ONE of the amendments to the prudential regulations for small and medium enterprises, announced last week by the State Bank of Pakistan, allows banks to declassify a non-performing loan to a medium enterprise if it pays in cash 35pc of the restructured loan instead of earlier 50pc.

Senior bankers say the permission to declassify non-performing loans to MEs on acceptance of 35pc cash will eventually lead to larger bank lending to the SME sector as a whole. Even before the announcement of the changes in rules for SME financing, some of these banks had successfully reduced their NPLs of SMEs to face tough competition from Islamic banks.

An industry representative agrees. “This should encourage medium enterprises (MEs) to reopen their chocked credit lines. Besides, it should help banks clean up their bad loans of MEs and then use the freed up funding space to lend more to them.”

In the last fiscal year, local private conventional banks had reported 10pc decline in the SME financing but because of increased funding by the state-run and Islamic banks the overall credit to SMEs had risen by 3pc year-on-year to Rs261bn.

The permission to declassify non-performing loans will eventually lead to larger bank lending to the SME sector as a whole

Islamic banks are capitalising on a rapidly growing SMEs demand for Shariah-compliant products and in FY15 their credit to SMEs shot up 245pc to Rs19.35bn from just Rs5.61bn in FY14.

According to the amended rules, businesses employing up to 50 workers will now be treated as small enterprises (SEs) and each SE can borrow from banks up to Rs25m. Earlier, the upper limit was Rs15m for lending and 20 for the number of employees hired.

The ceiling of the annual sales turnover of a SE has also been increased from Rs75m to Rs150m. Officials of the Union of Small and Medium Enterprises (Unisame) believe that the changed definition of SEs and their maximum borrowing limit should help small enterprises boost their businesses.

The labour-intensive industries, particularly those related to agriculture/manufacturing and small businesses with more than 20 employees were unable to avail themselves of the facilities intended for SEs. And, the per-party financing limit of Rs15m made it difficult for a SE to expand fast enough to become a ME.

Consequently, such enterprises were compelled to seek funds from informal sources at prohibitively high interest rates, industry sources say. In FY15, whereas larger loans went up as percentage of overall SME financing, the share of loans up to Rs3m (presumably meant for SEs) declined to 21pc from 27pc in FY14.

Small businessmen say that inability of SEs to get bank finance is a key reason why the number of overall SME bank borrowers remains very low.Industry officials say currently 0.5-0.6m SMEs are operating in the country. But the number of SME bank borrowers stood at 152,495 in FY15 even after a big 14.6pc increase recorded in that year.

Industry representatives insist that banks must come up with a SME Vendors Credit Card (SME-VCC) for the benefit of the vendors who supply goods to big industries under deferred payments and contractual agreements.

They say that in the past two years many large industries have extended the repayment time for their suppliers from 3-6 months to a full year with the result that such suppliers, mostly in SME sector, have to borrow funds from informal sources against firm orders and bills receivables at very high rates. “The SME-VCC would enable the vendors to buy raw materials, pay utility bills and workers’ wages and cover the transportation costs etc.”

Amended prudential regulations for SMEs have also changed the definition of medium enterprises. Now, entities with a workforce of 51-250 would be considered an ME in case they are in manufacturing or service sector. And if a ME is engaged in trading its number of employees must be in the range of 51-100 and yearly sales turnover between Rs150m and Rs800m.

Bankers say this condition has been introduced to check any possibility of the whitening of ill-gotten money through SMEs. However, businessmen say meeting this condition would be difficult for IT-related start-ups run by a handful of people. But their annual sales turnover can be enough to qualify as SE or ME.

Published in Dawn, Business & Finance weekly, May 16th, 2016