How to Scale up SMEs faster-A Beginner's Strategy Guide
If we can take only one Strategy for accelerating Economic Growth and Employment, that should be the growth of the SME sector.
The sector has tremendous potential to grow as it has not realized real growth potentials because of various bottlenecks.
The sector is already a significant contributor to the economy and employment.
It plays a vital role in India's export as well.
The sector has helped expand economic growth to rural and semi-urban areas and contributed to entrepreneurship development.
SME sector contributes around 29% towards the GDP of the country.
As per Government data, there are approximately 63 Million MSMEs in the country.
Despite such a significant role in the economy, the SME segment suffers from sluggish growth, productivity gaps, lack of modernization and technology adoptions, etc.
I analyzed the data and spoke to people in the field to understand the sector's problems.
This article is an outcome of that analysis of the challenges and opportunities of the sector.
It has a slew of recommendations and a set of measures, and a winning strategy for the sector's growth.
I have tried to break the overall Strategy into an executable operational plan to foster growth.
1.0 The Challenges
As per the McKinsey report, there is a significant productivity gap between SMB and large enterprises. Adoption of technology and industry best practices is still a big problem. The segment also lacks Innovations; the sub-segment of SME, the Start-up, drives Innovation to a great extent. However, there is a high mortality rate of the start-ups. As a result, it may impact the overall growth in the sector. At the same time as Technology-start-ups scale up fast and boost sectoral growth. The problem has been mainly with the traditional brick-and-mortar SMEs.
Often, SMEs' growth story becomes a chicken and egg story; because of the limited scale, they are constrained in building Management Depth, Attract talents, Access to Inexpensive Capital, and Technologies that further block growth.
This almost becomes a vicious cycle.
So, the top challenges for SMEs which hampers growth are :
1.1 Limited Access Finance and Inadequate Financial Knowledge
1.2 Limited Management Depth, Expertise, Intellectual Assets and Knowledge, Lack of Management Confidence
1.3 Limited or No Access to Appropriate Technology, Digital Knowledge Gaps, Lack of Modernisation and Expansion.
1.4 Low Production Capacity and Lack of Scale, Non-availability of skilled labor at an affordable cost. Poor infrastructure and utilities resulting in low production capacity
1.5 Ineffective Marketing Strategy and not building differentiated and recognizable Brands
1.6 No focus on R & D and Lack of Innovation
1.7 Inability to attract the right talents for the business
1.8 Lack of adequate Enabling Policy Intervention
1.1 Limited Access Finance and inadequate financial expertise
Despite the Government's focus and policy measures and the perennial problem for the SMEs to access adequate Finance is still a big hurdle. Policy loopholes and bureaucracy create enormous delays in securing licenses, clearances, insurance, and other certificates, which adds to the delays.
For obtaining a secured loan from Banks, the requirement of collaterals are very stringent. SMEs may not have adequate assets to account for mortgages for securing loans. Particularly when SEMs have long-term capital requirements. For short-term finance requirements, if SMEs are constrained to procure unsecured loans at a very high cost of borrowing, it may impact the business's profitability and thus impact long-term competitiveness.
There is a deficit of trust by the Banks in the SME business. Banks believe the ability to repay the loan by the SMEs is not good, which is one reason that makes access to capital difficult for SMEs.
While all other Strategies for the growth of the business may be in place, if there is no nuanced financial expertise among the business leaders, that may impede growth.
Financial know-how and a nuanced understanding are needed to mobilize financial resources at affordable cost, and the ability to structure innovative ways of financing may provide competitive business advantages.
1.2 Limited Management Depth, Expertise, Intellectual Assets and Knowledge
Most of the SME's Business is run by promoters rather than professional management. Often, the management team of this business, except for some of the new-age start-ups, lacks management depth and expertise. The skill up-gradation of the management team is not seen as a part of business strategy. While the team may gain the necessary experience in day-to-day business efficiently, it lacks vision and Strategy to stay ahead of the competition. The businesses often run informally; there is no matured system and processes that depend primarily on individuals. This is one big bottleneck for the scaling up of the business. Most organizations have no priority in creating process assets, intellectual properties, and knowledge management processes. As a result, the leverage on an informal knowledge base of the human capital is not optimum.
Lack of well-defined processes and systems limits the ability to create a data-driven insight to build forward strategy plans — this is where management may not feel confident and empowered to take bold steps for spurting growth.
1.3 Limited or No Access to Appropriate Technology, Lack of Modernisation and Expansion.
Technology is the biggest growth driver for business today. Technology is no more just a Business enabler but an integral part of business strategy itself. Technology itself can be the key differentiator for business. Today technology is also driving changes in the business models.
However, traditionally SMEs have been laggards in adopting new technologies. Ancient brick and mortar companies have been slow in embedding technology in their business strategy. This is primarily because of a lack of in-house knowledge in these companies and, at the same time, their inability to engage professional consultants. They cannot mobilize resources many times to fund the technology up-gradation. The only exception is some of the new-age technology-driven start-ups.
1.4 Low Production Capacity and Lack of Scale, Resources, and Labour Constraints:
Lack of adequate resources in terms of raw materials, affordable skilled and semi-skilled labor forces, access to inexpensive capital limits the complete exploitation of installed capacities at times. This hampers the scaling up of business. However, the scaling limitation may be restricted to the production side and dependent on setting efficient linkages to the targeted customers.
Lack of scale limits the company's competitive advantages in many folds, including the ability to respond to pricing changes in the market.
1.5 Ineffective Marketing Strategy.
We have seen that not too many companies are capable of building an effective Marketing Strategy. In fact, most SMEs do not have a separate function called marketing. Essentially people think as long as there are salespeople and they are going and meeting customers or products are distributed efficiently, things will be alright. The whole paradigm of Marketing has undergone radical changes. In the digitally connected world, the product and services have to be visible across channels. Small enterprises do not spend time and effort to build Brands. Without a differentiated and recognizable Brand, it is difficult for businesses to stand out in the market and create customer connections and loyalty on a sustained Business.
SMEs also think that building Brands and Marketing is expensive. However, that is not necessarily true; there are inexpensive ways to create visibility for your business.
1.6 No focus on R & D and Lack of Innovation
The common myth among entrepreneurs in the SME segment is that R&D and Innovation initiatives are only for large enterprises. Most of them think that as long as the manufacturing is happening and products are sold, or they have been able to provide services to their customer, spending money in R&D and Innovation may not be important. However, there are good exceptions, particularly new-age small and medium enterprises. Many young entrepreneurs are cognizant that Innovation is not an esoteric business goal but a deep survival and growth strategy. Lack of Innovation leads to a lack of differentiated and new offerings, inability to respond to market and industry change, and organizations become uncompetitive as they cannot respond to the market and industry changes.
1.7 Inability to attract the right talents for the business.
The major growth deterrent for SMEs is their inability to attract good talents, particularly in family-run or proprietor-driven traditional businesses. In these enterprises, the whole organization culture is a direct footprint of the owner's mindset and thought process that may not be aligned to external changes. They are not ready to make a forward investment for their people's growth. As a result, they are stuck up with workforces that are not aligned to market demands. Good talents are either not ready to join and stay with SME enterprises because they lack an intellectually stimulating environment, career growth opportunities, good financial compensation, enough learning opportunity, and a congenial work environment.
1.8 Enabling Policy Intervention
Even though the Government of India has put a lot of focus on these sectors through various policy interventions, still there many pertinent issues. Start-ups in India still face regulatory hurdles. While India has significantly improved its position globally in Ease of Doing Business, this is still a far cry from the ideal environment. Lethargic bureaucracy and inordinate delays in obtaining approvals, too many regulatory and compliance requirements which are discrete and legacy judicial systems incapable of delivering the quick address of disputes, and lack of alternate dispute resolution mechanisms have aggravated some of the pains of small business.
2.0 The Opportunities
As per published data, almost 45% of industrial output comes from SMEs. The SME sector contributes nearly 40% of India's total exports. The sector employs nearly 60 Mn people and creates 1.3 million jobs every year.
SMEs are also responsible for creating economic growth in Tier 2/Tier 3 cities, Semi-urban areas. They are contributing to the expansion of urbanization.
Despite tremendous opportunities, the sector is operating at a sub-optimal level compared to its international peers.
This also provides a tremendous opportunity to the sector as there is enormous headroom for growth.
The growth of SMEs can play a very vital role in India's chase USD 5 Trillion economies.
In fact, if the sector cannot progress, it will hamper economic growth and the big chase.
India has a strong base of SME business, and it can leverage the strong demographic dividends and accelerate the growth.
For Government, the sector could be a growth engine as well as employment generation. Particularly for unskilled and semi-skilled resources, sectorial growth is critical for their employment opportunities.
The sector impacts all other sectors; if the sector grows, it can boost demand and consumption and thus create a domino effect in the economy.
In 2020–21, around 60 SMEs were likely to enter the Capital market through their Initial Public Offerings and raise funds.
This is a great sign, and SMEs can raise funds through IPOs to meet their capital requirements.
The Government has expanded the Emergency Credit Line Guarantee Scheme (ECLGS), 'ECLGS 4.0' to select and broaden existing credit guarantee schemes.
Some banks have introduced complete digitized loan processing services.
We have seen enhanced industry and academia participation with the intervention of policymakers to enable the growth of the sector.
3.0 The Advantages of the Sectors
SMEs could be competitive compared to their counterpart, large enterprises if they can bring inefficiency. Their cost of operation could be competitive. However, the economies of scale may work in their favor, which they need to address innovatively.
3.2 Agility and nimbleness
Large enterprises become bureaucratic and siloed, and many times, they take a longer time to respond to market changes. They are hierarchical and have very structured decision processes, which adds to the delays.
Because of bureaucratic and hierarchical structures and strong regulatory and compliance requirements, large enterprises are inflexible at times.
On the contrary, SMEs could be very flexible in their approaches.
3.4 Entrepreneurial and Innovation culture
The informal, flexible, non-bureaucratic culture can actually foster a culture of strong entrepreneurship and Innovation provided management creates a conducive environment. They can be successful intrapreneurs to drive Innovation and growth.
3.5 Support from Government
SME is one of the most important sectors in the Economy, and with a 30% contribution of 60 Mn of employment, the Government the importance of creating growth enabling environment for the sector, and rightfully so.
There have been many positive policy interventions to promote SMEs and grow the sectors. This is further discussed later.
4.0 The Big Strategy for Growth and Execution
Indian economy is aiming to grow to 5 Trillion, to make that possible growth of the SME sector is highly crucial.
India has the highest young population globally, and If we have to use that demographic advantage and make our young workforce productive, we must focus on the growth of SMEs.
While one cannot undermine the importance of enabling policy intervention from the Government side and Banking and Financial Institutions' support, the sector has to take new growth initiatives.
The big growth strategy for the sectors are :
4.1 Leverage Technology, Drive Innovation, Focus on R & D to adapt to changes in the market and industry.
4.1.1 Leverage Technology
Traditionally SME sector has been slow in the adoption of technologies. There are various reasons for the same. They do not have enough in-house expertise to evaluate appropriate Technology; management is not aware of the technology landscape, mindset issues like Technology is expensive, and may not provide enough return on investment.
This myth has to be broken, and SMEs have adopted the right Technology to create scale, bring in efficiency, bring in Innovation. Technology has to be embedded in the business strategy to create differentiated value for the customer.
While selecting the Technology, attention must be paid to being cost-effective, energy-efficient, easy to maintain, and availability of skilled resources.
SMEs also have to look at sustainability and green initiatives as an integral part of technology deployment.
4.1.2 Create a culture for Innovation
Whether it is products or services, SMEs have to adopt a strategy to promote Innovation constantly. It is Innovation that keeps the company ahead of the competition and creates differentiation in the marketplace. Innovation is not one big experiment in the lab, and Innovation should be embedded in all activities of the business. Innovation could be incremental and constant pursuit.
4.1.3 Focus on R & D
A planned budget should earmark for the research and development of products and services. The industry is constantly changing, so if the enterprise does not focus on R & D, it will lose its competitive advantages.
4.2 Build Effective Team and empower them to drive change and bring growth
4.2.1 Right Recruitment, Talent Attraction
SMEs have to look at employee's productivity very diligently; they can't afford large teams. What they need is basically an optimum sized but highly effective team.
So recruitment is a very critical function, and leaders should dedicate time to scout for the right talent.
They need to acquire skills to conduct the interview and identify talents effectively.
The leaders also define the various parameters they are looking for in the candidate like — cultural fitment, attitude, hard and soft skills required for the job.
SMEs may not be able to highest compensation in the industry, but they can still take innovative measures like Equity share, clearly defined career progression path. Well-defined job responsibilities, welfare benefits, etc., to attract the right talents.
4.2.2 Talent retention
Retaining good talent is hugely critical for growth and continuity. Entrepreneurs can take a slew of measures to retain the employees:
· Issue of Equity share which creates a strong sense of ownership among employees
· Performance linked bonus
· Clearly defined learning objectives
· Create a culture where employees feel valued
· Create Intrapreneurs
· Make them part of innovation drive and growth
4.2.3 HR Policy development
SMEs must develop HR policy for the enterprise as per the industry best practices so that HR function is run as per the process and not by the whims and fancies of the management.
One of the significant reasons why SMEs can't attract good talent is because of the lack of modern and progressive HR processes.
4.2.4 Spend money on Employee Development and Training
Most SMEs do not have a dedicated budget or have a well-developed learning and development plan for their employees. As a result, their skill up-gradation is not happening as per the evolving market requirement, and organizations are losing competitive edge.
4.2.5 Create career growth path
Lack of a well-defined career growth plan deters good talents from joining SMEs. Large enterprises have very well-defined career goals for their employees.
4.2.6 Create talent pools
Attrition is bound to happen in any organization. Secondly, when organizations grow, they need to extend the scope of management, and they need more capable people to manage growth. So businesses must focus on creating a talent pipeline for the organization.
4.3 Create a Performance Culture
4.3.1 Create a Performance Appraisal Systems
Some of the SMEs think that a formal appraisal system is needed only the company grows big or it is for big companies.
But that's not quite true; every organization, irrespective of its size they must have a Formal Performance Appraisal System.
This is not a system of record but a growth strategy; it helps identify performing employees and performance laggards.
Based on this, differentiated reward systems can be worked upon.
It also provides an opportunity to reskill the people who are not performing.
Above all, formal performance appraisal systems provide a clear direction to the employees in their short and long-term objectives.
4.3.2 Create performance benchmark matrices in line with industry standards and market
While creating appraisal systems, SMEs must create their desired performance benchmarks in line with the industry. To remain competitive, they have performed at least at the industry level, if not better. Ambitious companies will set standards above the industry benchmarks.
18.104.22.168 Set Financial Parameters like ROCE, Market Share, Growth Rate vis. a vis. Market Growth, Liquidity Ratio, Debt-to-Equity Ratio, Gross profit vs. Operating Margin
There have to be clearly defined financial parameters like Return on Capital Employed (ROCE), how the company is growing compared to the industry, or overall market growth. Is there enough liquidity to meet the current liability of the company? Has the company been over-leveraged or under-leveraged? Is the debt to equity ratio balanced? Is there too much interest payment happening because of high debts and making a dent in the profitability? How is the profitability? Is the receivable collected on time?
All the above signifies the financial health of an organization, and the organization must put systems and processes to track all of these parameters so that corrective measures can be taken if required.
22.214.171.124 Set Non-Financial Parameters like Employee Satisfaction Score, Customer Satisfaction Score, Innovation Index, IP created, Process Automation
While the financial parameters and measurable and is the indicator of the health of the business. It is important that for long-term sustainable growth, the organization focus on building soft assets or intellectual assets. Some of the important non-financial parameters which are detrimental to business growth are:-
Employee Satisfaction Index- If people are the prime mover then they have to be happy and satisfied to be productive. It has been proved that happy employees are far more productive than timid and unhappy employees. Employee satisfaction is not restricted to the compensation package alone. The are many soft aspects like their job content, belongingness, ability to contribute meaningfully, respect in the workplace, etc. Progressive companies are open take feedback from their employees and ready to listen.
Customer Satisfaction Index: A happy customer can bring ten other customers through references, and an unhappy customer can create havoc. All great companies are obsessed with customer satisfaction because the very existence of the company is their customers. They take constant feedback through surveys etc. and keep working on improving the same.
Apart from these two critical parameters, SMEs should focus on their process assets and maturity and level of automation and digitalization of processes.
The other critical indicators like IP creation, Innovation Index, the ability to innovate must be on the management's priority list.
4.4 Rev up Marketing Strategy
One of the glaring problems with SMEs is the lack focussed marketing approach. Marketing is probably the most critical function of any business. It spreads your message about your product and services to the customers. To generate a steady flow of leads, an effective marketing strategy has to be implemented. Most SMEs feel that marketing is an expensive affair and may not be affordable or relevant to their business. They hardly know that marketing needs be an expensive affair, and it is required for SMEs as much as a large enterprise, if not more.
4.4.1 Brand Strategy
The brand of your products or services differentiates you from others. If SMEs have to build a sustainable and profitable business, they must focus on building the brand.
4.4.2 Social Media Strategy
Every small and medium should focus on an exclusive social media strategy for building the brand and increasing sales. Enterprises can leverage these mediums in a cost-effective manner to reach out to their customers. They should have a good social media presence, create search engine optimized content, can leverage effective but inexpensive mediums like Blog, Youtube, etc.
4.4.2 Customer Relationship Management
Instead of spreading too thin, SMEs must focus on developing their loyal set of customers. It could be prudent to create a niche for themselves. While a big business can afford to spend big money on customer acquisition, SMEs have to be more careful, focused on whom they can serve profitably. Defining the target customer persona and acquiring them, and retaining them is critical for the long-term sustainability of the business.
An effective CRM system also provides valuable insights to the Marketers and helps them devising the right and more accurate target-based strategy.
One of the major impediments to the SME sector is poor market access or market linkages for products and services. Individually an SME can create conducive market access; Government must create enabling environment for SMEs for market access.
4.5. Financial Resources planning to support the Growth plan Innovative Financing Method.
4.5.1 Innovative Finance Structuring
Mobilizing adequate financial resources to fund the growth aspirations of any SME always has been a challenge. In spite of focussed intervention from the policymakers, there are hiccups and the grassroots level. Bank and Financial institutions have a perception that the ability to repay loans is not strong. SME may not have enough assets to leverage to mobilize credit or for the mortgage.
In such scenarios, SMEs have to adopt innovative solutions for their financial resource requirements. Those could be :
126.96.36.199 Debt financing including convertibles
Debt financing like an issue of Debentures including the convertibles could be an option. The advantage of debt financing is that the promoters do not have to dilute their stake. However, it may create additional cost pressure because of interest liability , particularly if the revenue is not growing proportionately.
188.8.131.52 Equity Financing including ESOP
Infusion of Equity capital, including the issue of employee stock options, could be another option to raise the capital requirement. The advantage of raising funds in this route is that there is no interest burden; however, equity dilution will happen. If the promoters lose significant stakes, it may impact the decision process. Issue of employee stock options works as a positive reinforcer in employee motivation and productivity.
184.108.40.206 Private Placement
Private Limited companies can invite up to 200 people to subscribe to their securities and raise funds. SMEs can take advantage of this provision in the company laws and cater to their capital requirements.
220.127.116.11 Leverage Government Policies
This is a priority sector for the Government, and they have come up with a lot of policies to enable the sectors. This information is available in the public domain, and enterprises can leverage the policies accordingly.
18.104.22.168 Leverage Start-up and Scale-up programs
Government has many flagship programs to accelerate the start-up initiatives and create enabling environment. There are scale-up programs as well. SMEs can take benefit from such programs. Again information regarding these programs is in the public domain.
4.5.2 Build Financial Expertise or hire Expert Services
One of the major area the SMEs needs build competency is in Finacial Management. It's not about measures of revenue and cash flows or arranging working capital. It is about building the strategic vision for the finance function of the organization to help businesses in growing.
4.5.3 Create enough liquidity and contingency
Another major challenge of many SMEs is unpredictable cash flows which lead to liquidity crunch. Many times business operation gets affected because of this. When the enterprise makes a profit, the is generally plowed back to expand the business or taken out by the promoter. Cash reserve or contingencies are not maintained on an ongoing basis.
4.5.4 Unlock values
Many times SMEs may have fixed assets that are under-leveraged, and enterprise value is not fully realized. Many times demerger can also lead to the unlocking of values.
4.6. Align to Market and Industry trends and build capability to react accordingly.
4.6.1 Industry and Market Trend
Most enterprises are so mired in daily operations; they lose sight of the megatrends that may disrupt the industry. Enterprises must keep an eye on what is happening in the industry and market upkeep themselves relevant. Particularly there is a long gap for adopting the changes happening in the marketplaces; the enterprises may lose on early innovations leading to loss of competitiveness.
4.6.2 Competitive Landscape
Small and medium enterprises generally face a high level of competition unless they operate in a niche area. So competitive pressure may come from large enterprise or their peer SME enterprises. It is always a prudent strategy to follow the competitive landscape and their strategies.
4.7. Create Intellectual Properties for Processes, Product and Services, Process Automation
4.7.1 Standardize Processes
When the organization does not have a set of processes and which are not a standardized, significant amount of time from the management is wasted dealing with the operations.Secondly, there will be variability in dealing with the situation by different people, there could be discretionary treatment and that may lead to dissonance among the employees.
4.7.2 Automate Processes
When the processes are automated, a significant amount of the manager's time and bandwidth is released. It reduces delays and enhances efficiency and eliminates discretionary decisions. This also enables the scaling up of businesses.
5.0 Scale-up programs and Policy Intervention by Government.
There are many scale-up programs there for start-ups both in the Government and private sectors. Information about the same is readily available in the public domain.
SME is a priority sector for the Government, and they have come up with policy measures for the growth of the sector. Some of them are
- Increased Budget allocation for MSMEs in FY22
- Collateral-free automatic loans for SME businesses.
- Guarantee Emergency Credit Line' (GECL) facility to eligible enterprises.
- Ministry of MSME has implemented the Technology Centre Systems Program (TCSP) to establish 15 new Technology Centres (TC).
- Ministry of Finance allowed private retirement funds to invest up to 5% in Category I & II AIFs regulated by SEBI.
· Government has the following statutory bodies namely for promoting SMEs sectors :
· Khadi and Village Industries Commission (KVIC).
· Coir Board
· National Small Industries Corporation Limited (NSIC.
· National Institute for Micro, Small and Medium Enterprises, (NI-MSME).
· Mahatma Gandhi Institute for Rural Industrialisation (MGIRI).
India's SMEs sector is vibrant. It creates a tremendous opportunity for economic growth and employment opportunities for the vast ready labor force.
Despite the Government's many policy interventions, the sector has been mired by many problems and performing sub-optimally compared to the global counterpart.
However, the growth will largely depend on individual enterprises, their ability to adopt change, create a culture conducive for growth, right talent development, and technology deployment. They need to build management expertise and depth, and intellectual properties to a sustained growth plan.
Covid has been an extra blow on the sector, and it has hit the sector very badly.
While coming up with sector-specific measures, the Government, yet for some of the industries like Tourism, Hospitality, Manufacturing, the going has been really tough.
However, the sector has shown resilience. With the right policy enablement and individual enterprise, I think it should sail through the temporary setback and chart out a growth plan in the medium or long term.