee called for a unified regulatory architecture for resolving issues dealing with segmentation of financial markets into banking, capital markets, insurance, pensions, derivatives etc. Sweden, Singapore, UAE, UK, Republic of Korea to cite a few have already moved into the unified regulatory system.

OPERATIONAL ISSSUES:

Warren Buffet, the most reputed investor, is quoted at number of places: “Derivatives were financial weapons of mass destruction, carrying dangers that, while now latent, are potentially lethal.” Over-the-counter derivatives that are off-balance sheet instruments come to surface suddenly when their collaterals fall and when their values become riskier to hold, killing in one stroke rest of the healthy assets of the Banks. The delivery and recipient systems have not reached a level of maturity to play with them, even a decade after their active entry.  Indian financial system cannot afford the consequences of systemic risks arising from their instrumentality.

Let me go to the most familiar area – Credit Risk that is mostly understood as risk of default.  Here the risks arising from asymmetric information have not been dealt with. The Credit Information Bureau India Ltd.,(CIBIL) is the only institution that currently unfolds client’s historic information at  price.  Entry of multiple players with the enactment of Credit Information Services Act of 2005 is put on hold.  Trade and Credit information services should enter the competitive domain for the information system to get into a semblance of order.

Credit rating agencies in India that are approved by the RBI are none other than the Fitch, Standard and Poor, Moodys etc., whose ratings busted on the threshold of sub-prime crisis and beyond.  There is no proof that they are doing their job differently.  Until the rating agencies’ services are paid for by the financing institutions that make use of the ratings and hold them accountable for the ratings, there is no guarantee that the ratings per se would add to the quality of the credit portfolio the banks carry in respect of the rated assets. 

While the Government and the RBI, Insurance and Capital Market regulatory authorities have proved one-upmanship over the other regulatory authorities in reasonably insulating the Indian Financial System from the impacts of the current global crisis, a large gap remains in what is needed to be done. The time to put things in the right shape is now and right away.

It is high time to appoint a High-level Committee that should also include outside experts to clean up the banking system with an open mind.

------------------------------------------------------------------------------------------------------------*The Author is an Economist with three decades of banking experience and a Risk Management Specialist He can be reached at yerramr@gmail.com The views are author’s own.

https://www.moneylife.in/article/ramping-up-the-banks-india-needs-to-do-something-more-crisis-or-no-crisis/60966.html

Cooperative Banks move to a single regulator

Cooperative Banks move to a single regulator - RBI

PMC Bank failure triggered the action on the part of Union Government to amend Banking Regulation Act 1949 bringing the Cooperative Banks in the direct regulatory ambit of the RBI, putting a full stop for dual regulation of the Cooperative Banking sector. The ordinance does not include Primary Cooperative Societies, the principal constituents of the State Cooperative Banks (StCB) District Cooperative Central Banks DCCBs). Urban Cooperative Banks and Multi State Cooperative Banks and the rest of Rural Cooperative Credit structure falling in the ambit of NABARD supervision will all be subject to such amended regulation.

The preamble of the Ordinance on Banking Regulation Act 1949 Amendment makes us understand that the cooperative banks are not well managed; not properly regulated; and the affairs conducted are detrimental to the interests of the depositors. They also lack professionalism, good governance and sound banking practices. The objective of the amendment is to correct all of them. It is important to view this ordinance in the backdrop of the latest Report on UCBs chaired by R.Gandhi, when he was Dy.Governor.

R.Gandhi (2015) Report says: “As UCBs form an important vehicle for financial inclusion and facilitate payment and settlement, it may be appropriate to support their growth and proliferation further in the background of the differentiated bank model. However, the question remains whether unrestrained growth can be allowed, keeping in view the restricted ability of UCBs to raise capital, lack of level playing field in regulation and supervision and absence of a resolution mechanism at par with commercial banks.” UCBs now have high aspirations of competing with commercial banks and they expect RBI to provide relaxations in various regulatory restrictions.

In countries like Canada, Cooperative Banks pose a formidable challenge to commercial banks and the former follow the capital regulations of Basel, conduct elections regularly, Associations of Cooperatives conduct induction courses and retreats for Board members on governance. Without harming the principles of cooperatives the Cooperative Banks pose a stiff competition to the commercial banks.

A study was conducted on behalf of Gandhi committee to ascertain the range of loans granted by scheduled and non-scheduled UCBs. The study shows diametrically opposite trends in the range of loans granted by the two types of co-operative banks. While the scheduled banks granted 59.6% of the total loans in the largest loan size ranges of Rs.1-5 crore and above Rs. 5 crore, non-scheduled banks catered to the small loan segments up to Rs.10 lakh in a substantial way as this segment constituted 59.5% of the loans granted by this component of UCBs. The study further supports the premise that large MS-UCBs have aligned their business models and goals with those of commercial banks while availing of the concessions granted to the sector. Even this study could not bring out the frauds and maleficence of Bank like PMC because the fraud has been traced to even earlier period.

“The Report says; major considerations to be kept in mind are the aspirations of large UCBs, conflicts of interest, decline in cooperativeness, regulatory arbitrage, limitations on raising capital, limited resolution powers of RBI, the capital structure of UCBs and opportunities for growth that will accrue after such conversions.” The UCBs are subject to annual inspections by the RBI. Yet it could not hold accountable for the large scale frauds in UCBs.

In so far as StCBs and DCCBs are concerned, they are under the supervision of NABARD and the Board appointments are supposed to be done as per the ‘fit and proper’ criteria fixed by RBI. Elections to the Cooperative Societies are conducted by the Registrar of Cooperative Societies. Cooperative Societies as per cooperative statute are member-driven, member-controlled and member-protected. If members who are large in numbers choose to abdicate their responsibilities or do not take enough interest in their activities, jeopardising the interests of other stakeholders and particularly the non-member depositors, the remedy rests only with the Registrar.  In so far as banking is concerned, it is only RBI that regulates all and all UCBs are subject to inspections by the RBI annually or whenever any aberration comes to their notice even during a year. Depositors’ constituency for long has been asking for a representation on the Board and this can be done only by amendment to the Cooperative Act.

The latest report on Trend and Progress of Banking in India from RBI (December 2019) has highlighted the importance of cooperative banks in India lies in their grassroots’ integration into the life and ethos of the widest sections of society and effective instruments of financial inclusion. They account for about near 10 percent of total assets of scheduled commercial banks in 2017-18. It also clarified that the combined balance sheet of UCBs witnessed robust expansion underscoring the effectiveness of measures taken to strengthen their financials.

Although 89.5% of the UCBs’ resource base happens to be Deposits, their growth is muted and remains well-below the average of 13.9 per cent achieved during 2007-08 to 2016-17.” A CAMELS (capital  adequacy;  asset quality; management; earnings; liquidity; and systems and control) rating model is used to classify UCBs for regulatory and supervisory purposes. UCBs in the top-ranking categories— with ratings A and B—accounted for 78 per cent of the sector. Only 4to 5 percent are in D category for the last five years. And yet, the well-rated UCBs have defalcated with immunity for years. Will this ordinance rectify this malady?

UCBs are under the regulation of RBI and Registrar of Cooperatives of the State Government where they were situated. The regulatory conflicts were being resolved through TAFCUB during the last ten years to the satisfaction of both banks and the regulators at the altar of RBI.

During the last two decades, Marathe Committee, Madhava Rao Committee, Malegam Committee, Gandhi Committee and RBI’ Vision of UCBs have gone on record on the measures to be taken for strengthening them in the face of a series of frauds and maleficence and even closure of several UCBs in Gujarat, Maharashtra, Andhra Pradesh etc.

GoI even brought out a comprehensive 97^th Amendment to the Constitution of India in 2011 as a Model Cooperative Act to be enacted by the State Governments. None except the Government of Orissa showed interest. Had this Act been passed and implemented in letter and spirit there would have been no need for the Ordinance now.

No State is keen on legal reforms to cooperatives. Cooperatives are the seedbed of politics and every prominent politician of the country, barring some Rajya Sabha or Legislative Council Members, everyone started his/her political career with Cooperative Society as the base. To borrow an acronym, cooperatives without politics is lame and politics without cooperatives is blind. Viewed from this perspective, this ordinance makes a great difference. It sets at naught all political interferences beyond the primary cooperative societies.

Several Commercial Banks, fully under the regulation of the RBI since 1949 have also been victims of frauds and maleficence. Several Banks, both in the public and private sector like SBI, ICICI, PNB etc continue to hit the headlines on such count.

The difference is that in all such cases, the interests of depositors have been protected. There were mergers or amalgamations but there were very few occasions where the affected Banks were closed or deposits barred from withdrawal. It should be worthy to recall that even in case of commercial banks the deposits are secured to the same extent as UCBs/MSCBs, viz., Rs.1lakh earlier and recently enhanced to the extent of Rs.5lakhs per depositor. 

Several UCBs are already part of the National Payments System. Financial inclusion demands customer centricity and smart technology applications apart from financial learning at the institutional and client level.

Rural Credit Cooperatives have been in the throes of change: accounting practices,  (from single entry book keeping to double entry book keeping), technology change; regulatory changes and structural changes. They have come into the mainstream of financial inclusion agenda of the country.

When NABARD has a new guard, it would have allowed scope to the new management to carry out the required improvements to the Short Term Cooperative Credit Structure instead of clubbing them with the UCBs. All the DCCBs have already been brought under the regulation of RBI notwithstanding the ordinance. Further, RBI invested in computerization of both the UCBs and Rural Coop Societies and banks with the allocation of Rs.4lakhs per UCB and maintenance cost of Rs.15000 per month for a period of 3 years post implementation. Government of India in their 2017-18 Budget allocated Rs.1900cr towards computerization of PACS. This initiative should have been properly monitored to ensure transparency, better accounting practices and better customer service on par with commercial banks. To search for a solution of lost opportunity in the ordinance does not reflect a good governance practice.

Though the organization may introduce appropriate strategies, it is the culture of the organization and governance that would require to be looked at in cooperatives. They can improve the bottom lines through reduced costs; enhance the customer experience; and strengthen security and compliance through state-of-the art encryption practices, audit trails and security certifications. Customers always need their data to be safe and secure.

When the problem rests with regulator – lax inspections, lack of transparency in dealing with the Banks and improving governance, the remedy is sought through a legislative amendment!!     This may perhaps provide a better lever to the RBI to  merge weak UCBs with strong ones and disable closures as a  solution to protect the interests of depositors. Will the PMC depositors now get fully all their deposits and interest?  We should wait and see.

Development of cooperatives is no longer an option, but a compelling necessity to achieve financial inclusion. Implementation of the Ordinance should only strengthen the cooperative system and not eliminate them in the guise of regulation.

https://www.moneylife.in/article/cooperative-banks-move-to-a-single-regulator-rbi-and-not-a-day-too-soon/60767.html 

Governance back on RBI Drawing Board

Governance in Banks back on the Drawing Board of RBI

India’s emergence as a global player is imminent and so would be a strong financial sector. RBI’s very comprehensive Discussion Paper on Governance in Banks comes as a formidable effort to set the house in order and bring about the much needed reforms in Banks. Large Balance Sheets do not add so much strength as it is just a reflection of one day in a year not so much as good governance.

There is a broad realization that change in the mindset among bankers would not come about by either the dictates of the RBI or its owner but internalizing the best governance factors. In evidence is the excess liquidity pumped into the Banks during the last six months and yet credit to the needy does not flow. Risk aversion needs reversal and this can happen with good, responsible and accountable governance.

Increasing Bank frauds, cyber crimes, arrest of some top executives and Chairpersons of reputed Banks like the ICICI, failures of PMC Bank, Times Bank, Yes Bank and several in hiding have obviously triggered the RBI getting to the drawing Board on Governance. The Paper has heavy referencing to the BCBS, OECD and Ashok Ganguly Report, bringing back to the drawing board of RBI its seriousness in action and not just intention.

Contextually, it is heartening to see that what I have been articulating since 1999: Corporate Governance in Banking & Finance (Tata-McGraw Hill, 2000 with YRK Reddy) and ‘A Saint in the Board Room’ (Konark Publishers: 2011) with R. Durgadoss, finds echo in the Paper. Two decades of wait is worth it.

The Government, going by the experience so far, considers that institutions created under its fold are sacred cows and should therefore be protected at the cost of the exchequer. Hopefully, the GoI would embrace these governance reforms in PSBs and hasten corrections with a sense of urgency.

There is enough proof in India that regulation and bank supervision are interdependent and not of independent of governance in banks. Both have limitations with effective interplay among them. Viewing from this angle, the discussion now unfolded specifies the key stakeholders’ role; distinguishes the role of non-executive director from independent director and workmanship Director.  

A foundation is built for the whole house; there are not separate silos for the kitchen and bedrooms. In the same way, audit, compliance and risk management should maintain their necessary independence — but not operate in three different silos. Governance is the binding force/material and it rests on the Board. It helps all the three groups speak the same language and connect with business processes and products.

The Discussion surrounds the audit and risk processes as more proactive than reactive unlike now. Once the house is built, no one would like to go to foundation to make changes. Therefore, change management is extremely crucial. Board cannot be expected to do the change management function. Change management requires federated ownership to cite a GRC framework study.

There are two aspects needed for the actions mentioned in the discussion paper to trigger, although experts in various fields alone are taken on bank boards. Knowledge cannot be taken as something given and permanent and it requires frequent updation.

1.    Board of Directors should themselves be prepared for new responsibilities and new roles. In the first meeting of the Board, the first item of the agenda should be the series of actions ordained in the Discussion Paper of RBI and their understanding in the present and emerging context. Each Director may be asked to furnish upfront what he or she would like to contribute to the Board and the objectives of the Bank. This would be the Board’s review point half-yearly and annually. Qualitative change will become possible through this measure.

2.    Half-yearly retreats for self-renewal of Board Directors away from the traditional Board meetings has potential for a free and open discussion on the issues - both internal and external to the organization. It is not common practice to have separate budget for Board management. It is good to have Board approved budget for its own functioning and knowledge upgradation. Usually good directors will be on the learning curve and hence, wisdom lies in taking advantage of it. ‘Fresh thinking’ that the RBI advocated would be possible with such measure.

Even mega Banks, measured by their Balance Sheets, suffer from issues that they would prefer to hide, wherein lies the danger. One of the leading large PSBs in its latest balance sheet has very low net interest earnings – not just due to low credit outflow but more due to gains in the reduction in the interest rate on deposits, for 9 times in a year! Depositors are minority stakeholders. It’s profit is made up out of sale of its stake in a subsidiary and not due to core banking business where credit sale is poor and deposits rose despite and not because of its efforts.

RBI cannot be a gatekeeper of the Banks. It can only direct the Banks to take care of the interests with due concern for the economy and the various other constituents. It is here that whistle blower policy implementation becomes crucial. We have seen lackadaisical responses even on RTI questions and references to the Courts for seeking responses. Such approach will not hold validity if transparency in dealing with issues that affect the persons in responsibility.

The Paper has fully accommodated the recent statement of the FM that the Banks need not be afraid of the three ‘C’s – CVC, CBI, CAG by such references being made only on Board decision  after fully exhausting internal examination and action.

While minority shareholders’ interest may be taken care of, depositors turning a minority stakeholder, would harm the interests of banks in the long run. The correction can come from governance and the RBI’s latest approach makes adequate mention of it in its paper.

It is also interesting to find that the RBI as regulator would divest its participatory role in the Board. Hope Government of India would not raise any objection on this issue. It has been noticed thus far that the value RBI Director imparted in the Board disclosures has not been significant.

There is a thin line between the non-Executive Directors and Independent Directors and this subtlety has been well addressed in specifying their roles in the NRC Committee and Audit Committee. Risk management Committee Chair to be directly responsible to the Chairman is worthy to note. It has rightly identified Risk Appetite framework as crucial for the eventual risk measurement and management. Those who cannot risk prudently cannot get reward. It could have specified that non-performers, because of their clean slate, cannot be elevated to key management positions in the organisation and the Board should ensure this through its effective oversight.

While it has kept its banner line on culture and values, it could have also constituted Ethics Committee with an outside expert nominee of the RBI to chair it and make it responsible to the Chairman directly. Business Ethics is an oxymoron and therefore, defining it is crucial in financial institutions. Measuring Ethics has been templated by the writer in the book A Saint in the Board Room. Corporate Executives can be subjected to this test while the Board Directors are supposed to be ethical, having right values to uphold the organisational culture. The future tells it all.

*The author is an economist and risk management specialist. The views expressed are personal.

https://www.moneylife.in/article/governance-in-banks-back-on-the-drawing-board-of-rbi/60655.html

 https://www.moneylife.in/article/governance-in-banks-back-on-the-drawing-board-of-rbi/60655.html

MAKING THE NEXT NORMAL WORK FOR TELANGANA MSMEs

Making the Next Normal Work for MSMEs:

NSS 73^rd Round estimated 63.4mn non-agricultural enterprises in July-June 2016 with 84.2% as own-account enterprises, that is, entirely run by the promoters or their family members. They employ 111.3mn workers and remain as the second largest employer next to agriculture. 40% of the employment is with 11.4% of such enterprises. This formidable driver of the economy started shaking in the pre-covid slow down. Covid-19 compounded the problems. Several of them, known to be in the unorganized sector, often do not have regulatory compliances as their focus and this has mostly led to lack of trust between them and their lenders.

Several Surveys, CII, FICCI, Skoch Foundation, RGICS reveal that near about 70% had adverse effects on their businesses. Only 4-5 percent mentioned that their businesses improved. The sector has the resilience and entertains optimism in going forward.

Telangana, the fastest growing State in India with good and consistent EODB rankings has many things to ponder post pandemic as the markets and the world are not going to be as before. Preparing for the future has to be on strong foundation.

Economic growth engines of State of Telangana - the real estate, infra and construction, Pharmaceuticals, IT and ITeS are likely to be on tardy growth for the next six months. Tourism, entertainment, event management that have seen phenomenal growth during the last four years will have to wait for almost a year to come back to their glory. All these have strong supply chain linkage with the MSMEs at the front-end.

Telangana State, with around 33000 MSMEs (with 7842 sick or incipient sick), the steady growth can be expected from only 10% of them in pharmaceuticals, biotechnology, electronics and defence-oriented industries. Aeronautics will be on slow gear for a year.

Contribution of Mining, a fast growing sector, emerging from Nizamabad, Warangal and Khammam, Nalgonda districts is unlikely to recover because of the low footfall of Chinese buyers of granite in February due to Covid-19.. Marketing pitch through select Indian embassies showcasing Telangana strengths in raw granite and the incentives they offer for setting up processing investments and pollution clearances faster than any other country, should be a strategy worthy of pursuit.

As one of the leading growing States in the country, we have the unique advantage of Make-in-Telangana brand for all the food and aqua manufacturing industries. Packing, packaging, logistics should back-end the efforts of agro-industrialisation of the State. If we can keep safety standards in place we can really replace Philippines, Vietnam, Australia, Taiwan and Indonesia in agro-based industries. We should develop them in small village clusters and not aim big clusters. It is good to have large number of well-integrated small clusters around villages and have well-developed logistics at each Mandal level.

HR mapping is extremely important. Every industry would like to optimise on time and resources. Work from home may become the new normal. After all, industry having tasted human meat in tough times, would like to continue. New wage norms will also come in to being. Focus will be more on leadership challenges and quick deliverables. Job losses will stare at the State.

All the skill development centers should be developed in consonance with the requirements of the agro-industrial and agri-business clusters. Post-school education should be integrated with the requirements of the industry. Telangana will thus be the largest employer as well.

New enterprises should be built on knowledge and skills. Forward integration in Markets and Backward integration in raw material supply with strong value chains built, the State will bejewel the country. Focus more on employing 75 to 85 % of both rural and urban working force.

Effective mobilization on global funds may be cost effective beyond FRBM norms for agricultural and allied sectors and for SME's to be globally competitive. It is time that the State should have its own Small Finance Bank not that it will have freedom to do as it likes beyond the RBI norms but will have the scope to leverage its priorities and timely deliveries on its own call.

When it wants more FDIs and FPIs to come in, it should be strong in MSMEs. The present near 25-26 percent of sick MSMEs will not certainly be able to attract the global investments. Hence Telangana Industrial Health Clinic Ltd needs to be strengthened with better inter-linkages with the existing lenders and NBFCs and greater resources – both by way of grants and loans.

MSME growth is debt driven thus far and not equity driven. Atma Nirbhar Bharat Abhiyan targeted release of 20% of additional collateral free credit and the State’s share is estimated at Rs.12,000 cr. Of this, as per the data of Ministry of Finance, GoI as of 9^th June 2020, of the Rs.1129.69cr sanctions to 19,965 accounts, Rs.633cr has been disbursed to 11,133 accounts. Banks will go for safe target and provide credit to not all those who need and who had adverse Covid impact, but to those who will reverse their NPA path. The subordinate debt to the stressed enterprises with Rs.20000cr fund backed by CGTMSE to the extent of around 23% default rate, is yet to benefit stressed enterprises due to delayed release of operational guidelines.

We need a strong and unwavering banking sector. State can think of having its own Small Finance Bank with public equity participation. Coupled with Telangana State Cooperative Bank, Srinidhi Bank and TIHCL the State’s credit infrastructure has potential to address the future needs of the state economy.

Tough times requires more tough solutions and we should be part of solution and not of the problem as Sadguru mentioned. The State has no room for complacence.

*Published this invited paper in the CII-Telangana News Letter MARCH-MAY 2020 ISSUE.

Making the best of the situation - Ten Point Plan for MSMEs in Pandemic

MSMEs – Think Anew and Act Afresh

A Ten Point Plan

MSME Surveys done by various organizations revealed that the packages released by the FM under Atma Nirbhar Abhiyan are not going to benefit them much. Now is the time to think afresh and move fast to be back on rails without expecting much from the Government over and above the guarantees announced. There is full realization among the MSMEs that they should live in debt, survive and if God helps, grow.

If there were perverse incentives earlier that only made them perpetuate small in size and not grow, now they will have to contend with no incentives but to grow with their own ingenuity. In a debt syndrome, this can happen only when there is a strong environment of mutual trust between the lender and borrower. Some State Governments are trying to create a better ecosystem and help the MSMEs.

What you should do as a MSME in this emerging scenario?

Covid-19 in a way opens a chapter in their enterprises. You are an important link in the supply chain and it is time that you make the government come to you and not you stand before them with a begging bowl. You should be able to dictate your supply terms instead of bemoaning that you are after all a cog in the wheel.

There have been surfeit of ideas and strategies but the question that stands in front of you, is: how to respond to their work force who were forced on holiday under lockdown and incentivize them to work for the Company?

All that the Bank wisemen would do is to give a moratorium for principal and interest if their credit record held you good – a standard asset in bank language – by January 2019, a la March 2020, the beginning of lockdown.

1.    

Make a reasonable assessment of receivables by discussing with the debtors. This will measure up the duration risk of receivables.

2.    Take full count of the stock available and see if there is any redundancy. Clear up all the useless stock.

3.    Assess the demand for the product in the context of sluggishness around in Consumption and the steep fall in Consumption index. It is very likely that the product required either a makeover or change in complexion.

4.    Set up a digitization environment – have a desktop or laptop and buy a ERP solution if you are beyond Rs.1.5cr turnover. Up to 1.5cr turnover, you have Zoho ERP solution offered by the MSME Ministry free of cost. Avail it. Incorporate every aspect of your data – from buyers to sellers, buy to sale, cash to credit, stocks to receivables and enable GST compliance. This will save you the bother of compliance. Any regulatory requirement either from the Bank or the Government, you can pull out.

5.    Take work force into confidence: Discuss with them how they would like to be paid their arrears given the firm’s predicament. Place before them your increased obligation to the Bank and tell them what would it mean to pay wages and salaries from the Credit window of the Bank and how much dip would be there for the firm. Disclose your own financial position.

6.    Present the future market scenario before them and the prospects it holds both within and outside the country. You may also discuss with them whether they would like to partner with you in the future of the enterprise taking into account the new dynamics of the market. Give them an undertaking that their wages and salaries will be packaged as mutually agreed after paying at least one month’s arrears.

7.    Strategize for attaining a brand value for your product within a set timeframe.

8.    Discuss with all the other units engaged in producing similar products to gain advantage of (a) a co-working space; (b) co-branding; (c) rational pricing of the product; (d) clusterizing for purchase of raw material in bulk on a shared e-commerce platform; (e) rediscovering the price of the final product taking the logistics into consideration.

9.    Rework your Business Continuity Plan and arrive at viability of your enterprise in the emerging post-Covid environment.

10. Place your cash flow position for the next 3, 6, 9, and 12 weeks and seek your Bank’s support.

In States like Telangana you have Industrial Health Clinic to help you out. In other States you have some responsible outfits of Associations like FISME in New Delhi, TANSTIA-FNF centre, KASSIA in Karnataka, etc., that would be happy to suggest right strategies. There would be little purpose in wasting your time any longer waiting for things to happen since the economy is opening up.

*The writer is Adviser, Government of Telangana, Telangana Industrial Health Clinic ltd and author of the Story of Indian MSMEs.

https://knnindia.co.in/news/newsdetails/msme/msmes-think-anew-and-act-afresh-a-ten-point-plan

The Sweet and Sour Package for MSMEs

Following the PM’s thunderous announcement of Rs.20trn constituting 10% of GDP, the highest by any government post-pandemic, the Finance Minister came up with a six-point package sounding big relief for the MSMEs. When the final figures came for counting the five-day pack whittled down to bare 2% of GDP. Will the relief be long lasting or comfort, lasting for short time?

MSME sector is soar over the package as it did not provide virtually any relief for either payment of wages or immediate payment of bills pending with the government itself ( approximately Rs.5trillion – both the GoI, PSUs and State Governments) and even forbearance of the loans for at least 180 days.

The initial moratorium on the term loan instalments and working capital and the deferment of working capital were just a breather in pandemic. Since the units were under lockdown, most of those availed, have no output to support the additional working capital. They are now offered relief in the margin. This would mean that the Banks would give more working capital loan against deficient stocks, wages to the labour for the lockdown period etc.,- knowing it as an unsustainable debt because there is a National Credit Guarantee Trust and there is pressure to deliver by September 2020. Against this, Cabinet provided Rs.41,600cr over a three year period. Banks are not happy with this type of guarantee dispensation since they still have to provide for likely capital erosion.

MSMEs that received the incremental credit during the quarter Mar-June 2020 post-Covid at 7.4% p.a., are now told that they have to pay 9.25% for Emergency Credit Relief Package extending over four years with a moratorium of one year!

The other measure is a follow-up of Budget 2020-21. The FM announced sub-ordinated debt  (SOD) at the hands of the same banks that have all along been winking at the revival of micro and small enterprises and on easy and timely credit access as part of Covid relief package.  

Banks that do not have a subordinated debt in their balance sheets thus far, should now look for providing it under investment category and that too upfront labeling it as NPA!! They should develop standard operating procedures and help the clientele know of the nuances of availing it. To embrace innovation for a sector that is always viewed with suspicion, will they fall in line with the thinking of the FM?

Subordinated debt in simple terms is defined as a debt subject to subordination when there is creditor’s default. If ‘A’ Bank has offered a subordinated debt to a micro, small or medium enterprise, and this enterprise goes bankrupt after a certain period, and therefore becomes a defaulter. Bank cannot claim the money it has given as a loan from the enterprise’s earnings or assets.

After the senior debts are paid off in full, the left over will accrue to the clearance of the subordinated debt. Singular advantage however is that in case of Companies (this category is just 2 to 2.5% of the total MSME borrowers) bank will receive its SOD claim ahead of preferred and equity shareholders. Banks will be able to recover their usual unsubordinated debt in the shape of term loans and working capital ahead of sub-ordinated debt.

This simply means that SOD is riskier than the normal term loan and working capital loan offered either as cash credit or overdraft. Banks that have been lurking to grant loans against CGTMSE guarantee to the extent of Rs.2 crores cannot be expected to grant SOD again at the same guarantee window!

Sub-ordinate debt, by definition, stands higher in risk and lower than the principal loan in terms of claims by the Bank. For Rs.20000cr infusion, CGTMSE is being given Rs.4000cr. It would have been a fairer had she extended the Rs.3lakh sovereign guarantee cover to these set of borrowers too. Offering this high-risk product to already declared NPAs could trigger lot of problems in operationalising this product.

It will be now for the Banks to roll out the product. Standard operating procedures for releasing this SOD will be very tough if not tricky for the Banks. On top, the CGTMSE guarantee with which the banks are already unhappy is supposed to provide guarantee. Quite likely, several of the 2lakh MSMEs pitted out this benefit may have already been covered by the CGTMSE and the claims must be hanging at one end or the other for consideration in order that the banks concerned will close the NPA accounts!!

It is advisable instead to offer equity to micro and small manufacturing firms – proprietary or partnerships, most of them – up to 50% of their total financial requirements and the balance as debt. This equity should be left untouched by the Banks for a period of five years. The purpose for which such equity is rolled out shall be for buying a leasehold right/outright sale in the site where the manufacturing unit is set up and or purchase of machinery/technology or acquiring of intellectual property rights. Once it is given as equity, Banks will be forced to become the development partners that may provide route for scaling up the enterprises from the micro to small and small to medium.

Assessment of revenue stream and monitoring it continuously is extremely important to culture the enterprise in apportioning some percentage towards the equity contributed by the Bank. There are two ways of ensuring this: 1. Banks physically monitor the functioning of the enterprise as its partners to its committed capacity; 2. Set up a consent-based ERP architecture to monitor their debtors, creditors, sales and cash flows on the system. The purpose is to ensure that any aberrations are remedied timely.

Such equity can flow across the enterprises but shall be on sound credit risk assessment and effective follow up and supervision.

Banks with their limited manpower can hardly be expected to do the former. Handholding, mentoring and counseling continuously and ensuring that the enterprise makes seamless transition from unorganized to organized, Banks may have to outsource these services to competent and State Government accredited professional institutions. Even regarding the second step, Banks should be able to re-engineer their work- spaces and train their executives to catch up with the task.

Relief package is at best a pack of intentions. The relief is additional loan burden. MSMEs’ cost of production will go up at a time when they are totally uncertain about the demand. They also become uncompetitive compared to any other SME across the globe that has received cash relief and interest-free loan to rebuild their manufacturing business.

Neither RBI nor GoI has issued operational guidelines for the treatment of existing NPAs. Without revival of the viable micro and small manufacturing enterprise and carving out a definitive future, Banks taking part in equity of such firms through sub-ordinated debt route will be a wild goose chase.

But for the risky NPAs, sub-ordinate debt to roll out is a future, worthy to watch. Banks may innovate, who knows? In essence, the package is sweet in words and soar in delivery.

https://telanganatoday.com/sweet-on-words-sour-in-delivery

MSME Releif package, Some good moves

MSME Relief Package: Some good first moves

Collateral Free Automatic Loan for MSME. Those MSME having Loan upto Rs.25cr and turnover up to Rs.100cr will be covered in this scheme. 100% Central Govt Guaranteed. Will help 40 Lac Units. This loan will be for 4 Yrs with a Moratorium of 12 Months. 45 Lakh MSME Units will get benefit from It. Total 3 Lakh Cr Loan will be Given under this scheme. This covers only the Emergency Credit Line. 

And this FM clarified is only for the standard assets. This means that those who became eligible under the earlier restructuring scheme of January 7, 2019 will get covered. If these units stopped functioning due to Covid-19 and were put on moratorium of 3 months and additional credit support under Covid will alone be eligible. This means that existing collaterals will continue and existing CGTMSE wherever extended might also continue. But the additional credit facility post Covid operations will get covered by this new guarantee mechanism and this is in itself unique. Nowhere it was mentioned that entire outstanding up to the thresholds will be covered under the new guarantee scheme. Hence this should be taken for whatever is worth. This will however kick up appetite for lending to MSMEs by banks.

Rs. 20000Cr will be infused as Subordinate Debt for stressed MSME. 2 Lakh SME will get benefit from this. Govt will provide Rs.4000 cr to CGTSME Trust. Sub-ordinate debt, by definition, stands higher in risk and lower than the principal loan in terms of claims by the Bank. For Rs.20000cr infusion CGTMSE is being given Rs.4000cr. It would have been a fairer had she extended the 

Rs.3lakh guarantee cover to these set of borrowers too. Offering this high risk product to already declared NPAs could trigger lot of problems in operationalising this product.

Fund of Fund to be created. Rs 50000cr will be infused as equity to standard MSME that will help them to expand their capacities. This is not going to be immediate because the Fund giver will evaluate the IRR as usual before extending such equity.

Definition of MSME changed. But for this definition change can take effect only when the MSME Development Act 2006 changes. It is hoped that Government will bring about suitable ordinance to give effect to this change.

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Government has earlier mooted change to replace investment criterion with turnover and amendment was mooted in the Parliament. Parliamentary Committee was also appointed. Again, a separate Committee was also set up to examine this aspect. While the Report of the Committee is yet to be out, the FM has announced this change. But this change is good for future as several economies in the globe adopted dual criteria – either investment and turnover or employment and turnover under various thresholds. This is a big correction that will benefit the sector grow vertically as investment criterion has only spawned the numbers horizontally and distorted the incentives and global competitiveness.

Tenders up to Rs.200Cr relating to Govt procurement will not be Global Tenders any more. MSMEs will get benefit out of this direction. E-Market Linkage will be provided to all MSMEs due to less possibility of trade fairs and industrial exhibitions in different countries post pandemic. Another advantage is that all outstanding bills of Union Govt and Central PSUs will be cleared by them within 45 Days.

The views expressed are personal. He is the author of the Story of Indian MSMEs.

Ten point Policy for MSMEs

Sweet nothings for MSMEs

Risk aversion can’t be turned into risk appetite with excess liquidity in the hands of hesitant lenders

MSMEs, the lifeline of the economy and the main job-provider, has no oxygen left. The Micro, Small and Medium Enterprises (MSMEs) have been the worst affected by the pandemic but only sweet nothings have been coming as announcements for the sector. The RBI offered a deceptive comfort: standard assets as on March 1, 2020, would get a relief of three-month moratorium with no interest relief; review of the working capital requirements and pumping in liquidity of the order of 3.37% of GDP combined with the GoI relief for the weaker sections by way of cash remittances into the Jan Dhan accounts.

There was further relief by way of refinance from Sidbi: Rs 50,000 crore; Nabard: Rs 25,000 crore among others. The net result of previous liquidity injection as per the RBI April 2020 Bulletin is 0.7% year-on-year credit growth for the industry. Sectorwise: manufacturing micro and small enterprises was -0.4%; food processing: -3.1%; textiles: -6.6%; leather and leather products: -2.3%, all engineering: -0.4, state-sponsored SC/ST credit: -70.4%; export credit: -13.2%. Will all these negatives turn positive with the new liquidity? Risk aversion cannot be turned into risk appetite with excess liquidity in the hands of a hesitant lender.

In a pandemic, history tells us that massive credit and large fiscal expansion should go in sync to pump-prime the economy to a new normal.

Realistic View

When the manufacturing MSMEs open their shutters, they will find all the machinery waiting to be greased; sheds to be broomed; factory premises to be sanitised, and all tools readied. Several bills pending for payment require renegotiation. Labour will mainly demand their lost wages rather than renewing their work.

All supply chains are choked and each link in the chain needs to be looked at by the size of investment needed for re-functioning to the level of at least 60% capacity, Without this, interest commitments may not be honoured. The entrepreneur will, therefore, have to set his priorities right and decide which corners need to be cut and which widened.

The immediate trigger for enterprises in Telangana is deferment of fixed electricity charges for April and May without penalty and they will get 1% rebate on payment.

Several enterprises would first search for cash from banks and NBFCs. This would depend on the collateral securities they had and their previous track record. Banks are not poised as of now to lend on a cash flow basis. They may still try to work out estimates based on the pre-Covid-19 performance levels. This is the first tragedy. There may be a few understanding branch managers, who will take the risk and lend.

Next thing, the entrepreneur needs to negotiate with the existing labour. It will be a very hard negotiation and he will need to find money to pay the wages for the shutdown period first. Some understanding labour may oblige with deferred wages but they would be just a few. Most fair-weather friends would come up with suggestions like pledging gold; mortgaging excess property, etc but no cash. Private moneylenders too would be hard to come by.

The demands of all national associations like the CII, FCCI, PHDCCI have been kept waiting at the doors of the Finance Ministry. The UK Sinha Committee Report that recommended Rs 10,000 crore fund of funds and Rs 5,000 crore Distressed Asset Fund have not been set up. After set up, if they are kept in the conservative hands of Sidbi, it will be of no use. The Fund should address payment of wages of all the manufacturing MSMEs based on the muster roll and ESI evidence.

Assessing Demand

It is unlikely that products would be in demand at the same level. People have become austere. Every person, who faced a compensation cut, would continue to move the demand curve to essentials than FMCG. Sectors like pharmaceuticals, medical equipment, processed foods, packaging that were functioning on the fringe could move to higher capacities. All others will have to make rounds to the banks for their merciful looks!

Every enterprise will have to envision a new future – different scenarios have to be built and they should convince investors and lenders. They cannot look to the global markets immediately as the pandemic has levelled them all.

As far as India is concerned, a great opportunity is knocking. China has lost its sheen and credibility. Global markets hitherto linked to China would be looking at ways to pull off from them. Entrepreneurs should carefully set their trigger points. It is here that the policy vacuum can hurt hard.

Ten-Point Policy

1. Redefine MSMEs by way of turnover
2. Allocate specific portfolio for manufacturing sector to make ‘Made in India’ a reality
3. Enterprise should digitise operations and have a consent-based ERP architecture
4. Bundle up all existing credit (term loan plus working capital, inclusive of interest) for enterprises with a turnover of Rs 10 crore – extend a moratorium till December 31, 2020, after converting it into a Fixed Interest Term Loan carrying interest at 6% pa, for repayment thereafter in 48 annual instalments
5. Evaluate working capital requirements on cash flow basis
6. Discount all the bills drawn on government departments, PSUs and even large undertakings that carry credit rating of AAA and above at 75% and credit into the client account, provided the invoice clearly says that the purchase is within the approved annual budget.
7. Credit Guarantee Fund Trust for Micro and Small Enterprises should do portfolio guarantee up to Rs 5 crore and then second charge on the collateral security with the lender for the balance up to Rs 10 crore
8. Declare NPA threshold at 180 days overdue and redefine the Special Mention Accounts — 0,1,2 at 60, 90, 180 days
9. Review all existing limits, legal proceedings, auctions etc, and ensure that no viable enterprise will exit
10. For the rest of the enterprises, make exit comfortable: fair treatment of sovereign dues; priority to the creditors on first-in-first out; and transfer of assets to those who would like to acquire them. These accounts should be subject to a third party review by a State government accredited agency.

Thereafter, the industry should draw up their trigger points and rational action plan in consultation with the lender/investor. All Industry Associations should nominate one or two active Executive Committee Members to form a think-tank or negotiating team for regular interface with both State and Union governments.

(The writer has authored ‘The Story of Indian MSMEs’)

https://telanganatoday.com/sweet-nothings-for-msmes