Sumit Sharma–Founder Radian Finserv

MSMEs are the lifeblood of India’s economy, contributing nearly 30% to GDP, 45% of manufacturing output, and 40% of exports. Yet, despite their crucial role, these businesses face an enormous credit gap of ₹25 trillion, with many struggling to access formal credit.

Traditionally, banks have been reluctant to lend to MSMEs due to high-risk perception, lack of collateral, and stringent underwriting norms. This is where NBFCs have emerged as the true champions of financial inclusion, leveraging their deep market presence, flexible lending policies, and technology-driven credit assessment models.

The co-lending model which enables banks and NBFCs to collaborate—has been instrumental in bridging this financing gap. Co-lending volumes in priority sectors, including MSMEs, have skyrocketed over seven times, from ₹1,618.23 crore in March 2022 to ₹11,497.14 crore in March 2024. However, it is NBFCs that are driving this transformation, bringing financial agility and customer-centric innovation into the equation.

Why NBFCs Are the Backbone of Co-Lending for MSMEs

1. NBFCs Drive Last-Mile Credit Penetration

Unlike banks, which have a more centralized and traditional lending approach, NBFCs operate with deep regional expertise and a strong on-ground presence. Their ability to assess borrowers based on business potential rather than just credit scores has made them the preferred lending partner for millions of MSMEs, particularly in semi-urban and rural areas.

• Industry data shows that over 70% of MSME borrowers served by NBFCs are either first-time borrowers or lack strong financial documentation.
• NBFCs have expanded co-lending access to Tier 2, Tier 3, and rural MSMEs, which are often overlooked by banks.
• MSME loans disbursed through NBFC partnerships have grown 8x in the last three years, compared to a relatively slower 4.5x growth in bank-led MSME lending. By leveraging their strong distribution networks and deep borrower relationships, NBFCs ensure that MSME credit reaches the businesses that need it most—quickly and efficiently.

2. Flexible & Faster Credit Processing – The NBFC Advantage

One of the biggest hurdles MSMEs face in securing credit is the complex and time-consuming approval process in traditional banks. While banks rely heavily on rigid documentation and CIBIL scores, NBFCs use alternative credit assessment methods to offer faster approvals.

• Loan turnaround time under bank-led models: 15–30 days

• Loan turnaround time under NBFC-led co-lending: 5–7 days

NBFCs leverage real-time cash flow analysis, GST data, transaction history, and even behavioral insights to assess creditworthiness. This has enabled:

• Faster approvals for working capital loans that MSMEs need for daily operations.
• Custom repayment structures tailored to seasonal business fluctuations.
• Higher credit eligibility for small businesses, compared to rigid bank policies.

3. NBFCs Enable Risk-Tailored Lending, Reducing MSME Credit Rejections

One of the biggest reasons MSMEs struggle with formal credit is high rejection rates by banks, which often classify small businesses as “high risk.”

• MSME loan rejection rates in banks: ~35%

• MSME loan rejection rates in NBFC-led models: ~12%

Through co-lending, NBFCs take the lead in risk assessment, using geo-specific lending policies, business viability analysis, and cash-flow-based underwriting to finance even first-time borrowers. This has resulted in:

• higher approval rates for MSMEs under NBFC-driven co-lending.
• lower default rates compared to standalone NBFC lending, thanks to risk-sharing with banks.
• Broader lending coverage, even for sectors banks consider “risky” like small traders, transporters, and agribusinesses.

4. NBFCs Are the True Enablers of Lower MSME Borrowing Costs

A common myth is that NBFC-led lending is costlier than bank lending. In reality, co-lending allows NBFCs to pass on the benefit of lower-cost funds from banks while maintaining their high-touch customer servicing model.

• NBFC-only MSME loan interest rates: 16-24%

• Co-lending MSME loan interest rates (NBFC + bank partnership): 12-18%

• Bank-only MSME loan interest rates: 8-12% (but harder to qualify for MSMEs)

• By integrating NBFCs into co-lending, borrowers get the best of both worlds—the lower interest rates of banks and the ease of access that NBFCs provide.

5. Technology-Driven Lending: How NBFCs Are Leading the Digital Shift

The future of MSME lending lies in digital-first credit models, and NBFCs are at the forefront of this transformation.

While banks are still catching up on digitization, NBFCs have already:

• Integrated real-time loan origination platforms, reducing paperwork.
• Adopted AI-driven risk models, improving MSME credit scoring.
• Developed seamless co-lending APIs, ensuring faster loan disbursals.

In fact, over 50% of MSME loans through co-lending today are initiated via digital platforms powered by NBFCs—a testament to their agility in tech-driven financial inclusion.

The Future of MSME Lending: Why NBFCs Will Continue to Lead

While co-lending has witnessed rapid growth, its long-term success will depend on how well NBFCs continue to drive financial inclusion. For sustained expansion, the following must happen:

• Greater Participation from Large NBFCs & Banks – While some top banks (SBI, HDFC, ICICI) are active in co-lending, more mid-sized banks need to collaborate with NBFCs to expand MSME coverage.

• Regulatory Flexibility for NBFCs – The RBI should consider reducing compliance burdens on NBFCs under co-lending arrangements to allow them to scale operations efficiently.

• Improved Credit Data Sharing – Co-lending can be further strengthened by enabling seamless data-sharing between NBFCs and banks, ensuring better risk assessment.

• Deeper Expansion into Rural & Unbanked Markets – Over 50% of MSMEs in India still lack formal credit access, highlighting the need for NBFC-led last-mile lending solutions.

The co-lending model is undoubtedly here to stay for MSME financing in India, and it is NBFCs that are driving this revolution. Their ability to reach underserved businesses, provide faster credit approvals, manage risk better, and integrate technology has made them indispensable partners in co-lending success.

As MSME credit demand continues to rise, NBFCs will remain at the center of India’s financial inclusion story, ensuring that millions of entrepreneurs get the funding they need to thrive. For the banking sector, the path forward is clear: partner with NBFCs or risk being left behind in the MSME credit revolution.