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THE CONTEXT: Micro, small, and medium enterprises (MSMEs) in India face significant challenges, including limited access to credit and delayed payments. To alleviate these issues, the government has implemented measures like the Samadhaan portal and a new Union budget 2023-24 provision to ensure payments within 45 days. However, these measures have led to unintended consequences, such as larger companies canceling orders with registered MSMEs to avoid strict payment timelines.
ISSUES:
- Cancellation of Orders to Registered MSMEs: Larger companies are circumventing the provision to secure payments to MSMEs within 45 days by canceling orders with registered MSMEs. This is because larger companies prefer longer payment cycles that give them greater flexibility in operations.
- Preference for Unregistered MSMEs: To avoid the constraints of the 45-day payment window, larger companies are now placing orders with unregistered MSMEs. This shift is driven by the desire for operational flexibility and the avoidance of increased tax liabilities that come with the new provision.
- Forcing MSMEs to Deregister: There are reports of larger companies leveraging their negotiating power to force suppliers to cancel their MSME registration. This is a direct consequence of the new provision that allows for tax deductions for larger companies only after payments to MSMEs are made.
- Deregistration of MSMEs: The asymmetry in relations between larger companies and their MSME suppliers has led to a worrying trend where MSMEs choose to deregister. This is done to retain orders and avoid losing business to unregistered enterprises.
- Difficulty Accessing Low-Cost Credit and Delayed Payments: Despite the government’s efforts to address the issue of delayed payments through initiatives like the Samadhaan portal, MSMEs continue to face significant challenges. These include difficulty accessing low-cost credit and the long-standing problem of delayed payments, exacerbating the mismatch between cash inflows and outflows, and increasing their working capital requirements.
THE WAY FORWARD:
- Strengthening Legal Frameworks for Payment Protection: Implementing stricter legal measures that mandate timely payments to MSMEs, like the European Union’s Late Payment Directive. This directive imposes high interest on late fees and empowers businesses to claim compensation for recovery costs. It mandates that payments for business transactions should be made within 60 days unless expressly agreed otherwise, provided it is not grossly unfair to the creditor.
- Government-Backed Guarantee Schemes: Introduce government-backed guarantee schemes to ensure that MSMEs receive their dues, even if the buying company defaults. These schemes can be modeled after the U.S. Small Business Administration (SBA) guarantee schemes, which protect payments to small businesses. The U.S. SBA provides loan guarantees to small businesses, which helps them secure financing and manage cash flow issues due to delayed payments.
- Digital Payment Platforms and Incentives: Promote digital payment platforms specifically designed for MSME transactions, offering incentives for early payments. This is like the Prompt Payment Code in the UK, where companies commit to paying suppliers on time and are held accountable through public reporting. The UK’s Prompt Payment Code has encouraged larger companies to pay their suppliers promptly, improving the cash flow among MSMEs. Signatories of the code commit to spending 95% of all supplier invoices within 60 days.
- Trade Credit Insurance: Encouraging MSMEs to use trade credit insurance to safeguard against payment delays and defaults. This can be modeled on solutions used in countries like Germany, where trade credit insurance is widely used by businesses to protect against losses from non-payment. In Germany, trade credit insurance is commonly used by companies to mitigate the risk of delayed payments or financial insolvency of the buyer.
- MSME Advocacy and Support Programs: Establishing MSME advocacy and support programs that provide legal and financial advice to MSMEs facing delayed payments. Australia’s Small Business Commissioner offers a good model where the commissioner advocates for small businesses and helps resolve disputes. The Australian Small Business Commissioner has successfully mediated disputes related to delayed payments, helping small businesses secure their dues without lengthy legal battles.
THE CONCLUSION:
The government’s efforts to ensure timely payments to MSMEs have led to unintended consequences, including larger companies canceling orders with registered MSMEs to avoid strict payment timelines. This has prompted some MSMEs to deregister to maintain business. The government is now engaging with stakeholders to solve these challenges and ensure the effective functioning of MSMEs in the economy.
UPSC PAST YEAR QUESTION:
Q.1 Faster economic growth requires an increased share of the manufacturing sector in GDP, particularly of MSMEs. Comment on the present policies of the Government in this regard. 2023
MAINS PRACTICE QUESTION:
Q.1 Analyze the impact of the 45-day payment mandate for MSMEs introduced in the Union Budget 2023-24 on the operational dynamics between large corporations and MSMEs in India. Discuss the unintended consequences of this policy and suggest measures to address these challenges.
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