The Future of MSME Credit through Digital Lenders in India

Micro, small, and medium enterprises (MSMEs) are the backbone of the Indian economy. Over 60 million MSMEs hire approximately 120 million employees and contribute more than 30% to the nation’s Gross Domestic Product (GDP). Moreover, MSMEs account for about 50% of Indian exports.

A common challenge for most MSMEs is limited access to formal credit due to a lack of documentation and collateral. Unsurprisingly, these businesses rely on informal sources of funds.

The MSME lending industry is now evolving, as digitalization and formalization drive the market towards disruption. It is expected to reach INR 6 to 7 lakh crore by 2023 at a compounded annual growth rate (CAGR) of 36%.

A Shift in the Digital Lending Model
The Indian financial services industry is adopting digitalization due to changing consumer expectations driven by higher penetration of the Internet and smartphones. Financial services are moving to customized solutions with high-tech user experiences.

Triggers for This Growth

• Booming digital economy and footprint
  Almost 47% of MSMEs already use digital tools for payments and other business processes and digitalization is expected to grow even further in the coming years. Multiple initiatives will drive flow-based lending, wherein a lender can assess the creditworthiness of a business based on the current and estimated cash flows.

• Coronavirus pandemic
  Due to the coronavirus (COVID-19) pandemic, borrowers are hesitant to visit a bank or financial institution when they need a loan. By using the services of a digital lender, they can obtain contactless loans from the comfort of their homes or offices, without the need to visit a lender’s office.

• Demand from businesses trying to revive
  As India slowly unlocks the economy, the working capital needs of businesses for revival will trigger digital lending. As per a joint report by PricewaterhouseCoopers (PwC) and Federation of Indian Chambers of Commerce & Industry (FICCI), the unmet credit demand is expected to touch USD 1 trillion by 2023.

• Speed and convenience
  Traditional lenders often have cumbersome documentation requirements and longer lending procedures that may take up to 30 or even 45 days. In comparison, digital lenders provide approval within three days on an average.

Challenges that Arrest Growth 

Although unique opportunities are now available to digital lenders, they are facing several hurdles due to the outbreak of the coronavirus (COVD-19) pandemic. Some of these are:

• Significant hit to loan books, as collections, slow down and fresh disbursements reduce
• Liquidity crunch, as co-lenders like banks, non-banking finance companies (NBFCs) and equity investors like private equity and venture funds tighten their purses
• Despite offering a moratorium period on equated monthly installments (EMIs), MSMEs require an even longer period of relaxation

How Digital Lenders Can Get Future-Ready 

Digital lenders can enhance agility and serve MSMEs quicker than larger institutions by:

• Offering innovative products like anti-lockdown finance and contactless loans with repayment flexibility
• Determining creditworthiness within minutes from the customer-provided information by tapping into data points and using predictive algorithms and models
• Using analytics-driven platforms for seamless loans and provide newer solutions like quick settlements and Peer-to-Peer (P2P) lending
• Collaborating with different players in the ecosystem, like banks and financial institutions and offering innovative services, like flow-based lending solutions via Point of Sale (POS)-based models to help MSMEs raise unsecured loans
• Appraising customers through digital platforms before sanctioning the loan with the hel\ of enhanced credit bureau coverage and Internet penetration
• Enhancing user experience and reducing disbursal time to a few days
• Harnessing the Internet of Things (IoT) to acquire data from alternate sources like Employees’ Provident Fund Office (EPFO) and Ministry of Corporate Affairs (MCA), social media, transaction data, and utility data like gas, telecom, and electricity to widen their reach

A joint study by the Boston Consulting Group and Omidyar Network predicts the growth of digital lending in India to reach USD 100 billion by 2023. The market is at its prime with several challenges for the lenders. Nonetheless, the digital lending industry is poised for some exciting times in the future.