Interest rate heat ahead for SMEs, say bankers

With banks pushing up lending rates, small and medium-sized enterprises have started to feel the heat.

SMEs were earlier getting fine rates of interest based on their linkages with highly rated corporates.

Now with banks pushing up lending rates for these corporates, the profit margins of SMEs could be impacted, according to bankers.

SMEs in the auto ancillary sector could be seriously affected since the industry is very competitive and it would not be possible for manufacturers to pass on the cost to customers.

But SMEs associated with large consumer durable companies may not lose much since they can comfortably pass on the incremental cost to the customer, pointed out analysts.

A 25 to 50 basis point hike in interest rates could impact the profitability of select small enterprises, said an official from a private bank.

The hike would have major impact on sectors where the manufacturer cannot pass on the cost to the consumer. Banks have informally jacked up the lending rates marginally without changing their prime lending rate.

Competition among bankers to fund SMEs, had brought down interest rates drastically.

"The fall in interest rates for SME lending has not been in line with the cost of funds for many banks. Hence once the economy goes into an upturn, SMEs will be the hardest hit," said a private sector bank official.

Over the last two years, cut-throat competition in SME lending has brought down interest rates by 350 basis points to 9 to 10 per cent in 2004 from 13 to 14 per cent in 2002.

This is as opposed to a fall of 250 basis points from 9 per cent in 2002 to 5.25 per cent in 2004 in term of banks' cost of funds.

"Competition has intensified in this space with new players concentrating on market share and not focussing on the risk-reward balance," said G S Sundararajan, commercial banking group & asset based finance, Citibank.

"We have never led (the market) by price. Instead the interest rate is based on the risk the bank takes," he added.

Banks have become cautious in lending to SMEs, and are conducting trade checks on SMEs even those backed by good corporates and make sure that the loans are fully secured with a collateral.