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Significance of a Customized Rating Approach for MSMEs, September 2011

21 September 2011

Source :  SME World

The credit risk assessment in MSME (Micro, Small and Medium Enterprises) segment requires a customized approach, as the factors affecting the creditworthiness are somewhat different compared to large corporate entities. Accordingly, CARE introduced SME ratings in 2006 and has a MoU with NSIC for the NSIC–CARE Performance and Credit Rating for SSIs, a special rating product. SME Rating indicates the relative level of creditworthiness of an SME entity, adjudged in relation to other SMEs. It is an issuer specific, one time rating reflecting overall general creditworthiness.

Garmering Better Credit Terms

The NSIC-CARE Performance and Credit Rating for any SSI entity indicates the relative level of financial strength and performance capability of an SSI entity compared to other SSIs. It is issuer specific and a onetime rating and is not a debt specific rating. This rating helps SSIs to obtain quicker and cheaper credit, facilitate capability assessment of SSIs by their clients and garner better credit terms from suppliers. This Scheme was formulated with the help of The Indian Bank Association (IBA). The Government has subsidized the fees for SSI ratings up to 75 per cent, enabling SSIs to get the rating at a lower cost. 

What does the rating exercise involve? The rating exercise takes into account the management capability, industry dynamics, operational performance, financial risk characteristics and the project risks involved. 

a.  Management Capability. In light of the informal structures in the Indian SME space, it is important to identify the level of dependence on the key-man of the organization and analyze elements of succession planning. Analysis of management competency parameter is also guided by the type of constitution of the unit.

b.  Industry Dynamics. Relatively lower entry barriers, high degree of regional element in the demand supply position, availability of the substitutes, relatively few competitive differentiations and dependence on Governmental support are some of the factors that define the industry dynamics for SMEs in India.  The cluster approach being followed by Government of India and the priority sector status accorded to SSI units within SME sector adds another dimension to the analysis. The sensitivity of the unit to the availability of raw materials is also studied in detail. 

c.  Operational Performance. The unit is assessed for the operational performance parameters with an aim to identify its position among peers and also to judge the efficiency of its operations. The availability of enabling infrastructure facilities and technology are important considerations as many of these units are established in areas with inadequate infrastructure which seriously constrain the efficient operations of the unit. Rather than seeing in isolation, the operational performance is seen in light of overall framework of economy and industry.

d.  Financial Risk. For analysis of financial risk, apart from analyzing the present performance of the unit, it is required to look into financial flexibility enjoyed by the unit in the form of availability of credit lines and support from promoter in the form of intrinsic networth. Credit lines from bigger corporates and banking relationship are some of the important parameters. Reliability of the accounts, submitted to CARE by the SME unit, are judged from conservativeness and consistency of accounting policies and transparency of accounting information, apart from the quality of the auditors. Key financial ratios like gearing, coverage, growth, turnover, liquidity etc. are analysed from the past as well as future perspective.