SME Financing: A Variety of Options

The SME sector also known as the MSME sector plays a crucial role when it comes into the Indian economy. It is a way towards the social economic transformation in India. But still in the third world countries don’t hold a major chunk. The sector is still in the run to achieve the objective of eradication of unemployment, decrease in the poverty and remove the rural-urban migration in India. The sector is important as 8% GDP contribution arrives from here, 45% of the output is manufactured here, 40% exports, 6000 products manufactured and 60 million people are provided employment due to this sector making it important. It is the second largest sector in India providing employment. The Indian economy is diverted towards a set of enterprises known as the MEME’s for their operations. Out of the 26 million enterprises in India as recorded in the previous census 1.5 million are only registered. On the contrary, 24.5 million which is not registered and holds 94% of the MSME’s hold a huge potential.

The MSME’s are mainly classified into the two sectors: 1. Manufacturing 2. Services; when analysed under the MSMED act in India on the basis of the seed capital and the plant and machinery shows us the below picture:

The financing in the SME in earlier days was good but after 2008 the tables turned. Let us have a look at the financing options in SME in India.

SME FINANCING OPTIONS IN INDIA:

The article focuses on the different options available for the SME funding in the Indian market. The SME industry is an ocean of opportunities but due to some barriers from both the sides the progress made is not significantly out shown.

1. SME Business Loans:

Majority of the SME go for this option as a result for the different sub options available under it. The term loans are basically of three types 1. Short term loans 2. Medium term loans 3. Long term loans lasting from maximum 3 years for the short term ones and 10-15 years for the long term one. The fluctuation in the interest is dependent on the tenure of the loan. The benefits of this type of funding are as follows:

• Turns out to be a cheap source of funds from companies point of view
• The procedure is not very long
• The loans can be easily repaid if the business model is working good
• The business can flourish quickly

2. Short Term Funding:

The word over drafting means overdrawing from your current account. In other words, short term funding means overdrafting in which a holder withdraws more money than what is deposited in the account. Letters of credit is another option when the bank assures the seller to receive the specified amount deposited by the buyer.

Bank guarantees one of the another ways to issue short term funding or working capital loan in which the bank pays on the behalf of the buyer or the seller to the third party. Priority sector loans play a foremost part in the short term funding as under RBI banks are required to keep a certain amount. So if you quality for the priority sector loans don’t make the mistake of ticking ‘No’ in your application form! The benefits of such thing are as follows:

• Tremendous options available under short term funding
• Flexible collateral options
• Quick approval and easy documentation

3. Bill Discounting:

In this process you can get instant cash on the basis of your credit sales and the bank discounts your bill and provides you with the cash. In the process from your end you need to provide the invoices of the trade occurred between you and the third party making the thing easier for you. So, you don’t have to wait for the bill to turn mature and for you to go to the bank and get the cash withdraw on the same day. Earlier withdrawals are possible now! The benefits of the process are as follows:

• Easy withdrawals
• Less trouble to authenticate
• No collateral against this type of transaction

4. Letter of Credit:

This type of funding is provided in the international transactions of bigger value. In this type of transaction the banks are also involved in the land development process.

As the letter is prominently used in the international transactions the buyer and the seller are unknown and the whole transaction takes place on the creditworthiness of the bank. The benefits of the above service are follows:

• Less risk of failure
• Less risk of spoil of goodwill
• The business gets funding without any issues

5. Loan against Property:

If you want to get loan against your residential property then this approach you can go definitely for this option. Herein your residential property is kept as collateral. Here the amount is derived as a percentage of the market value of your property offered as collateral. In India, this rate is at 50-60% depending on the market value of the collateral. The benefits of this are as follows:

• Lower rate of interests as compared to personal loans
• Easy documentation
• Longer tenure of loan
• Quick approval and processing

6. Unsecured Business Loan:

An unsecured loan is a loan without any collateral and has utility in the expansion of the business and the project financing. The applicants require a high credit value in the market to get such loans. These loans fall between 15 lakhs- 1 crore. Generally, taken in the form of short term loans and re-paid in the form of EMI’s. The priority sector loans fall under this category as they are for agriculture. The benefits are as follows:

• Quick turnaround time
• Helps business grow and expand
• Easy application and documentation

7. Angel Investors:

Angel investors are individuals who have got surplus amount of cash with them and have interest in funding in your SME. They also work in groups of networks to collectively screen the proposals. In return of investment they demand up to 30% of the equity of the firm. They invest fewer amounts as compared to venture capitalists. They prefer to take high risks in investment as against higher returns. The benefits of angel investors are as follows

• More chances of getting quick investments
• They also give advice alongside investment
• Less documentation issues

8. Venture Capitalists:

Venture capitalists invest in businesses with the potential for high return. They invest in a portfolio where a significant number of businesses may fail, so those that succeed have to compensate for those losses. Like angel investors, venture capitalists bring a wealth of experience to the businesses and although they are unlikely to get involved in the day-to-day running of the business, they may be able to help with the overall business strategy. They typically look for larger opportunities that are a little bit more stable, companies having a strong team of people and a good traction. The benefits of venture capitalist are as follows.

• Business strategy gets more refined
• The experience of such individuals brings less managerial problems
• They invest more into a business so sustainability issues are neglected with such huge amount of investments
• They don’t mentor your business too much
• They maintain the flexibility

9. Equity Finance:

Equity finance refers to the share of ownership to the third party in exchange of funding provided by the person in the form of buying the shares of the SME. Eventually, the funds can be raised directly through the equity shareholders through a rights issue. The benefits of the equity are as follows:

• Huge funding can be generated through it.
• Suitable for the long term investments
• Less risk of failure in the business

10. Peer-to-Peer Lending:

One of the major sources is the supply of business funding is through peer to peer lending. This is where the internet based platforms come into the picture and they match the person in need of finance to the person who is ready to invest. The benefits of the same are as follows:

• Quick availability of loans.
• Getting low interest rates as compared to banks.
• Authentic persons ready to invest.

Thus, the market of SME in India is growing by leaps and bounds and the potential firms are meeting there investors. In this article we discussed about the most used sources of finance. Apart from this, there are many more sources of finance and it depends on the investor to invest the money correctly against the returns on investment. Also, as we see the benefits of these sources make them aberrant and lead to a better deal. Businesses should think of the range of financing options and how realistic they are to attain that mark.