Reclassifying MSMEs

The Centre has introduced an amendment to the MSME Development Act 2006 to redefine the sector based on annual turnover as the single criterion.

While change in the definition from the sole criterion of investment in plant and machinery that has facilitated Inspection Raj is long overdue, moving to another single criterion of turnover is fraught with greater risks for the MSMEs.

The term SME encompasses a broad spectrum of definitions, which varies from country to country. Generally these guidelines are based upon either headcount, sales or assets or a combination of any two or all of them. Some are backed by law while others by practice and policy.

Indian MSMEs contribute significantly to economic growth and are already suffering from several disabilities. The objective of changing the definition of the sector should be to create more jobs, wealth and innovation.

Definitions also vary across multilateral institutions like the World Bank, UNIDO, and OECD.

World Bank defines SMEs based on employment and assets.

International experience

Out of 18 countries in Asia, Caribbean, East Africa, West Africa, South Africa, Latin America, North America, and Eastern Europe — six countries define SMEs in terms of assets, employment and turnover, while nine defined them in terms of two of the three criteria — either assets and employment or employment and turnover. Only four countries including India used a single criterion – either assets or employment. The Philippines, Thailand, Bolivia, Mozambique and Rwanda defined SMEs in terms of employment as single criterion.

The Inter-American Development Bank defines SMEs as having a maximum of 100 employees and less than $3 million in revenue. In Europe, they are defined as having manpower fewer than 250 employees and the US define them with employees less than 500. As general guidelines, the World Bank defines SMEs as those enterprises with a maximum of 300 employees, $15 million in annual revenue, and $15 million in assets. In Kenya, there are different definitions of SMEs which are yet to be consolidated. For example, a national baseline survey of SMEs carried out in 1999 defines a small enterprise as one which employs 6-10 people while a medium one is expected to have 11-100 employees.

So using employment as a criterion is widely prevalent. The number of employees by itself is no indicator for efficiency of an enterprise. It is also no guarantee for growth. This criterion when applied singly gives the IT sector an advantage as even 10 employees in an IT firm can contribute to a turnover of ₹500 crore annually.

Turnover as a single criterion could also lead to confusion over benefits enjoyed by MSMEs under the law as fluctuations in turnover can lead to reclassification of the unit between micro, small and medium categories. Depending on business cycles, the turnover may increase or decrease the redefined thresholds.

Whenever such change occurs, it would be impossible to reclassify and extend or withdraw the entitlements of incentives for this sector.

Using two criteria for defining the sector would be more rational and ensure better growth of the sector. Doing away with investment in plant and machinery is welcome but replace them with employment and turnover.

The writer is Adviser, MSMEs, Government of Telangana. The views are personal.

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