How digital lending has the potential to unlock the underserved MSME segment
Piyush Khaitan, Founder & M.D. of NeoGrowth Credit Pvt. Ltd; Founding Member and first President of Digital Lenders Association of India (2016-17)
Jayanti Kathale is the founder of 'Purnabramha', an authentic Maharashtrian cuisine restaurant chain, who had plans to build a global brand. Jayanti left her cushy job in the IT sector where she worked with organisations like Infosys for over 13 years. Purnabramha was started as a small venture with limited funds but eventually, Jayanti needed more working capital to scale up.
Traditional lenders turned her down due to lack of collateral and financial returns. It was at this time that Jayanthi approached a new- age fintech firm for credit. The firm evaluated the daily earnings and cash flow of her business through the daily card swipes at her restaurant and extended her a working capital loan. Propelled by the loan and further renewals, Jayanti was able to run her restaurant without worrying about capital crunch.
Purnabramha has now opened multiple outlets in metros as well as in Australia and the US and Jayanti has been expanding her business through a franchise model which is exclusively for women entrepreneurs.
Micro, Small and Medium-sized Enterprises (MSMEs), like Purnabramha, are crucial for the socio-economic growth of emerging economies. Nearly 50 percent of global MSMEs still lack access to formal credit, making financial inclusion a key priority. The main barriers preventing MSMEs from accessing bank credit are collateral requirements, lack of credit history, and informal nature of business leveraging on the convergence of urban retail, digital payments, and lending.
Digital lending players are pioneering innovative lending models leveraging alternate data for underwriting. To further tailor the lending product to the retailer’s business model, the repayment modes are flexible through NACH, payment settlements to align them more to the convenience and business cyclicity of the merchants.
There are around 60 million MSMEs in India, contributing to 30 percent of India’s GDP thus being the backbone of the economy. As per the recent Omidyar-BCG report on Digital MSME lending, the MSME credit demand in 2018 was estimated to be Rs 45 Lakh Crores, of which 40 percent was served by informal credit and around 25 percent through personal proprietor (rather than business) loans, demonstrating the shortcomings of the current lending process. This underserved market is a huge potential for MSME lenders and digital players to cater to, with innovative business models tailored around the needs and behaviour of this segment of MSMEs.
Across India, the MSME lending landscape is now shifting, with formalisation and digitisation driving the market toward disruption. The biggest challenges concerning this segment in accessing traditional finance are long processing times, lack of transparency in timelines, and insufficient loan sizes.
Digital lending can address the challenges in traditional processes through alternative approaches to sourcing, underwriting, and servicing. MSMEs, particularly those with annual revenue less than Rs 10 lakh are increasingly turning to aggregator platforms to access new customers. With the changing behavioural landscape amongst MSMEs, lenders focusing on alternate methods of underwriting have evolved gradually and are serving niche segments. Alternate sources, such as entity data (from MCA, EPFO, etc) and social media data, utility data (telecom, electricity, gas, internet, vehicle registration, etc), transaction data (e.g., point-of-sale credit card trails) and financial data trails are giving lenders an even deeper view.
India’s API infrastructure now enables lenders to quickly leverage these alternate data sources for faster and better underwriting. Traditional banks and FIs are collaborating with fintech firms across all stages of the customer loan life-cycle to manage the cost levers (cost of customer acquisition, cost of credit, cost of operations/services and cost of collections) as well as to digitise their lending processes to improve the customer journey, engagement and retention. Moreover, lenders themselves are collaborating with each other through organisations such as the Digital Lenders Association of India (DLAI). The DLAI has over 60 members comprising of lenders, marketplaces and other participants who discuss industry issues and also liaise with regulators as an association.
According to the estimate by Omidyar-BCG research, by 2023, MSME digital lending has the potential to reach Rs 6-7 lakh crore in annual disbursements. The increasing thrust by the government on the digital economy in the form of burgeoning UPI and mobile wallet transactions has further accelerated growth in the MSME and lending sector. We have witnessed exponential growth (8,600x times by volume of transactions and almost 43,000x times by value) in UPI payments since inception with approx 20-25 percent month on month increase in transaction values. UPI, which is emerging as the most dominant mode of payments, has crossed 800 million transactions in Mar’19 amounting to approximately Rs 1.3 lakh crores.
As per industry research, around 30 percent of UPI transactions are merchant based with Paytm and Google Pay leading the rally. Presently, UPl transactions (by value) have already surpassed debit or credit card payments at terminals, thereby reinforcing that lenders are exposed to a significant number of digital trails to leverage for lending. This growing and easily available digital data, combined with GST returns data and payments data, has the potential to unlock the underserved MSME segment. As per GSTN portal statistics, there are 1.2 Crore registered taxpayers in India and around Rs 14.16 lakh Crore (excluding IGST on imports) of payments have been made through the GSTN portal from inception till Mar 31, 2019.
Digital MSME lenders like Capital Float, NeoGrowth and Indifi are creating a strong positive social impact on the MSME sector by lending to first generation entrepreneurs thereby enabling customers to improve their livelihood. Further, they are also facilitating financial inclusion by an increasing focus in Tier II and Tier III cities. Technology first players like Capital Float are successfully bridging the credit gap by offering efficient and customised credit solutions to credit-starved entrepreneurs.
Rajesh Viswanathan, CEO of SME Lending business at Capital Float, points out that “As we have witnessed over the last five years, technology-enabled innovations will continue to be the focus area in building differentiated lending models, to deliver collateral-free small ticket loans that can be rapidly scaled at low operating cost.”
Alok Mittal, founder of Indifi, a leading MSME lending portal, points out that they are facilitating MSME lending with a focus on customer-product fit. The industry-based customisation of lending products brings unique benefits to the customer as product design fits into the business cash flows of the MSME. Universal Sportsbiz Private Ltd (USPL) has partnered with Indifi to provide apt working capital solutions for suppliers delivering goods to the company.
These suppliers can avail access to Indifi’s credit line to ensure smooth operations and in-time production without stressing about expense payments. Indifi’s Invoice discounting product offers a win-win scenario for everyone involved in the supply chain. The vendors are happy as their routine work carries on undisturbed. Alongside, USPL is satisfied as it gets products of acceptable quality and in good time. As the company does not have to worry about suppliers' stability, it can optimise its own working capital cycles accordingly.
With digital transformation picking up in this segment and the surge of digital payments and the usage of new age technologies like blockchain, machine learning, and artificial intelligence finding application in several domains in banking and lending, there lies an exciting future ahead for lenders to capitalise and focus to further digital and financial inclusion.