Strengthening SMEs in India While Combatting COVID-19

21 Jul 2020

COVID-19, which has gripped the entire world has not only created an unprecedented human health crisis but also a major disruption in economic activity. This can be validated by IMF’s projection that the global economy may shrink by over 3.0 per cent in 2020 – the steepest slowdown since the Great Depression of the 1930s. The Indian economy has also been hit hard by the novel coronavirus and cities with concentration of industrial activity are among the most affected. With most industrial ventures coming to a standstill, SMEs today face a survival challenge with major pressure on the liquidity front. SMEs need to be supported and handheld more than ever before, otherwise the country may see a major livelihood crisis and also disruptions in critical supply chains.

Short and Medium-Term Measures for SMEs

PM Narendra Modi announced a package of Rs 20 lakh crore subsuming the previous measures. Providing details on the same, the Hon’ble Finance Minister Ms Nirmala Sitharaman announced various measures in five tranches encompassing direct support to the vulnerable groups, agriculture & allied sectors, MSMEs, NBFCs, infrastructure sector besides policy, regulatory and taxation reforms. While these measures will definitely give a breathing space to the affected stakeholders, the government needs to consider some more measures to ensure a larger and more effective solution to the problem.

Especially for the SME sector, which is a major livelihood creator and an important entity across supply chains, the following measures may be considered over the short and medium term for their survival and growth.

Debt Fund Resolution

Most SMEs conduct business through a mix of debt and equity. The current situation impinges heavily on debt obligations. The following reform initiatives may be considered:

All outstanding loans of SMEs should be treated as a bundle with principal and interest together.
Provide 1-year moratorium for every repayment; in the 2nd year only interest should be paid; and 3rd year onwards interest and principal repayment may commence.
  Working Capital Funding

Every SME should be allowed working capital funding upto 125 per cent of the requirement (Stock plus Debtors less Creditors), which must be maintained for the 1st and 2nd year. From 3rd year, limit may be brought down to 100 per cent. From 4th year onwards, the original levels of say 75 per cent should be made applicable. The above will help in putting money in the hands of small entrepreneurs based on their business size and requirement.

 Equity Funding

India has an edge today to be the next manufacturing hub of the world as most countries want to de-risk from the popular sourcing countries. India is most ideally suited to take this opportunity if it can grow the capability of its SMEs. These SMEs have lost equity during this period and would mostly need recapitalization. Also, they would need fresh equity for growth. Hence, the authorities may consider the following suggestions:

Capital Investment in SMEs
The Finance Minister Ms Nirmala Sitharaman has already announced a Fund of Funds of Rs 10,000 crore which will invest in unlisted companies and handhold them to support in listing on the stock exchange. 

In order to ensure wide trading of these shares, the Domestic Institutional Investors (DIIs) and Foreign Institutional Investors (FIIs) may be directed to invest 2 per cent.

Another Asset Management Company (AMC) may be established for creating interest among retail investors. Income tax benefit must be given to them for investing in the AMC.
 SME Fund of Funds

For retail investors to participate in this exchange, a SME business AMC may be set up, preferably under the leadership of SBI or a similar institution. Any institution or any person who invests in this SME AMC should be made eligible for income tax benefits. The IT benefits could be suitably structured.

 Equity Income Tax Free for 10 Years

Dividend income from the equity investment in SME sector should be treated as tax-free in the hands of the recipients for 10 years (assuming there is a gestation period of five years for investments to yield results).

  SME Investment Allowance

Any capex investment in ‘new’ assets by SMEs may be allowed an investment allowance of 150 per cent for tax calculation purposes, for 10 years.

The adoption of the aforementioned measures can help SMEs become viable and strong in the long run by being adequately capitalized to meet repayments and simultaneously grow as well. In this whole process, there will be negligible or no NPA from the MSME sector for 2 years and within the same number of years, fresh capital or adequate reserves will be created. The government must undertake various wide -ranging measures to help MSMEs tide over these difficult times. The authorities must ensure that all the bottlenecks being faced by such firms, especially in terms of solvency are redressed to help the backbone of our Indian economy sustain these challenging times.

The article written by Mr Rishi Bagla, Chairman, CII Task Force on Ease of Doing Business for Western Region & Chairman, OMR Bagla Automotive Systems India Limited, first appeared in the May 2020 issue of CII Economy Matters. Click here to read the full issue.

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