Micro and small enterprises (MSEs) are typically promoter-driven, be it operations or financing. A CRISIL study of 6,000 MSEs shows that promoters contribute 50-60 per cent of the net working capital requirement – or twice what they are supposed to contribute – because of restricted access to formal financial institutions.

Delays in payments is a widespread affliction in the sector, which forces promoters to regularly infuse funds to keep the operations going and manage cash flow mismatches. While the Micro, Small, and Medium Enterprises Development Act, 2006, stipulates that receivables of MSEs must be limited to 45 days, CRISIL’s analysis shows the average is closer to 65 days.

Promoters have to also infuse funds during business exigencies such as unexpected spikes in raw material prices, foreign exchange losses, unanticipated large orders, or delays in insurance claims after calamities such as floods or fire or strikes – and ensure timely production and deliveries.

Additionally, MSEs are often unable to quickly provide information that banks seek for processing loan applications, which leads to delay or denial of credit. This, in turn, means more promoter funding.

Since dependency on promoters’ ability to infuse timely finance during financial distress of MSEs is high, their net worth is critical to credit assessments. Therefore, greater disclosure on promoter net worth means better evaluation of financial flexibility, which, in turn, leads to better credit assessments.

Source: Business Standard