Supply Chain Financing: Enabling Formal Credit for MSMEs

MSMEs in India: What’s Hampering Their Progress?

In a country that’s desperately trying hard to catch up with the developing world, it wouldn’t be an exaggeration to say that the MSMEs are the flag bearers of India’s economy. Accounting for 45% of the country’s exports and 30% of its GDP, the Small and Medium Enterprise sector scattered across the length and breadth of the nation is nothing short of a lifeline.

However, MSMEs face many challenges when obtaining financial support from banks. More than 80% of India’s MSMEs are forced to seek funds from private lenders because they do not qualify for traditional bank loans due to the lack of:

  • Information about repayment trends
  • Cash flow position over time
  • Detailed financial information
  • Visibility of business performance data
  • Bandwidth and resources from financiers
  • Increased risk of default

Because of their informal, non-structured nature, MSMEs are susceptible to perceived financial risks, which is why credit to this sector is scarce. Despite having the least economic and regulatory support, MSMEs employ the largest number of people in developing countries, especially India.

With formal access to timely credit, MSMEs can reduce unemployment, boost the income levels of those depending on it, and accelerate economic growth. Supply Chain Financing (SCF) could be the light at the end of the tunnel for the MSME sector.

What is Supply Chain Financing?

SCF refers to a form of lending offered to MSME sellers against their buyer invoices. Suppliers receive SCF at a lower cost than borrowing on their standalone balance sheets because lenders advance funds based on the buyer’s financial standing and net worth. In addition to deepening supply chain relationships, the SCF enhances trust and goodwill among the partners, making it a win-win situation for both buyers and sellers.

Supply chain finance (SCF) and trade finance are two distinct financial concepts with their own objectives and methodologies. SCF focuses on optimizing working capital and enhancing collaboration within the supply chain, whereas trade finance focuses specifically on financing requirements related to international trade transactions.

Read more about supply chain finance vs trade finance.

Learn How Supply Chain Financing Bridges the Credit Gap for MSMEs

What makes it possible for SCF to fund MSMEs when large banks are hesitant to do the same? Unlike banks, SCFs have options to use invoices and receivables as intermittent collaterals for suppliers. The funding process by supply chains is categorised into two broad types:

Receivable purchase
Receivable purchase consists primarily of factoring, forfaiting, receivables discounting and reverse factoring.
1. Factoring – The supplier distributes their receivables to a financial institution at a discount known as a ‘factor.’ In factoring, the financier handles the supplier’s receivables and collects money from the debtors for a fee.

2. Forfaiting – It refers to exporters getting long or medium finance from financiers by offering receivables to them. This is primarily done so exporters can receive immediate payment for their goods and reduce the burden of recovering funds from importers.

3. Receivables discounting – This involves securing a loan towards the accounts receivable from financial institutions. After removing any questionable or bad debts, many individuals have a sizable quantity of available receivables, which finance companies use as collateral for loans.

4. Reverse factoring – This entails the supplier obtaining a cash advance from the financier to pay off his payables in exchange for discounts.

Also Read: Role of Finance in Supply Chain Management

Loan-based financing
The customer or supplier can obtain loan-based financing by selling what they have to the financiers. It has four different categories namely:
1. Pre-shipment finance refers to a loan given to the exporter to help with the export prior to dispatch, including the purchase, production, and packaging of the goods. It is otherwise called packaging credit, and helps the importer’s export execution.

2. Distributor financing is obtaining loans from finance providers for distributors by selling receivables or other current assets to cover the holding costs of products for resale and maintain liquidity.

3. Advance against receivables refers to acquiring a loan for trade receivables in order to get early payments, meet liquidity needs, and permit customers to make payments at their convenience.

4. Advance against inventory involves getting a loan for storing the inventory, where the financier uses them as collateral.

Dig deeper into the types of Supply Chain finance.

Benefits of SCF

  1. Lower cost of financing: As funders consider the buyer’s creditworthiness, length of association, and supply chain relationship prior to approving loans, the funding cost is more competitive than that of conventional sources. This renders SCF attractive for MSME sellers to gain funds.
  2. Working capital optimisation: SCF assists both buyers and vendors in optimizing their working capital. With SCF, vendors can receive payment for their invoices sooner, decreasing the outstanding sales and raising the cash they have available for future investments.
  3. Improved Supply Chain Relations: Several minor businesses struggle during their growth phases because of the lack of access to capital in a timely manner. SCF offers such funds to stabilize expanding businesses’ operations, thereby enhancing the buyer-seller trade relationship.

An Overview of the Fintech Sector in SCF & Its Innovations

One of the most remarkable impacts of fintech in the SCF segment is the digitisation of interaction between buyers and sellers. Another notable achievement is their role as anchor clients on the major e-commerce platforms. This is one of the main aspects where fintechs differ from banking institutions. Their focus on e-commerce platforms allows them to understand their MSME segment, the supply chain process, and the need to finance it.

Moreover, fintech uses analytics to provide app-based finances and many other tech-enabled solutions to make SCF’s lending process reliable, efficient, and transparent.

Read more about supply chain finance solutions.

Fintechs innovate in a wide variety of fields, including technology, product offerings, and business models. Following is a list of some of these innovations:

1. Product Innovation

  • Capex discounting is a one-time financing and payment option for purchasing industrial equipment.
  • Warehouse receipt finance to fund warehouse receipt-based suppliers.
  • Invoice discounting provides working capital for suppliers who need unpaid invoices.

2. Business model innovation

  • Dynamic discounting- an incentive program that rewards buyers for early payments with cash discounts.
  • Early cycle discounting which analyses historical shipment, purchase, invoice, and payments data to allow financing extension before invoice approval.
  • Securitisation of supply chain finance by partnering with debt platforms to offer investors invoice-backed securities in order to reinvest invoice cash flow.

3. Tech innovation

Blockchain technology enables distributed ledger facilities and enables transparent financing platforms. API-enabled services or technology stacks based on customer needs allow fintech to customize services, build asset-light models, and reduce overheads. Analytics enablement relies on data and buyer-supplier networks to identify client opportunities and evaluate eco-system risks.

4. Partnership model

Fintechs use partnership models to provide buyers and sellers with a Point-of-Sales financing resource, expand their user base, and acquire better revenue streams. Some of the partnership models are:

  • SCF providerprocurement software provider partnership to provide financial solutions on an integrated platform.
  • Fintech procurement platforms- banking institution partnership to provide financing through apps.
  • E-commerce platforms also expand into international trade partnering, financing, and shipping services.

Government initiatives to boost SCF

The government of India has enacted numerous policies to promote the growth of SCF mechanisms and facilitate the exchange of data between customers, sellers, and financiers.

Account aggregator (AA) framework: The Reserve Bank of India has launched an AA framework to consolidate consumers’ financial data onto a single platform. Customers would be able to determine who has access to their data, and financial institutions would be able to see them on a platform that is centralized.
Trade Receivables Discounting System (TReDS): This platform enables financing and discounts for both consumers and sellers. Multiple organizations have developed TReDS platforms to facilitate accounts receivable financing. The AA structure and its data management enable suppliers and customers to gain access to financing options by storing transaction data on a centrally regulated framework. Other FinTechs are taking advantage of the connection between TReDS and the GST Network (GSTN) in order to comprehend the cash flows of MSMEs and provide invoice financing options.

Supply chain financing is anticipated to undergo major advances in the coming years, potentially expanding MSMEs’ access to working capital. These innovations will be bolstered by government support and growing interest from FinTech firms.

Winding Up

Once a privilege of large companies, supply chain financing has become a beacon of hope for MSMEs because of the pandemic. SCF can provide multiple benefits to MSMEs, equipping them with the resilience required to deal with working capital deficits and stabilise their operations. Thanks to digitisation and automation, which have minimised SCF onboarding and transaction costs.

In short, SCFs are a saviour for MSMEs.

MSMEBlog offers insights into the Govt. Schemes available for MSMEs. Learn more about government MSME schemes by visiting

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