In India, Management Skills Become Innovative Assets: A Partnership between ITC and an Indian Bank Has Shown How Lenders Can Safely Use Competency as Collateral against Small Business Loans

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Traditionally, lenders wouldn't dare offer credit to small and medium-sized enterprises (SMEs) without financial collateral. But since a major Indian bank began doing just that in 2007, the results have been staggering. In just over a year, they have enhanced opportunities for small businesses, women and entire communities.

Management skills are being used as an innovative form of collateral for loans, in an ITC initiative designed to improve access to credit for SMEs. The Export Import Bank of India (Exim) has tested LoanCom, as the project is known, to great effect. By regarding managerial capabilities as "non-financial assets", the programme guarantees a finer assessment of each company's future potential, rather than relying solely on past successes. Unlike the traditional financial parameters used by lenders, management skills are a key determinant for business success.

The results from LoanCom's pilot year were presented in November 2008 at the Asia and Pacific Exim Banks' forum in Mumbai, which held a special session on the impact of the global financial crisis on SME access to finance. The results came as a surprise to many, by highlighting definite advantages of lending to SMEs in the context of the current economic climate.

"India has been chosen as a destination [for this pilot project] because of the sheer number of SMEs this country presents," Aicha Pouye told press at the time of the programme's launch. As ITC's director of business and institutional support, Ms Pouye has been closely involved in the development of the LoanCom project. "We recognize the potential of SMEs, and thus decided to partner with Exim Bank to empower them." SMEs constitute 95% of all industry establishments in India, contributing 40% of all domestic exports and industry output. They make up more than a third of the manufacturing sector, providing significant economic returns as well as vital employment opportunities in local communities.

But despite their value in the economy, banks have traditionally been reluctant to loan to SMEs, based on the perception that they present higher risks. Add to that the difficulty for banks to identify which SMEs have real potential plus the higher transaction costs associated with SME banking, and the situation becomes tough for these businesses which cannot expand without credit. The paradox is that the hesitation is often unjustified, as SMEs demonstrate a 35% return on equity, with a rate of default that is no higher than other sectors of the banking industry.

Exim Bank allocated a fund of $11 million to the pilot project, agreeing to direct the credit primarily into rural and agricultural industries in under-privileged areas. …