Importance of MSME
We all know that MSME is the backbone of any economy. Often rightly termed as “the engine of growth” for India, MSME has played a prominent role in the development of the country in terms of creating employment opportunities. This sector has employed more than 111 million people. In addition, MSME enables scaling manufacturing capabilities, curtailing regional disparities, balancing the distribution of wealth, and contributing significantly to the GDP with almost 30%1 contribution. Realising the importance of MSME in employment creation, inclusive growth creation, and contribution to GDP, government of India has various schemes to promote them. However, there are instances where in the process of supporting some other activity or sector, inadvertently, MSME is discriminated which results in Make in India policy also getting affected. As a startup in shipbuilding industry, let’s discuss them.
1. Taking work away from MSME
First, issues created out of practice. Govt. institutions and PSUs are known to be wary of tenders and the associated checks and balances especially when it has to be awarded to private firms. Because of this they are always ready to find another Govt. institution or PSU who can take the work from them and execute the project.
This means that in many cases, projects are given to PSUs who are not supposed to be doing such work because of their size. For example, a large shipyard like Cochin Shipyard (CSL) with ₹ 3000 crores turnover and over ₹ 1000 crores assets are not mean to build small boats under ₹ 5 crores. Such projects are supposed to be done by MSME yards. However, in the recent past many projects have been given to CSL on nomination basis only because of this “convenience” of Govt. departments. Two RO-ROs for Cochin Corporation, three Marine Ambulance boat for Kerala fisheries department, sixteen fishing boats under Blue Water scheme (Ministry of Shipping), eight RO-Pax for IWAI (Inland Water Authority of India) are just some of the examples of this irresponsible behaviour.
Another category is where the tender is gamed to ensure that MSME yards cannot participate. A good example of this is Kochi Metro (KMRL) water metro project for 23 electric ferries of 100 passenger capacity. These are small boats, again, suitable for MSME yards. However, the tender criteria were kept by KMRL to ensure that MSME yards with relevant electric boat experience does not qualify for this project but large shipyard like CSL with no electric boat experience qualify based on balance sheet criteria. Here again CSL was given the work on nomination since it was a single tender and not re-tendered.
There must be clear guidelines from Ministry of Shipping to prevent large shipyards operating under them to bid in projects that are suitable for MSME yards, maybe based on value or size of the boat.
2. Import duty exemption for shipyards discriminates MSME
Ministry of Shipping has an interesting policy to support shipbuilding in India. The policy is to exempt customs duty on items imported. It makes logical sense when the final ship is for export. However, when the same facility is extended to ships and boats built for Indian market and for the items that are already available in Indian manufacturing sector this affects domestic manufacturers.
Imagine a scenario where with this customs duty exemption in place, the shipyard has two choices – an Indian MSME that make the product and a foreign supplier. An Indian MSME will source input materials from other vendors and if the product is high technology some items will come from abroad. For these items, customs duty will be paid. After value addition in their manufacturing facility, the end product is sold to the shipyard. When the same shipyard sources the product from a foreign supplier instead of Indian MSME, there is no custom duty. This means that unless the Indian MSME is cheaper despite the additional custom duty on the input raw materials, shipyards will be incentivised to purchase from foreign suppliers instead of Indian MSME.
3. Different Payment Terms compared with Foreign competitor
Imagine a scenario where with this customs duty exemption in place, the shipyard has two choices – an Indian MSME that make the product and a foreign supplier. The shipyard will be ready to pay the foreign supplier in foreign currency and give a Letter of Credit (LC) one month before the item is shipped from the foreign country. Let’s see what terms the same shipyard keeps for Indian MSME. The shipyard will make the payment in Indian rupees (quoting some RBI guidelines). The payment terms will be full payment one month after delivery of the product. Interestingly in the recent KMRL project, CSL claims that it gets part of the payment from KMRL in Euro and that is the reason why they favour payment to foreign vendors in Euro. When receiving money, they will find ways to get in Euro whereas when giving money to Indian MSME they have only one option of payment in Indian rupees.
Let’s see the obvious discrimination.
- The currency exchange risk is completely transferred to the Indian MSME.
- The difference in payment terms is obvious and the increase in finance cost associated with it.
Let’s see what is not obvious.
- Given that the shipyard expects the vendor to finance the product – to some extend by foreign players and completely by Indian MSME, the finance cost becomes critical. We all know that MSME borrows from banks at 12-16% in India whereas the foreign suppliers get at 1-3%. That spread alone is over 10%.
4. Availability of Credit
Startups in MSME sector especially manufacturing struggle with credit availability. When it is available it is very expensive. The need for credit is also because of the payment terms dictated by govt. Departments and PSUs. Central govt. Institutions like Indian Navy, Coast Guard, Ports, shipyards like Cochin Shipyard etc. keep the payments terms highly skewed like 100% after delivery. This completely shifts the financing burden on top of MSME and then credit availability becomes the bottleneck.
The Kerala govt. budget proposal must be replicated by Central govt. The scheme proposed is where once MSME gets a purchase order from govt. or credible private companies, soft loan valued 90% of purchase order, up to 10 Cr, at a low interest of 10% and collateral free, is provided.
When it comes to pushing the limits of frontier in technology, one thing that act as barrier is the lack of grant support. Kerala Startup Mission (KSUM) provides grants up to 15 lakhs and it has helped many firms like us. The budget announcement of 1 Cr. grant for social impact startups is a great move. This move will accelerate development of many products lined up. This is another scheme which StartupIndia can emulate and take it nationally and at a higher level.
5. Discrimination against Water Transport in FAME scheme
The discrimination against water transport continues even in FAME 2. The govt. scheme supports only for electric vehicles and not electric boats even when large solar ferry for public transport is in operation.
6. Customs officials do not follow GST circular/notices
Officials are incentivised to interpret rules to impose higher GST rate since they have monthly quotas on tax collection. Even when finance ministry GST circular clearly states that GST on marine engines and parts of boats are 5%, they still quote some rule book and impose 28% tax rate. This means that MSME end up paying 28% tax rate and release the goods and get this amount refunded either after appeal and long legal process or tax inversion, whichever is shorter, however a minimum of a year. Once again cash is stuck and MSME struggle with cashflow only increases with this harassment from customs officials.
A clear guideline on this 5% tax rate applicability for input items that goes to boat building should be provided to customs department.
7. GST circular/notices for lower GST rate is not clear
Although the above notification is provided to ensure that suppliers bill at 5% to shipyards, only the big shipyards like Cochin Shipyard can flex muscles and demand the same from supplies. Small MSME yards like us do not have that market power. Suppliers continue to bill at 18 or 28% since the notification is ambiguous and they also want to avoid future litigation from GST officials. Like above case, cash flow is stuck in delay in getting tax refund.
A clear guideline on this 5% tax rate applicability for input items that goes to boat building should be provided.
8. GST-TDS for Govt. Sale
When the bill amount to govt. clients is more than 2.5 lakhs, govt. deducts 2% of taxable value apart from income tax TDS (also 2% of invoice value). This comes in cash ledger and we are forced to claim refund. The process is long and our cashflow is stuck in this for 6-9 months. It is also an elaborate paperwork. There is also no interest provided for the money being stuck this long. We suggest either combine the two and treat the same benefit we get in income tax TDS or avoid this altogether.
9. NSIC Raw Materials Assistance Scheme
MSME provides this scheme for NSIC registered firms. However, the benefit is 90% of the bank guarantee amount at 10.5-12% interest. Normally MSME gets bank guarantee with 100% backing with FD or other secure instruments. This scheme is meaningless since NSIC is taking no risk and interest is comparable to banks. Either interest has to be lower or collateral bank guarantee has to lower.
10. Turnover criteria for startups is modified by Govt. firms
StartupIndia has mandated relaxation in turnover criteria provided startups has the technology to execute the projects. However, certain govt. PSU modify this wording as per their discretion. As an example, Cochin Shipyard is stating 50% relaxation. A clear guideline to all govt. institutions would help avoid this issue. The same scheme should be extended to State government. PSUs by requesting the respective State governments.
11. Lack of support when working on frontier technology
When it comes to pushing the limits of frontier in technology, one thing that act as barrier is the lack of grant support. Kerala Startup Mission (KSUM) provides grants up to 15 lakhs and it has helped many firms like us. The Kerala budget announcement of 1 Cr. grant for social impact startups is a great move. This move will accelerate development of many products lined up. This is another scheme which Govt. of India can emulate and take it nationally and at a higher level.
Download pdf file of this report.
 MSME Annual Report 2018-19 https://msme.gov.in/sites/default/files/Annualrprt.pdf
 Annual report 2018-19 https://cochinshipyard.com/uploads/anualreport/a4afe0fcfdda16d637132ce8a18bd2d1.pdf