Speeches

Lecture delivered at meeting organized by Karnataka Chamber of Commerce & Industry, 
Hubli on November 22, 2008

The Code of Bank’s Commitment to Micro and Small Enterprises*

At the outset, let me convey my thanks to the Karnataka Chamber of Commerce and Industry, Hubli for organising this meeting on a subject which is of immense importance to the national agenda of growth and development. My thanks are also due because it enables the Banking Codes and Standards Board of India (BCSBI) to spread awareness and bring to focus the new Code of Bank’s Commitment to Micro and Small Enterprises evolved by the BCSBI in collaboration with the Indian Banks’ Association.

2. Since the BCSBI is a relatively infant institution let me say a few words about its role and functions. The BCSBI was set up in February 2006 through a collaborative effort of the Reserve Bank of India, the IBA and the scheduled commercial banks. It is fully funded by the RBI but functions as an independent and autonomous body to ensure that consumers of banking services get what they are promised by the member banks. The BCSBI launched its first Code of Bank’s Commitment to Customers in July 2006 which was the first formal collaborative effort by the banks, the BCSBI and RBI to provide a framework for a minimum standard of banking services which an individual customer can legitimately expect. The BCSBI acts as an industry watchdog to ensure that the Codes evolved by it are implemented in letter and spirit.

3. Having evolved a Code of bank’s commitment to the common man, the BCSBI has focused its attention to the others at the bottom of the pyramid, namely the micro and small enterprises. In India, the small-scale industry sector has remained high on the national agenda as it generates employment, contributes to regional dispersal of industries and is a seedbed for entrepreneurship and more importantly, makes a significant contribution to exports. However, anecdotal evidence reveals that micro and small enterprises are the ones who are unable to reap the benefits of the plentiful government schemes because of their inability to access bank finance and receive fair and transparent banking services. In fact, even though there has been continuous and significant credit expansion in the last few years, the share of bank credit to SMEs has been the lowest among all the segments. This is also borne out by the results of the Third Census of Small Enterprises, conducted by the Government of India in 2001-02, which revealed that 95.5% of MSEs have been outside the purview of the banking system. The 11th 5-year Plan Approach Paper states that the situation regarding finance for MSEs is worse than for farm credit. Keeping in view the concerns of the Government and the RBI in ensuring easy accessibility of bank finance to the lower strata of society, the BCSBI, in collaboration with banks and IBA has evolved a Code of Bank’s Commitment to Micro and Small Enterprises.

Code of Bank’s Commitment to Micro and Small Enterprises

4. The MSE Code reflects the banks’ positive commitment to their Micro and Small Enterprise customers, to provide easy, speedy and transparent access to banking services in their day-to-day operations and in times of financial difficulty. Banks are committed to make this Code available to MSEs, free of cost. Some of the other commitments enshrined in the MSE Code are as follows:

• There will be a standardised application form common to all banks which will be available to MSEs free of cost. The format has already been circulated to all banks by the Indian Banks’ Association.

• MSE customers will be provided with a check list indicating all that is required by their banker to be submitted along with the application form.

• All information about interest rates, fees and charges will be made known to the customer upfront so that a meaningful comparison with those of other banks can be made and an informed decision can be taken by the MSE.

• Banks will endeavour to provide facilities through a Single Window Mechanism.

• The bank’s policy relating to MSEs will be in the public domain.

• Specific time frames for disposal of the application for credit limit have been committed to. For example, an application for a credit limit or enhancement in existing credit limit upto Rs.2 lakh will be disposed off within two weeks, for credit limit upto Rs.5 lakh within 4 weeks and for credit limit beyond Rs.5 lakh within a reasonable time frame.

• Banks commit to share the parameters of the rating system to be followed by them.

• Banks will ensure disbursal of the loan sanctioned, within two working days from the date of compliance with the terms and conditions governing such sanction.

• Banks will grant increase in the drawing power within 24 hours of lodgement of security.

• The MSE customer will be kept informed of the debits to his account arising out of interest application, fees and charges.

• In the case of sick units, banks will assess whether the unit is viable and if viable, work out a rehabilitation package and implement the same within a maximum period of 60 days. In the current scenario it is likely that MSEs would face financial problems and this commitment should, therefore, be adhered to by the banks.

5. These and several other commitments which have been made voluntarily by banks are expected to benefit both banks and MSEs.

6. The experience of Asian Tigers suggests that SMEs, particularly the small ones, are crisis shock absorbers that not only help provide employment during difficult times but also prepare new entrepreneurs for graduating to run larger firms when the economy recovers.

7. In China, for example, in addition to ensuring risk compensation through various guarantee funds, the Government has issued special and specific schemes subsidising heavily both interest and loan losses of those small enterprises which either employ laid-off workers or are started by retrenched labour.

8. Countries in the Asia Pacific region have adopted policies and programmes that are designed to support SMEs and make them more globally competitive. These economies strongly focus on 3 areas - finance, technology and HRD. In Singapore, SMEs are not that significant in number but are treated as being important for attracting Foreign Direct Investment. In Australia, SMEs see globalisation as a great opportunity for expanding their business rather than as a threat. An Australian Business Report says that more than 25% of Australian SMEs had increased their business through China and that the number of exporting SMEs in Australia has doubled in 2 years (a process which would normally have taken a decade). These exporting SMEs are mostly in services - education, tourism, personal and professional services. In Thailand and Vietnam, SMEs contributed around 40 to 45% of the GDP in 2006. In these countries, there are three important features of bank lending to SMEs which are of interest:

1. Loans to SMEs are extended on commercial lines and collateral free loans are granted, not out of compulsion, but based on credit scoring of the unit.

2. Banks in Thailand and Vietnam do a lot of hand-holding at the application stage and importantly, their credit assessment is based on the prospect of the survival of the unit during the initial years of set-up, rather than the unit’s profitability.

3. Banks continuously engage themselves actively in providing advisory and planning services to their SME clients. In India, through the Code of Bank’s Commitment to MSEs banks have voluntarily committed to endeavour to provide credit counselling services to their customers in dealing with their financial problems but this is not the same as providing advisory and planning services. The latter is a proactive measure which is missing in the India banking scenario.

9. Coming back to the Indian scenario, the enactment of the MSMED Act in June 2006 has brought a paradigm shift in the treatment to micro and small enterprises by bringing the service sector under the definition of MSMEs. The following measures to increase the quantum of credit to SMEs at the right price have also been announced as a Policy Package -

• Public Sector Banks will fix their own targets for funding SMEs in order to achieve a minimum 20% year-on-year growth in credit to SMEs so that credit flow to SMEs doubles in 5 years.

• Public Sector Banks will link the cost of credit to the credit rating of the enterprise. Credit rating system developed by NSIC or SMERA or any other reputable agency to be considered appropriately for the purpose. Needless to say, a good rating obtained from an independent third party would not only enhance the initial acceptability of the small enterprise it would also facilitate prompter credit decision from the banks. Further, 75% of the credit rating fee, subject to a maximum ceiling of Rs.40,000/- would be reimbursed by NSIC to the small enterprise depending on the level of their turnover.

• SIDBI and Indian Banks’ Association (IBA) would collect and pool common data on risk in each identified cluster and develop an IT-enabled application, appraisal and monitoring system for small (including tiny) enterprises, for example, SIDBI is in the process of setting up a testing lab for leather products in Kanpur and a common effluent plant for the SME leather cluster.

10. Banks, from the public sector, private and foreign have of late started focusing on SMEs, e.g., (i) Corporation Bank has set up dedicated SME development centres (ii) Bank of Baroda has opened Grameen Paramarsh Kendras which are specialized counselling centres to provide consistence to farmers, small entrepreneurs, women and SHGs for availing formal bank services. (iii) SBI has set up a Yuva Parivartan Centre for Vocational Development for underprivileged in urban Mumbai. Around 500 are trained annually in air-conditioning, refrigeration, electrician course, plumbing, beautician, tailoring and computer education. (iv) Indian Bank has set up 12 Micro sate branches which serve as a One Stop Shop - the branch official visit slums, liaison with NGOs for SHGs, cater to training needs and provide financial counselling and marketing advice. (v) Central Bank of India got the First Award for lending to MSEs during 2007-08. This bank has entered into an MOU with SME rating agency of India (SMERA) for rating its SME borrowers. (vi) The Karnataka Vikas Grameen Bank in Karnataka sponsored by Syndicate Bank has taken the initiative to help rag-pickers to become successful entrepreneurs. (vii) The South Malabar Grameen Bank in Kerala sponsored by Canara Bank is actively involved in forming SHGs, developing entrepreneurship skills and successfully financing the growth of MSEs. Lest you think that only PSBs are engaged in this, I may state that both private and foreign banks viz., HDFC, ICICI, Yes Bank, HSBC are engaged in expanding factoring services to cover SMEs, setting up Private Equity Fund for SMEs in certain sectors and entering into agreements with Industry Associations for reaching out to SMEs for meeting their working capital needs and growth plans.

11. While actions taken by these few banks are commendable and worthy of emulation, ab-initio, these exclude micro enterprises and it remains to be seen how much of these will be targeted to meet the requirements of small enterprises. Banks have, no doubt, through the Code of Bank’s Commitment to MSEs, voluntarily committed to their MSE customers to provide easy, speedy and transparent access to banking services in their day-to-day operation and in times of financial difficulty. The ground reality, however, is that most bank branch managers are bogged down with the daily routine and do not have the requisite aptitude or skill set or attitude to deal with the diverse and innovative demands of MSMEs. Therefore, as a first step for translating the Code into action at the grass-roots level banks must necessarily have staff trained not only in finance and banking but should be trained and sensitised through customised training programmes to meet the diverse needs of MSEs such as knowledge of markets, both domestic and global, (lack of which is a major cause of sickness in MSEs) use of technology etc. In their efforts to counter increasing imports from China, the Ministries of Panchayat Raj, MSME and KVIC have joined together to extend the services of Rural Industries Consultancy Services (RICS) to assist MSMEs in project formulation and develop linkages with banks. Banks should be actively providing advisory and planning services and in fact hand-holding their clients through the setting-up stage and such services should be extended to all regardless of the size of their turnover.

12. Both, the Government and the RBI have been stressing upon the need for banks not to insist on collateral for providing finance to MSEs for loans upto Rs.25 lakhs. The Credit Guarantee Fund Trust for MSEs set up by the Government of India and SIDBI provides guarantee support upto Rs.50 lakh per borrower to banks for their credit facility both term credit and working capital credit sanctioned to MSEs without obtaining any collateral or third party guarantee. If banks really know their customers as they ought to and develop a working relationship with their MSE customer, and generally keep tabs as a banker ought to, there is no reason for insistence on collateral for small loans upto Rs.25 lakhs especially when the Government gives a guarantee and the RBI has laid down strict rules defining wilful default. Not only will RBI publish the names of such wilful defaulters but also ensure that no additional facilities are available to such defaulters and in addition, entrepreneurs / promoters of companies which have been identified for siphoning / diversion of funds, misrepresentation, falsifications of accounts and fraudulent transaction would be debarred from institutional finance for floating new ventures for a period of five years.

13. While banks need to ensure responsible lending on commercial lines, their credit assessment, at the set-up stage, should emulate the international example as exists in Thailand and Vietnam which is based on the prospect of the survival of the unit rather than the unit’s profitability.

14. The Report of the Working Group on Rehabilitation of sick SMEs states that there is a perceptible decline of 10% in the number of sick SSI units in the year 2007 but the amount outstanding is up by almost 6% as compared with 2006 figures. Further, in the small enterprises sector, out of 1,14,132 sick units, only 3.76% units were found viable by the banks and out of these only 13.72% units were put under nursing. (i.e. only 0.52% of the sick SSI units were put under nursing). Banks can actively prevent sickness if they diligently do three simple things:

1. Have an efficient monitoring set-up not just an Annual Review. Banks are known to not verify stock inventories – which is one of the main causes for not diagnosing sickness early.

2. Maintain continuous interaction with their MSE clients.

3. Set-up credit counselling services urgently. This would help nip sickness at the early stages of the financial problems of clients.

15. Banks may think that all this requires more staff – but this is not the direction in which banks should look – they need to re-engineer their business processes by leveraging technology and innovating suitable financial products. IT solutions can take banking to the remotest corner and all that is required is for banks to realise and see this as emerging opportunities.

16. MSEs, on their part, should understand that banks are responsible to their depositors and shareholders and, therefore, they, i.e. the MSEs, as customers of bank credit, have certain obligations to fulfil by way of repaying bank loans, having appropriate accounting standards, maintaining proper books of accounts, submitting information correctly and more importantly sharing information about financial problems when these arise so that they can work together with the bank in resolving these.

17. It is in the interest of MSEs, to get themselves registered by independent rating agencies, such as SMERA as it could enable them to negotiate with their bankers for interest rate reduction, larger loan size or even obtain faster processing of their loan applications etc.

18. MSEs need to be aware that if they default and their credit history is poor they will find it difficult to access bank finance, as banks have been mandated by RBI to pass on all credit history of their clients to CIBIL or any other bureau registered by RBI.

19. MSME Associations and Chambers of Commerce too have a role to play in stepping up credit to this segment. They need to proactively engage themselves in:

1. spreading awareness of the Government Schemes and Code of Bank’s Commitment to MSEs among the general public. Incidentally, the Code of Bank’s Commitment to MSEs has been translated into eleven regional languages and these are available on the BCSBI website “www.bcsbi.org.in”;

2. organising workshops and training programmes for their members to enlighten them about cash flow cycles, various financial products, accounting practices, etc. It is understood that the National Institute of Design, Ahmedabad has created an outreach programme for MSEs through which they deliver staff training courses on design and engineering to professionals employed by SMEs. On the same analogy programmes could be organized by the MSME Associations, Chambers of Commerce etc. through NIBM or any other training institute with the assistance of RBI, banks or SIDBI in the area of banking and finance, basic accountancy and information technology for MSEs. On the use of IT it has been reported that there has been a significant increase in participation by Indian SMEs on the e-commerce front and the MD of one of India’s BtoB portals says that e-commerce is one of the best possible ways for MSEs to take on the big eyes as it allows them to expand their reach, whether in finding buyers or sourcing raw materials.

3. senior-level representatives of SME/SSI Associations in each State are members of the Empowered Committee set up by RBI at each of its Regional Offices, of which the SLBC convenor, representatives of banks having predominant share in SME financing in the State, SIDBI, Director of Industries of the State Government etc. are also members. MSE Associations need to use this Forum not only for removing bottlenecks in the smooth flow of credit to the sector but also for reviewing the accessibility of bank finance to more and more MSEs but also highlight gaps if any in the attitude and skills at the bank branch level.

4. lastly, Associations should reflect upon whether the existing IBA prescription for bank lending to be within a band of 2% above and below the PRL for advances to MSMEs is working in the interests of their members. Anecdotal evidence exists to prove that what irks MSMEs in inaccessibility, inadequacy and un-timeliness of credit and not cost of credit per se. This is a critical issue and it is for MSEs and their Associations and Chambers of Commerce to take a bold initiative in the matter.

20. The Asia Pacific Region has recognised that the SME sector presents an opportunity to harness local competitive advantage for achieving global dominance. In India, although the small scale sector has remained high on the agenda of the Government since independence because it contributes significantly (more than 40%) towards the country’s exports SMEs do not get adequate attention. They face high interest rates and high transaction costs due to the labour and tax policies which hurt MSEs, relatively more. Moreover, the lack of basic infrastructure such as uninterrupted power supply has hindered their growth. The good news is that Securities and Exchange Board of India (SEBI) has recently approved the setting up of dedicated stock exchanges for SMEs. In the present scenario of the global crisis, the Reserve Bank of India has taken the initiative to announce, inter-alia, a Special Refinance Facility to all scheduled commercial banks for the purpose of extending finance to micro and small enterprises. The Reserve Bank has also announced an immediate advance allocation of Rs.2000 crore to SIDBI, to meet the shortfall in priority sector lending, so as to ensure the growth momentum in Micro and Small enterprises. This is good news because the general infusion of liquidity does not reach the Micro & Small segment. It is now for banks to ensure that MSEs do not have to reduce their production because of shortage of working capital. Banks are required to finance by way of working capital, 20% of the annual projected turnover of MSEs. It is now left to banks to recognise the vast potential that exists in responsible lending to the MSE segment. The media has reported that PSU banks are confident that lending to the SME sector will grow at over 25% this fiscal despite the slow down. Yet again this may not include micro enterprises and how much of it will be allocated to small enterprises is not known. Ultimately, there is always a limit to how much regulation can do. The immediate future is likely to be stressful for MSEs and therefore, it becomes all the more important to ensure that MSEs are aware of their rights and that banks on their part deliver on their voluntary commitments enshrined in the Code.

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