Why Supply Chain Financing Is The Best Financing Option For MSMEs?

Micro, small, and medium enterprises (MSMEs) have a significant impact on the majority of economies. They represent the majority of businesses on a global scale and play a crucial role in both job creation and the advancement of the global economy.

But there are many barriers for their growth. To strengthen this vital backbone, we must break down the barriers holding it back. A significant obstacle is the struggle these enterprises face in accessing funding from traditional sources like banks. This is a dramatic roadblock that hampers their growth and potential.‍

There is no doubt that the Micro, Small, and Medium Enterprises (MSME) sector is the backbone of the Indian economy.

This sector is an economic powerhouse, making substantial contributions to India's economy. It significantly adds to the country's Gross Domestic Product (GDP), contributing nearly a third of the Gross Value Added (GVA) and accounting for almost half of India's exports.

Beyond its economic impact, the MSME sector serves as a critical source of employment, particularly in rural and underdeveloped regions, contributing to the reduction of regional disparities.

Furthermore, it plays a vital role in bolstering other industries by supplying essential raw materials for instance steel raw material and ancillary products.

However, there's one area where they face significant struggles: MSME financing.

When it comes to accessing MSME Business Loan, they often find themselves at a disadvantage. They may encounter biases and hurdles when seeking the necessary MSME fundings to sustain and grow their businesses. 

This disparity in accessing financing options can impede the progress of MSMEs, hindering their potential for success and growth in the business world.

‍MSMEs And Their Struggle To Access Finance From Traditional Institutions Like Banks

Getting a MSME Business Loan from financial institutions like banks has been a difficult task, due to the following reason. 

‍Limited Credit History: Many MSMEs lack a well-established credit history, which is crucial for banks to assess creditworthiness. This absence of a substantial credit record can lead to loan rejections.

‍High-Interest Rates: Unavailability of credit from financial institutions pushes MSMEs to go to lenders that aren't organized or regulated, and these lenders charge very high interest rates.

‍Complex Application Processes: Traditional banks have complicated and time-consuming loan application procedures. These complexities can be challenging when it comes to MSME financing.

Opportunity Cost: MSMEs frequently need funds for time-sensitive opportunities. Loan approval delays can cause them to miss out on profitable ventures, hampering business growth.

Lack of Collateral: The demand for collateral is a major roadblock for availing MSME business loans. Many MSMEs lack the assets or property required to secure loans, making it a daunting task to access financing.

To address these challenges and support MSME growth, it's crucial to explore alternative financing options. Supply chain finance (SCF) is one such solution that can significantly benefit MSMEs.

How Supply Chain Finance for MSME could propel their business forward:

Finance, regardless of the scale of a business, is fuel for growth. Business Loans from banking institutes have been one of the major go-to places when it comes to business finance. However, when it comes to MSME financing, many of them find it hard to secure affordable MSME business loans from traditional banks due to outdated financial records and a lack of collateral. This hesitance from banks makes it tough for SMEs to access funding.

But there's a solution.

Supply Chain Financing or SCF is a cost-effective, collateral-free  alternative for obtaining MSME Financing. SCF helps MSMEs improve their cash flow, expand their operations, and seize opportunities without getting entangled in long-term loan agreements. 

Also read : From Banking Halls to Distribution Networks: The Changing Face of Supply Chain Finance

What is Supply Chain Finance?

Supply chain financing is a specialized financial strategy that is designed to ensure the seamless flow of funds within a supply chain. This method involves a three-party agreement involving the buyer, the supplier, and the financing institution, often a bank or financial services provider. 

The process begins with the buyer approving and verifying the authenticity of their supplier’s invoice. Once an invoice is approved & marked for financing, the financial institution extends payment to the supplier on behalf of the buyer, usually at a discounted rate.

In simpler words : Supply chain finance is a financial strategy that optimizes cash flow by providing short-term credit to improve the efficiency of a company's supply chain, allowing for better management of working capital and fostering collaboration among business partners.

‍Ignored by Traditional Institutions, How can Supply chain Finance be the savior for MSMEs?‍

In a scenario where Traditional financing is not a viable option, Supply Chain Finance becomes a valuable alternative for obtaining the necessary funds.

Here’s how:

SCF offers significant support in managing the financial side of trade transactions between a Primary company and its clients, suppliers and/or channel partners.

It works by separating the credit risk linked to these transactions, leading to increased working capital efficiency for all the parties.

The biggest perk while availing Supply chain financing is collereral free credit, because of which MSMEs no longer need to be concerned about their assets being leveraged.

Instead, they can easily access the funds they require based on their trade activities and the associated invoices.

Let’s Understand this with an example:

Imagine Company A is a large manufacturer of electronic gadgets, and Company B is a smaller supplier of key components used in these gadgets. Company A places a significant order for components with Company B, and the terms of payment are typically 60 days after the delivery of the components.

Now, let's explore how different types of supply chain financing can come into play:

Invoice Financing:

After delivering the components, Company B has unpaid invoices from Company A that are due in 60 days.

Instead of waiting for the payment, Company B can use invoice financing. They approach a financial institution and use these invoices as collateral to secure a loan, allowing them to access the cash tied up in the unpaid invoices immediately.‍

Purchase Order Financing:

Before Company B even delivers the components, they might face cash flow challenges in fulfilling the order.

Company B can seek purchase order financing, where a financial institution provides funds based on the confirmed purchase order from Company A. This helps Company B cover production costs and deliver the components on time.

Reverse Factoring:

Company B may find it challenging to secure affordable financing on their own.

Company A, recognizing this, engages in reverse factoring. They collaborate with a financial institution to help Company B secure financing at more favorable terms, ensuring the stability of their supply chain.

In this way, various supply chain financing methods can be applied to optimize cash flow, enhance efficiency, and strengthen the financial relationships between different entities in the supply chain.

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How do MSMEs benefit from SCF 

Supply Chain Finance (SCF) brings a multitude of advantages to MSMEs that traditional financing often can't match. SCF offers access to more substantial credit based on the nature and scale of trade transactions rather than just evaluating credit scores and financial standings.

Free Cash Flow:

Free cash flow is the lifeblood of any business, and MSMEs are no exception. Supply chain finance helps free up cash flow by providing access to quick and flexible financing options. With improved cash flow, SMEs can reinvest in their operations, expand their product lines, or seize growth opportunities. SCF also plays a pivotal role in improving cash flow, which has a direct impact on credit ratings. With these benefits at their disposal, MSMEs are empowered to explore a broader spectrum of growth opportunities within the market.

‍No need for Collaterals

One of the standout features of SCF is its flexibility of providing collateral-free funds. These funds might even come with lower interest rates compared to what banks typically demand when scrutinizing a company's financial health and assets.

‍Easy Access to Fund

Another significant perk is the immediate access to funds. MSMEs receive prompt payments for their goods, allowing them to expedite product turnover, shorten sales cycles, boost revenues, and enhance overall profitability.

Reduce Supply Chain Risks

Supply Chain Finance (SCF) plays a vital role in reducing supply chain risk for MSMEs. It ensures timely payments to suppliers, enhancing their stability and reducing the likelihood of disruptions. Additionally, it fosters stronger relationships throughout the supply chain, nurturing trust and collaboration among businesses. In essence, SCF serves as a valuable tool for supply chain risk management.

‍Bizongo: Technological Advanced Supply Chain Solution

Supply Chain Financing (SCF) is currently undergoing a technological revolution in India. Bizongo is at the forefront of reshaping MSME financing in the country.

Bizongo's fully digital SCF platform simplifies lending for MSMEs. It offers a user-friendly experience, connecting anchors with investors while streamlining the entire supply chain. 

This modern approach eliminates the complexities associated with traditional borrowing, such as excessive paperwork and delays, ultimately reducing costs for all involved parties.

Technology-powered SCF has the potential to drive MSME growth by providing short-term loans to bridge financial gaps and access essential liquidity. This solution optimizes working capital, supports business expansion, and enables MSMEs to meet customer and market demands effectively. It's a transformative tool that contributes to the success of MSMEs in India.