By Aman Bhargava – Sr. Vice President (Capital Float) and Akshay Sarma – Manager (Capital Float)
Traditional bank lending in India for Micro, Small and Medium Enterprises (MSMEs) operates through brokers or middlemen, wherein underwriting is heavily collateral-based and execution is a tedious process that can stretch up to six weeks in duration. Furthermore, there is a fear of rejection, which carries a perceived stigma and may prevent a number of creditworthy borrowers from applying. Informal lending has always been key in providing credit to a large portion of Indian MSMEs. Despite the high rate of interest charged by these moneylenders, quick response time, zero collateral and speed of delivery (disbursement)have been primary factors for moneylenders to continue to be relevant in India.
As per an Intellecap and IFC market report, there are 29.8 million MSME’s across various industries, employing around 69 million people. Formal sources cater to less than one fourth of total MSME debt financing. Of the overall finance demand of Rs 32.5 trillion (US$ 650 billion); 78 percent, or Rs 25.5 trillion (US$ 510 billion) is either self-financed or from informal sources. Formal sources cater to only 22 percent or Rs 7 trillion (US$ 140 billion) of the total MSME debt financing. Even for those which already receive some mode of formal finance, they are significantly underserved with only 40-70 percent of their demand currently being met.
Digital lending globally has begun to revolutionise the traditional lending business through the use of technology in order to reduce costs, underwrite with surrogate data points, and drastically speed up processes. These directly address the issues faced by MSMEs today.
The three most important enablers for digital lending include:
1. Telecommunications and connectivity
The telecommunication sector has been pivotal in spurring the digital revolution globally. Creating networks that enable consumers to connect from computers, laptops and mobiles is the most basic requirement to kick-start a digital revolution.
From financial services to retailers, everybody depends on networks to provide a compelling online and mobile experience. The reach of integrated, multi-channel or omni-channel user experience on the desktop, on mobile devices and in stores, is essential for digital finance to penetrate new markets and telecom operators must ensure the availability of the service.
2. Technology and data
Technology, as one would expect, is at the heart of the digital finance revolution. Investments in technology by organisations have only been increasing over time.Advances in digital technology have allowed services to reach a number of people, who had limited or no access earlier. If these advances have to continue, then increased capital investment in equipment and software is an absolute must. Encouraging companies to invest more in R&D, for example using tax incentives, is crucial for penetrating the consumer base.
3. Regulations and policies
Regulators in the West, particularly the UK followed by the US, have been proactive in allowing these markets to grow and challenge the traditional players. As the rest of the world cautiously opens up to this new space, digital finance players have thrived under flexible and friendly regulations. It is imperative to encourage an atmosphere in which innovation in financial services and products offered to consumers is prevalent. Both the Indian government as well as the RBI have put in place a host of enablers to enable digital lending in India. Specific initiatives include payment bank licences, Aadhar, e-KYC, e-Signetc- often referred to as the “Indian Stack”. All of these add to a climate which would foster application, assessment and ultimately enablement of digital lending (including transfer of monies) – to anyone in India – at a fraction of the cost as well as time taken by traditional branch-based lending. Close public-private cooperation is a key factor for this type of innovation to be taken to scale and enable people to live more secure, empowered and included lives.
There is little doubt that MSME lending is crucial for sustained growth of the Indian economy as well as employment generation. It is imperative that the penetration be pervasive and not just be limited to Tier 1 or Tier 2 cities. Digital India, is one such inclusive initiative by the government. The vision to provide government services to every citizen electronically allows India to improve its online infrastructure and increase internet connectivity. Such connectivity and infrastructure will help MSMEs across the country access not only marketplaces but also credit through digital lenders.
A fundamental principle of digital lending is that anyone with internet access can apply online for a loan and be assessed accordingly. The building blocks to enable digital lending in India are being put in place, however execution thereof is key. If approached wisely, it is possible for an emerging economy such as India to leap-frog developed nations in adoption of digital channels and accelerate achievement of financial inclusion goals.
Capital Float is the trade name of Zen Lefin Pvt. Ltd., a non-banking finance company (NBFC) registered with the Reserve Bank of India. Capital Float specialises in digital lending to MSMEs in India.