Did you know there are around 64 million micro, small, and medium enterprises (MSMEs) in India? Additionally, MSMEs contribute around 30% of the total GDP and account for 31% of the country’s workforce, highlighting their indispensable role in India’s economic growth in recent years.
Yet, MSME credit penetration in India is only 14%, which begs the question of why the catalysts of the country’s economic growth are still underserved.
Realising the need to bridge this credit gap, the Reserve Bank of India (RBI) announced new co-lending guidelines in 2020, encouraging non-banking finance companies (NBFCs) to collaborate and strengthen India’s blooming MSME ecosystem.
This article explores the co-lending model, how it can bridge the credit gap, and its potential to make funding more accessible to MSMEs.
What is Co-lending?
Co-lending is a financial arrangement in which multiple lenders come together to provide loans to borrowers. The model is favourable to most lenders since it elevates their lending capacity and minimises the credit risk for each lender.
Co-lending Objectives
Some of the key objectives of introducing and encouraging co-lending include:
- Streamline and encourage MSME funding via MSME focussed NBFCs
- Create a safe passage for NBFCs to aid the growth and development of MSMEs
- Make formal low-cost credit accessible to MSMEs
- Make banking facilities accessible to MSMEs via NBFCs
Underserved Indian MSMEs Turn to Co-lending to Address Lack of Credit Accessibility
Although a lynchpin to India’s economic growth, MSMEs continue to struggle to access sufficient financing for sustainable growth.
According to a report presented by The Standing Committee on Finance, there is an estimated credit gap of around ₹20-25 lakh crore in the Indian MSME sector.
The introduction of new verticals, including the Digital Banking Zone, that clear the path for TReDS cell, co-lending cell, and digital lending services is expected to play a pivotal role in increasing MSME advances via digital platforms.
Today, more and more banks are partnering with reputed NBFCs to facilitate financial inclusion and offer tailored financial products to cater to the unique requirements of MSMEs.
How Does the Co-lending Model Help MSMEs
While banks have significantly improved at offering collateralised, secured, and low-interest loans in the past few decades, NBFCs have mastered the art of providing small-ticket unsecured and collateralised loans.
Let’s explore some of the key benefits of the co-lending model.
1. Ability to Reach Remote Regions
Some tech-agnostic banks have overlooked the need to address the credit requirements of the marginalised population and those living in the remotest regions of the country. However, things have changed for the better since the advent of NBFCs and Fintechs in the past decade, particularly in the post-pandemic era.
Driven by their exceptional understanding of the application of technology in the financial field and marketing prowess, Fintechs and NBFCs are gradually reaching the underserved population and catering to their unique requirements.
2. Improved Customer Experiences
As mentioned earlier, traditional financial institutions, including banks, particularly nationalised banks, aren’t known for offering the best customer experiences and tailored support. The relatively slower response times have played a key role in hindering customer engagement, making it difficult to address the dynamic customer expectations.
The co-lending model allows banks to overcome this hurdle as NBFCs and Fintechs are well-equipped to provide customer-oriented and flexible solutions. While banks can reap the benefits of Fintech companies’ agile and tech-driven strategies, NBFCs can expand their customer base by serving underserved markets.
3. Risk-Reward Sharing
Apart from the notable benefits for borrowers, the co-lending system creates a win-win situation for NBFCs and banks, allowing them to share the risks and rewards. Since two or more lending parties are involved, they share the credit risk and can minimise losses in case the borrower defaults.
Through this arrangement, small to mid-sized NBFCs can diversify their funding channels and scale sustainably. On the flip side, co-lending opens up doors for banks to untapped geographies and opportunities to serve MSMEs, allowing them to reach their priority sector lending objectives.
4. Lower Interest Rates
The combined financial strength of banks and NBFCs, coupled with the shared risks and rewards, ensure interest rates in the co-lending model are typically lower than that of traditional loans.
Apart from lower interest rates, MSMEs can also enjoy other favourable loan terms, such as longer repayment cycles, personalised credit solutions, and collateral requirements.
Further, recent partnerships between banks and NBFC/ Fintech companies are not only playing a key role in minimising interest rates but also laying a solid foundation to improve last-mile finance.
For example, the State Bank of India (SBI) and Adani Capital announced a partnership to provide loans to farmers to purchase tractors and farming equipment under the co-lending model.
Similarly, the SBI and U GRO Capital developed a co-lending scheme. This partnership aims to enhance credit access for MSMEs.
Parting Notes
The arrival of a structured and regulated co-lending system is set to transform the MSME ecosystem, making credit more accessible and affordable to smaller businesses.
Additionally, it is also a welcome change for NBFCs and banks alike, which can mutually benefit from each other’s resources and expertise.
In short, while NBFCs can benefit from bank’s capital strength, banks can make the most of NBFC’s market insights and customer reach.
The collaborative nature of the co-lending model will play a key role in bridging the credit gap and unlocking the full potential of MSMEs.
Use Finezza’s lending lifecycle management and loan origination systems to streamline co-lending and make informed lending decisions. From credit assessment to loan disbursal, manage your lending portfolio with ease and stay on top of all the key insights into a lending lifecycle.
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