SMEs in Distress- Beware of ‘Soldiers of Fortune’
When in distress, many SMEs chase new money and normally end in traps of mischievous elements who make tall promises and swindle money.
I recently met one entrepreneur after a gap of two years. Once he had a flourishing business in excess of Rs 50 crores. He had built the business by himself brick by brick. Having come from a middle-class family, despite the success, he stuck himself to the higher values-Extremely affable, god-fearing, and committed to meet promises.
The back to back the introduction of policy measures – Demonetisation and GST-pushed him to the slippery position. Before he could make the required changes in the business process and financial management, the situation went out of control. The liquidity stress started appearing and he started defaulting on the payments resulting in personal insinuations from the providers of loan and suppliers which he never experienced in his life. On the other hand, the trade cycle got disrupted and order flow dried up as his principals started realigning their business to adjust to the new reality.
While he was battling in multiple fronts he started getting offers for a comprehensive bailout. Obviously these offers attract him as he was already exhausted to deal with demand from various people.
They offered to arrange a very large sum and consolidate the borrowings into a single source along with a very attractive rate of interest much below the RoI applicable to well-rated borrowers despite being highly stressed.
The waiting is still on…
Unfortunately, he is still hoping for the new money ever after two years. In the meantime bank and NBFCs have initiated recovery action against his properties and have been establishing their rights. The business is closed and the family is living with agonising pain and praying for better days.
It is commonly observed among the entrepreneurs in distress:
Most of the entrepreneurs in financial difficulty look for quick solution fearing that continued distress may affect the business and their reputation. Having pledged every asset to lenders they fear the impact of distress much more than what it really is. That in turn, prompts them to seek an instant solution. They tend to react to any proposal with much more intensity and avoid confronting those mercenaries to understand their credentials.
Fortune soldiers- Mercenaries who boast about exclusive access to money:
These agents claim that they have an exclusive arrangement to secure money at very soft terms. They show a lot of empathy and promise to work for clients with all the sincerity. If we analyse the experience of interaction with these fortune soldiers there are commonalities in their approach. Some of them are :
- They present as if they enjoy a high degree of confidence of the financiers.
- They seek very small fraction as advisory fee and a still smaller fraction as advance
- Terms are so compelling to justify taking risk of giving advance
- The advance will be packaged as a commitment fee or insurance premium to bring the money from abroad etc
- They do not reveal much about the financier.
- They prop up the names of people in higher offices
- They set the meeting in very premium places
Eventually, their target is to extract advance as much as possible, keep giving excuses to frustrate and eventually make one go away.
Entrepreneurs are more vulnerable in India for financial distress than in any other country:
The options for turnaround are limited in India. The general perception of the stressed enterprise is highly prejudiced. Many see them with suspicion of laundering money from the firm. Being in stressed and struggling lonely, entrepreneurs are obviously vulnerable.
Many take risk of giving the advance in the hope of getting a large sum. Unfortunately, many entrepreneurs have lost a huge sum of money in their hunt for fortune.
The greater damage will be when an entrepreneur diverts his attention to chase this route and keep away from immediate tasks. Lack of credible proposal may prompt recovery action leading to the collapse of the business and destruction of enterprise value.
How to deal with this situation?
If anyone offers a deal which is cheaper than a bank loan, it is to be examined thoroughly before committing. We have not still come across a charity extending helping hand to distressed businesses.
Entrepreneurs should desist from the temptation to seek quick money and allow them to be drifted away from reality. It is nothing but a distraction to find a viable solution within their reach and exacerbating the distress.
Keep your attention to immediate tasks such as talking to creditors and suppliers.
Many a time we falsely blame the absence of money for our distress. However, the fact is that most of the reasons for distress lie elsewhere and pumping more money won’t solve the problem.
Review the business strategy with the support of professional advisors. With professional assistance, you can build a new roadmap and lower the risk to sustainability. When an outsider is roped in, fresh scrutiny will open the mind to explore alternatives.
Distressed entities require better policy support:
MSMEs need better implementation of the law to assist entrepreneurs to undertake course correction. Unfortunately, half-hearted implementation of regulations to support distressed entities in India is preventing entrepreneurs from taking an orderly path to turnaround. This will naturally make them fall prey to unscrupulous elements.
The Insolvency and Bankruptcy code needs to be made universal. The option of restructuring of loans should be enforced upon all the banks(public/private) and NBFCs.
In the present era of globalization, the vulnerability for risks is unlikely to recede rather likely to go up. Thus a stable policy environment is needed to support the turnaround of distressed entities. Also tagging prejudice of criminality with distress situation must end.
Entrepreneurs in distress should appreciate that there are no short cuts to come out of it. Recovery from distress is an orderly process and time consuming requiring one to review in entirety and draw a new strategy.
Anil Kumar Shetty, Founder, SME Advisors
Bank merger: Re-entry to the pre-1969 era for small businesses?
There is an apprehension that merger among the PSBs may lead to deprivation of opportunities for small businesses and startups to obtain a bank loan.
Govt has been pursuing the policy of consolidation of public sector banks(PSBS) into 4 to 5. Already SBI subsidiaries are merged. Last year another round of merger was implemented under the Bank of Baroda. Now again we are witnessing one more round of mergers.
We are looking at how this plays out in supporting small businesses that were one of the reasons behind bank nationalization undertaken in 1969.
Contribution of PSBs in Lending to MSMEs
It is a fact that PSBs are shouldering the responsibility of delivering credit support to the needy section of the society- be it agriculture, MSME, etc. PSBs are always very magnanimous in supporting the MSME ventures, patronized innovations and have extended the long & short term loans. They have been wholeheartedly participating in Govt Schemes like PMEGP. The support for financially distressed entities is commendable and they are meticulously implementing guidelines from Govt and RBI.
How the scenario may change:
With the consolidation, it is likely that the business at the branch level will also be consolidated like it is done with other mergers in the past. This will lead to lesser attention span for the extra customer load the branch will have to deal with. The attention span is important for the reason that social sector banking activities require handholding of the customers that is the hallmark of public sector banking service since 1969.
With reduced branch presence of PSBs, the access points will dwindle and invariably small businesses will have to have banking business with private peers however what they likely to miss is credit support the way they get in PSBs.
Thirdly even for PSBs, more orientation will be towards profitability since capital efficiency was the reason for consolidation. That may drive them to reorient towards large value exposures.
Private Banks show no or less keen to lend in priority sector lending:
It is a fact that private sector banks show little or no interest in priority sector lending. They prefer other via media to engage with such clients resulting in higher cost of credit for end users. Also, they are happy to compensate for the gap through alternate options extended by RBI.
They are very particular about securing their loans by taking collateral of fixed assets. Even though Govt has implemented CGTMSE scheme to extend credit guarantee for small business loans and it has been here since nearly 20 years, private banks have not shown much inclination to extend loan under this window.
They are obsessed with securing their loan more than supporting the entrepreneurship. As a result, many budding entrepreneurs will not have access to bank credit and will be forced to seek support from predatory lenders.
If one looks at the profile of the product of many private banks, they are more keen to finance immediate needs than supporting capital investment. Support in distress is a far cry.
Role of RBI needs special mention:
Presently priority sector lending is handled by RBI. Most of the compliance with its directions are coming from only PSBs. With the reduction of their share and the increasing presence of private banks, we may see social sector lending will be reduced to islands everywhere.
Further, the RBI itself has created avenues for private banks to avoid direct participation in the priority sector lending that will further add to the declining credit flow.
Sadly RBI does not measure the flow of credit at the grassroots level rather relies on secondary data from Banks.
One can conclude that RBI action on this front is more of administrative and not accountable for the flow of credit to these needy segments.
How a merger may impact different sectors?
Mergers and consolidation of PSBs may create a huge vacuum of space of social sector lending. We believe that Micro and small enterprise will suffer more than agriculture because agriculture may get support from Coop Banks and Societies. Also, political activism may help agriculture, that privilege is not available to MSMEs.
The way forward: “Bring in a new law for creating sustainable financial architecture”:
Since consolidation exercise is underway, it seems there will not be any rethinking. However, Govt has to act to alleviate the apprehensions of a lack of access to credit from this process to small businesses.
In these circumstances, it is necessary to bring in legislation to create a sustainable financial architecture that binds regulator (RBI) and the banks to undertake lending to priority sector irrespective of ownership. They may be incentivized, extended liberal guarantees scheme coupled with provision for punitive action for not adhering to stipulations.
The notable benefits are :
a) It will make lending norms a legal mandate and ownership neutral.
b) It will universalise the access to credit in any region or activity
Bank merger without implementing an alternative model to support social sector lending will leave a huge vacuum and may affect the economically weaker section resulting in further widening of inequality. This may end up at creating a pre-1969 era of lack of access to credit for small businesses and others. Legislative action is necessary to preempt this scenario.
By: Anil Kumar Shetty, Founder SME Advisors (email: [email protected])
A financial safety net for MSME workers: simplified
Govt has implemented few products that benefit the workers of MSMEs if implemented comprehensively.
Recently I had an opportunity to survey the financial safety net implementation by the rural population surrounding an Industrial area, near Bangalore. Many of the members of these households are working or associated with industrial units in that cluster or elsewhere.
In our study, we found that a large section of the households have not subscribed or not even aware of the products despite being widely published by the Govt.
The financial safety net for families- a need felt across more than ever
Every family aspires to secure themselves from the shocks and difficulties of through fair distribution of their earning between savings, risk cover and retirement corpus. The flexibility to do so is very limited if the earning barely covers the living expenses. This situation puts the families into a very vulnerable state and that may act as a deterrent to getting them into activities where the perceived risk to themselves is quite high or they remain alert to risk so much that will lead to lesser productivity from them.
Since their income barely covers the living expenses, Govt has taken many initiatives to supplement these needs by introducing an array of products.
These products are very pertinent for workers in MSMEs. The income level of workers, regular or otherwise, is not very high. These products are made very affordable, meeting their needs.
Financial safetynet –composition:
The financial safety net, we are talking about comprises a few assorted products mainly from Govt sources. In recent times, Govt has made access to avail the products and also to secure the benefits under the products much easier than ever.
These comprise savings, life insurance, health cover, accident cover, pension and skill development. Details as below:
Savings products: Having a bank account is commonplace for employees and it is a good sign. However many of them are just limiting their banking transactions to the savings account and it is no surprise to find some accumulating their hard earning savings in SB account when there are opportunities to maximize their earning even from a scarce amount of savings by opting for products like recurring deposit(RD) and fixed deposits. The spinoff from having an RD account is that it prompts them to adopt a planned approach to save and at the same time maximise the earning.
Term Insurance(PMJJY): Govt has been promoting term insurance of Rs 2 lakhs for an annual payment of Rs 330. It is made available for the people of age group 18-70 years. It is very simple and does not require one to go through any procedure to assess the eligibility.
Accident Insurance(PMSBY): An accident insurance amount of 2 lakhs is available for people for annual premium payment of Rs 12 only. This will help the poor labours to secure the family against accident-related deaths.
Health Cover: To empower poor families against health-related issues. Recently Govt enacted Ayushman Bharat scheme. The coverage is as much as Rs 5 lakhs. This scheme requires one to register and take health card from the nearest Govt hospital at no cost.
Pension products: It has been since a long time that all the citizens are given an opportunity for having their pension account under the National Pension Scheme( Eligible up to 54 years). Thereafter Govt has enacted four new products for the benefit of people in the age group of 18 to 40 years for unorganized and skilled labours. It is called PMSYM( Prime Minister Shram-Yogi Mandhan Yojna) Under this scheme the labours who are not eligible from PF and ESIC can have a pension account with a monthly payment of Rs 55 to 200 depending on their age and will be eligible for a pension of Rs 3000 after 60 years. Under this scheme, the Govt will also contribute an equal amount every month.
Also, those employees who have PF benefit may opt for a pension under Atal Pension Yojna non-subsidised.
Skill Development: Skill makes an individual more valuable for society. It helps one to earn more and to enhance his/her self esteem. It motivates the people to become more productive and he/she can become a source of strength to any organisation. Seeing the skill gap and the industry’s clamouring for support, Govt(state/central) have implemented many schemes to support skill development programmes.
Supporting Employees to become Financially secured- The best CSR initiative for MSMEs:
Corporate Social Responsibility (CSR) has emerged as a new yardstick to evaluate the contribution of an enterprise for the welfare of society. Govt has implemented a law compelling large companies to mandatorily spend on their own to the welfare of the society a portion of the income. However, this is not applicable for MSMEs as they do not have enough financial flexibility to engage in such activities.
It is well said that the best CSR activity for MSMEs is to support their employees. If these MSMEs take initiative to educate and encourage the workers working within their company to take the above social security products, it will improve the goodwill and make employees feel secure. Educating and encouraging these workers to secure themselves under these products does not require any investment. It is the word of encouragement, guidance and follows up will take them to avail these benefits. Some may incentivise in different forms to make them avail these products.
There are benefits for the MSMEs. A financially and socially secured employee makes the working environment secured. Standing as a socially responsible organisation will be further reinforced.
There are many new financial products from the Govt to help the weaker section of the society to become empowered. These products are also very important for employees of MSMEs. Many of the eligible beneficiaries are not aware of these products. MSMEs may encourage workers to cover themselves under these products and make their life more secured. This will augur well for the organisation and counted as a socially responsible organisation.
Non-classifying stressed MSME Loan as NPA- It is not enough
Non-classifying stressed MSME Loan as NPA- It is not enough
Govt’s recent decision to direct banks not to classify stressed MSME loans as NPA is just a temporary relief and it is not enough to stabilize the segment reeling in distress.
Recently Union Finance Minister announced that banks will not classify stressed loans in MSME segment as NPA till March 31, 2020, thus restraining them from initiate recovery action anticipating that this will help the stressed entities to recover themselves.
Though her concern to assist MSMEs to come out of distress is appreciable, the measure in itself is not enough to stimulate the revival of the stressed entities.
MSME segment is reeling under massive slowdown beginning from 2018 due to steep decline in the demand for their products and services. Many of the MSMEs are part of the production and marketing value chain of the large companies in sectors like automobiles. The slowdown is witnessed in the sectors like the automobile has a cascading impact on the financial viability of many MSMEs countrywide.
The ongoing slowdown is unlikely to recede in the near future. Though the experts are having divergent views on the course of likely time period the slowdown will persist, it appears that demand recovery will take a few more quarters to gain momentum and this is expected to cause disruptions to many MSMEs.
Secondly, the segment is also experiencing the negative impact of the structural changes happening in the many industries due to changes in the way the buyer-seller interact on account of technology-driven processes and solutions.
Thirdly the segment is still experiencing the challenges from the lingering impact of economic measures such as demonetization and other policy actions either industry-specific or broader economic.
MSME Segment requires more than the standstill from the recovery:
The promise of standstill in recovery action can be a good measure provided the economy is in recovery or growth mode. That would have created more breathing space for many temporarily stressed entities and would have helped them to set right their finances in the next two quarters. However, given the present circumstances of negative sentiment about the economy prevailing in the country, this measure is of no help either to banks or entrepreneurs.
What are the most feasible solution for reviving MSME segment?
There were few measures announced by the Govt in the last few years and more recently on January 1 2019. These measures coupled with few more amendments can become a strong anchor to promote the revival of MSMEs. We discuss them as below:
Enforce rigorously the RBI guidelines issued on January 2019 to restructure stressed entities:
RBI had issued guidelines to support the restructuring of stressed MSME loans on January 1, 2019, without classifying the restructured loans as NPA. The guideline incentivizes the banks by allowing them to not to treat such restructured accounts as NPA The new guidelines will be available on up to March 2020.
Effective implementation of these provisions definitely of help to stressed MSMEs. They will get breathing space and can reset the growth strategy. However, the implementation so far is far from satisfactory.
Extend resolution support to revive the stressed entities to give rebirth to them that involves writeoff/waiver of a part of dues to banks:
Many of these MSMEs are victims of the inability to adjust to expected and unexpected changes in the external environment like Demonetisation and GST implementation.
These stressed MSMEs have the potential to turnaround and can contribute significantly to the national economy as well as local communities in terms of job and earnings. However, the accumulated debt burden during the last few years of distress makes them unviable to face the competition. The level of debt (from the bank and others put together) is beyond the sustainable level.
These units require broad-based resolution support. The resolution support must have enabling provision for reassessing the debt servicing capacity and identifying the level of sustainable debt.
Taking a cue from the performance of IBC (Insolvency & Bankruptcy Code), we feel that MSMEs may be extended support through write off/waiver of dues as a measure to revive the segment. The big loan accounts are resolved with substantial haircuts under IBC route. In some cases, it is more than 50%. A similar provision for sacrifices needs to be extended the MSME to revive the potentially viable MSME units outside IBC purview. The lenders are aware that the market for the assets of stressed units is very poor. The recovery under the regulatory mechanism is unlikely to provide any substantial gain to the lenders. The contribution of revived MSME units to the economy is expected to be more than the amount of possible sacrifice made by the lenders.
MSMEs needs structured support to tide over financial support:
Many of the stressed MSMEs have the potential to turnaround. There are many regulatory and administrative guidelines from RBI and Govt to help these stressed MSMEs to overcome the challenge. However, these MSMEs require a very comprehensive framework that addresses their financial woes and helps to find a structured approach to cover the gamut of issues, something akin to Insolvency and Bankruptcy Code 2016 without the need to through the process of Insolvency.
“Framework for Revival and Rehabilitation of MSMEs” – A better alternative:
Govt of India & RBI had implemented the above framework in the year 2016 (RBI/2015-16/338 FIDD.MSME & NFS.BC.No.21/06.02.31/2015-16 Dated March 17, 2016). The framework addresses the financial issues holistically and is capable to assist stressed MSMEs to recover the lost ground. The framework can help the stressed MSMEs to firmly anchor themselves to come out the challenges. The framework may be amended to make it versatile and become an anchorage to stressed MSMEs. Some of the amendment can be as below:
a) Add the provision of waivers/write-offs: If this framework is amended to discover the sustainable debt and thereafter setting a stage for resolution, this can be a quick and supportive avenue for stressed MSMEs to seek turnaround.
b) Extend a fresh round of finance especially working capital: Also these MSMEs are normally at the receiving end and unlikely to generate liquidity to support. Thus the working capital facility is paramount to make restructuring and turnaround support meaning full and constructive. To make it better it is desirable that the firms may be given another avenue of support in terms of extending an additional round of working capital finance to revive the business. Though the framework allows extending additional funding, it is not implemented and thus remains a bottleneck for revival.
c) New debt may be supported by CGTMSE: There is always an element of hesitation to extend fresh support for stressed firms. This requires explicit policy support to extend additional finance that may involve CGTSME.
d) Simplify its administration: Present guidelines seek to involve people from outside including Govt dept in the process of approving restructuring. Involving others may delay the process and resolution of stressed debts require timely intervention. Further having comprehensive framework backed by regulation and laws itself can create a conducive environment for enabling the arrival of a mutually understanding solution. Hence the participation may be limited to engagement between lender and borrower and/or their advisors without inviting outsiders can improve the speed of the process.
e) Allow the advisors to assist: Bank loan restructuring alone is not sufficient. The turnaround of stressed business requires more than delaying loan repayment. The turnaround of stressed business requires support from experts from fiancé, legal, and /or the subject matter. It is better to involve the experts to structure a resolution plan and enable speedy implementation.
Distress in MSMEs requires a more holistic approach to assist the stressed units to come out successfully. Instructions for standstill will not help. The present guidelines need to be reviewed and amended to support a speedy revival of the potential units and bring the buoyancy in the segment. Framework for Revival and Rehabilitation of MSMEs impended by the Govt with few amendments can be a robust platform to achieve that goal.
Equitable Access to MUDRA Loans – a need of the hour
MUDRA loans can transform the lives of many micro-enterprises at the lower end of economic strata, however, the delivery process requires to be toned up.
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Recently I came across an instance of an entrepreneur hauled up by Income tax authorities and issued demand notice for an huge amount for the previous assessment year. He has been into construction business and the business had been subdued in the last two years. Obviously the profitability is very low and paid less tax compared to previous assessment year.Read more
Formalisation- Timing is the challenge for MSMEs
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Loan restructuring support for MSMEs- A positive step.
RBI’s recent move to permit banks to restructure loans of MSMEs without classifying as NPA is seen as positive for stressed MSMEs
In a significant step, RBI has allowed a one-time restructuring of existing MSME loans that have defaulted but are not non-performing as on January 1, 2019. Such a debt restructuring, the central bank said, would not lead to a downgrade in asset classification. To be eligible for the debt restructuring scheme, the aggregate exposure, including non-fund based facilities of banks and non-banking financial companies (NBFCs), to a borrower should not exceed ₹25 crore as on January 1. Also, the restructuring has to be implemented by 31 March 2020.Read more
Exploration or Exploitation- A dilemma for SMEs
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The vulnerability of MSMEs to policy shocks needs urgent attention
Policy shocks like Demonetisation and GST bring to the fore a need for a mechanism to assist distressed MSMEs to secure a new lease of life.
On November 8, 2016 Mr Naredra Modi, Hon’ble Prime Minster announced a policy measure of demonetisation.
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