Access to financing for SMEs: What are the options?

Every article, book or feature focused on small and medium enterprises (SMEs) underlines the vital contribution made by the sector in the country's economy. Small businesses account for several contributions like uplifting economy, generating new jobs, reducing poverty besides bringing innovative products and techniques to the market. Although SME sector, the second largest manpower employer overall after agriculture, has received some attention from the government since independence, but still they suffer from the most common problems like lack of access to market information and technology, the low quality of human resources and the lack of access to capital.

Of the all obstacles, 'financing gap' acts as a biggest hindrance and is seen as a big turn off to all small sized entrepreneurs as in the initial stage every business start-up faces the problem of raising money.

Financing & SMEs

SMEs play a very significant role in the economic growth of both industrialised and developing countries, hence providing all needful assistance to them should be on priority of the government. SMEs need financial aid in setting up and expanding their operations, in employee recruitment, expanding production facilities etc.

There are various funding approaches for SMEs:

1. Angel Funding - An angel investor is the one who provides capital to one or more startup companies. The individual is usually affluent or has a personal stake in the success of the venture. Such investments are characterized by high levels of risk and a potentially large return on investment. Such types of investors are also known as a business angel or an informal investor. The increasing number of angel investors organize themselves into angel groups or angel networks to share research and pool their investment capital.

2. Venture Capital (VC) – This type of financial capital is an important source of funding to early-stage, high-potential, high risk, growth oriented startup companies. The venture capital fund makes money by owning equity in the companies it invests in, which usually have a novel technology or business model in high technology industries, such as biotechnology, IT, software, etc.

In brief, venture capital is a capital that is invested in a project or in a business where there is a considerable risk relating to the future creation of profits and cash flows. Risk capital is invested as shares rather than as a loan and the investor requires a higher rate of return to compensate him for his risk.

It has been generally seen, the venture capitalist prefers to invest in entrepreneurial businesses which are aiming to grow rapidly to a significant size.

3. Private Equity - Private equity is an asset class consisting of equity securities in operating companies that are not publicly traded on a stock exchange. Such type of investment will generally be made by a private equity firm, a venture capital firm or an angel investor. Not only the financing required to create a business is covered under private equity, but it also includes financing in the subsequent development stages of its life cycle.

The firms involved in private equity investment seek out for companies with the potential for growth and with the aim to put in place the capital, talent and strategy needed to strengthen the company and raise its value.

Private equity is also often grouped into a broader category called private capital, generally used to describe capital supporting any long-term, illiquid investment strategy.

4. Government Schemes - There are slew of government schemes and sops offering enhancement and support to the business activities of the small units, but a majority of small traders fail to avail them due to lack of mindfulness and awareness about the schemes. Government schemes could be of great help to SMEs and the most viable ways to finance a business. The assistance comes in the following ways.

Throwing light to five most important financial assistance schemes being offered by the government aimed to intensify the growth of the small scale units that can help them to find a beneficial solution to their financial problems...

(A) Credit Guarantee Fund Scheme for Micro and Small Enterprises (CGMSE) - The scheme is aimed to provide collateral-free credit to both existing and new micro and small enterprise (MSE). The plan covers term loans and working capital facilities of up to Rs 100 lakh per borrowing unit and can be prolonged without any collateral security or third party guarantee to a new or existing MSEs.

(B) Credit Link Capital Subsidy Scheme for Technology Upgradation - Credit Linked Capital Subsidy Scheme (CLCSS), provides technology upgradation assistance to the SMEs primarily in the Small Scale Industries (SSI). All entities, including sole proprietorship, partnership, cooperative, private and public limited companies, are eligible for the scheme.

(C) Mini tools room and training centre scheme – The scheme is focused to develop more tool room facilities intended to provide technological support to MSMEs. One such training centre entails the cost of Rs 15 crore.

(D) Market Development Assistance Scheme for MSMEs - The Ministry of Commerce operates Market Development Assistance Scheme for MSMEs in a view to encourage exporters to expand their reach in overseas markets. The scheme renders financial assistance for participation by manufacturing MSMEs in international trade fairs/ exhibitions under MSME India stall.

Besides these aforementioned schemes, the government also offers various beneficiary SME-focussed schemes for the elevation of the SME sector.

5. Banks – In the lending process of banks, an accurate information about the borrower is a critical input for decision-making to lend the prospective borrower. Generally, banks consider the details like promoter (vintage, competency, networth, track record), industry (growth, risk, cyclical trends, profitability), business unit (turnover, profitability, debt/ equity, liquidity) and transaction history (overdues, cheque returns, statutory overdues etc) and security (type and quality of collateral).

For lending loans, bankers generally prefer the flourishing SME sectors like bulk drugs, knitwear and auto-ancillary goods, textiles, pharmaceutical companies, chemicals and dyes sectors. Companies like seafood processing, sports good, gems and jewellery etc are not preferred by the banks as lenders have risks of suffering with huge non-performing assets (NPAs) on account of lending to these sectors.

An entrepreneur can secure bank loans by charge of collateral property, current assets and promoter's personal guarantees. In case borrowers fail to return the loan, the banks either cease the security or follow the legal procedure. The details of defaulters are also advised to Reserve Bank India (RBI), which maintains a defaulters list and banks are not allowed to lend to companies with promoters who find mention in the defaulters list.

Conclusion:

In addition, there are various consulting firms providing assistance on easy ways of raising funds to SMEs. Such firms act as a liaison between the firm and the government and act as a facilitator in provided schemes. Consultations on overall operational and technical issues also provided by such firms so as to improve efficiency, reduce bottlenecks, and optimize costs of the small businesses.