Micro, Small and Medium Enterprises (MSMEs) is a heterogeneous segment, where 96% lack access to formal finance. They operate entirely in cash, resulting in an almost non-existent digital footprint. Most borrowers in this segment are first-time loan applicants with limited financial literacy. Lack of documents and collateral, and irregular, undocumented sources of income make it difficult to determine the creditworthiness of these borrowers. Consequently, they are perceived as risky by traditional lending institutions, such as banks.
However, MSMEs are a critical segment of the economy. They are the largest contributor to GDP (20%) and generate the highest employment (80%). Yet, they are largely underserved.
The loan requirements of most small enterprises range between Rs 1 Lakh – 15 Lakhs and is required to meet both their need for working capital needs and asset purchase, such as buying machinery or livestock. MFIs give disburse small loans (up to Rs 50,000), whereas, traditional banks have bigger loan brackets (Rs 50 lakhs and above). Thus, MSMEs are too large for traditional microfinance and too risky for Banks, and hence constitute the ‘missing middle’ – the blind spot for lenders. In India alone, there is an Rs 20 trillion annual funding gap for this segment.
Despite being the largest and fastest growing segment, credit underwriting of MSME borrowers continues to remain a challenge because of limited digital footprint. However, digitalisation is creating a breakthrough in the MSME segment. With the increase in Internet exposure, mobile phone usage (particularly smartphones) and digital media access, borrowers are now leaving digital footprints. Technology adoption has proven to be successful with the increase in digitalization of businesses.
Increased digital consumption is providing data. This data is being leveraged by e-commerce providers and fintech firms for alternative lending. These companies focus on data points that assess behavioural patterns and hence the willingness to pay. Customers are profiled in several ways to generate their credit history. For example, in transaction-based lending, the customer and lender directly interact with each other, and loans are disbursed based on the customer’s cash flow history.
This has helped reducing customer acquisition costs and fast tracked the lending process. Thus, spending patterns, social media usage, bank-related SMS alerts, bill pay patterns, and other such data are studied to determine and lend to a prospective borrower through alternative lending.
However, this credit assessment pattern has limitations. The number of borrowers who are digitally active comprise only a small portion of the segment. Furthermore, by assessing only willingness to pay, these firms can only disburse small-sized loans between Rs 1,000 – 10,000, which does not meet the business capital needs of MSMEs. Therefore, the MSME segment remains largely untapped.
Borrower segments with irregular, undocumented income will only become viable as data becomes available. Hence credit assessment must start where all the data points are — at the borrower’s doorstep. Lending to MSMEs is only effective when there is a combination of digitalization and physical outreach by a loan officer, and the only way to do this is collect more data points at the doorstep, which makes the loan officer indispensable in this context.
It therefore becomes necessary to build digital platforms that cater to this segment’s pressing need for capital. The only way to fuel MSME lending is to empower the loan officer to do more for the borrower at their doorstep. Some companies like Artoo have built an Intelligent Digital Loan Origination System that enhances the interaction between the agent and borrower and make borrower segments viable by capturing all valuable data during this interaction and enabling intelligent credit assessment.
Artoo leverages easily available and socially appropriate pseudo variables to derive insights that can then be used to build credit models for this borrower segment, thus creating new markets for lenders and including the financially excluded.
Through Artoo’s technology, financial institutions can provide loans quicker and at a lower interest rate. This has helped reduce risk and improve customer experience and productivity for the lending institutions. Companies like Artoo are disrupting the traditional lending space through digitalization, which has paved the way for the smart and tech-savvy borrower.
The increased consumption of digital devices and the insurgence of fintech players has provided a booming landscape for the otherwise neglected SME segment. Availability of data and the use of analytics have fostered alternative lending and are here to stay. With technology disrupting the SME lending space and bringing more people under the grid, digitalisation has paved the way for the borrower who can know establish himself as credit worthy even in the absence of documents or collateral.
(Article by Sameer Segal, Co-Founder & CEO, Artoo)
