PROJECT REPORT ON

ANALYSING WORKING CAPITAL LIMITS OF SMALL & MEDIUM ENTERPRISES

IN

ING VYSYA BANK (NOW KOTAK MAHINDRA BANK)

SUBMITTED IN PARTIAL FULFILMENT OF THE REQUIREMENT OF

MASTER OF MANAGEMENT STUDIES

BY

PANDEY AMITKUMAR HARISHCHANDRA HEERA DEVI

ROLL NO 2014212

MMS-II (SEM III)

YEAR 2014 - 2016

LALA LAJPATRAI INSTITUTE OF MANAGEMENT MAHALAXMI, MUMBAI – 400034

1 | P a g e A PROJECT REPORT ON

ANALYSING WORKING CAPITAL LIMITS OF SMALL & MEDIUM ENTERPRISES

SUBMITTED IN PARTIAL FULFILMENT OF THE REQUIREMENT OF

MASTER OF MANAGEMENT STUDIES

BY

PANDEY AMITKUMAR HARISHCHANDRA HEERA DEVI

ROLL NO 2014212

MMS-II (SEM III)

YEAR 2014-2016

LALA LAJPATRAI INSTITUTE OF MANAGEMENT MAHALAXMI, MUMBAI – 400034

2 | P a g e A PROJECT REPORT ON

ANALYSING WORKING CAPITAL LIMITS OF SMALL & MEDIUM ENTERPRISES

BY

PANDEY AMITKUMAR HARISHCHANDRA HEERA DEVI

Roll No: 2014212

ING VYSYA BANK (NOW KOTAK MAHINDRA BANK)

3 | P a g e COLOURED XEROX OF THE INTERNSHIP CERTIFICATE GIVEN BY THE COMPANY

4 | P a g e Certificate

This is to certify that the project work titled “Analysing Working Capital Limits Of Small & Medium Enterprises” is a summer internship work carried out by Mr. Pandey Amitkumar Harishchandra Heera Devi.

The project was completed for “ING Vysya Bank (Now Kotak Mahindra Bank)”, under the guidance of Mr. Vicky Punwani

I further certify that the said work has not been submitted in the part or in full, to any other University.

Date: 31st August, 2015

______

Prof. Arti Modi Dr V.B. Angadi

Project Guide Director

5 | P a g e DECLARATION

I, Mr. Pandey Amitkumar Harishchandra Heera Devi , student of Lala Lajpatrai Institute of Management of MMS II (Semester III) hereby declare that I have completed the summer internship project on Analysing Working Capital Limits Of Small & Medium Enterprises with ING Vysya Bank (Now Kotak Mahindra Bank) in the Academic year 2014 - 2016. The information submitted is true & original to the best of my knowledge.

PANDEY AMITKUMAR

6 | P a g e ACKNOWLEDGEMENT

At the outset of this project, I would like to express my profound thanks to a few people without whose help, completion of this project would not have been possible.

First and foremost, I would like to express sincere thanks to ING Vysya Bank (Now Kotak Mahindra Bank) for giving me this opportunity to work with them.

The list is endless but to name a few special people, I would like to thank Mr. Vicky Punwani for being extremely supportive and guiding me throughout my internship and giving me constant motivation and expert advice.

I would also like to thank the entire service department for providing me their precious time and making this internship a successful learning experience.

I am very grateful to Dr. Angadi, Director of Lala Lajpat Rai Institute of Management, for giving me the opportunity to do this project in ING Vysya Bank (Now Kotak Mahindra Bank).

I would also like to thank Prof. Arti Modi for being an excellent mentor and helping me whenever I approached him/her.

Last but not the least; I take pride in thanking my parents Mr. Harishchandra Pandey & Mrs. Heera Devi, siblings and friends for their much valued support.

7 | P a g e EXECUTIVE SUMMARY

Introduction: ING Vysya Bank( now Kotak Mahindra Bank) which aims at providing “Funding in SME sector” providing different types of facilities to customers according to their needs. ING Vysya Bank decided to merge with Kotak Mahindra Bank, creating the fourth largest private sector bank in India. On 1 April 2015, the Reserve Bank of India approved the merger.

. Objective:

1. To evaluate the structure of SMEs and regulatory.

2. Mechanism over SMEs.

3. Financing of SMEs.

4. Working Capital Management

5. To know evaluation of credit lending norms for SMEs by RBI and committees under Ministry of Finance.

6. Evaluate the availability of Credit

Methodology: The methodology used was both qualitative and quantitative market research Financial Statement Analysis & Forecasting then preparing Fin spread sheet and process note for SMEs. Use of Cash Flows, Balance sheet, CPV and other Financial Analysis were another methodology for designing the customized business plans of the franchisees.

Findings and Conclusions: The SME sector in India, which includes the micro, small and medium enterprises, constitutes an important part of the economy. However, a major concern for the SMEs is the availability of an adequate amount of finances. The government has recognised the key role that the SME segment plays in creating new enterprises and in providing employment to a large segment of the population and has adopted several public policy measures to enhance flow of credit to the sector.

8 | P a g e Recommendations: SME sector is perceived as a profitable endeavor for banking business despite significant differences in lending practices, business models, drivers and obstacles in SME finance. Numerous issues relating to SME finance have been analyzed in the study based on first hand impressions of entrepreneurs and banks officials and also observations have made by using industry level statistics on selected data. The following measures are recommended from bankers’ as well as entrepreneurs’ perspective based on the empirical observations of the study which probably would help bankers in making their SME loan book strong for sustainable development of banking industry and inclusive growth of Indian economy.

Contribution: My company guide Mr. Vicky Punwani appreciated my work by giving me the different company profiles and doing financial analysis of different companies during the SIP period. My financial analysis portfolio was accepted by the company. My contribution towards the company was also through meeting with Clients of different SME industries and providing useful information like facilities that we offer at the ING Vysya Bank (now Kotak Mahindra Bank). The company is running successfully with the implementation and help of the plan and balanced scorecard suggested by me.

There was so much work that was actually being carried out apart from the project which helped me a lot in increasing my knowledge, widened the scope for working and improved my communication and negotiation skills. The mission, vision and goals of the organization has helped me to evolve as a more versatile and multi-tasking person.

9 | P a g e TABLE OF CONTENTS

1. Indian Banking System ...... ……………………………………….…..12

1.1.1. History of Banking in India…………………………………...…………..12

1.1.2. Public Sector Banks in India……………………………...………………14 1.1.3. Private Sector Banks in India…………………………………………..14

1.1.4. Co-operative Banks in India…………………………………………….14

1.1.5. Regional Rural Banks in India…………………………………………15

1.1.6. Foreign Banks in India………………………………………………….15 1.2. Banking…………………………………………………………………………………16

1.3. Trends…………………………………………………………………………………..16

1.4. Growth Statistics……………………………………………………………………….17

1.5. Banks and Consumer Finance………………………………………………………...18

1.6. Indian Bank Association………………………………………………………………19

2. ING Vysya Bank (Now Kotak Mahindra Bank)………………………………………20

2.1. About the company………………………………………………………21

2.2. Company’s Vision & Values……………………………………………..24

2.3. Facilities offered by ING KOTAK BANK in SME/ Retail Banking…25

3. FINANCIAL ANALYSIS OF SME FUNDING…………………………………….….27

3.1. Introduction………………………………………………………………….28

3.2. Funding Structure…………………………………………………………..29

3.3. Simple guidelines of funding SME…………………………………………30

3.4. Steps for SME funding Procedure…………………………………………32

4. The Banking System: Commercial Banking- Key Ratios/Factors……………………33

5. Methodology & Sampling……………………………………………………………….36

6. SME Finance from Bankers’ Perspective………………………………………………40

6.1. Human Capital is determinant of growth………………………………….40

10 | P a g e 6.2. Bankability of SME Finance………………………………………………..42 6.3. Causes of default by SMEs………………………………………………….44 6.4. Less security or no collateral with SMEs…………………………………45 6.5. Lengthy and inflexible documentation……………………………………47 6.6. Ways of making finance simpler & cost effective for SMEs…………….47 7. SME Finance - An Industry Analysis………………………………………...…………49 8. Drivers of SME Finance - An Industry Review………………………………………...50 8.1. Incentives for enhancing viability of SME Finance……………………….50 8.2. Institutional advantages to Banks…………………………………………..50 8.3. Policy incentives for MSME finance by banks…………………………….51 8.4. Competitive advantages to SMEs………………………………………..…52

9. STATISTICAL TABLES…………………………………………………………..53

10. Annextures………………………………………………………………………….62

11. My Learning………………………………………………………………………..72

12. Conclusion………………………………………………………………………….73

13. Bibliography…………………………………………………………………..……74

11 | P a g e 1. Indian Banking System

Banking System - Introduction 1.1.1 History of Banking in India

For the past three decades India's banking system has several outstanding achievements to its credit. The most striking is its extensive reach. It is no longer confined to only metropolitans or cosmopolitans in India. The government's regular policy for Indian bank since 1969 has paid rich dividends with the nationalization of 14 major private banks of India.

The first bank in India, though conservative, was established in 1786. From 1786 till today, the journey of Indian Banking System can be segregated into three distinct phases. They are as mentioned below:

Phase I

During the first phase the growth was very slow and banks also experienced periodic failures between 1913 and 1948. There were approximately 1100 banks, mostly small during those days public had lesser confidence in the banks. As an aftermath deposit mobilizations was slow. Abreast of it the savings bank facility provided by the Postal department was comparatively safer.

Phase II

Government took major steps in this Indian Banking Sector Reform after independence. In 1955, it nationalized Imperial Bank of India with extensive banking facilities on a large scale especially in rural and semi-urban areas. It formed State Bank of India to act as the principal agent of RBI and to handle banking transactions of the Union and State Governments all over the country.

12 | P a g e Seven banks forming subsidiary of State Bank of India was nationalized in 1960 on 19th July 1969, major process of nationalization was carried out.

Second phase of nationalization Indian Banking Sector Reform was carried out in 1980 with seven more banks. This step brought 80% of the banking segment in India under Government ownership.

After the nationalization of banks, the branches of the public sector bank India rose to approximately 800% in deposits and advances took a huge jump by 11,000%.

Phase III

In 1991, under the chairmanship of M Narasimham, a committee was set up by his name, which worked for the liberalization of banking practices.

The financial system of India has shown a great deal of resilience. It is sheltered from any crisis triggered by any external macroeconomics shock as other East Asian Countries suffered. This is all due to a flexible exchange rate regime, the foreign reserves are high, the capital account is not yet fully convertible, and banks and their customers have limited foreign exchange exposure.

13 | P a g e Banks in India

1.1.2. Public Sector Banks in India The following are the list of Public Sector Banks in India

Allahabad Bank, Andhra Bank, Bank of Baroda, Bank of India, Bank of Maharashtra, Canara Bank, Central Bank of India, Corporation Bank, Dena Bank, Indian Bank, Indian Overseas Bank, Oriental Bank of Commerce, Punjab & Sind Bank, Punjab National Bank, Syndicate Bank, UCO Bank, Union Bank of India, United Bank of India, Vijaya Bank

List of State Bank of India and its subsidiary, a Public Sector Banks

State Bank of Bikaner & Jaipur, State Bank of Hyderabad, State Bank of Indore, State Bank of Mysore, State Bank of Saurastra, State Bank of Travancore

1.1.3. Private Sector Banks in India

List of Private Banks in India

Bank of Punjab, Bank of Rajasthan, Catholic Syrian Bank, Centurion Bank, City Union Bank, Dhanalakshmi Bank, Development Credit Bank, Federal Bank, HDFC Bank, ICICI Bank, IDBI Bank, IndusInd Bank, ING Vysya Bank, Jammu & Kashmir Bank, Karnataka Bank, Karur Vysya Bank, Laxmi Vilas Bank, South Indian Bank, United Western Bank, UTI Bank

1.1.4. Co-operative Banks in India

Cooperative banks in India finance rural areas under:

Farming, Cattle, Milk, Hatchery, Personal finance

Cooperative banks in India finance urban areas under:

Self-employment, Industries, Small-scale units, Home finance, Consumer finance, Personal finance

14 | P a g e 1.1.5. Regional Rural Banks in India

Apart from SBI, there are other few banks which functions for the development of the rural areas in India. Few of them are as follows.

Haryana State Cooperative Apex Bank Limited, NABARD, Sindhanur Urban Souharda Co-operative Bank, United Bank of India, Syndicate Bank

1.1.6. Foreign Banks in India

List of Foreign Banks in India

ABN-AMRO Bank, Abu Dhabi Commercial Bank, Bank of Ceylon, BNP Paribas Bank, Citi Bank, China Trust Commercial Bank, Deutsche Bank, HSBC, JPMorgan Chase Bank, Standard Chartered Bank, Scotia Bank, Taib Bank

Upcoming Foreign Banks in India

The following are the list of foreign banks going to set up business in India

Royal Bank of Scotland, Switzerland's UBS, US-based GE Capital, Credit Suisse Group, Industrial and Commercial Bank of China

1.1 Banking

To meet the challenges of going global, the Indian banking sector is implementing internationally followed prudential accounting norms for classification of assets, income recognition and loan loss provisioning. The scope of disclosure and transparency has also been raised in accordance with international practices. India has complied with almost all the Core Principles of Effective Banking Supervision of the 15 | P a g e Basel Committee. Some Indian banks are also presenting their accounts as per the U.S. GAAP. The roadmap for adoption of Basel II is under formulation.

The use of technology has placed Indian banks at par with their global peers. It has also changed the way banking is done in India. ‘Anywhere banking’ and ‘Any time banking’ have become a reality. The financial sector now operates in a more competitive environment than before and intermediates relatively large volume of international financial flows.

1.2 Trends

The Indian banking industry is currently in a transition phase. On the one hand, the public sector banks, which are the mainstay of the Indian banking system, are in the process of consolidating their position by capitalizing on the strength of their huge networks and customer bases. On the other, the private sector banks are venturing into a whole new game of mergers and acquisitions to expand their bases.

The system is slowly moving from a regime of “large number of small banks” to “small number of large banks.” The new era will be one of consolidation around identified core competencies.

In India, one of the largest financial institutions, ICICI, took the lead towards universal banking with its reverse merger with ICICI Bank. Another mega financial institution, IDBI, has also adopted the same strategy and has already transformed itself into a universal bank. This trend may lead to promoting the concept of a financial super market chain, making available all types of credit and non-fund facilities under one roof or specialized subsidiaries under one umbrella organization.

1.4 Growth statistics

Scheduled Commercial Banks (SCBs) in India are categorized into five different groups according to their ownership and / or nature of operation. These bank groups are (i) State Bank of India and its associates (ii) other nationalized banks (iii) 16 | P a g e regional rural banks (iv) foreign banks and (v) other Indian SCBs (in the private sector).

The banking sector witnessed strong growth in deposits and advances during the year 2004-05. As of March 2005, the number of commercial banks stood at 289. The aggregate deposits of SCBs increased from US$ 331 billion in March 2004 to US$ 374 billion in March 2005; credit increased from US$ 185 billion to US$ 242 billion; and investments swelled from US$ 149 billion to US$ 162 billion.

Net domestic credit in the banking system has witnessed a steady increase of 17.5 per cent from US$ 445 billion on January 21, 2005 to US$ 523 billion on January 20, 2006. The growth in net domestic credit during the current financial year up to January 20, 2006 was 14.4 per cent.

Nationalized banks were the largest contributors to total bank credit at 47.8 per cent as of September 2005. While foreign banks' contribution to total bank credit was low at 6.7 per cent, the contribution of State Bank of India and its associates accounted for 23.8 per cent of the total bank credit. Credit extended by other SCBs stood at 18.9 per cent.

1.5. Banks and consumer finance

Indian banks, particularly private banks, are riding high on the retail business. ICICI Bank and HDFC Bank have witnessed over 70 per cent year-on-year growth in retail loan assets in the second quarter of 2005-06. Annual revenues in the domestic retail banking market are expected to more than double to US$ 16.5 billion by 2010 from about US$ 6.4 billion at present, say a McKinsey study.

The home loan sector is also on a smooth course. The average loan size of home finance companies is increasing. HDFC, the second largest player in the home finance business, has seen average loan increase from US$ 10,773 in FY04 to US$ 13,467 in FY05, a change of almost 25 per cent. For ICICI Bank, which is the largest player in the business, the average ticket size is about US$ 13,467 – US$ 15,711 and has increased by 10-15 per cent over last year.

17 | P a g e Foreign banks are working on expanding their bases in the country. The Ministry of Finance and Reserve Bank of India have agreed to allow foreign banks to open 20 branches a year as against 12 now. At present, 40 odd foreign banks have over 225 branches in India. They will also be allowed 74 per cent stake in private banks. After 2009, the local subsidiaries of foreign banks will be treated on par with domestic banks.

18 | P a g e 1.6. Indian Banks Association (IBA)

The Indian Banks Association (IBA) was formed on the 26th September 1946 with 22 members. Today IBA has more than 156 members comprising of Public Sector banks, Private Sector banks, Foreign banks having offices in India, Urban Co- operative banks, Developmental financial institutions, Federations, merchant banks, mutual funds, housing finance corporations, etc.

The functioning of IBA

 To promote sound and progressive banking principles and practices.

 To render assistance and to provide common services to members.

 To organize co-ordination and co-operation on procedural, legal, technical, administrative and professional matters.

 To collect, classify and circulate statistical and other information.

 To pool together expertise towards common purposes such as reduction in costs, increase in efficiency, productivity and improve systems, procedures and banking practices.

 To project good public image of banking through publicity and public relations.

 To encourage sports and cultural activities among bank employees.

19 | P a g e ING VYSYA BANK (KOTAK MAHINDRA BANK)

ING VYSYA BANK (NOW KOTAK MAHINDRA BANK)

20 | P a g e 2.1 About the Company

Established in 1930s, Vysya Bank was formally incorporated in the city of Bangalore, Karnataka. The state of Karnataka is known as the "cradle of Indian banking" due to the region's bygone banking relationship with several European East India Companies during the 17th, 18th and 19th centuries. Seven of the country's leading banks (Canara Bank, Syndicate Bank, Corporation Bank, Vijaya Bank, Karnataka Bank, State Bank of Mysore, and ING Vysya Bank) were originally established in Karnataka.

From the 1930s through the 1950s, Vysya Bank built its banking business organically in southern India. The bank concentrated on serving the Vysya community, a merchant/trading community operating across Karnataka and Andhra Pradesh. In 1958, the bank was licensed by the Reserve Bank of India (RBI) to expand its banking operations nationwide. In 1972, the RBI upgraded Vysya Bank to a national B class bank.

In 1987, Vysya Bank established two independently operating subsidiaries providing equipment leasing and home mortgaging services (Vysya Bank Leasing Ltd and Vysya Bank Housing Finance Ltd, respectively). In 1994, Vysya Bank began marketing several innovative financial products to the fast-growing Indian middle-class segment (e.g. Vysprimeand Vysinvest for NRIs, Vysbuy for consumer financing, Vysmobile for auto loan financing, and Vysequity for common equity financing).

In 1995, Vysya Bank entered into a long-term strategic alliance with Belgian bank Bank Bruxelles Lambert (BBL). Following this agreement, the Vysya Bank engaged KPMC Peat Marwick for assistance in re-engineering its business processes in preparation for globalisation. In 1996, an international investment banking joint venture (JV) with MC Securities (London), an investment banking subsidiary of BBL, was formally established.

21 | P a g e In 1998, the ING Group acquired BBL and all its contractual and JV interests in Vysya Bank. In 1999, Vysya Bank joined the ING Group in co-marketing/distribution of life insurance products in India. Vysya Bank also acquired a 26% equity stake in the ING Asset Management Company. In 2000, Vysya Bank, ING Insurance, and the Damani Group formed a life insurance JV; this innovative collaboration marks the first bancassurance venture in India.

In 2002, Vysya Bank's Board of Directors and the RBI approved Vysya Bank's formal merger with the ING Group. Under Indian law, this move allowed ING to increase its total equity holdings in Vysya Bank from 20% to 44%. Peter Alexander Smyth and Jacques PM Kemp were appointed to the board of the newly-formed ING Vysya Bank.

ING Vysya Bank then appointed Bart Hellemans as CEO and managing director (MD) and G Mallikarjuna Rao as chairman of the board.

As of March 2013, ING Vysya is the seventh largest private sector bank in India with assets totaling ₹54836 crore (US$8.7 billion) and operating a pan-India network of over 1,000 outlets, including 527 branches, which service over two million customers. ING Group, the highest-ranking institutional shareholder, currently holds a 44% equity stake in ING Vysya Bank, followed by Aberdeen Asset Management, private equity firm ChrysCapital, Morgan Stanley, and Citigroup, respectively.

ING Vysya has been ranked the "Safest Banker" by the New Indian Express and among "Top 5 Most Trusted Private Sector Banks" by the Economic Times.

22 | P a g e On 20 November 2014, in an all stock amalgamation, ING Vysya Bank decided to merge with Kotak Mahindra Bank, creating the fourth largest private sector bank in India. On 1 April 2015, the Reserve Bank of India approved the merger.

SWOT Analysis

1. Innovative financial products of diverse categories 2. Kotak Mahindra Finance Ltd. is the first company in the Indian banking history to convert to a bank 3. Comprehensive Cash Management System

4. Has over 20,000 employees Strength 5. Customer account base of over 2.7 million

1. Lesser penetration as being late entrants

2. Low publicity and marketing as compared to other premium Weakness banks in the urban areas

1. Increase in Industry banking Opportunity 2. Explore opportunities abroad by International banking

1. Economic slowdown 2. Highly competitive environment Threats 3. Stringent Banking Norms

STP

Segment Individual and Industry banking

Target Group Investment Sector

Positioning Complete Banking solutions

23 | P a g e Competition

1. HDFC Bank 2. ICICI Bank

Competitors 3. Axis Bank 2.2 Company’s Vision and Values

The ING Vysya-Kotak Mahindra merger will give the merged entity a significant national footprint, affording it the capacity and means to serve you even better. The deep Indian roots, long and proven experience, and global standards of service will enable us to deliver a truly seamless banking and financial services experience.

Over 230 million Indians can now benefit from Kotak’s offerings, including 6%* p.a. interest on the balances of above rupees one lakh in their savings accounts, helping them earn more and from banking services delivered through 1,200+ branches and 1,900 ATMs across nearly 643 locations.

24 | P a g e 2.3 Facilities offered by ING KOTAK BANK in SME/ Retail Banking

Here are the products offered to the SME funding:

 Cash Credit/ Over Draft - A Cash Credit is a short-term loan to a company for meeting its working capital requirements. Loan limit is prearranged and companies can continuously draw up to the limit as and when needed against hypothecation of current assets & collateral securities.  Working Capital Demand Loans - The Bank provides working capital facilities in the form of Working Capital Demand Loan along with cash credit facility. The primary or collateral security will be as mentioned in cash credit facility. Interest is levied on the amount drawn.

 Term Loans - The Bank caters to the need of long-term funds to enable growth opportunities of business, capacity expansions, plant modernization and other such requirements. Keeping these requirements in mind we provide term loans up to acceptable tenor with suitable moratorium, if required, and repayment options structured on the basis of companies estimated cash flows. These loans are primarily secured by a first charge on the fixed assets acquired through the loan amount and suitable collateral security.

 Export Finance - The Bank provides finance for export activities in the form of Pre- Shipment Credit against firm order and or Letter of Credit and Post shipment credit. Credit is available for procuring raw materials, manufacturing the goods, processing

25 | P a g e and packaging the goods and shipping the goods. Finance is provided in INR or foreign currency depending upon the need of the borrower.

 Buyers Credit - The Bank provides Buyer's credit, it is the credit availed by an Importer (Buyer) from overseas Lenders i.e. Banks and Financial Institutions for payment of his Imports on due date. The overseas Banks usually lend the Importer (Buyer) based on the letter of Credit (a Bank Guarantee) issued by the Importers (Buyer's) Bank. It can be availed for working capital needs or for import of capital goods.

 Bank Guarantees - The Bank provides Bank Guarantee on behalf of our client to various other entities such as Government, quasi Govt bodies, corporate and so on. A range of guarantees are provided such as Performance guarantee, financial guarantee, EPCG etc.

 Letter of Credit - Apart from fund based working capital facilities - The Bank provides a range of Non-Fund Based facilities such as Letter of credit, Bank Guarantees, Solvency certificates, etc. Letter of Credit is provided to meet need for trade purchases. These are generally provided for 3-6 months depending upon customer's trade cycle. Apart from this we provide Import Letter of Credit for importing machinery or capital goods. Such LCs are for tenure ranging from 1-3 years depending upon the need of the borrower.

 LC Bill Discounting - The Bank provides LC bill discounting facilities for local LCs issued by acceptable scheduled/commercial banks in India.

 Loan against Property - The Bank provides Loan against commercial & residential property as per current market value of the property (subject to applicable margins) in the form of overdraft/ term loans.

 Lease Rental Discounting – Discounting of lease rentals of a reputed lessee like reputed foreign/ Indian MNC & IT companies, public sector banks & private sector banks as per the terms of lease. 26 | P a g e 3. FINANCIAL ANALYSIS OF SMALL & MEDIUM ENTERPRISE (SME) FUNDING

27 | P a g e 3.1 INTRODUCTION

SME finance is the funding of small and medium-sized enterprises, and represents a major function of the general business finance market – in which capital for different types of firms are supplied, acquired, and cost or priced. Capital is supplied through the business finance market in the form of bank loans and overdrafts; leasing and hire-purchase arrangements; equity/corporate bond issues; venture capital or private equity; and asset-based finance such as factoring and invoice discounting.

However, not all business finance is external/commercially supplied through the market. Much finance is internally generated by businesses out of their own earnings and/or supplied informally as trade credit, that is, delays in paying for purchases of goods and services.

The Indian small & medium enterprises (SMEs) sector is considered as the backbone of the economy, contributing 45 per cent of the industrial output, 40 per cent of the country's total exports, employing 60 million people, creating 1.3 million jobs every year and producing more than 8,000 quality products for the domestic and international markets.

With approximately 30 million SMEs in India, around 12 million people are expected to join the workforce in the next 3 years with the sector growing at a rate of 8 per cent a year. Efficiently organized and innovative, MSMEs often exercise frugal management skills and use local resources to create innovative products and services which cater to any country's growing needs. However, in order to continue scaling up, timely and adequate access to financial services is an imperative, and this has been traditionally one of the biggest hurdles.

The potential sources of funding are Debt funding & Equity Funding .

For SMEs, obtaining and securing the right source of finance is a major challenge. Lack of available funding for SMEs has been brought into sharper focus post-credit crunch.

28 | P a g e The total gap in SME funding is estimated to be around $126 billion. Out of this, the debt gap is approximately $84 billion and equity gap is about $42 billion, while the total equity supply is only around $526 million. Many growth businesses are started by entrepreneurs, often with little experience of how to raise finance to fund his/her growth.

The major reasons for creation of this gap are information asymmetry which exists in Indian SMEs, the family-owned nature of Indian businesses, and lack of information regarding tapping the right kind and source of finance.

3.2. Funding Structure

Traditionally, private funds from friends and family form the single largest source of finance to SMEs in India. SMEs in India also rely heavily on private money lenders and the unorganized financial sector for their requirements, where the terms of financing are unclear and interest rates are high. Banks have been making steady strides in order to bridge this gap. However, the approach followed by banks to funding is very restrictive as the bank has to create value by controlling and managing risk. In any loan application for a business, a bank has to necessarily evaluate the risks involved, gauge collateral support and the methods to mitigate those risks. Therefore, it is not always possible for an entrepreneur to satisfy all requirements and conditions which the bank might pose. The above methods of financing are majorly debt financing, and sources of equity funding remain elusive in India.

Government Initiatives in SME Funding The government has always been cognizant of the funding gap which plagues Indian SMEs. In the 2012-13 Budget, the government announced an India Opportunity Fund of $878 million to support Indian SMEs. This entire amount will be routed to SIDBI and is divided into specific targeted sectors, which include:

>> Domestic MSMEs >> Internationalization of SMEs >> Sector Specific Funds -ICE, Traditional Sectors, Defense, Infrastructure >> IPO on SME Exchanges

Such initiatives would go a long way in bridging the financing gap and ensuring that India gets a steady flow of entrepreneurs in various fields.

29 | P a g e 3.3. Simple guidelines to funding SMEs

It is imperative for the financing company to understand the needs of the MSMEs and the capability of them to repay the loans they take.

a) Very rarely does the intention issue come up with the SMEs. They are the first generation entrepreneurs from each of their families and do not leave any stone unturned to make their venture a success. b) SMEs do not have the wherewithal or the money to develop much needed finance team within their organization and end up hiring on a part time basis a small time chartered accountant to look into their accounts. While this suffices their need, however, when it comes to borrowing from large financial institutions, NBFCs or private equity investors fall short of creating the necessary documentation. For a financing company this can perhaps be overcome by watching the SME at work in their offices or unit, gauging if their operations are genuine and then helping them raise their financial reporting standards. c) Asking key questions and judging the mentality/attitude of the SMEs and the passion will tell more than looking for non-existent financial documents. A lifestyle of MSE promoter/partners/teams tells a lot about their future. d) These micro and small enterprises serve much larger enterprises in their processes through job works / parts manufacturing, process outsourcing, supply chain etc. Strength of the principle plays a vital role. e) Another key aspect which almost every financier observes these days is their performance on loans/lines taken in the past. Key to this is Credit Information Bureau of India Ltd (CIBIL). A lot of information is derived out of the CIBIL report and plays a key role in assessing future performance on loans given to MSEs. f) With specific mention to the micro enterprises, there exists one other key issue which is the way they operate. For example, businesses typically run by a family with father as the proprietor and children being inducted into business subsequently. Presence of business / legal existence proof also comes up as a hindrance. In some cases, simple rules like submitting your Know Your Customer (KYC) form requiring at least two 30 | P a g e proofs are not met as these customers fall short as they usually hold only IT returns. We do need to understand these aspects and help in generating another proof. A simple way could be assisting in installation of a landline at customer's office whose bill would suffice as a second proof. g) It goes a long way in understanding these customers and the challenges they face to able to fund them with right products at the right time and help them grow. Be with them on the ground and see what they see, it is that very easy to assist them. After all they are the priority sector, and we carry the responsibility to bring in the financial inclusion.

In ING Vysya Bank(now Kotak) we mainly fund Debt i.e the working capital gap. The

Working Capital (Turnover method)

Particulars Turnover achieved in the previous year- FY 14 Turnover estimated for the current year- FY 15 Increase in turnover estimated over the previous year (%) Working Capital Requirement estimated @30% of estimated turnover for the current year

Maximum Possible Bank Funding - 4/5th of the assessed Working Capital under (d) above

Limits enjoyed by the borrower from other banks (including BC) Maximum Possible funding from Kotak Bank Limits Proposed (Including Buyer's Credit facility) Note: Standalone WC Buyer' Credit facility (i.e. which is not sub limit of CC) or BC (sub limit of NFB) also need to be included in MPBF as per RBI guidelines

Debt Funding – In India, there are number of debt options available based on the stage of business. While there are number of Govt formulated schemes like Collateral free loan upto INR 1 cr. Or SIDBI funded SME loans etc. however conventional norms in terms of lending & business feasibility guided by apex banks Non Performing Asset ( NPA) norms are always on top of the mind with these Institutions. Typical debt funding for working capital are available via various credit lines like bill discounting, traditional bank overdraft, securitisation of receivables, working capital term loan, factoring finance (against receivables though not very popular), commercial paper issuance by banks for sound rating SMEs, etc.

31 | P a g e For export business owners, there are pre-shipment and post-shipment credits available in LIBOR based highly competitive interest rate regime and this should be explored fully to neutralise the foreign exchange exposure against receivables.

Many times overseas suppliers also offers competitive credit facility to Indian buyer to promote the trade and export between both the countries. These facilities are available via buyers credit which in turn is funded by overseas buyers bank.

Off late, Indian SMEs can also avail external commercial borrowing subject to RBI guideline to fund its requirement.

For capital expenditure (capex), apart from Indian banks there are number of NBFCs which offers credit against capex proposals via term loans or operating/financial lease with various derivative products around them.

Mezzanine debt funding – In India, there are some Institutions (Domestic as well Foreign) which offers these kind of funding which is very often a product around mix of equity and debt. Some of the instruments are like convertible debentures, preference stocks with convertible options or senior debt with participating options at later date in equities via warrants etc. There are quiet a few NBFCs which offers venture debt backed up by PE funding or back to back PE funding round.

Grants – Bilateral trade ties between India & other countries in developed world’s trade/finance association offers financial grants to sun rising and technologically proven/upgrade sectors and to take advantages of hyper growth prevailing in these sectors. For example, many of the solar power or bio-gas power sectors enjoys financial grants from various overseas trade associations.

3.4. PROCESS FOLLOWED IN ING VYSYA BANK FOR SME FUNDING:

1. Client meeting, knowing their business and requirement for funding. 2. List of documents are demanded from the client a. Last three years annual report i.e. balance sheet & P/L b. Last six months monthly bank statement c. Last two years monthly sales d. last two years VAT return e. Property document for collateral 32 | P a g e f. Company’s MOU & MOA g. Directors PAN card Xerox and their background h. CIBIL report of Directors & company 3. To find out whether the company is meeting its financial requirements we fill out the financial details in the fin spread and find out whether the company is meeting its funding criteria. 4. Documentation & property is validated by the legal advisor. 5. Finally when all the requirements are met the loan is approved by the bank.

4.The Banking System: Commercial Banking- Key Ratios/Factors As banks have very different operating structures than regular industrial companies, it stands to reason that investors have a different set of fundamental factors to consider, when evaluating banks. This is not meant as an exhaustive or complete list of the financial details an investor needs to consider, when contemplating a bank investment.

Loan Growth For many banks, loan growth is as important as revenue growth to most industrial companies. The trouble with loan growth is that it is very difficult for an outside investor to evaluate the quality of the borrowers that the bank is serving. Above-average loan growth can mean that the bank has targeted attractive new markets, or has a low-cost capital base that allows it to charge less for its loans. On the other hand, above average loan growth can also mean that a bank is pricing its money more cheaply, loosening its credit standards or somehow encouraging borrowers to move over their business.

Deposit Growth As previously discussed, deposits are the most common, and almost always the cheapest, source of loanable funds for banks. Accordingly, deposit growth gives investors a sense of how much lending a bank can do. There are some important factors to consider with this number. First, the cost of those funds is important; a bank that grows its deposits by offering more generous rates, is not in the same competitive position as a bank that can produce the same deposit growth at lower rates. Also, deposit growth has to be analysed in the context of loan growth and the bank management's plans for loan growth. Accumulating deposits,

33 | P a g e particularly at higher rates, is actually bad for earnings if the bank cannot profitably deploy those funds.

Loan/Deposit Ratio The loan/deposit ratio helps assess a bank's liquidity, and by extension, the aggressiveness of the bank's management. If the loan/deposit ratio is too high, the bank could be vulnerable to any sudden adverse changes in its deposit base. Conversely, if the loan/deposit ratio is too low, the bank is holding on to unproductive capital and earning less than it should.

Efficiency Ratio A bank's efficiency ratio is essentially equivalent to a regular company's operating margin, in that it measures how much the bank pays on operating expenses, like marketing and salaries. By and large, lower is better.

Capital Ratios There are a host of ratios that bank regulators and investors use to assess how risky a bank's balance sheet is, and the degree to which the bank is vulnerable to an unexpected increase in bad loans. A bank's Tier 1 capital ratio takes a bank's equity capital and disclosed reserves and divides it by the bank's risk-weighted assets, (assets whose value is reduced by certain statutory amounts, based upon its perceived riskiness).

The capital adequacy ratio is the sum of Tier 1 and Tier 2 capital, divided by the sum of risk- weighted assets. The tangible equity ratio takes the bank's equity, subtracts intangible assets, goodwill and preferred stock equity, and then divides it by the bank's tangible assets. Although not an especially popular ratio prior to the 2007/2008 credit crisis, it does offer a good measure of the degree of loss a bank can withstand, before wiping out shareholder equity.

Capital ratios can be thought of as proxies for a bank's margin of error. Nowadays, capital ratios also play a larger role in determining whether regulators will sign off on acquisitions and dividend payments.

Return On Equity / Return On Assets Returns on equity and assets are well-established metrics long used in fundamental analysis

34 | P a g e across a wide range of industries. Return on equity is especially useful in the valuation of banks, as traditional cash flow models can be very difficult to construct for financial companies, and return-on-equity models can offer similar information.

Credit Quality The importance of credit quality ratios is somewhat self-explanatory. If a bank's credit quality is in decline because of non-performing loans and assets and/or charge-offs increases, the bank's earnings and capital may be at risk. A non-performing loan is a loan where payments of interest or principal are overdue by 90 days or more, and it is typically presented as a percentage of outstanding loans. Net charge-offs represent the difference in loans that are written off as unlikely to be recovered (gross charge-offs) and any recoveries in previously written-off loans.

5.Methodology & Sampling

5.1. Methodology SME sector mainly relies on bank finance for funding its operations that involves a good number of financial and non-financial issues. The research carried out under the subject is of analytical nature. The primary data is collected through a structured questionnaire for SME 35 | P a g e customers and experienced bankers. Random Sampling is adopted. The responses were analyzed with the help of various statistical techniques, such as ratio, percentage and means to obtain results. The methodology adopted to carry out study is described below –

(a) Use of primary and secondary data relating to SME finance.

(b) Primary data gathered through a structured questionnaire & also personal discussion with executives and managerial staff of various banks and from SME entrepreneurs.

(c) Secondary data has been collected from published reports and other data source from various sites such as Reserve Bank of India, SIDBI, GOI and banks in their various committee reports, speeches and periodical reports.

(d) Statistical techniques viz. ratio analysis and comparative growth analysis used to draw inference.

Primary information is collected from banks and entrepreneurs across the country by interviewing and interacting with them. Two questionnaires were developed for this purpose. Samples of these questionnaires have been placed in this report as annexure 1 and annexure - 2. Researcher has administered the questionnaire from different part of country and also solicited assistance from his banker colleagues to administer the questionnaire at place where it was not possible to meet the respondents in person. Sample of primary data has wide range covering and senior executives and veteran bankers and also entrepreneurs from both manufacturing and service sector. Information collected from bankers are mainly of qualitative in nature such as –

 Key drivers of SME Finance

 Factors affecting SME Finance - Bankers perspectives

 Proportionate share of SME in total advances, income and NPA

 Causes of defaulting in bank’s loans

 Reasons of not picking up credit under collateral free credit guarantee scheme of 36 | P a g e CGTMSE

 Documentation for SME Finance from banks

 Cost effectiveness of Bank loans

 Initiatives suggested to enhance SME Finance

Questionnaire used to obtain information from SMEs, has three parts viz. First demographic, Second situational and operational issues and Third is on funding pattern involving financing related issues. The important information collected from SMEs include –

 Business drivers and issues in Bank Finance - SMEs perspectives

 Problems before Indian SMEs

 Profitability of SME Firms

 Market Recession Management

 Solvency & coverage ratio of SMEs

 Sources of financing and trend analysis on SME lending

 Growth pattern of SME firms

 General outlook and bankability of SME Firms

 Ways for enhancement of SME Finance

The period of secondary data used in the study is of 11 years from PSBs, private banks and foreign banks which represent banking industry. Thus findings and recommendations based on the empirical observations are universal in nature and applicable to both the bankers and entrepreneurs.

5.2. Study Sample

Sampling is an important part of research methodology. Primary data collected from 257 bankers of public sector banks (PSBs) and private banks covering 21 states and union

37 | P a g e territories of the country such as Andhra Pradesh, Assam, Bihar, Chhattisgarh, Goa, Gujarat, Haryana, Jharkhand, Karnataka, Kerala, Madhya Pradesh, Maharashtra, Orissa, Punjab, Rajasthan, Tamilnadu, Uttarakhand, Uttar Pradesh, West Bengal, Delhi, Chandigarh. Bankers in sample include 63 officers, 73 managers, 80 senior managers and 41 branch managers ranging from junior officer to top executives in banking industry. Two hundred twenty officers in sample have working experience in loan department of various banks and 150 of them had been branch heads which represent 85.60% and 58.37% of sample numbers.

Sample of SMEs is also geographically spread through out the country covering 110 entrepreneurs from 15 states and union territories namley Andhra Pradesh, Assam, Bihar, Gujarat, Haryana, Jharkhand, Madhya Pradesh, Maharashtra, Orissa, Rajasthan, Tamilnadu, Uttarakhand, Uttar Pradesh, West Bengal, and Delhi; who are dealing with PSBs and private banks. The sample covers 76 units from manufacturing and 34 units from service sector. Furthermore, it includes micro (19%), small (63%) and medium (28%) enterprises representing 75% units to MSE sector which is on top agenda of central government for equitable growth. Ninety four (94) units are owned by male and sixteen (16) by female in sample of SMEs. These SME firms are being run in form of companies (50%), partnership firm (33%) and sole proprietorship (27%) firms as depicted in figure-3.1.

Experience of related business activities and working has been also wider in sample size of the study. Majority of the numbers in sample possessed rich exposure of their respective field which is depicted in the table below –

Bankers - Entrepreneurs - Firms in existence for Length of service in banking industry period of

Period in Years Nos. %age Period in Years Nos. %age Up to 3 Years 64 24 Up to 3 Years 22 20 Over 3 Years to 10 Years 31 12 Over 3 Years to 10 Years 40 36 Over 10 Years 162 63 Over 10 Years 48 44 Total 257 100 Total 110 100

38 | P a g e There are possibilities that in some of the questions, responses may be more than one, therefore, respondents have option to give more than one option which are relevant to the questions and these responses will be counted two or more in total numbers of responses of a particular question. For example, inspiring factors for a banker to work in loan department may be his rewarding experience in organizational life and also he/ she was groomed by his/her bank in credit, therefore, total responses under different items of a question would be observed more than the total bankers and SMEs interviewed in sample. Thus, numbers indicate sum of responses gathered from respondents on particular items of the question set in a questionnaire.

Secondary data from different group of banks are also taken into sample for extant analysis. The latest data on select important parameters such as net bank credit, MSE credit, loans to micro enterprises, reasons of sickness, non-performing assets (NPAs) in SME sector for scheduled commercial banks, excluding regional rural banks, from 1999-2000 to 2010-11 have been used for this study. Sample size of secondary data includes Scheduled Commercial Banks which are around 80 in numbers broadly categorized in 3 groups such as public sector banks (PSBs) including IDBI Bank Ltd, private sector banks and Foreign banks which is a large sample to represent banking industry in our country.

6. SME Finance from Bankers’ Perspective

Financing to small and medium enterprises (SMEs) is a subject of great interest for researchers and is an important issue for policy makers around the globe. The current research literature has proven to be quite helpful for understanding the conceptual framework of the markets for providing finance to SMEs in both developed and developing nations. The issues in lending to the SME sector, observed by bankers during meeting and interacting with them, are analysed in this chapter.

6.1. Human Capital is determinant of growth

39 | P a g e Human resource development issues are fundamental in improving credit competitiveness and ability to adjust to the competitive pressures that come with liberalization and globalization. Empirical studies show that human capital is a significant determinant of growth. Credit in banking is considered to be core business with high risk and return for its sustainability. Most of the officials are found scared to work in loan department due to various reasons namely specialized skills of this vertical, staff accountability etc. The analysis of impressions compiled from various bankers reveals that there are good numbers of drivers to encourage bank staff for working in credit which requires special attention by the bank management to enhance credit in general and SME finance in particular. The important observations on behavioural aspects of bankers based on their responses (table - 1) are presented below -

Posting in loan division of bank branches are considered to be unwilling and forcefully by 31 officers (11%). Forty three (15%) officers found in department owing to their grooming in credit by banks while 49 officers (17%) observed to be specialist of credit operations. 14% officers do not considered this posting inspiring as such but it is to be taken as normal course of employment. So, in majority the credit operations in banks are not owned with passion but this is assumed be burden and undesired walk-in walk-out posting awaiting substitution with no effective succession planning. Working in advance department has been assumed as a rewarding experience by 120 officers representing 43% of total responses, in terms of promotion and overseas posting, but there were no such policy provisions in their respective banks as reported by respondents.

With regard to inspiring factors of taking credit assignment as challenge, the majority of respondents (187 officers) representing 52% responses, have expressed their views to make the posting of loan department rewarding in terms of promotions, placement, overseas assignment, business incentives etc.

Most of the bank officials are scared to lend because of the fear of staff accountability. Ninety responses constituting 25% of responses are in favour to make accountability norms more flexible and lenient, particularly in public sector banks because extant norms are outdated in the light of competitive, vibrant, liberalized and fraud prone environment of banking. There is need to place a policy on staff accountability for non-performing assets by each bank and also

40 | P a g e accountability to be fixed for delays in concluding disciplinary cases.

The lesser part of bank officials (19%) endorsed that credit sales to SMEs should be made mandatory for all bank officials at all levels as one of KPIs. It will help to improve the situations. Each officer should be allocated target to canvass SME credit because achieving obligatory benchmark of 60% lending to micro enterprises and also to achieve proposed mandatory lending at the rate of 7% of adjusted net bank credit to MSEs in phased manner in 2013-14 as per new framework of priority sector lending guidelines in our country. The achievement of this lending benchmark should not be the only obligatory compliance on part of budgetary functionaries i.e. branch heads but equally for non-budgetary functionaries as per annual performance assessment review (APAR) guidelines introduced in pursuant to Ministry of Finance, Government of India directives to banking industry. This prescription will also enhance participation of rural/semi urban branches in incentives scheme as recommended by a high level committee on HR issues of PSBs.

One hundred ninety seven (197) of 257 officials in sample have been provided basic training on credit by their bank management. However, merely 43 officers were groomed in credit by comprehensive training. It indicates that advances and comprehensive training programme for credit grooming should be organized offering them on the job training as well as class room training. Training systems of banks should perform as “Coaching Schools of Credit (CSC)” to focus on creation of talent pool of officers in critical areas like SME credit and internal certification of training programmes to be introduced to build talent pool. Training colleges of individual banks may be upgraded as centers of excellence with mandate to carry out in-house research which may provide learning support to the management and will be responsible for continuing education efforts. Internal processes in training such as faculty selection, training of faculty, introduction of core faculty in core areas of banking including credit should be improved on the patterns as recommended by a high level committee on “HR Issues of PSBs” constituted by Government of India.

6.2. Bankability of SME Finance

Banks are custodian of public money and finance is their main source of revenue generation. On the other hand, credit creation is money multiplier to ensure adequate money supply for

41 | P a g e economic growth of the country. The weightage and impact of the issues which have direct bearings on SME finance are, therefore, analyzed on the basis of data obtained from bankers in their responses.

Entrepreneurs of first generation with lack of experience, has been revealed as the foremost reasons of poor SME credit by 118 bankers which represent majority of responses, followed by lack of collaterals & infrastructure put together 26% and poor financials of SMEs by 24% respectively. The hypothesis that SME loans are of small ticket size thus carries high transaction cost, is not tenable in all cases because merely 8% respondents found SME loans in smaller and uneconomical ticket size. It indicates that ticket size of MSE loans is reasonable and bankable for the effective management of concentration risk which supports traditional covenant of not putting all eggs in a single basket.

Majority of bankers don’t prefer SMEs for want of proper books of account and infusion of own contribution into business by promoters, as responded by 160 officers that constitutes 52% of respondents. This peculiarity, probably has been observed in SMEs because most of them are first generation entrepreneurs who fail to bring their own contribution and also don’t know how to record their business transactions in their books. Education campaign on the subject will help to groom/nurture knowledge of entrepreneurs for enhancing bankability of their units in regard to ploughing back of profit in business and implement proper accounting system to tied-over the situation.

Banking with first generation entrepreneur should be considered long life relationship because today’s SMEs are large corporate of tomorrow and future MNCs. Therefore, there is a need to have credit linkage with them by credit counselling services in addition to funding their financial requirement. Good credit rating is pre-requisite for bank finance and for better pricing of the loans. Thirty four (34) respondents representing 11% numbers are found of the view that SMEs are not bankable due to their poor rating or no credit rating. It is also one of the integrated factors of poor collateral securities, low promoters margin or improper books of account because of 1st generation of entrepreneur. So, bankers should educate and counsel them to improve their deficiencies on these parameters.

Lengthy processing system of SME loan proposal/ applications reported cause of higher transaction cost and man-hours by 48 respondents which represent 16% of total numbers.

42 | P a g e Further, while analyzing secondary/published data it comes across that delinquency rate in case of SME is not so high as compared to agriculture and other sector of economy observed in subsequent chapter of the report. However, lengthy processing and wastage of man-hours due to repetitive nature of work flow may be curtailed by leaning operations under Business Processing Reengineering (BPR) initiative by the banks. SME contributes more in advances & less in NPAs

The information on proportionate share of SMEs in total advances, income and non- performing advances have been gathered from bankers under four slabs ranging from less than 10% to more than 50%. Eighty nine respondents representing 55% in total numbers of 162 informed in the survey that rate of interest on SME advances as compared to other advances is low; which indicates that lower interest rate is charged on SME advances because this category might be bearing moderate/low risk, thus lesser interest band is loaded over base rate and therefore, more profitable vertical of business for banks.

Share of SME credit in total advances is over 25% in 110 cases representing 59% responses, of which it is reported by 67 respondents that SME advance contributes over 50% in their branch loan portfolio. The analysis indicates ample scope of improvement in about 64% cases to attain SME contribution at 50% because total interest income is reported over 50% in total interest income from SME by 50 respondents representing 29% of total numbers.

While analyzing NPA proportionate of SMEs in total advances, it is observed that percent share of non performing SME advances in total advances of 102 respondent branches was less than 10% which represents 60% of total numbers. This indicates that 90% contribution in NPA of these branches is from other segment of business such as agriculture, retail loans, wholesale banking & others. This test based on empirical study proves that SME loans are less risky as compared to other advances. It is opposed to the bankers apprehension that lending to SME sector is high risky and, hence, hypothesis from bankers perspective to treat SMEs non bankable on this front is not valid. This test can also be integrated with the findings that rate of interest on SMEs is found lower in 55% cases in survey because SME credit attracts lower risk premium.

The report on Trend & Progress of Banking in India released by RBI for the year 2010-11

43 | P a g e reveals that SME sector contributed merely 20.7% in incremental NPAs of domestic banks against the highest of 44% by agriculture, 27.2% by non-priority sector and 8.1% by other priority sector. NPA of MSE during the year 2011 for all domestic SCBs remained more or less same i.e. it was 17.0% in year 2010 which marginally increased to 17.6% in 2011.The statement is also substantiated by an analysis done by RBI in its trend report of banking in India that despite increase in limit of collateral free loans to SME sector from Rs.5 lacs to Rs.10 lacs in May 2010, the NPA ratio of SME sector witnessed a decline in 2010-11 over the previous year. The sector is therefore, more bankable & profitable as compared to other segment of business in banking. Therefore, observation based on primary data that loans to SME sector are more bankable & profitable as compared to other segment of business in banking stands valid and testified.

6.3. Causes of default by SMEs

Reasons of making default by SMEs as compared to large firms are different and responses received from bankers on causes of default by SMEs are depicted in table-4 and observations based on the primary data collected from bank officials are presented below -

Diverting and siphoning off funds found to be prominent factor of default by SMEs in 117 responses which is probably because of lack of professionalism (71 responses), failure to bring promoters contribution from long term sources (61 responses) and also under finance by the banks (34 responses) leading to excessive private borrowings observed in 166 responses that constitute 38% of total responses of 445.

Low technology innovations and inadequate product branding/marketing tie-up are observed important non-financial factors of default put together in 124 responses which represent 27% of total responses.

Sixty one responses representing 14% of total responses were of the view that project and business fails for want of infusing desired funds by promoters. Merely thirty (30) respondents expressed their opinion that borrowers make default due to delay in receiving payment from big corporate.

44 | P a g e 6.4. Less security or no collateral with SMEs

Collateral is one of traditional tools to mitigate default risk in credit. As observed in preceding part of the analysis that most of the SMEs are of first generation entrepreneurs thus they don’t have collateral to seek loans from banks which remained one of reasons for poor credit to them. In view of this observation and background of significant contribution in GDP by SMEs; Government of India introduced a noble scheme to collateralize SME loans by extending guarantee cover to member lending institutes (MLIs) up to loan of Rs.100 lacs. The scheme is known as a Credit Guarantee Scheme of Credit Guarantee Fund Trust for Micro & Small Enterprises (CGTMSE) which is briefly described in Box -1. Since collateral has been one of issues in SME Finance; researcher has obtained first hand feedback from bankers about implementation of the collateral free loan under CGTMSE scheme. The responses on factors affecting lending under the scheme and measure to improve finance under CGTMSE are presented (Table - 5) and analyzed as follows-

Ineptitude of banks officials about no control over borrower without collateral and lack of knowledge of CGTMSE scheme putting both the reasons together, 131 responses (43%) have observed an obstacle in picking up credit under scheme. This observation is equally substantiated by majority numbers of 136 representing 46% of total responses who suggested that awareness campaign about the scheme to be launched for bankers and borrowers. Therefore, training institutes, EDIs, RUDSETI etc. should disseminate knowledge about the scheme among its users to take fullest benefit of the noble scheme.

Higher amount of one time guarantee fee and annual service fee are observed another impediment owing to increase in cost of borrowings as expressed by 90 respondents (32%). Less amount of guarantee cover is also reported by 22 officers as one more reason which affect lending under CGTMSE. While seeking views of respondents on measures to improve finance under CGTMSE; 68 officials constituting 23% have suggested enhancing guarantee cover from existing cap of Rs.100 lacs to Rs.150 lacs. They also suggested to have guarantee claim at floor rate of 85% for loan up to Rs.10 lacs and 75% of default amount for loan limit over Rs.10 lacs with a maximum cap of Rs.100 lacs in light of proposed increase in investment ceiling of plant and machineries and equipments & instruments for Micro and

45 | P a g e Small Enterprises as per recommendation of high level committee constituted by RBI on priority sector lending. 57 bankers representing 19% of total numbers have opined that guarantee and annual service fee be waived for loan limit up to Rs.50 lacs or payment of guarantee and annual service fee be reduced from tax obligation of SME firms to subsidise the cost burden of guarantee cover under CGTMSE.

A scheme of Presidential Nation award is suggested by 24 respondents for those member lending institutions who are star performer in SME finance under CGTMSE on the line of existing nation award for outstanding performance under MSME finance; which will make the scheme more lucrative and successful.

While gathering responses from SMEs, the similar feedback has been given by 97 entrepreneurs on the subject. The fact was revealed that this scheme is known to 69 respondents who represent majority part with 71% respondents participated in the survey, while in 22% cases it was not known to them and in 4% responses it is reported that guarantee and annual service fee payable under the scheme was causing abnormal increase in cost of borrowings to the beneficiaries. Thus above proposed suggestion by bankers and borrowers should be taken into account by policy makers for successful implementation of the scheme.

6.5. Lengthy and inflexible documentation

Papers and documentation are pre-requisite for entertaining request of any borrower in support of formal evidence of business transactions. Paper formalities for taking loans from public sector banks are generally treated more cumbersome. However, an analysis has been done in this regard, comparing SME requirements to agriculture, retail loans and whole sale banking or corporate banking.

Formalities and processing of SME loan proposals have been found lengthy, complex and inflexible by over 70% bankers as compared to the processing of agriculture and retail loans vide opinion shared by 146 respondents on agriculture & 156 responses on retail loans. However, the paper requirement and processing is observed simpler by majority of respondents constituting 79% compared to corporate credit. Banks should, therefore, develop

46 | P a g e customized module of processing and documentation to make process simpler because technology and MIS for SMEs is not so sophisticated as found in case of corporate credit owing to cost aspects involved in MIS. In most of the cases fee of loan arranger to pass through complex process for SMEs is also found costlier and many a times services of loan arranger is not available for this target group.

The complexity in processing of SME loan proposals is also evident from 264 responses (table-7) made by banks officials who have suggested that format of loan appraisal should be standardized and made simple (117 responses). There should be one common loan agreement for SME loans (109 responses) and products to cater financial needs of SMEs should be tailor-made (38 responses) as against prevailing processing system and products offering for SMEs sector.

6.6. Ways of making finance simpler & cost effective for SMEs

The ways suggested by experienced bankers in study to make SME finance cost effective and simple are presented in table-7 & table-8, and observations based on the statistical results are as under-

Finance alone would not be enough for capacity building of SMEs, because many non- financial issues are equally important for development of SMEs. Setting up SME Care & Counselling Centre (SMECC) to provide counseling on schemes launched by government and implemented by banks for SMEs, availability of market for their products, usage of e- business in branding & disseminating product information to end-users, technical know-how, basic need of paper formalities and filling up forms for seeking finance from banks. Seventy six bankers constituting 22% of total numbers have observed that this kind of institutional support will help to reduce turnaround time for availing finance from banks.

Commitment code for Micro and Small Enterprises (MSE Code) of BCSBI has developed a simple, standardized and easy to understand loan application forms accompanied by check list to both Micro and Small Enterprises in 2009 which was circulated by Indian Banks’ Association (IBA). This form is now in practice for all the borrowers irrespective of the loan amount. The standardization of loan application form has made information submission

47 | P a g e partly easy for SMEs but many of banks are still asking more information other than the checklist due to complex format and system of processing the loan applications applicable in their banks. In this background, 236 bank officials have suggested for standardization and simple format of loan appraisal by bank branches and also to introduce one common loan agreement for SMEs on the pattern of loan application form introduced by MSE code in 2009. The common loan agreement will economize cost of stamp duty to be borne by SMEs and also reduce time in executing loan documents.

Good credit history of entrepreneurs with credit information companies (CIC) is recommended to be an important suggestion enabling them bankable because now a day this is pre-requisite for lending institute to refer CIBIL or other CIC to know creditability of borrower. One hundred fourteen (114) respondents constituting 29% of responses supported the suggestion. Bankers should make the best use of credit history available with CICs while processing the proposals by interpreting and correlating the information in credit report to carry out behavior appraisal of beneficiary. SMEs should be fully aware of their obligatory duties to keep their credit history high before approaching to any bank for finance.

Lack of proper books of account and failure to bring contribution by promoters have been observed as important causes of affecting SME Finance by 160 bank officials constituting 52% respondents (table-2). Both the reasons put together also impact retained earnings and thereby equity base of the entrepreneurs. It is therefore, suggested by 74 respondents representing 19% of responses that borrowers should plough back the profit into business instead of its withdrawal by other means to avoid profit tax which makes poor financials of the firms.

Fifty percent of respondents are of the opinion that SMEs would be acceptable to banks if they furnish information to banks for compliance (76 respondents), and if they improve product brand & marketing tie-up(68 responses) and technology innovation and use of e- banking for cost effectiveness (53 officers).

Bankers have suggested policy measures to make bank finance cost effective such as 106 bank officials are in favour to give due rebate for making timely payment of loans, 97 respondents were found of the opinion to have interest subvention policy for all SMEs

48 | P a g e beneficiaries on line with agriculture loans, 79 officials constituting 25% of responses suggested rationalization of file charges being levied from SMEs. Further to make SME loans cost effective and easy access to bank finance, customized project report and TEV study report prepared by government authorities at district level should be used by lending institutes as suggested in forty four responses given by the bank officials. These policy frameworks will not only help for cost effectiveness but also reduce TAT and there will be quick disposal of loan applications.

7. SME Finance - An Industry Analysis

Loans to Micro & Small Enterprises (MSEs) are reckoned as part of priority sector lending having target of 40% for scheduled commercial banks in India. It is surprisingly noticed that about 5% MSMEs have been covered by institutional funding given and approximately 95% of units remains to be brought into banking fold. The present study has analyzed credit flow to this sector and important observations relating to SME financing are presented in the report.

8. Drivers of SME Finance - An Industry Review

SMEs across the world are gaining priority for policy makers and regulators who see the sector as key to solving the challenges of improving competitiveness, raising incomes, inclusive growth and generating employment. It is also observed that SME is one of the fast growing sectors of economy and it has huge potential for banks. This sector has contributed less in incremental NPA and delinquency rate reportedly has declined during last year 2011 despite doubling the collateral free lending limit. Also the growth rate of credit in this sector is much higher than the overall credit acceleration rate in net bank credit of banks in India. Furthermore, the realization of 12th Plan theme is largely relying on the growth of MSME sector. Government of India is making all possible efforts for giving boost to the sector including financial and non-financial measures. Based on the stock analysis of extant policy guidelines; the following measures have been considered strong drivers for advocating MSME credit to derive the conclusion that financing to this sector by banks is indeed not a choice but it is a chance to grab this business for sustainable growth of banking in India. 49 | P a g e 8.1. Institutional Policy & Government incentives for enhancing viability of SME Finance

The dedicated organizational set up and also other special measures announced by the government for SMEs has leveraged the banks to enhance viability of SME finance. A few of them are cited in the paper—

8.2. Institutional advantages to Banks

(a) Banks have set up dedicated processing cell, SME Loan Factory & SME Loan Hub with a pool of specialized skills of SME credit. They have also set up regional SME care centre giving different nomenclature by the banks to facilitate SMEs for quick redressed of their grievances. Banks should, therefore, make best use of this capital investment in hardware and human ware of specialized delivery channels to create yielding portfolio of SME loan books. (b) Banks’ exposure limits is much higher than any other private financers to cater financial needs of big amount

(c) Banks are one stop shop i.e. loan syndication, advisory services, insurance, working capital, LC/BG and many more are offered by banks.

(d) Wide branch networks and vested huge lending powers of various functionaries at branch levels for SMEs. Banks have mandate to identify and open more SME branches to cater financing need of the sector.

(e) Banks to achieve mandatory lending to SME for inclusive growth such as 20% YoY growth in credit to Micro & Small enterprises, 60% of MSE advance to Micro enterprises by 2012-13 and now 7% of NBC by 2013-14 as recommended by Nair Committee, 10% annual growth in number of micro enterprises accounts which is now proposed to grow at least by 15% in number of accounts. Adoption of at least one MSE cluster by each lead bank of a district.

8.3. Policy incentives for MSME finance by banks

50 | P a g e (a) Prescribed provisioning requirement for ‘standard advances’ under SME advances is merely 0.25% as against 1.00% in case of real estate and 0.40% for other advances, which is a reward for banks to make lower provision towards buffer capital on SME advances

(b) Collateral free loans up to Rs. One crore are secured by CGTMSE guarantee which is highly liquid at par with cash security as compared to any other collateral in loan accounts

(c) Allocation of zero risk weight to SME loans guaranteed by CGTMSE for capital adequacy requirement

(d) Simplified computation of working capital limit for MSE units on basis of minimum 20% of their estimated annual turnover up to the limit of Rs.500 lacs. (e) Union Government has schemes of felicitating Best Bank awards in recognition of contribution made by banks for promoting SME sector that builds Corporate Brand which is invaluable and add new feathers to the business of winner banks

8.4. Government enhances capacity building for competitive advantages to SMEs

(a) Indian Opportunities Venture Fund (IOVF) for Rs. 5000 crores with SIDBI has been set up for enhancing equity to the sector as per budget (2012-13) announcement.

(b) Two SME Exchanges have started operations which provide greater access to finance

(c) Public Procurement Policy introduced with a provision that every Central Ministry/Department/ PSU shall set an annual goal for procurement from MSE sector at the beginning of every financial year. Objective is to achieve an overall procurement goal of minimum 20% of total annual purchases of products or services produced or rendered by MSEs.

(d) Limit of turnover for compulsory tax audit of account has been raised to Rs.100 lacs

51 | P a g e (from Rs.60 lacs) in the recent budget of 2012-13

(e) Capital gain tax is exempted on sale of residential property if sales consideration is used for subscription in equity of a manufacturing SME company for purchase of plant & machinery.

(f) National Manufacturing Policy has aim to increase share of manufacturing in GDP to 25% and creating 100 Men new jobs by 2022 and to achieve this target, SME growth is considered to be an answer.

The review of above extant measure is witnessing the Government concerns to provide level playing field to banks for improving SME finance. These are therefore, considered key drivers of enhancing credit access to SME sector.

9. STATISTICAL TABLES TABLE - 1 Drivers of SME Finance for Bank Staff Drivers to inspire working in Factors for working in credit Nos % age credit Nos % age

Rewarding experience - promotions, 120 43 Reward and compensation 114 32 overseas posting

Promotions, Placement and Recruitment as specialist officer 49 17 overseas 73 20 posting

Groomed in credit by Staff Accountability - comprehensive 43 15 flexible/lenient 90 25 training norms

Force to work as no one like to Key Performance Indicator work 31 11 under 67 19 Performance Management in credit department System

52 | P a g e Others (it is usual employment) 39 14 Others 13 3

Total 282 100 Total 357 100

TABLE - 2 Factors affecting SME Finance

Causes of not preferring SME Reasons of poor SME Credit Nos % age Credit Nos % age

Lack of experience - 1st Lack of proper account & books Generation 118 36 of 81 26 MSEs transactions

Failure to bring own Poor financials of enterprises 81 24 contribution into 79 26 business

No Collaterals 44 13 Higher delinquency 51 17

Lack of Infrastructure in Higher transaction cost & man- backward area 43 13 hours 48 16 in processing

Either no credit rating or poor Smaller Ticket size 26 8 rating of 34 11 beneficiaries

Others 19 6 Others 15 5

Total 331 100 Total 308 100

TABLE - 3 SME share in total advances, income & NPA %age share of SMEs Total Advances Total NPA Interest Income

Nos % age Nos % age Nos % age

Less than 10% 49 26 102 60 45 26

10% to 25% 29 15 26 15 37 21

Over 25% to 50% 43 23 26 15 42 24

Over 50% 67 36 17 10 50 29

Total 188 100 171 100 174 100 53 | P a g e Table-4 Default in banks’ loan by SMEs Reasons of default by SME Borrower Numbers Percentile

11 Diverting/Siphoning off funds 7 26

Lack of professionalism 71 16

Low technology innovations & cost inefficiency 64 14

Failure by promoters to bring their own contribution 61 14

Inadequate product branding & marketing tie-up 60 13

Under finance by banks, hence over private borrowings 34 8

Delay in receiving payments from big corporate 30 7

Others 8 2

44 Total 5 100

TABLE5 Constraints & measures for Collateral free credit to SMEs

Factors affecting CGTMSE Scheme Measures to improve credit under lending CGTMSE

Nos Factors Nos. %age Factors . %age

Banks have no control over Awareness campaign for borrower - 67 23 bankers & 136 46 without collateral borrowers

Knowledge of scheme to 64 22 Enhancement in guarantee 68 23

54 | P a g e bankers cover

Waiver of guarantee fee/annual Increase cost of borrowings 90 32 service 57 19 fee and tax incentives for this cost

Presidential National MSME Guarantee cover is less 22 8 Award to 24 8 banks

Others 43 15 Others 12 4

Total 286 100 Total 297 100

Table - 6 Documentation for SME Finance from banks

Responses on lengthy, complex & inflexible Business Segment documentation for SMEs

Numbe Percentil rs e

Yes No Yes No

SME vis-à-vis Agriculture 146 54 73 27

SME vis-à-vis Retail Loan 156 51 75 25

SME vis-à-vis Corporate credit & others 42 156 21 79

TABLE -7 Initiatives suggested enhancing SME Finance Ways to make processing Factors making SMEs simpler & Nos %age Bankable Nos %age reduce TAT

55 | P a g e Setting up SME Care & Create good credit history with Counseling 76 22 Credit 114 29 Information Company Centre at district level (CIC)

Standardized & simple format Equity building by retaining for loan 117 34 earnings 74 19 appraisal

Introduce one common loan Furnishing information & agreement 109 32 compliance 76 19 for SME loans

Product brand & marketing Tailor made product for SMEs 38 11 tie-up 68 17

Technology innovation & Other 3 1 use of 53 14 E-banking for cost reduction

Others 7 2

Total 343 100 Total 392 100

TABLE -8 Cost Effectiveness of Bank Loans

Percentil Ways suggested by Bankers Numbers e

Rebate for making timely repayment of loans 106 32

Interest subvention for all MSEs 97 29

Rationalization of processing, inspection, legal & file/documents charges 79 25

Cluster based TEV study & Project report by DIC 44 13

Others 4 1

Total 330 100

56 | P a g e TABLE - 9 Problems before Indian SMEs

Percentil Types of problems & constraints Numbers e

Capacity Building for competitive advantages 124 44 Stiff completion from domestic firms 75 27

Non availability of skilled/managerial man powers 29 10

Competition from ADEs/EMEs 20 7

Finance & Accounting 100 36 Cost of Production or labour is high 70 25

Access to Bank Finance 18 6

Firms do not get finance for job works 7 3

Improper Book Keeping & Accounting 5 2

Market Linkage & Technology 49 17 Product Branding 20 7

Market for Products 14 5

Table -10 Business Drivers & Issues in Bank Finance

Driving force to set up Issues in Bank business Nos %age Finance Nos %age

Family Business 52 39 High rate of interest 60 38

Promoters gained experience Insufficient collateral & else- 36 26 guarantee 58 36 where

Promoters Market Survey 22 16 contribution 19 12

57 | P a g e Friends & Relatives doing Lower capitalization, high similar 20 15 DER, LTV 12 7 business

Financial consultants suggested to 5 4 No time to wait - time is money 11 7 set up this business

Total 135 100 Total 160 100

Table-11

Selected parameters of Factor impacts (Nos. of Profitability responses)

Total Increase Unchanged Decrease Not Applicable

Labours & Staff Cost 105 83 20 - 2

(100) (79) (19) - (2)

Raw Material Cost 104 87 9 - 8

(100) (84) (9) - (7)

Interest Expenses 104 82 16 4 2

(100) (79) (15) (4) (2)

Other Operating cost 104 71 27 3 3

(100) (68) (26) (3) (3)

Turnover & Sales 101 82 16 3 -

(100) (81) (16) (3) -

Profit Margin 102 46 30 26 -

58 | P a g e (100) (45) (30) (25) -

Profit (PAT) 102 64 24 14 -

(100) (63) (23) (14) -

TABLE - 12 Source for SMEs Finance Source Source of Finance Total responses Preferred Percentile (Nos)

Bank Loan 108 101 94

Retained Earnings 101 82 81

Friends & Relatives and sister/group concerns 107 78 73

Equity Funding 95 71 75

Trade Credit 100 67 67

Capital subsidy from Government 99 26 26

Private Money Lenders 98 12 12

NBFCs 91 9 10

Factoring, Leasing, Hire Purchase etc 90 13 14

TABLE - 13 Trend Analysis on SME Finance Extent of finance granted by Source of finance lenders

Total 100% 75%- 50%- Less Refused Rejected responses 99% 74% 50% (High cost than of loan)

Working Capital from Banks 101 67 29 1 1 2 1

(100) (66) (29) (1) (2) (2) (1)

59 | P a g e Term Loan from Banks 90 55 19 3 - 12 1

(100) (63) (21) (3) - (13) (1)

Trade Credit 85 36 17 4 3 19 6

(100) (43) (20) (5) (3) (22) (7)

Private Borrowings 87 29 11 6 3 29 9

(100) (33) (13) (7) (4) (33) (10)

TABLE -14 Terms Analysis of SME Finance Parameters Increased Decreased Unchanged Total

Interest rate on loans 79 7 20 106

(75) (7) (18) (100)

Processing, documentation & other costs 55 14 36 105

(53) (13) (34) (100)

Size of loan limits 72 10 19 101

(71) (10) (19) (100)

Repayment period 16 13 68 97

(17) (14) (69) (100)

Collateral requirement 40 18 41 99

(40) (18) (42) (100)

Note - Figures in brackets indicated %age to total responses

60 | P a g e Annexures:-

Balance Sheet:

Mar Mar Mar Mar Balance Sheet Statement 12 13 14 Mar 15 16 YTD (Prov./ (Proj. 3/6/9 Rs. In Crs (Aud) (Aud) (Aud) Est) ) M Share Capital Add: Share Application Money (finalised for allotment) Add: Share Premium Add: P&L balance Add: Other Reserves (other than Revaluation reserve) Less: Intangible Assets Less : Miscellaneous Expenditure Less: Deffered Tax Assets Tangible Net Worth 0.00 0.00 0.00 0.00 0.00 0.00 Less : Advances to group/directors/relatives Less: Debtors > 6M considered as sticky/doubtful Add : Subordinated Debts/Quasi Equity Less: Investment in Equity shares / MFs Less: Investment in Subsidiary/Group entities TBC or ATNW 0.00 0.00 0.00 0.00 0.00 0.00 Term Loans WCTL Term Loans Term Deposits/Other Term liabilities Total Long-term Debt 0.00 0.00 0.00 0.00 0.00 0.00 Deffered Tax Liability Total Sources 0.00 0.00 0.00 0.00 0.00 0.00 Land Building Vehicles Plant & Machinery 61 | P a g e Furniture & Fixtures Other Fixed Assets Capital WIP GROSS BLOCK 0.00 0.00 0.00 0.00 0.00 0.00 Less: Accumulated Depreciation Less: Revaluation Reserve Net Fixed Assets 0.00 0.00 0.00 0.00 0.00 0.00 Debtors > 6 months (not sticky or doubtful) Other non current assets Current Assets RM-Stock WIP-Stock FG-Stock Debtors < 6 months Cash & Bank FD with Banks Liquid short term Investments Advance to Suppliers Loans & advances, Other receivables Advance Taxes Sundry Deposits Other Current Assets Total Current Assets 0.00 0.00 0.00 0.00 0.00 0.00 Current Liabilities Sundry Creditors (Trade Payables) Creditors for Expenses Advance from Customers Provision for Taxation Other Statutory Liabilities Other Current Liabilities & Provisions Total Current Liabilities 0.00 0.00 0.00 0.00 0.00 0.00 Working Capital Gap 0.00 0.00 0.00 0.00 0.00 0.00 Sources of Working Capital 0.00 0.00 0.00 0.00 0.00 0.00 WC Finance from KMBL WC Finance from Other Bank Short Term Borrowings- Others Net Working Capital 0.00 0.00 0.00 0.00 0.00 0.00 Total Assets 0.00 0.00 0.00 0.00 0.00 0.00

Mar Mar Mar Mar 12 13 14 Mar 15 16 YTD (Prov./ (Proj. 3/6/9 Balance Sheet Ratios (Aud) (Aud) (Aud) Est) ) M Total Outside Liability (TOL) Total Debt Total Contingent Liability 62 | P a g e TOL / ATNW Total Debt / ATNW Mar Mar Mar Mar Liquidity Ratios 12 13 14 Mar 15 16 YTD Current Ratio Inventory Turnover (Days) Average Collection Period (Days) Average Payment Period (Days) Net Cycle

Balance Sheet Check ------KRAM Sheet Check 0.00 0.00 0.00 0.00 0.00 0.00 Name of Borrower check ABC Industries Ltd Drawing Power Check considering 25% margin ------Term Loan Repayments due within one year #DIV/ #DIV/ #DIV/ #DIV/ DSCR 0! 0! 0! #DIV/0! 0!

Income Statement(P/L):

(Aud (Aud (Aud (Prov./ (Proj 3/6/ Income Statement ) ) ) Est) .) 9M Mar Mar Mar Mar Rs. In Crs 12 13 14 Mar 15 16 YTD No of Months 12M 12M 12M 12M 12M 12M Gross Sales Less: Duties & Taxes Sales (Net of taxes) 0.00 0.00 0.00 0.00 0.00 Other Operating Income Net Sales 0.00 0.00 0.00 0.00 0.00 Cost of Sales/Operating Expenses Gross Margin 0.00 0.00 0.00 0.00 0.00 Selling Expenses Personnel Costs General and Admin Overheads Directors Remuneration Operating Profits (PBDIT) 0.00 0.00 0.00 0.00 0.00 Interest & Financial Charges Interest to related party Cash Earnings 0.00 0.00 0.00 0.00 0.00 Depreciation

63 | P a g e Preliminary expense written off Operating Profit before tax 0.00 0.00 0.00 0.00 0.00 Add: Non Operating Income Less: Non Operating Expenses PBT 0.00 0.00 0.00 0.00 0.00 Current Tax 0.00 Deferred Tax PAT 0.00 0.00 0.00 0.00 0.00 Dividend & Tax on Dividend Profit retained for the 0.00 0.00 0.00 0.00 0.00 year Post Tax Cash Earning 0.00 0.00 0.00 0.00 0.00 (PTCE) Adjusted PTCE (Related 0.00 0.00 0.00 0.00 0.00 party Exp)

Mar Mar Mar Profitability Ratio 12 13 14 Mar 15 YTD Interest Coverage Ratio Profit Retention Ratio

Abridged Format for CRAN:-

Mar Year ending Mar 13 Mar 14 Mar 15 Mar 16 YTD 12 (Prov./ Rs. in Crores (Aud) (Aud) (Aud) (Proj.) 3/6/9M Est) No. of Months 12M 12M 12M 12M 12M 12M Net Sales incl. (Operating income) PBDIT PBDIT Margin (%) Interest cost (including interest to related party) Depreciation + Prel. Exp. w/o Operating Profit after interest and depreciation Non-operating income PAT PAT Margin (%) Cash Profits Pre Dividend Adj. Cash Profits (Related party Exp) Gross fixed assets Net fixed assets Paid Up Equity Capital Net Worth 64 | P a g e Tangible Net worth (TNW) Adjusted TNW (ATNW) Long term debt (A) Short term debt (B) Working Capital Bank Finance (C) Total Debt (A+B+C) Total Outside Liabilities (TOL) TOL/TNW Total Debt/TNW Total Debt /ATNW TOL/ATNW Contingent liability TOL (incl. contingencies)/ ATNW Current Assets Current Liability (including WC finance) Current ratio DSCR Interest Coverage Ratio Total Debt / PBDIT Total Debt / Adj Cash profits Payment Period Collection Period Holding Period

Summary:-

In Rs. Crore Mar 13 Mar 14 Mar 15 Mar 16 YTD (Prov./

(Aud) (Aud) Est) (Proj.) 3/6/9M Net Sales PBDIT (%) PAT PAT (%) Adjusted PTCE (CP) TNW ATNW TOL/ATNW Total Debt/ATNW Term Debt / CP DSCR Current Ratio

65 | P a g e To be incorporated from Audited Cash Flow Statement Financials

(Rs. in Crores) Net Cash flows from: 2012-13 2013-14 2014-15 Operating activity 0.00 0.00 0.00 - Before WC changes - Adj for WC changes - Taxes paid Investment activity Financing activity Net Increase in cash & 0.00 0.00 0.00 cash equivalents

DSCR Calculation:-

Sr. Particulars No Mar- Mar- Mar- Mar- Mar- . Mar 15 16 17 18 19 20 1 Interest on WC limits 2 Interest on Term Loan limits 3 Principal repayments 4 Total Annual EMI and Interest Obligation 0.00 0.00 0.00 0.00 0.00 0.00 5 Net Sales Cash Revenue Less: Tax provi. 6 Cash Available for Debt Servicing 0.00 0.00 0.00 0.00 0.00 0.00 7 Cash Revenue less tax prov. / Sales % 8 DSCR based on above (6/4)

Sensitivity analysis for DSCR 1 1 Drop in Profit (%) assuming yearly sales remaining constant as projected above 2 Drop in sales assuming Profit (%) remaining constant assumed above

66 | P a g e Working Capital (Turnover method)

Particulars Amoun t Turnover achieved in the previous year- FY 14 Turnover estimated for the current year- FY 15 Increase in turnover estimated over the previous year (%) Working Capital Requirement estimated @30% of estimated turnover for the current year Maximum Possible Bank Funding - 4/5th of the assessed Working Capital under (d) above

Limits enjoyed by the borrower from other banks (including BC) Maximum Possible funding from Kotak Bank Limits Proposed (Including Buyer's Credit facility) Note: Standalone WC Buyer' Credit facility (i.e. which is not sub limit of CC) or BC (sub limit of NFB) also need to be included in MPBF as per RBI guidelines

Bill Discounting (Sales)

Particulars Amoun t Gross Sales estimated for current year- FY 15 Total sales under credit Usance period No of Rotations (365/usance period) Eligible limits Limits enjoyed by the borrower from other banks Proposed limits Comment on: 1) Product Sold (if specific) 2) Name of the counter parties 3) Rating of Counter parties if available 4) Whether counter party is part of group companies/associate concern / subsidiaries/joint ventures. 5) No of year’s relationship with counter parties.

Bill Discounting (Purchases)

Particulars Amount Gross Purchases estimated for current year- FY 15 Total Purchases under credit Usance period No of Rotations (365/usance period)

67 | P a g e Eligible limits Limits enjoyed by the borrower from other banks Proposed limits Comment on: 1) Raw material(if specific) 2) Name of the counter parties 3) Rating of Counter parties if available 4) Whether counter party is part of group companies/associate concern / subsidiaries/joint ventures. 5) No of year’s relationship with counter parties.

LCBD (Sales)

Particulars Amount Gross Sales estimated for current year-FY 15 Total Sales under LC Usance period No of Rotations (365 / usance period) Eligible limits Limits enjoyed by the borrower from other banks Proposed limits Comment on: 1) Product Sold (if Specific) 2) Name of the counter parties 3) LC Opening Banks 4) No of year’s relationship with counter parties.

LCBD (Purchase)

Particulars Amount Gross Purchases estimated for current year- FY 15 Total Purchases under LC Usance period No of Rotations (365/usance period) Eligible limits Limits enjoyed by the borrower from other banks Proposed limits Comment on: 1) Raw Material purchased(if specific) 2) LC Opening Banks

Export packing Credit / Packing Credit in foreign currency

Particulars Amount

68 | P a g e Exports estimated for current year- FY 15 FOB Value (___ %) Time involved in processing / execution of the export order No of Rotations (365 / execution time) Eligible EPC limit Limits enjoyed by the borrower from other banks Proposed limits

Comment on: 1) Counter parties and their country 2) No of year’s relationship with counter parties 3) D&B rating report if available 4) ECGC cover to be obtained or not 5) If only EPC limits are offered by us and not FBD then how EPC will be liquidated. 6) Margin to be maintained.

Foreign Bill Discounting / Post Shipment credit in foreign currency

Particulars Amount Exports estimated for current year-FY 15 Average usance period (including time taken for realization of proceeds)

No of Rotations (365 / usance period) Eligible FBD limit Limits enjoyed by the borrower from other banks Proposed limits Comment on: 1) Counter parties and their country 2) No of year’s relationship with counter parties 3) D&B rating report if available 4) ECGC cover to be obtained or not 5) Margin on the bills to be maintained.

Letter of Credit

Particulars Amoun t Total Purchases estimated for current year-FY 15 Purchases under LC’s (__ %) # Usance Period including lead time if any No of Rotations (365 / usance period) Eligible LC limit Limits enjoyed by the borrower from other banks Proposed limits Comment on:

69 | P a g e 1) Products under LC 2) Detail of supplier 3) Last year comparative purchases backed by LC

Bank Guarantee

Assessment of BG requirement Amoun t Order to be bid for in next 12 months (1) 1200.0 Hit / Strike ratio 30 % Successful contract value (2) 400.0 EMD (A) Period (months) 3 Required @ 5 % of 1200 * (3/12) 150.0 Performance Guarantee (B) Period (months) 12 Required @ 5% * 400 20.0 Mobilization Advance (C) Period (months) 12 Required @5% of 400 20.0 Total Guarantee Requirement towards fresh contracts (A+B+C) 190.0 Existing bank guarantees outstanding 50.0 Total BG requirement 240.0 (Less) BG Likely to expire in next one year 40.0 BG requirement 200.0 (Less ) Limits with existing banker 100.0 Eligible limit 100.0 Limits enjoyed by the borrower from other banks 100.0 Proposed limits

VAR (Treasury):

Particulars Amoun t Average Forex for past 3 years Credit conversion factor Eligible LEV Proposed limits

My learning:

Working in ING Vysya bank Limited ( now Kotak Mahindra bank) was a very good learning experience for me

70 | P a g e  I learned about different financial Analysis for funding and how they fund the SME sector.  Understanding which funding facility is appropriate for the client.  Providing different facilities according to the customer’s needs.  Learning different types of product facilities available with the bank.  About corporate culture

Conclusion:

The SME sector in India, which includes the micro, small and medium enterprises, constitutes an important part of the economy. However, a major concern for the SMEs is the availability of an adequate amount of finances. The government has recognised the key role

71 | P a g e that the SME segment plays in creating new enterprises and in providing employment to a large segment of the population and has adopted several public policy measures to enhance flow of credit to the sector.

One of the prominent measures used to ensure adequate flow of funds to the SME sector is through regulation requiring banks to provide at least 40% of loans to targeted areas which include the micro, small and medium enterprises. Although directed lending would increase the flow of funds to the SME sector, suggest that SME firms are credit constrained. One of the significant issues in lending to SMEs is the use of both ‘hard’ data such as financial information, as well as ‘soft’ data such as feedback from vendors and other family members, which become important inputs towards understanding the credit risk of the business. The challenge for banks is to bridge the information asymmetry so as to take the appropriate lending decision so that the good firms are not financially constrained, and at the same time, cut down on exposures to bad credit risks.

Measures such as credit scoring for SMEs should improve the quality of financial information and enable greater funding for the sector. The SARFAESI Act and the strengthening of legal provisions to take possession of assets used as security has improved the legal environment for lending in India, thus lowering the cost of lending and enforcement of contracts.

Since liberalisation, cash flow has become less important for the firm’s investments, implying that financial liberalisation improves the access of financially constrained firms to external finance, and thus financing has eased for smaller firms. While it may be too early to conclude that SME firms in India are not financially constrained, the reforms in the financial sector and the improvement in the lending infrastructure has certainly improved access to finance for small firms.

Bibliography:

1) www.rbi.gov.in 72 | P a g e 2) www.kotakmahindrabank.com

3) www.msme.gov.in

4) www.smeworld.org

5) www.mbaskool.com

6) www.economictimes.com

7) www.moneycontrol.com

73 | P a g e