Amongst the 176 countries, World Bank’s MSME Economic Indicator database for 2019 records the maximum number of MSMEs from India, as high as 63.38 million enterprises across urban and rural geography.

The Indian MSME sector contributes around 30 per cent to the country’s GDP, more than 40 per cent to exports, and generates more than 111 million skilled and semi-skilled jobs across various industries and segments.

While India envisions a $2 trillion contribution to the economy from its MSMEs, the severe under-capitalisation of enterprises is the major roadblock in the potentiality of the sector, and warrants addressing as the Modi government embarks on the goal of being a $5 trillion economy in the next five to seven years.

The Indian MSME ecosystem is quite different and intricate when compared to the other sectors.

One, the majority of the enterprises engaged in diversified businesses spread across the remote geographies are not registered with the formal ecosystem of MSMEs.

Two, 99 per cent of the Indian MSMEs categorise themselves under the umbrella of micro-enterprises.

Three, the scale of heterogeneity in industrial categories, operations, products, and services.

Hence, not being a monolithic group, Indian MSMEs are highly unorganised as a sector.

Considering the financial accessibility and inclusion of small enterprise owners, the addressable debt demand among MSMEs account for Rs 37 trillion, out of which Rs 14.5 trillion is met through formal sources, including commercial banks, NBFCs, regional rural banks, and government institutions. Hence, there exists a credit gap of Rs 20-25 trillion between mainstream financiers and MSMEs.

If the macroeconomic viewpoint towards the finance gap is evaluated, market failure, strict regulatory framework, inappropriate policy reforms, and under-whelming financial infrastructure are few contributing factors.

While the government is addressing the long term need for policy reforms by enunciating and implementing various measures and MSME friendly platforms such as MSME Databank, MSME Sampark, Direct Benefit Transfers, Samadhan Portal, Sambandh Portal, the need of restructuring MSME financial framework is also being acknowledged by the Modi government.

Most of the financial reforms and policies target MSMEs’ CapEx debt demand of funds through various channels of banks, NBFCs, SIDBI, RRBs, State Finance corporations in the forms of business loans and credit guarantee programs. However, the options for meeting working capital demand stand few.

The Trade Receivables-Discounting System (TReDS) is one such alternative platform to address the working capital demand of MSMEs.

Introduced by RBI in 2014, TReDS intends to solve the problem of delayed payments among MSMEs through an electronic auction mechanism. It provides an electronic platform for drawing MSMEs’ receivables against buyers at competitive rates by multiple financiers.

Like a factoring mechanism, TReDS allow sellers, buyers, and financiers to connect on an electronic portal, where enterprise owners join as sellers; corporates, government departments, and public sector undertakings participate as buyers; and banks and NBFCs lend a hand as financiers.

TReDS, known for being a unified platform for sellers, buyers, and financiers, promotes easy financial accessibility by offering competitive discount rates and standardised practices through an online transaction system.

Factoring bills through TReDS facilitate one-time documentation, easy and non-collateral based finance for MSMEs. It lowers administration costs for buyers enabling them to save on procurement and finance costs. Moreover, for banks and NBFCs, it stands as an opportunity to build a priority sector lending portfolio, save transaction costs and curb information asymmetries.

The Factoring Regulation (Amendment) Bill 2021 expands the horizon of TReDS by allowing participation of NBFCs through the amendment of section 2. This will enable 9,500 NBFCs (from seven currently) to act as financiers for the MSMEs’ receivables.

Through Factoring Regulation (Amendment) Bill 2021, the need for alternate financing in the MSME financing paradigm is once again addressed, especially when India’s MSME sector, hit hardest by the pandemic, looks to make a comeback.

Indian MSMEs’ demand for funds is usually met through personal savings, F-connections (family, friends, and firms) and local moneylenders. Conventional sources often stick to the balance sheet and credit score approach to lending and fail to simplify and customise financial products for the needs of MSMEs.

Inaccessibility and poor experience with mainstream finance providers only add to the borrowing hesitancy of MSMEs. In such cases, the unconventional approach to financing small businesses through minimal human intervention becomes consequential.

The advantage of technology aligns with the accessibility to finance and provides contenders in the race of financing alternatives such as FinTech solutions, including Supply Chain Finance (SCF), Marketplace Lending (MPL), Balance Sheet Lending (BSL), Cash Flow Lending (CFL), and Digital Loans like PSBLoansIn59Minutes.

While the finance gap cannot be eliminated entirely, the ease in the adoption of new financing alternatives can surely bridge it to some extent, and this is where the expanded purview of the Factoring Regulation (Amendment) Bill 2021 can be a game-changer.

Factoring Regulation (Amendment) Bill 2021

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