There has probably never been a better time to start a business in India. Multiple positive developments in the recent past have laid the foundation for a thriving entrepreneurial ecosystem for years to come. Some Governmental initiatives such as “Make in India”, “Startup India” etc., have indicated that at the highest level of policy-making, there is now a strong desire to support new businesses. Increasing digitization and improving infrastructure means that even the youngest of businesses can now reach out to millions of potential customers. The brightest minds in the country are now being drawn away from previously coveted corporate jobs and are opening up to the challenge of executing an indigenous endeavour from ground-up. These are exciting times.
These young businesses can bring significant value to the Indian economy. At their helm are smart, passionate entrepreneurs with products or services which cater to tangible demands in the market. With the right support and nurturing, many of these ventures can grow into successful businesses. However, far too often, we see many of these budding entrepreneurs failing to realize their true potential. While there can be many reasons why a young business fails to scale up, research globally has identified a clear obstacle – lack of appropriate and timely credit.
The problem of the “Missing Middle” in developing economies is well documented. Such economies have a large number of micro-firms, some large firms but very few medium-sized firms. The absence or the paucity of medium-sized enterprises isn’t because these businesses lack the potential to be profitable, but because access to finance is traditionally a cumbersome process. In India, less than 1/4th of the financing demand of SMEs is met by formal institutional supply. Small businesses fail to benefit from the leverage which debt financing provides and is essential for propelling growth. As a consequence, SMEs contribute to only 8% of the Indian GDP – a stark contrast with the 40%+ contribution made by small businesses in developed economies.
This is not to say that the financing needs of SMEs are being completely ignored. For more than two decades lending to small businesses has been a priority agenda item for policy makers and regulatory bodies. A host of initiatives have been launched but on-ground progress has been slow. A key bottleneck is that these small-medium sized businesses are unable to furnish adequate credit history.
In a country like India, with a thriving informal finance ecosystem, most small businesses do not build credit records in their initial days as they can access finance through informal lending channels. As the size of their operation increases, so does their financial need. At this point, they are unable to turn to formal means of credit supply due to the lack of universally recognized documentation. At this stage, their growth is stunted as the informal market is unable to provide required financing at reasonable rates. It is a perfect Catch 22 scenario – to get credit you need to have prior history but to have prior history you need to secure credit!
Building credit history with a bureau, e.g. CIBIL, takes time. Start small, be patient and build it over time. In India we now have personal as well as business credit scores available separately, though the former continues to be the more dominant decision input to most underwriting models. The credit worthiness of the promoter of a small business is crucial since the fortunes of the business are so closely entwined with his personal credit standing. It is thus vital to establish and grow your personal credit score. Start with small loans and service them in a timely fashion. If you are unable to get unsecured financing (e.g. a credit card), you can potentially start with a secured loan (e.g. auto loan) or a loan which is backed by a guarantor. Do not over-leverage your self – having multiple loans outstanding and/or high utilization on your existing limits negatively affect your score. Avoid such credit behaviour. Most of these points apply to business credit scores as well – start small and diligently service re-payments.
The entrepreneurial journey can be a deeply rewarding one. Focus on building your credit history along the way to help achieve your goals.
Vaibhav has over seven years of experience in the financial services industry across analytics, sales and trading. He has worked across major financial centres in Asia managing equity portfolios of large institutional investors across the region. In his last role prior to joining CF, he was a member of the Program Trading desk at Deutsche Bank’s Sydney office. He holds a Bachelor’s and Master’s degree from IIT Kharagpur in Electronics Engineering and is a CFA Charterholder.
Vaibhav heads Business Development at Capital Float.