"Unsecured funding for MSMEs" – Is data the new collateral?
Published on: May 29th, 2018

billionloans Sales Team

In our previous article, we noted that the MSME sector fuels the India growth story and hence providing better financial propositions to MSMEs is pivotal to ensure economic momentum. In this article, we explore financial solutions that are available to MSMEs without the need for hard collateral.

A banker’s love for higher collateral cover is well understood. Considering the growing NPAs in the banking system at present, the requirement for higher collateral is often the easy way out. On the flip slide, the need for higher collateral creates impediments for MSMEs to approach bankers for credit facilities, despite having well established businesses with good track records. But before concluding that bankers are not supporting the MSME sector, it is important to understand why underwriting is dependent on hard collateral.

DATA IS THE NEW COLLATERAL

Though higher collateral cover doesn’t guarantee lower NPAs, it does reduce instances of wilful default. Also, the likelihood of recovery improves with collateral. The other reason for insisting on higher collateral is lack of information and / or poor quality of information. Specifically, poor credibility of documents made available to the bank, shoddy accounting practices, non-declaration of business activities on the books, limited coverage by credit rating agencies that are constrained by standard methodologies that do not cater to all types of businesses, all contribute to this situation. To mitigate this lack of information, bankers rely on hard collateral which is clearly visible and easy to value. Bankers find it easy to set up credit limits based on property value, for instance. The alterative to collateral-based funding is transaction-based or cash flow based funding, which is usually difficult to implement due to operational issues, credibility gaps and rigorous monitoring requirements.

To ensure growth, lenders need to find solutions which reduce the dependency on hard collateral and at the same time reduce the risk of loans going bad and making recovery easier.

Today, increasing digitisation and the settling down of GST implementation are emerging as strong drivers towards transaction-based financing because they are making transaction data available easily and reliably. The maturing of technologies like blockchain and the acceptance of digital enablers like bill discounting platforms are facilitating this transition. These platforms have the potential to bring more transparency and irrefutability to the transactions happening between various business entities. Funding based on transactions, either sales or purchases (authenticated through multiple platforms), reduces risk as purpose of funding can be easily established and transactions can be automatically monitored. Since the flow of money can be controlled, the recovery mechanism improves.

At billionloans , we believe transaction-based financing using technology platforms is the way ahead and is becoming a viable alternative to funding backed by hard collateral. With increasing investor interest in this space, the latest technologies are being leveraged to provide transaction-based funding like supply chain finance and distributor finance. The coming together of technology and finance is already helping bring large to mid-size corporates and their MSME business partners on the same platform, which ensures accurate transaction data is available to lenders. It is often said that data is the new oil. In the world of lending, MSME entities are beginning to access finance based on transaction data, and so, for them, data is the new collateral.