India’s Micro, Small, and Medium Enterprises (MSMEs) are significant to the country’s $3.7 trillion economy. As of December 26, 2024, there are roughly 5.70 crore MSMEs registered on the Udyam Registration Portal, providing jobs to ~24.14 crore people. Women-owned MSMEs make up ~20.5% of these businesses, contributing to ~18.73% of employment and ~10.22% of turnover. The Reserve Bank of India (RBI) expects the MSME sector to contribute up to 45% of India’s GDP by 2025.
However, accessing timely financing remains a challenge for many MSMEs. By providing focused financial solutions, non-banking financial companies (NBFCs) are supporting, and as India’s financial climate evolves, NBFCs will likely become more involved in MSME lending.
Role of NBFCs
Many MSMEs struggle to access formal credit due to traditional lending practices that rely on collateral and lengthy approval processes. Public sector banks often cannot meet the diverse needs of these businesses. NBFCs, however, are providing a solution by using technology and offering tailored financial products.
According to a December 2023 report, NBFCs issued more than three times the number of loans to MSMEs compared to banks, highlighting their growing role in the sector. NBFCs assess creditworthiness through alternative methods, such as analyzing digital footprints and transaction data, and provide faster loan approvals with flexible repayment terms, including revenue-based financing.
Trends in MSME Lending
NBFCs will use technology, innovative finance structures, and partnerships to restructure MSME lending in India in the future. In accordance with the government’s demand for alternative loan models in the 2023-24 Union Budget, NBFCs have changed the way credit is assessed by examining the digital footprints of MSMEs.
Data-driven financing is expected to become more widespread year on year basis. Even first-time customers without official credit records will be able to secure loans because of NBFCs’ usage of AI and machine learning for risk assessments. This is going to close the credit gap, particularly for rural MSMEs.
Partnerships between NBFCs, banks, and fintech companies will also improve MSME lending. Banks offer scalability and lower capital costs, while NBFCs provide flexibility and market reach. Fintechs add advanced analytics and digital interfaces.
Co-lending models, where NBFCs and banks share risks and resources, are becoming more common. These partnerships will enable quicker loan disbursements, better credit decisions, and broader access for MSMEs.
Additionally, women-led MSMEs present a growth opportunity. NBFCs can support them with customized loan products that offer higher amounts and longer repayment terms. Financial literacy programs for women entrepreneurs and easier access to formal credit will drive economic growth and inclusivity. NBFCs’ digital platforms will also simplify loan applications and help raise awareness about available schemes for women-led businesses.
Digital Transformation
MSMEs have a great chance for growth as a result of India’s digital growth. In the last three years, ~125 million new online customers have emerged, and by 2025, another 80 million are likely to be online, according to a Kantar analysis. As a result, MSMEs have an excellent opportunity to get involved and grow in the growing e-commerce sector.
However, at the moment, only 2-3% of MSMEs participate in online markets. By providing financing choices that allow MSMEs to invest in digital tools, infrastructure, and marketing, NBFCs may play a critical role in addressing this issue and facilitating MSMEs in accessing this growing market.
One key area for growth is UPI-driven transactions. With UPI processing over $1 trillion in transactions in 2023 and growing rapidly, NBFCs can leverage transaction data to provide instant credit to MSMEs that are active in the digital space.
Additionally, NBFCs could partner with the government to create financing programs that encourage MSMEs to adopt digital technologies, which would enhance their market competitiveness.
Green Financing for MSMEs
Sustainability is becoming a key priority for Indian MSMEs as they align with global green initiatives. By providing financial products that aid MSMEs in their green transition, NBFCs may set precedent for financing environmentally friendly equipment, the use of renewable energy, and waste management systems.
Targeted benefits for green financing are expected to be part of the Union Budget 2025, providing NBFCs the chance to launch creative loan programs that encourage environmental responsibility.
Challenges Ahead
While NBFCs are making progress in improving MSME financing, there are still challenges to address.
Credit risk management is one such challenge. Providing more financial access to underserved businesses increases the risk of defaults. NBFCs will need to use advanced analytics and strengthen their underwriting processes to manage this risk effectively.
Regulatory constraints are another challenge. NBFCs must comply with strict regulatory requirements, which can sometimes limit their flexibility or slow down decision-making.
Keeping up with these evolving rules while maintaining efficiency will be important.
Additionally, many MSMEs lack awareness of the financial options available to them. To tackle this, NBFCs should focus on outreach efforts and make their digital platforms simpler and more accessible to small business owners.
Predictions for 2025 and Beyond
By 2025, it is projected that NBFCs are going to employ data-driven phygital lending models and collaborative arrangements to increase MSMEs’ access to financing, particularly in rural and semi-urban areas. This will facilitate the process and increase the availability of capital to business owners lacking access to traditional financial services.
Use of various tech based customer assessments for lending is likely to grow further, with NBFCs utilizing real-time data from digital payment systems and e-commerce platforms to create loan products that suit the specific needs of MSMEs. This approach can streamline financing processes and cater to businesses adapting to the digital economy.
Support for women entrepreneurs is expected to improve as NBFCs introduce focused programs to address financing gaps. These initiatives aim to encourage participation from women in the MSME sector by offering financial products tailored to their requirements.
Sustainability will become an important point of consideration, with NBFCs offering green financing options. These will help MSMEs invest in eco-friendly practices and technologies, aligning with broader environmental goals.
The adoption of AI and machine learning will enhance NBFC operations, particularly in assessing credit risk and improving underwriting processes. This can reduce defaults and ensure a more efficient lending system for MSMEs.
Conclusion
The joint efforts of NBFCs, fintechs, and policymakers are going to decide the future course of MSME financing in India. NBFCs could address the most important issues facing the industry and fulfill the huge potential it holds through the use of technology, data-driven models, and creative financing solutions.
The role of NBFCs will extend beyond conventional lending as MSMEs become increasingly absorbed into the digital economy, facilitating inclusive growth. By 2025, NBFCs will have contributed to India’s economic development by creating a more vibrant, sustainable, and inclusive MSME ecosystem.