Hobson’s choice for MSME’s – Large Corporate Customers

The present tight liquidity is affecting the working capital cycle of most businesses. It is impacting the MSME’s even more, as poor collections mean mounting Debtors beyond permissible aging, resulting in lower Drawing Power for bank facility which in turn reduces the availability of working capital limit from banks.

Delays in the collection are not just about small customers which are managed by most, due to smaller individual credit exposure. It is the delayed collections from larger customers that are a major source of pain for MSME’s.

The Government has taken numerous steps to improve the timely flow of funds to MSME’s & the two that can favorably impact the MSME’s are:

• Enactment of the Micro, Small and Medium Enterprises Development (MSMED), Act 2006, for the goods and services supplied by the MSEME units. Buyer to make payments not exceeding 45 days.
• RBI on December 3, 2014, issued guidelines on Trade Receivable e-Discounting System (TReDS). Receivables Exchange of India Ltd (RXIL) was incorporated as a joint venture by SIDBI and NSE. The platform was named as “TReDS”.

The proviso to Section 15 of the Micro, Small and Medium Enterprises (MSMEs) Development Act, 2006 states that the period of credit given by the seller shall not exceed 45 days from the day of acceptance or from the date of deemed acceptance.

“The day of acceptance” means, the day of the actual delivery of goods or the rendering of services”

Why is it then that MSME’s are still facing pain with large customers?

In any business, funds are continuously invested for procuring raw materials and /or for payment of salaries both in Manufacturing & Service sectors. Further, in this highly competitive business environment, if an MSME wishes to retain his large corporate customer & continue doing business with them, despite the current tight liquidity scenario, they are forced to take the risk of going ahead with either manufacturing or rendering service without the receipt of a formal Purchase Order or Work Order from their larger corporate customers. This is mostly on oral assurances and based on past relationships. Finished goods may be actually dispatched at a much later date than what was initially envisaged, based on the customer’s instructions.

For MSME’s in capital goods, project consultancy, equipment renting & other service sectors, a milestone for billing as a result of the nature of the activity may be dependent on approval by multiple internal departments within the organization of a large customer.

Thus, the delays in the dispatch of material or delay in the approval of service may cause a delay in the raising of actual Invoice and the resultant locking up of working capital funds is a reality which MSME’s are faced with. It is here that credit given by the seller not to exceed 45 days from the day of acceptance under section 15 of the Micro, Small and Medium Enterprises (MSMEs) Development Act, 2006 may not help nor will they be able to undertake e-Discounting of the Invoice on TReDS platform.

Taking of a hard stance by MSME’s or seeking legal remedy may result in loss of future business from that customer.

It is thus a Hobson’s choice for the MSME’s!!!

“To continue doing business with large corporates for the large volume and for increasing the top line or to give up on the opportunity in order to avoid locking up of working capital & face the resultant loss of business.”

MSME’s will have to face these adverse times in order to bounce back. They need to develop the ability to cope with and rise to this challenge. This can best be done by maintaining control of the situation and thinking of new ways to tackle the problem.

Decisive actionable list for immediate Solution:

• Check whether you incur a loss on lower production or sales or would you still break even. In case you break even, try and reduce exposure to corporates which are not paying. In case it is a loss, find how much lower you can sell just to break even.
• Calculate interest cost per unit for the number of days of credit, in order to understand your real profit from the transaction.
• Try and negotiate a higher credit from your vendors.
• Get into the practice of working on cash budgets. Have monthly budgets and break it up into weekly budgets.
• Stop all discretionary expenses till liquidity is eased.
• Monitor MIS weekly on Debtors Ageing & Inventory Ageing.
• Get back to bankers to increase the tenure of term loans so that monthly EMI burden reduces.
• Always quantify effects of all strategies on your Business Plan.

– Article by Rajesh Koundinya