Role of Commercial Banks in Promoting MSMEs

Although banks have a higher risk perception of the MSME sector, they
continue to be the key players in formal financing. The higher share of bank
supply can be attributed primarily to Priority Sector Lending (PSL). PSL
guidelines require banks to allocate sizeable share of their credit portfolio
to micro and small enterprises. The existing PSL guidelines have set targets
(i.e. share of credit portfolio) for micro and small enterprises financing. The
Nair Committee Report (February 2012) on Priority Sector Lending
(February 2012 has recommended that all domestic and foreign banks
allocate 7 percent of their credit portfolio solely for financing micro
enterprises.

The Nair Committee has also recommended that foreign banks should have
priority sector commitment of 40 percent of Annual Net Bank Credit
(ANBC), with a sub-target for the micro and small enterprise sector at 15
percent of ANBC. If implemented, this policy is expected to have a
significantly positive impact on the participation of foreign banks in the
MSME finance over the medium term. With continuous policy focus on
financing to micro and small enterprises, the share of large banks in the
MSME finance landscape is also expected to grow in the future.

NBFCs, unlike banks, are not required to comply with the PSL guidelines.
However their participation in the MSME sector is driven to a large extent
by unmet finance demand of these enterprises, and the ability of NBFCs to
develop innovative financial products and deliver finance in a cost
effective manner, with greater flexibility and quicker turnaround times. In
order to encourage banks to increase their direct lending to the MSME
sector, an RBI regulation in April 2011 excluded loans sanctioned by banks
to NBFCs for on-lending to micro and small enterprises from priority sector
targets. However, the Nair Committee Report has recommended that
commercial bank loans to NBFCs for on-lending to specified segments may
be considered for classification under priority sector, up to a maximum of 5
percent of ANBC, subject to certain due diligence and documentation
standards.

Although the new recommendations allow a small window for indirect

lending, there are other attractive priority sector segments (such as
microfinance) that are also vying for the same pool of funds. Hence, it is not
clear if these recommendations will specifically increase indirect financing
for the MSMEs via NBFCs.

The study estimates that commercial banks serve an estimated 8.4 million
8.5 million MSMEs; financial institutions such as small banks, NBFCs, MFIs
and others, serve the balance MSMEs receiving formal finance. The above
estimates take into account the fact that medium and small enterprises may
have multiple banking relationships. This estimate is considerably higher
than that of the MSME Census 2007 on the number of enterprises served,
however it builds on the RBI data available on the total number of micro
and small enterprise accounts currently served, and the average credit
disbursed per enterprise (Refer Appendix A). Public banks serve the largest
section, an estimated 6.9 million MSMEs, while other banking institutions
serve an estimated 1.5 1.6 million units.

The reason for the variance in the banks share in MSME debt finance is
because of the inherent differences in: (a) knowledge of the MSME sector
(b) size of the branch network (c) internal risk management policies and (d)
operational efficiencies. These characteristics also determine the type of
enterprise banks prefer to finance, the risk segment or pricing range for
financial products, targeting mechanism and outreach strategy.

The wonderful growth in absolute term had been registered in credit to

MSE sector by Public Sector Banks during last decade indicates that this
sector has huge business potential for banks. Credit to MSEs has increased
over 8 times from Rs.46045 Crores in 2000 to Rs.369430 Crores in 2011 but
percent share of MSE credit to net bank credit (NBC) has consecutively
declined from 14.60% in 2000 to 7.80% in 2007. There was sharp increase
in percent share of MSE credit to net bank credit from 7.80% in 2007 to
11.10% in year 2008 with marginal hike to 11.30% in year 2009. This higher
growth during the above review period had mainly happened owing to
change in the definition of MSEs as per the provisions of MSMED Act.

The investment limit of small (manufacturing) unit was raised from Rs.1.00
crore to Rs.5 crore and small (services) was added to the sector with an
investment in equipments & instruments up to Rs. 200 lacs. Also the
coverage of service enterprises were broadened by taking tertiary sector
into MSE sector such as small road and water transport operators, small
business, professional and self employed and all other service enterprises as
per definition provided under the Act. Further this ratio accelerated to
13.10% in 2010 that might be because of regulatory change of taking retail
trade into service sector. The advances to this sector further increased to
14.81% in the year 2011. The credit acceleration in the sector had
significantly noticed in absolute growth but proportion of MSE credit in net
bank credit has been more or less at same level of 14% which was way back
in year 2000 despite widening the coverage of the MSE sector

The wonderful growth in absolute term had been registered in credit to

MSE sector by Public Sector Banks during last decade indicates that this
sector has huge business potential for banks. Credit to MSEs has increased
over 8 times from Rs.46045 Crores in 2000 to Rs.369430 Crores in 2011 but
percent share of MSE credit to net bank credit (NBC) has consecutively
declined from 14.60% in 2000 to 7.80% in 2007. There was sharp increase
in percent share of MSE credit to net bank credit from 7.80% in 2007 to
11.10% in year 2008 with marginal hike to 11.30% in year 2009. This higher
growth during the above review period had mainly happened owing to
change in the definition of MSEs as per the provisions of MSMED Act.

The investment limit of small (manufacturing) unit was raised from Rs.1.00
crore to Rs.5 crore and small (services) was added to the sector with an
investment in equipments & instruments up to Rs. 200 lacs. Also the
coverage of service enterprises were broadened by taking tertiary sector
into MSE sector such as small road and water transport operators, small
business, professional and self employed and all other service enterprises as
per definition provided under the Act. Further this ratio accelerated to
13.10% in 2010 that might be because of regulatory change of taking retail
trade into service sector. The advances to this sector further increased to
14.81% in the year 2011. The credit acceleration in the sector had
significantly noticed in absolute growth but proportion of MSE credit in net
bank credit has been more or less at same level of 14% which was way back
in year 2000 despite widening the coverage of the MSE sector.

In recent times, public sector banks have not confined themselves to mere
extension of finance to small entrepreneurs but have shown genuine
concern for their development. They have now entered the challenging field
of promoting new small-scale entrepreneurs through entreprenship
development programmes in their new role as promoters of small-scale
sector they have accepted yet another challenging task. They are now
holding Entrepreneurial Development Programme (EDP), in collaboration
with specialized institutions such as District Industrial Centre (DIC), Tamil
Nadu Industrial and Investment Corporation (TIIC) etc. with a view to
identifying entrepreneurs, especially in backward areas and training and
monitoring them to start new ventures. Banks are playing a major role in
financing MSMEs in India. Nearly 82 per cent of the total SME financing
through banks. In addition, among them the major share is of public sector
banks i.e. 57 per cent. Thus, it is clear that the most common source of
finance for SMEs is Bank Financing. There is number of banks that help in
assisting the SMEs for financing. The main channel used by the MSMEs via
banks is Specialized loans by various Banks. The Main reason for choosing
bank loans by SMEs compared to other sources of financing like venture
capital.

The role of Banks, in general, has become very important in the

above context The MSME sectors demands comprehensively taken
care of by the Public sector Banks through several initiatives such as

1. Single Window dispensation

2. Quick decision with least Turnaround Time through specially constituted

MSME Cells, and above all Better service.

3. Cluster-based Schemes are also on the list of the Banks initiatives.

4. Provision of timely and adequate credit to the MSMEs.

5. Encouraging Technology Up gradation, for better quality and

competitiveness of their product(s), and proactively detecting sick and
viable units in time so as to nurse them back to health through appropriate
re-structuring.

6. Financing of Clusters with adequate and concessional Bank finance on

liberal terms in several pockets for specified activities concentrated in these
pockets, which would result in reducing transaction cost and greater
economies of scale.
IDBI

7) IDBI Bank IDBI Bank has been actively engaged in providing a major
thrust to financing of MSMEs. With a view to improving the credit delivery
mechanism and shorten the Turn Around Time (TAT), IDBI Bank has
developed a special business model to serve the SMEs in India. The Bank
has set up 24 City MSME Centres across India in Mumbai, Delhi, Kolkata,
Chennai, Bangalore, Hyderabad, and Pune. These Centres are the Bank's
hubs while dedicated MSME desks have been set up in several branches
across these cities. These branches serve as front offices for sales delivery
and customer service. The Bank has a wide variety of products and services
catering to the needs of different segments within small business. Long
years of experience in being the trusted partner of large and mid-corporates
has translated into deeper understanding of needs of business and
industries. The Bank has compartmentalised products for transporters,
dealers, traders, and vendors. In addition, it has a separate

Transaction Banking Group that has expertise in products like cash

management services, letter of credit, bank guarantees and treasury
products. IDBI Bank provides following MSME Services: (i) Sulabh Vyapar
Loan (ii) Dealer Finance (iii) Funding Under CGFMSE Direct Credit
Scheme-SIDBI Preferred Customer Scheme Vendor Financing (iv) Lending
against the security of future Credit Card Receivables (v) Working Capital
Financing Finance to Medical Practitioners Loans and (vi) SME Hosiery
Special Current Account