TReDS- an efficient alternate means of financing for MSME’s.

MSMEs are the backbone of Indian Economy and despite the important role played by them in country’s overall economic growth, continue to face constraints in obtaining adequate finance, particularly in terms of their ability to convert their trade receivables into liquid funds. To address the issue, the Concept for setting up of electronic bill factoring Exchange was recommended by Financial Sector Reforms (FSR) Committee in 2008.

Based on the recommendation, Trade Receivable e-Discounting System (TReDS) to facilitate the financing of trade receivables of MSMEs was introduced by the Reserve Bank of India (RBI) in 2014, under the guidelines of the Payment and Settlement System (PSS) Act 2007 for creating, enabling and facilitating market making and discovery of competitive rates of discounting for invoice/exchange bills of MSME sellers made to large corporate, Government departments and public sector undertakings, through an auction mechanism. Under this MSME sellers, Corporate Buyers, and Financiers (Banks and NBFCs) are linked on an electronic platform that which allows auctioning of trade receivable. The process is commonly known as bills discounting/factoring.  

Accordingly, the RBI has issued licence to three players:

1. Receivables Exchange of India Ltd (RXIL)- a joint venture between Small Industries Development Bank of India (SIDBI) and National Stock Exchange of India Limited (NSE).
2. Invoicemart - promoted by A Treds Ltd (a joint venture of Axis Bank and mjunction services).
3. M1Xchange - promoted by Mynd Solutions Private Limited. 

The participants at TReDS are:

1. Sellers – The Sellers are MSME entities as defined under Section 7 of the Micro Small and Medium Enterprises Development Act,2006, supplying goods and / or services to buyers with an experience of One Year.
2. Buyers – The Buyers are Corporates including companies and other buyers including Government Departments and Public Sector Undertaking having experience of One Year and such other entities as may be permitted by the Reserve Bank of India (“RBI”) from time to time to participate on the TReDS platform as buyers.
3. Financiers – The Financiers are Banks, NBFC and such other institutions as may be permitted by RBI from time to time to participate in the TReDS platform as Financiers.

Salient features of TReDS:

1. It is a unified platform for sellers, buyers, and financiers
2. It enables faster transaction and low turnaround time for financing
3. It provides easy access to funds and competitive discount rates
4. Its standardised practices
5. It is a paperless and hassle-free process
6. It brings in low administrative and operational cost 

Benefit of registration at TReDS

Sellers:

1. Efficient working capital management, improved liquidity, and turnaround.
2. Widening of financing options for Sellers.
3. Competitive and transparent price discovery through auction and participation of multiple financiers.
4. No collateral and without recourse to the seller
5. Cost & paperwork reduction, no follow-ups for payment
6. Maintaining working capital limits as this off-balance sheet financing.

Buyers:

1. Competitive and transparent price discovery through auction
2. Compliance with MSMED Act, 2006
3. Efficient cash flow management
4. Lower supply chain cost for buyers
5. Efficient payment cycles
6. Cost & paperwork reduction

Financiers:

1. Participation at an established and proven platform.
2. Lower cost for new customer acquisition and reduction in operational cost
3. Access to a wider market through cross selling products
4. Priority sector lending benefits
5. Efficient Risk Management through Qualified instruments 

How the system works

1. The MSME (Seller’s), Buyer’s and Financer’s needs to register themselves with one or more of the 3 agencies at the platform.
2. The Seller/Buyer uploads the Tax Invoice with minimum balance tenor Invoice of 15 days, which have not been financed from any other source on the TReDS platform. Other supporting documents e.g. good receipt note, lorry receipt / freight delivery document or credit/debit note are not mandatory but optional.
3. TReDS transactions can be initiated by both the seller and the buyer for the financing of trade receivables of MSME sellers. When the invoices are uploaded by the MSME seller and bear the interest cost, it is defined as “Factoring,”. In the case of “Reverse Factoring” the buyer initiates the transaction, and the buyer also bears the interest cost.
4. The counter Party accepts the invoice and Invoice, the accepted invoice is called as Factoring Unit. Only accepted invoice/ factoring unit enter into an auction/bid. Each such unit will have the same sanctity and enforceability as allowed for physical instruments under the ‘Factoring Regulation Act, 2011’ or under the ‘Negotiable Instruments Act, 1881.
5. The Financiers (with defined limits on Buyers) bids (auction) on Tax Invoices/Factoring Unit and the best bid is accepted. The discounting rate of bid cannot fall below the marginal cost of funds-based lending (MCLR) rate stipulated by the RBI, typically the spread depends upon the buyers' credit rating.
6. As the bid is accepted, it creates an obligation on the Financier and Buyer for settlement generated by the TReDS platform.
7. The final amount quoted by the financier can be viewed only by the MSME seller and not by any other financiers. The financers are free to determine the period of bid validity. Once the bid is accepted, it crystalizes on the financiers and cannot be revised. It is pertinent to note that the financing of factoring units is not guaranteed on the TReDS platform. It depends on offering of bids by the financiers and acceptance of bids by the cost bearer (depending whether it is a case of factoring or reverse factoring). There may be a situation where there are no bids to the factoring unit by the financiers, in this case a settlement outside the TReDS platform is made between Buyer and Seller.
8. The Leg-1 of settlement is made between the seller and financier which is settled by payment to seller by the financier on T+1/T+2 basis and registering the factoring unit with CERSAI.
9. The Leg-2 of settlement is made between the buyer and financier and is settled by payment to financier by the buyer and satisfying the factoring unit with CERSAI.
10. In case of non-settlement of transaction at Leg -2, i.e. buyer failing to pay to the financer, the transaction in such case is marked as failed at the TReDS platform attracting penal provisions and enable the financer to proceed against the Buyer for curative action. However, any action in this regard is strictly non-recourse with respect to the Sellers.
11. After financing, the instruments are rated by the TReDS platform and may be further transacted or discounted among financiers in the secondary segment.

Open items at TReDS

TReDS has come up as an efficient alternative source of financing for MEMS’s. However, despite a great success, the system is still plugged with few issues as below:

1. All the transactions undertaken on the TReDS platform have to be registered with the Central Registry of Securitization and Asset Reconstruction and Security Interest of India. The registration charge for same are relatively high, which discourages small-ticket Sellers from using the platform.
2. The Companies/Buyers are reluctant and unwilling to upload invoices online, as this will reveal details of MSME suppliers to competitors. Further, few PSU’s take inordinately long over the invoice approval process beating the very purpose of the TReDS platform.
3. The system requires more participation of Sellers, Buyers and Financiers for it to grow. Currently there is lack of awareness about the platform and its functioning. There are instances where the Corporates/Buyers have registered at the platform since it is mandatory to do so but are not active for transactions. The system also needs to be more automated and perhaps linked to GSTN’s and the two need to work in sync for optimal results.

The launch of TReDS platform has become a milestone in the digital initiative for non-collateral, non-recourse based credit to MSME’s and can be a catalyst in the growth of MSME’s by significantly improving their liquidity position and bringing in transparency in the business ecosystem.  The TReDS platform has grown tremendously in last 3 years. In FY2017-18, the combined business by all three exchanges was about Rs. 800 crores, which crossed Rs. 7,000 crores in FY19 and is expected to cross Rs.20,000/- in Fy 20 (the fig for fy 20 is yet to be out).  There are more than 5000 MSME Sellers, over 750 Corporates Buyers and over 60 financiers registered with TReDS and it could be leveraged as a key tool to meet the challenges thrown by Covid-19 in furthering assistance to the MSME sector.