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 strategy



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 finance



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. .



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…



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 segments



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.



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 BFSI & Capital Markets Study


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. BFSI & Capital Markets Study


60

Sme 25 4_2014

Economy & Finance

Transcript of Sme 25 4_2014