Equity Support & Risk Capital

Equity Support

Non-availability of timely and adequate funds at reasonable cost is one of the most important problems faced by the MSME sector. Some of the major causes for low availability of bank finance to this sector are the high-risk perception, inadequate data and usage of external credit rating, weak corporate financial systems, early stage high transaction cost for small loans and high costs of the banks in lending to MSMEs. The lack of adequate collateral further hampers availability of funds to the sector. In such conditions, making various risk-capital options available to the MSME sector is essential.

Risk Capital is an important instrument for not only start-ups and innovative / fast growing companies but is also critical to those companies looking at growth. However the sources of risk capital are limited in developing countries. Majority of the MSMEs are owner driven with lesser inclination towards formal organizational structures. The non corporate structure and small size of the majority of MSMEs in India makes the venture capitalists and other risk capital providers reluctant to investing in them due to higher transaction costs and difficulties in exits out of such investments. Thus, it is critical to have appropriate risk capital products and focused funds for MSMEs of different size and constitution.


Some of the major risk capital options available for MSME sector internationally and in India are:

 

Venture Capital

Venture funds typically provide equity and may or may not provide debt. Good quality venture funding can improve the credit rating of the company allowing it to access commercial loans or other forms of finance. However, there are some expected problems with exit that can impact funds entry into these areas. For the MSME, it has possible disadvantages of reduced operational flexibility, etc.

To read more on Venture Capital in India, click here.
 

Angel Investors

Angels are typically high net worth individuals who wish to invest some of their surplus funds in new ventures. They can prove to be a good source of capital and advice at an early stage in the development of the company. For the investor, they bring opportunity to make high returns from investing at an early stage in an MSME. The problem areas are unwillingness of MSME to bring in an external investor in case of equity sale, the high risk for investor and risk of relationship between the investor and the MSME manager breaking down.

To read more on Angel Investors networks in India, click here.
 

Public Listing

MSMEs with a good track record can access funding from the public through the public listing process first through the initial public offer (IPO). A functioning IPO regime for MSMEs will enable the entry of other types of risk capital in the earlier stages. However, the IPO route is limited to bigger MSMEs having an established  record of past performance and reputation in the market.

To read more on this form of risk capital, click here .
 

Incubators

Incubators are support programs designed to accelerate the successful development of entrepreneurial companies through a range of business support resources and services. These resources/services may be offered either in the incubator or through its network of contacts. Unlike research and technology parks incubators are dedicated towards startup and early-stage companies.

Incubators help in many different ways; apart from helping the potential entrepreneur in the early stages, they also introduce the potential entrepreneur to the networks, commercial mind-set, mentoring, etc.

To know more about the government run incubators in India, click here .
 

 

Supplements to Risk Capital

Some of the supplements to risk capital can also be explored by MSMEs. These include the following finance alternatives:

Loan Fund

A pure loan fund supported by the Structural Funds can be leveraged by using private capital. While Loan schemes are a major source of capital for MSMEs, usually lenders will require collateral or will go through a credit scoring process which may discriminate against start-up companies.
 

Guarantee Associations

Guarantee Funds or Guarantee Associations issue guarantees to MSMEs in order to facilitate access to external finance (mainly loan-based) in return for a fee to cover both the risk and administrative and processing costs. They facilitate access to loan finance on improved financial terms for MSMEs and reduce the degree of risk for the lending institution. However, they cover only part of the credit risk and often apply to only a limited range of financial instruments.

To read more on the Credit guarantee fund scheme for MSMEs, click here .

 

Micro Finance

Micro finance is typically designed for businesses with small financing requirements.  However, apart from high cost of setting and administering loans, it caters to only small requirements and generally requires the presence of a homogenous and well networked social group.

To get details on Micro Finance Scheme of SIDBI, click here