Sme 25 4_2014

FUND RAISING FOR
SME & MID-CORPORATE
SECTOR
Group Study by:
- CA Nikhil Sahajwani
- CA Prakash Bhatia
- CA Resham Wadhwa
Visit - mentoring.co.in

BFSI & Capital Markets Study
Group, ICAI Tower, BKC.
2

Introduction to SME & Mid
Corporate Sector
3

Importance of SME & Mid Corporates
• SME & Mid Corporates are vital for growth of the country:
– Stepping stone of large enterprises
– Creating an environment for entrepreneurship
– Promotes innovation
– Provides ancillary support to the large
corporates/PSU/Govt.
– Generates employment even for uneducated class
– Helps disperse income generation outside of big cities
– Helps optimise the local resource base
4

Importance of SME -- India
• SME play vital role for growth of Indian economy by
contributing 45% of industrial output, 40% of exports and
employing 60 million people and creating 1.3 million jobs
every year and produce 8000 quality products.
• Public Sector Banks have been advised to achieve a
minimum 20% y-o-y growth in credit to the SME sector
• There is also special focus by RBI/Govt. for lending to
priority sector
5

Importance of SMEs -- Globally
• Globally, SMEs include over 90% of registered Business
Enterprises and 50-60% of Total Employment.
• In Europe, Japan and the USA, 90+% of the enterprises
belong to the small business segment (<250 employees)
• Employment generated through Small businesses is more
than 50% in the EU and approximately 40% in the USA
 45-55% of formal SMEs in emerging markets are
unserved, 21-24% are underserved (i.e., they identify
financing as a constraint) and 16-20% do not need credit
(Source: IFC)
6

Some Figures of Interest
• Bank lending to SMEs was Rs 5.4 trillion (one trillion
equals 100,000 crore) as of January 2013. In March 2012,
it was Rs 5.1 trillion. (Source: RBI)
• SMEs in India require Rs 32.5 trillion in financing
Of this 32.5 Trillion, 78 per cent comes from informal
sources or is self-financed while only the remaining is met
by banks and other institutions (Source: IFC)
• in 2011, 55 of the 77 commercial banks operating in the
country failed to meet the RBI's target of 20 per cent
growth in loans to SMEs. (Source: The Federation of
Indian Chambers of Commerce and Industry)
7

Leading Banks for the SME sector
8

General Definition/s of SME & Mid
Corporate
• No Single Definition
• Classification varies in each country, bank, industry
9

Classification Manufacturing
Enterprises
Service Enterprises
Micro Upto Rs.25 lakh Upto Rs.10 lakh
Small Above Rs.25 lakh & upto
Rs.5 crore
Above Rs.10 lakh &
upto Rs.2 crore
Medium Above Rs.5 crore & upto
Rs.10 crore
Above Rs.2 crore & upto
Rs.5 crore
Source : Micro, Small and Medium Enterprises Development (MSMED) Act, 2006
RBI Classification
10

11

12

Increasing spirit of entrepreneurship causing this spurt..
Growing number of SMEs
13

SME & Mid Corporate Financing
- Borrowers Perspective
14

General Scenario
• Approx. 85% of SMEs in emerging markets suffer from
credit constraints
• Approx. 70% of all emerging-market SMEs do not use
any formal credit
• This means informal sector meets their financial
requirements, though at times with stringent conditions
• Nearly 23.7% of SMEs disappear in two years and
nearly 52.7% of SMEs exit the market in four years due
to business failure, bankruptcy, or other reasons
(Estimates IFC 2010)
15

• Recent global economic downturn has further
aggravated the problems already existed
• Financing assumes material role in SMEs
experiencing high growth prospects including
opportunities for takeover
• Very few SMEs are able to finance their expansion
through their Cash Flow and have to explore external
sources of funding
• In credit filtration process SMEs are at a
disadvantage
16

Issues of borrowers
• Percerption of higher risker lending by Lenders:
Lack of successful track record and small size of
resources of SME and Mid-Corporates creates a
perception of greater credit risk among the banks
• High Rate of Interest: Banks and other financial
institutions often charge higher rate of interest
compare to large corporate due to perception of
higher risk of SME/start ups/Mid-Corporates
• Collateral: SMEs lack the substantial asset base
(collateral) to provide as security against bank loans
– More pronounced for SMEs in the services sector
17

• Lower Sanction Limit: Normally sometime it has
been observed that loan amount sanctioned is less
compared to what is required by the business owners
• Bankers Rejection: Businessman feels that bankers
have rejected proposals without any proper appraisal
or investigation of potential of their business
• High Processing fees: small enterprises have to
incur more processing and transaction cost than
large firms
18

• Lack of Managerial Capacity: Managerial capacity to
operate the business is the other obstacle for our country.
Most of the businesses' managements do not have any
degree/training either from the formal institutes or
vocational learning centers.
• Increase in Contingency & Provisions
• Reduce the Loan Repayment Period by Bank as
compare to Project Report
• Internal Rating & Reporting
19

• Insufficient Working Capital Loan:-
Example:
Computation of Value of WC Requirement
Days
Debtors credit terms (does not include debtors
of Rs. 4 crore more then 90 days of credit) 90
Stock turnover 60
150
Less: Creditors Credit Term (60)
Assets Conversion Days 90
If the forecasted sales turnover is 100 crore , then the
Working Capital Requirement will be 90/365 x 100 crore
= 24.65 crore
Against the client requirement of Rs. 24.65 crore Bank
Sanctioned only Rs.22.65 crore WC Limit so shortfall of Rs.
2.00 crore and also Owner has to fund Rs. 4.0 cr of debtors
which are more then 90 days . In this Case Owner has to
arrange Totally Rs. 6 croreBFSI & Capital Markets Study
20

Delay in COD(Commercial Operation Date)
Proposed repayment schedule
Scheduled date of Completion of Project By March, 2014
Commercial Operations Date (COD) April, 2014
Implementation period (in months) October 2012 to March, 2014
(2 Years 6 Months)
Moratorium (in months) April, 2014 to September, 2014
(6 Months)
Repayment period in months/quarters Q.E. December, 2014 to
September, 2021 (7 Years)
No. Of installment 28 Quarterly Instalments
Starting Date Q.E. December, 2014
End Date (Last installment)/Repayment
period
September, 2021 (7 Years)
Door to door tenor 10 Years
21

SME & Mid Corporate Financing –
CA’s Perpective
22

Role of Financial Advisor (CA)
SME promoters being technocrats, may not be finance savvy, and
hence a Financial Advisor (CA) can a play major role in success of
any project funding initiative as follows:
– Project Report
• Project feasibility and viability reports (CMA Data)
• Liasoning with financial institutions (FIs) for securing the
facilities
• Negotiating with FIs for best possible terms
• Availing specific schemes targeting SME’s/Mid Corporates
• TEV/Ratings, etc
– Location advisory for setting up unit based on incentives
– Designing capital and tax structure
– Risk management and planning hedging strategyBFSI & Capital Markets Study
23

Project Report Contents
The Project report submitted to the bank forms the basis of banks
decision and hence the need to prepare a comprehensive
presentation including:
• Company Overview, Vision/Mission, Org Chart
• Management/Promoter Profile
• Shareholding pattern of the company
• Project Details
– About the Project
– Project Cost
» Cost of Land
» Construction and Other Setting up expenses
» Plant and Machinery
» Working Capital
– Means of financeBFSI & Capital Markets Study
24

Project Report Contents contd..
• Industry Analysis
• Technical Feasibility
– Location advantages
– Size of the plants/Proposed Facilities
– Lay out
– Prospective Supplier list
– Method of Production
– Types of Production Plants
– Equipments
• Operational Aspects
• SWOT Analysis
• Conclusion and Recommendation
25

Sector/ Parameters Mfg. Others
Current Ratio (min.) 1.33 1.20
(For FBWC limits above Rs. 5cr)
1.00
(For FBWC limits upto Rs. 5cr)
TOL/ TNW (max.) 3.00 5.00
DSCR
Net (min.)
Gross (min.)
2:1
1.75:1
2:1
1.75:1
Debt/ Equity Ratio 2:1 2:1
Promoters’
contribution* (min.)
30% of
Equity
20% of equity
Credit Appraisal Standards to be
observed..
26

Internal Credit Ratings
Source: SBI
27

CIBIL Score
• Credit Information Bureau Limited is India’s first Credit
Information Company founded in August 2000.
• CIBIL collects and maintains records of an individual’s
payments pertaining to loans and credit cards.
• CIBIL issues a 3-digit credit score and Credit Information Report
(CIR), used extensively by banks
• CIBIL score ranges from 300 to 900 and indicates credit
worthiness of the individual.
• Lenders prefer those with CIBIL score more than 700.
28

Techno Economic Valuation (TEV Study)
• Evaluating technical viability of a project broadly requires
analysis of following parameters:
– Technical Feasibility
– Economical Feasibility
– Financial Feasibility
– Operational Feasibility
• TEV study is a risk mitigation task undertaken in respect of any
industrial/commercial activity prior to decision by bank, whether
to lend or not
• The purpose of TEV Study is to provide utility to the
sanctioning authority to conclude at an informed judgment as
regards acceptance of the project for lending (or investment)
purpose and to take a view on the acceptability of risk level. .BFSI & Capital Markets Study
29

Steps to Debt Funding
Receipt of application from applicant
|
Receipt of documents
(Balance sheet, KYC papers, Different govt. registration no., MOA, AOA,
and Properties documents)
|
Pre-sanction visit by bank officers
|
Check for RBI defaulters list, willful defaulters list, CIBIL data, ECGC
caution list, etc.
|
Title clearance reports of the properties to be obtained from empanelled
advocates
|
Valuation reports of the properties to be obtained from empanelled
valuer/engineers
|
Contd…BFSI & Capital Markets Study
30

Steps to Debt Funding contd..
|
Preparation of financial data
|
Proposal preparation
|
Assessment of proposal
|
Sanction/approval of proposal by appropriate sanctioning authority
|
Documentations, agreements, mortgages
|
Disbursement of loan
|
Post sanction activities such as receiving stock statements, review
of accounts, renew of accounts, etc
(on regular basis)
31

Challenges Faced by Financial Advisor (CA)
• Remuneration and quantum of work on a proposal is not in
proportion most often
• Limited options for Direct Equity fund raising:
− Paucity of private equity investors for SMEs
− Reluctance by SME to dilute their share holding
• Promoters with less education not very effective in backing
picture presented by financial advisor to bank
• Banks have multiple reasons to reject a proposal hence
Financial Advisor may be hesitant to take up green-filed
assignments
32

SME & Mid Corporate Financing
- Bankers Perspective
33

Challenges faced by Banks
Bank reluctant to lend for number of Reasons:-
• Information on SME is asymmetric & inconsistent
• Lack of comparative data
• Transaction Data – Not all transaction data captured
in data & credit history as it is done in USA through
credit bureaux
• High cost of acquiring information compared to large
corporate
• Not all enterprises are professionally driven
• Average Financials,lower ability to absorbs shocks
• Low Capital Base & promoters averse to equity
dilution
• Higher risk of default and late payment in SME and
Mid-Corporate segmentsBFSI & Capital Markets Study
34

Parameter considered in Financing
Financial and non parameters
Financial
•Turnover
•Profitability amount and margin
•Net worth
•Debt-Equity ratio and constitution of Debts
•Working capital cycle
•Financing model of company
•Cost components and behavior of various cost like forex
fluctuation, material cost, Fixed and variable cost etc
•Cash flow in the company v/s Profits as per P&L
35

Non Financials
Critical Criteria Character & Borrower’s
Position
• Character - Willingness to Pay
• Capital - Risk-bearing Commitment
• Cash flow – Ability to Pay / Cash Flow Adequacy
• Collateral - Priority of Charge and Value
• Condition - Business Model and Industry Trend
•Banker reference
•Promoters background
•Trade Reference
•Vintage in business
•Technological changes in industry like Mobiles
•First all client data collected and tested against this
parameters and then submitted for approvals.BFSI & Capital Markets Study
36

Assessment
• Check transaction history for last six months of all banks
• Evaluate the transaction pattern in Current accounts
through factors such as no. of chq returns, average
balance maintained, Variation in month balance
maintained, No. of credit inflows in the account, credit
summations
• Assigning score to borrowers
• Score for sanction to be checked and depend upon the
same, the limits to be assign
• Credit limit is sanction for company and for different
facilities
• Security offered as collateral for loan
37

Approach and Old method of lending
(it is still followed by to a certain extent in Co-operative
and Small and Mid size PSU Banks)
• Branch client relationship plays important role
• Branch centric mode
• More based on the Gut feeling of bankers
• Many times it is time consuming
38

Approach and method of lending
Recent Trends in SME Financing Models by Bank:-
• Separate SME group in banks
• Market segmentation i.e. By size, sector, turnover
• Credit scoring models
• Decentralisation of decision making
• Parameterised products
• Portfolio approach – lending programme based on
industry specific assets to control industrial exposure
• Supply chain financing,
• Value added service and cross selling
• Technology and automation, innovative product lines
• Centralised monitoring and credit and risk team
• Centralised or Zone based processing like trade
service and transaction processing
• Optimise cost of coverage and servicing
39

Bank’s Products to SME – Assets
Side
1. Long Term Finance
2. Working Capital Finance
3. Trade Service
4. Treasury Products
5. Parameterised Products
6. Channel Finance
7. Corporate Linked business
8. Cash Management Servies
The Above include both Fund based and Non Fund
based products
40

Long term Finance: External commercial
borrowing
ECB is Foreign currency is the term loan offered for fresh
capital expenditure by corporate except few industries
specified by RBI
• Suitable for corporate having future earnings in USD
• Floating rates of interest linked to LIBOR
• IRS will help to convert to Fixed Rate of interest
• RBI Cap on Pricing, based on average maturity
• Repayments can be structure
External Commercial Arrangement
• ECA is credit line to Indian bank from foreign bank mostly
EXIM bank
• For specified end use and linkage like Solar Energy
• It will be like ECB offered at comparative cheaper price if
corporate or it project qualifies for specified linkage
41

Long term Finance:
Foreign currency term loan
Foreign currency term loan offered for capital expenditure
incurred outside India by Corporate
Suitable for :
• Corporate looking for acquisitions or takeover of foreign
companies in overseas
• Asset purchase like of Mines, Brands/IP, Ships etc
• Floating rates of interest linked to LIBOR Linked.
• IRS will help to convert into Fixed interest Rate
• Major comfort is build on the existing free cash accruals of
parent company in India
42

Rupee term loan
• Rupee term loan offered for capital expenditure and
takeover of existing term loan by corporate in India
• Floating rates of interest linked to base rates of banks
• Suitable for corporate having future earnings in rupee
and using indigenous items in capex
• Monthly repayment of Interest payment
• Repayments can be structured
43

WORKING CAPITAL FINANCE
All business needs a healthy cash flow to fund their every
day requirement, with money tied in the stocks and debtors
It can be difficult to access cash as when required which
can be fulfilled by Working capital finance
Working capital required by business
1. Procure raw materials & other services and expenses
2. Payments to labours and staff
3. Maintenance of stock, WIP, Stock of RM
4. Delivery of goods, maintain sales channels
44

Net working capital
NWC is excess of long term sources over long term use. It
is margin money for long term source towards working
capital
NWC = current Assets – Current liabilities
NWC = (Net worth + Long Term borrowing) minus
(Fixed Assets & Non Current Assets)
There are basket of products for working capital finance
• Cash credit, Overdraft, Working Capital Demand Loan
• Working Capital Term Loan
• Buyers Credit
• CMS
• FCNR ( B)
• Factoring
• Export and import trade Finance
45

Cash Credit Accounts
• Drawing power is based on value of stocks and debtors
minus required margin
• The day to day inflow of funds are routed through CC a/c.
Lending bank keep track of a/c through monthly stock/
book debts statements
Bills Discounting
• Bank finance short term trade transactions by
discounting, Hundi /Bills, the title of goods & accepted
hundi /invoice on the genuineness of trade and
associated documents
46

Non Fund Based Products
There are basket of Non fund based products are
as follows:
• Letter of Credit – sight and usance
• Bank guarantee- Financial and Performance
• Stand By Letter of Credit for funding working
capital requirement
• Derivative limits for hedging
47

Export Credit
Pre – Sale Finance
· Cash credit (for stock)
· Demand Loan
· Packing credit
· Purchase bill discounting
· Letters of credit (usance)
Post Sale finance
· Cash credit (book debt)
· Bill purchase/discounting
· Factoring / Forfaiting
· Post shipment finance
48

Corporate Linked business
Vendor Finance
•It involves financing supply chain partners who are
associated with several large corpoates like FMCG,
petroleum, Engineering by discounting the receivables of
corporate vendors. The normal tenor is 30 to 90 day
•Vendor submit the copy bills to bank, bank check the
correctness and fund to vendor and corporate directly pays
to bank on time
Channel financing
•The receivable of corporate are funded that is on
acceptable terms of corporate the money payable by the
sales channels like dealers, stockist, distributors.
•Dealer pays back to bank on liquation of stock or on or
before due dates as banks has paid on their behalf. It is
there for 7 to 90 days
49

Working Capital Assessment
Turnover Methods
• Fund based limits, 20% of projected annual turnover
Cash flow GAP method
• Based on cash flow projection, pure cash transaction,
Bank fund gap in cash flow in business operations
• Mainly used for seasonal industries for ex. Sector like
sugar, project based limits, financing specific projects
or where sales and purchase is not uniform
50

Working Capital Gap Method
Two methods 1 and 2, required study of business
operation, depending upon holding inventory and debtors
cycle and creditors limit. RBI has introduced Maximum
permissible Bank Finance (MPBF)
MPBF is an assessment method that mandate the cap
(maximum amount) on the working capital availed by the
borrower. This cap is based on an objective assessment of
company needs
Two methods of MPBF
1st method
Quantum bank finance is restricted to 75% of the working
capital gap. WCG is CA – Current borrowing (other than
bank borrowing)
2nd Method
WCG = (75% of CA) - Current borrowing (other than bank
borrowing)
51

Observation post disbursement
• Non-objection of Letter acknowledging debts
• Non submission or late submission of stock
statement and QFI and Annual accounts
• Not in proper formats
• Problem in Security creation
• Modification in terms sanctions
• Delay in execution of documents
• Delay in release of security
• Improper security papers
52

Post sanction formalities
• Stock statement submission
• End use of term loans
• Unit Inspection- Planned 7 surprise
• Stock audit and receivable audit
• Asset quality review
• Insurance Coverage
• Adherence to other sanctions terms/covenants
• Pre checking of documents before submitting to banks
• Adherences of RBI Guidelines and regulations
• Disclosures of materials and non materials information
to banks relation to business of client
• Follow compliance guidelines of the banks
• Answer to clarification seek from the bank
• Supports for Timely renewal completion
53

CONCLUDING REMARKS..
54

In Conclusion..
Borrowers expect banks to be:
• Flexible in approach/operation and low cost
• Educated about all kinds of businesses
• More innovative products, personalised service & attention
Banks expect from customers:
• To submit the proper, all relevant & correct documents
(financial & non financial) information alongwith proposal
• Keep bankers informed of major development
• Borrowers should keep their Financial, Accounts,
Compliances and legal departments more careful
Financial Advisor’s (CA) role is to use his knowledge and
experience to bridge this gap; End result should be to raise
funds at a reasonable cost and ensure bank is at ease
55

THANK YOU
56

Basic Funding Options Available
Loans can be of two types:
» FUND BASED:
 Working Capital -- to cover short-term immediate cash flow needs arising from
day-to-day business operations
 Term Loan -- medium to long-term finance for business expansion, product
diversification, renovation of business premises, or purchase of machinery
» NON-FUND BASED:
 Letter of Credit – bank assures payment to a seller of goods and/or services,
provided certain documents have been presented to it
 Bank Guarantee -- bank assures that the liabilities of a debtor will be met. In
other words, if the debtor fails to settle a debt, the bank will cover it.
57

Number of Employees engaged in SME
58

Number of SMEs
59

In Summary – Major Problems faced
• Sole Focus on Financials: The current approach to SME lending in most
institutions is still heavily dependent on business financials- i.e. looking at
historical data to predict future creditworthiness. Typically this involves a
lot of paper work and many visits to the applicant.
( This approach has not been very successful in the SME sector to-date due to the fact that the financials
provided by the applicant are often opaque given the cash nature of business transactions and incentives to
under report income to save on taxes)
• Lack of Collateral Security: Lending in India traditionally has relied on
taking adequate collateral as a “risk mitigant” to cover the credit risks
associated with SME lending .
• Bureau Reporting: There are two kinds of credit bureau reports that can
be generated – Individual and Corporate. only CIBIL currently provides
reports, they cannot give relevant insights about an applicant who is a
first time borrower
• Selective Segmentation: leaving aside the major chunk of “small”
entrepreneurs and entities whose need for adequate finance is more
pronounced. These small entities could be major links in the supply
chains of large players.
60

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