The government’s Make in India strategy demonstrates how important MSMEs are to India’s growth story, but capital is still hard to get. If you are considering launching a startup, here are some things to keep in mind:
KEEP FRIENDS, FAMILY AND FOREIGN FUNDS CLOSE
Most credit schemes are aimed at MSMEs that are at least three years old. If your company is newer, informal sources like family and friends must be part of your fundraising strategy. Quite often, this means looking abroad for help. Even if you are looking at a VC / PE funding, the Indian ecosystem is in its infancy and you are likely to go beyond India’s borders. But this can lead to a problem. Indian financial institutions need at least 75% Indian ownership to qualify you for most of their loan products. This is intended to encourage Indian entrepreneurs, but as a startup that might be considering all options for support – make sure foreign investors hold less than 25%.
CAUTION: COLLATERAL AHEAD!
Typically, financial institutions ask for collateral that equals (or exceeds) the loan amount. This can be a term deposit or a mortgage on your home. Indian financial organizations are very cautious about lending. Read the loan terms carefully and include all supporting documentation with your application.
PLEASE MIND THE GAP
The Small Industries Development Bank of India (SIDBI) was established to bring MSMEs and capital together. This is excellent news for MSMEs but the execution is not perfect. Rules can be unclear and confusing. Decision-making does not always follow the on-paper criteria. If your application is rejected, you may not know why.
Government schemes to support MSMEs working on Covid-19-related projects face similar challenges. Companies that qualify for credit on paper may still be rejected without an explanation.
WHAT CAN CHANGE
Podrain’s experience has taught us that patience is key. It also helps to have an experienced, trusted financial advisor or mentor who understands the options and provides guidance on processes and documentation. Some signposts and directions from financial institutions will make navigating easier.
MSMEs should be able to quickly and easily understand what each regulator is responsible for. Clearly stated eligibility rules for each scheme and a simple explanation of the risks and benefits of each option will help entrepreneurs who are not always financial experts make the right choice. A single-window approach to clearances will make MSMEs’ search for capital much easier. Regulators can also help to match MSMEs with the right funding source for their needs. We can then rely on financial institutions and their lending officers for guidance on the right capital products and schemes.
Financial institutions also need to look beyond traditional collateral-based criteria. Very often these show only the borrower’s existing financial strength and not the intent to repay. To help new MSMEs get started, lenders may consider performance-based criteria to approve loans. For example, whether a startup pays its employees’ salaries, its taxes, and its statutory dues (GST, PF, etc.) on time is a good indication of its intent to pay. Market-based criteria used by PE/VC funds may also be used with modifications that reflect the lower risk appetite of the lender. These forward-looking strategies are consistent with the idea of financial institutions as partners in the Indian MSME growth story.
By adopting a partnership mindset, financial institutions can make capital more easily accessible to MSMEs who want to Make in India.