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Small and Medium Enterprises: India's Engines of Growth

March 9, 2010

March 9, 2010 - Almost ten years ago, I. C. Agarwal, an engineer-turned-entrepreneur, in New Delhi had an export order from Japan. He had no funds to complete it. He turned to the Small Industries Development Bank of India (SIDBI) for a loan. “My first loan from SIDBI, for just Rs. 400,000 ($8,000) helped me break into the export market,” said Agarwal. Starting with such a meager sum, Agarwal now is the only Indian manufacturer from the small scale enterprise sector to supply precision auto parts to world-renowned firms such as Caterpillar in the United States, as well as to Japan, Europe, and China.

Today, more than 400 people work in his company. “Quality is paramount in this global economy. The customers are constantly upgrading their technology, so we have to keep pace too,” he says, proud of his product, his workforce, as well as his strict adherence to his clients’ tight delivery schedules.

Despite such success stories, several factors constrain the growth and competitiveness of other Small and Medium Enterprises (SMEs) in India.

Importance of Small and Medium Enterprises

India has recently attracted global attention for its rapid growth. There is a broad consensus that India must continue to grow rapidly and possibly faster to eradicate poverty than in the past. There is also an emerging consensus that this growth must be more inclusive. The factors that can contribute to high and inclusive growth are more jobs, increased productivity, better skills, and education.

A vibrant SMEs sector can play a key role in creating jobs and high economic growth. It has the most potential to provide employment for the 70% of the labor force still working in agriculture. Achieving and sustaining such growth and higher employment will require a boost in industrial and services growth, spurred by SMEs.

Small and Medium Enterprises in India and World Bank's Role

Yet, several factors constrain the growth and competitiveness of Indian SMEs. The lack of access to adequate and timely financing is especially critical. Without it, borrowing becomes more expensive and profit margins are reduced, holding back the establishment of new units and the consequent increase in job creation.

The financing constraints can be attributed to a combination of factors that include policy, legal/regulatory framework (bankruptcy and contract enforcement), institutional weaknesses (absence of good credit appraisal), and lack of reliable credit information on SMEs.

In recent years, the Indian authorities have taken several steps to address SME financing and developments, and the World Bank has provided support through an SME Financing and Development Project.

In 2004, a World Bank loan of $120 million to the SIDBI - the apex bank for SMEs in India - has helped channel long-term loans. Lending under this project has reached 927 SMEs spread across 10 Indian states. Loans have, on average, been for five years. Lending practices at the SIDBI branches covered by the project have also improved steadily.

Trail Blazer - Umesh Mahajan, Garment Exporter

Umesh Mahajan left a lucrative career in banking to set up a garment manufacturing unit in Delhi in 1996. In September 2005, he took his first loan from SIDBI of Rs. 22.5 million ($450,000) that helped him to expand. He now exports to the United States and the United Kingdom. "My company’s turnover doubled from Rs. 170 million in 2005 to Rs. 340 million in 2007,” said Mahajan. His workforce has almost doubled.

Trail Blazer - V. K. Hajela, Estel Technologies

In 1998, Hajela and his son Raj started manufacturing pagers on a small scale. The story of their success began in 2005, when they took their first loan from SIDBI. The Rs. 20 million ($400,000) helped them to expand into the software business where they began providing turnkey software solutions to telecom operators. Since then, the firm has expanded to ‘m-commerce’ which involves electronic recharge services with a focus on mobile banking.

Their clients include leading telecom operators such as Airtel and Tata Cellular. Now they have set up offices in Sri Lanka, the Middle East, and Africa. Their enterprise has recently been ranked among the top 200 IT companies in the SME segment by Dun & Bradstreet.

World Bank’s Continuing Commitment

The Government of India requested the World Bank to extend further support to the SME sector in the wake of the global financial crisis. Additional World Bank financing of $400 million to SIDBI is helping to facilitate an increased flow of working capital to the SME sector. New geographical areas will also be covered; possibly including India’s lagging states, thereby promoting more inclusive growth.