Small and medium enterprises can be engines of growth, but we need to oil the wheels.
Every year, 17 million more people join the workforce, equivalent to three times the total population of Singapore. Only 12% of the workforce in India is in the formal sector. By the most optimistic estimate, there are only five million jobs being created every year.
So how can this gap, between the number of people joining the workforce and the number of jobs available, be narrowed? One approach is enabling growth in small and medium enterprises (SMEs) by professionalizing and infusing management best practices. A business that doubles its revenue from ₹200 million to ₹500 million in about three to five years will need more land, plant & machinery, capital – and more people.
SME: An Engine for Job Creation
In India, more than 90% of companies are in the informal unorganized sector. The majority are struggling for survival. Over time, they end up staying the same or shrinking. India also suffers from a narrow industrial base and the “missing middle”, with approximately one percent qualifying as medium or large firms.
There is a significant opportunity for growth in ‘small’ enterprises – companies valued between ₹50 million and ₹750 million – where a large pool of stable enterprises poised for growth can be found. A 2x-10x growth in profitable top line is possible and companies will need more resources including people to fuel this growth.
This is borne out by the market where employee growth in smaller companies continues to outpace that in bigger companies in India. Firms with the smallest sales (bottom quartile) have been adding jobs at a faster clip – between 3% to 7% every year since 2008 – than firms with the largest sales where employee growth has been negative for a few years.
SMEs with an established business model and client base, in several sectors across manufacturing and services industries, such as the automotive sector, light engineering, food processing, healthcare, hospitality, logistics, among others, have high job creation potential.
At this stage, it is important to underscore the following
- SME owners are not in the business of charity. The last thing, usually, that an SME owner wants to do is to hire another person. However, if there is future growth and profits at risk, more jobs will be created.
- Only a minority – 15-20% of SME owners are growth oriented, with ability and intent to invest time, effort and money in growth actions.
Growth Enablers for SMEs
1. Focus on Cash Flows
A senior mentor in a mentoring session shared with us “While profit is oil, cash is water.” Profitable enterprises with a viable business model can run out of cash and go out of business; and an optimal use of cash frees it up for investment and growth.
For example, It’s important to avoid using short-term funds at high interest rates for long-term asset creation; negotiate better deals from banks instead of relying on a 20 year banking relationship, access expert advice and not rely on inexperienced tax accountants, focus on account receivables and inventory levels, explore bill discounting mechanisms, invest profits from last year before taking expensive loans among others.
2. Access to Expertise
The majority of the SME owners are technocrats, and even co-founders do not have complementary skills. This lack of internal expertise needs to be supplemented in four ways:
- Training: invest in continuous self-learning and training of existing employees,
- External hires: Keep an eye out for talent,
- Consultants: They can help in crafting strategy, implementing management best practices or understand the impact of technology such as artificial intelligence, 3D printing etc.
- Mentors: People invested in the company’s success with continuous and predictable mentoring.
3. Structured Approach to Growth
Actions by SME owners are often reactive, ad-hoc and driven by immediate opportunities vs. a comprehensive business plan. This ad-hoc approach is reflected in statements SME Owners often make, “I did ₹50million this year and in three years, ₹150million will happen for sure!”
It’s important to have a multi-year plan that is actionable, drives towards a stretch yet achievable financial target, and with frequent reviews to track progress. Over time, the SME Owners’ ability to predict and drive business with certainty improves. The lack of a business plan is pervasive, where large companies with 100s of millions in revenue often continue to operate in an ad-hoc unplanned way.
4. Invest in your people
There is a perfect maelstrom on the shop-floor, where the SME owner has to hire, train, motivate workers to higher productivity; minimum wages and cost pressures keep going up; prices are stable or reducing in a competitive environment; and possible technology disruptions from automation and AI loom on the horizon.
Modern HR (human resources) practices are still absent, with HR still operating in the transactional space (statutory compliance et al.) that will be automated, instead of developmental (growth training, welfare et al). Very few SMEs have a performance management system that rewards target achievement, high productivity, innovation, quality, customer satisfaction and growth. In a short survey of SME owners, self-rating and investments in developmental HR were 40-50% lower than in transactional HR.
Most SME owners have an extractive mentality, with an adversarial relationship towards workers/unions. Labour unions, while traditionally disliked by SME owners, are being recognized as a practical means of attaining alignment towards growth. As the founder-MD of a large manufacturing enterprise shared, having a labor union simplifies the negotiation process. Moreover, an informed labor union leader who understands that higher productivity and quality makes the business competitive and generates profit available for salary increases, is a huge asset to the business.
5. Predictable Sales & Marketing Engine
Practices are antiquated, with heavy reliance on word of mouth. This works in good times. In lean times or the next growth stage, without a sales engine, growth becomes issue.
Winning the order is with a focus on price per component or on acquiring the logo, without paying any attention to contract terms that may impact cash flow. An example was a seven year dollar-denominated, with no price increase, no forex hedge, small guaranteed order with significant capex, and expensive just-in-time provisions. Bad contract term can cause immense stress on cash flows.
SMEs, especially in the manufacturing sector, suffer from either too few customers (one customer responsible for 100% of top-line revenue, 95 crore) which is high-risk or too many (100 customers, with 90% revenue from 10), where management attention and limited SME resources are spread too thin.
There is no customer audit or analysis, with no idea of profitability by customer, by product or by service line. Each order is treated equally, with sometimes old customers given higher preference, even though the profitability or current revenue or future revenue potential doesn’t warrant any preference.
A Case in Point
Now, the SME owners are aware of the impact from these growth enablers, which are common across sectors, size of company and location. What is missing is any sort of direction or support to help the SME owners as they navigate their companies on the growth journey. An SME owner even shared in a meeting that he has problems in all areas, so how does he prioritize!
I am currently part of an intervention, started in early 2018, aimed at few selected manufacturing SMEs in Peenya, Bangalore. The idea is to deploy a growth consulting framework with a three-fold objective: each SME owner is paired with a senior industry mentor for predictable, continuous and relevant mentoring; exposure via workshops and 1:1 sessions on impact from growth enablers; encouraged to hire trusted consultants for business planning and help in implementing best practices in functions like HR, Finance, Sales.
It’s still early days and there are already encouraging signs. An example is an entrepreneurial founding team that, for the first time in their 18 years, has built a realistic and achievable business plan to grow their company’s revenue from ₹150million to ₹500million in three years. In addition, they have revamped their website, started strategic discussions with their key customers to increase wallet share, opened 20 new positions last month and are identifying partners to supplement internal capacity, leading to more indirect employment.
We need to repeat and scale this approach pan-India, many times over, on an accelerated basis, using technology and leveraging partners, government bodies and existing ecosystems. It is important to support motivated, hungry and growth-oriented SME owners in their growth journey, as this can lead to significant job creation.
Anubhav Gera is Vice President, Wadhwani Foundation