NPA crisis: Why are banks reluctant to give loans to small enterprises?

By Muqbil Ahmar

Big corporates contribute to the lion’s share of bad loans in India and are the major co contributors to India's banking or Non-performing Assets (NPAs) crisis. In one of the worst financial crises, bad loans grew to Rs. 3,41,641 crore in September 2015, striking at the root of India’s Rs. 95 trillion banking sector. Total NPAs, as a percentage of the total loans, grew from 2.11 to 5.08 percent. Eight out of 10 banks featuring on the list are from the public sector; their stocks have plummeted.

Banks always prefer to give loans to big business houses compared to small enterprises despite the fact that the latter have a better loan repayment history. Logically, banks should prefer giving loans to small players for many reasons, the primary being that their requirements are small compared to big business houses. But the practice is quite the opposite. The banking sector needs to revisit its priorities.

Trust deficit between banks and enterprises

There are several reasons for the gap between loan demand and supply and is one of the reasons for the banking sector woes in India. First, an enterprise, particularly small and medium ones, is an unknown entity for a bank as it doesn’t know an SME in terms of who its customers are or how many employees are there on its payroll. Typically, in the West, the payroll data is an important piece of the puzzle. If a bank can see how many actual employees an SME has, it can make an accurate calculation of the enterprise. It is also a good measure of how good or big a company is.

Moreover, the loan approval process is time-consuming for SMEs. One of the main factors responsible for non-approval of loans is the lack of documents and collaterals on the part of SMEs. Many of the startups don't have those, particularly those just starting out.

"For example, a small enterprise that just started functioning wouldn't have balance sheets from the past three or five years, one of the demands of banks. Particularly, in India, banks are increasingly reluctant to grant loans to SMEs, which are cash-strapped," said Shashank Dixit, CEO, Deskera.

Huge gap between demand and supply in loans by SMEs

Let's look at these figures: According to a study done by the International Finance Corporation, in partnership with the Japanese government, Small and Medium Enterprises (SMEs) in India require Rs 32.5 trillion in financing. Of this, as much as 78 per cent comes from non-regulated sources or is self-financed while only the remaining 22% is provided by banks and other financial institutions.

Entrepreneur after entrepreneur complains of not getting enough loans. Then where did the NPA money go? It went to the big fish, which swallowed it hook, line and sinker. Big corporates are the biggest NPA defaulters, while small businesses and enterprises which have a much lower contribution.

“Getting credit for our day-to-day operations is a big hurdle. Financial institutions are reluctant to provide credit to us”, said M M Mahindrakar, an entrepreneur from Aurangabad running a metallurgical firm.

Disparity in treatment of small enterprises and big business

Banks readily lend to big corporates, as we have seen in the assessment of India's NPA crisis. On the other hand, they are reluctant in being generous with small enterprises. Big defaulting companies have political connections and PR agencies to get their loans pushed and processed. They even end up getting huge perks from the government in the form of land at subsidized rates, clearances, etc. Big businesses have full-fledged management teams that bail them out in the event of a crisis or non-payment, whereas SMEs do not have the resources to do so.

In this situation, what is required is that banks change their mindset with respect to loan disbursal and should be forthcoming to give it to small businesses as well. In fact, they should constitute the bulk of their portfolio. It's high time to do this to avert another NPA like crisis.

Author Bio: I am a writer, editor, columnist, technology evangelist, tech blogger, film critic, theater activist, journalist, but basically a storyteller and blogger at heart. I write on social issues, startups, SMEs, technology, environment, economy, women empowerment, and arts and culture. I am also a theater activist. Music, theater, films are my passions. Please visit my blogs https://muqbilahmarwordpress.wordpress.com/ and https://muqbilahmar.blogspot.in/ and invite bloggers, writers,  technology evangelists, and others to connect with me on Twitter @muqbil_ahmar, LinkedIn and Facebook.