Serving small entrepreneurs: A 5-star business idea

Five Star Business Finance is in the business of providing loans to MSME entrepreneurs. Gireesh Babu finds out more about the company that plans to grow to ₹3,000 crore by 2020.

Rajkumar, who sells saris door to door in Chennai, was finding it difficult to get a loan. While he had enough cash flow and employed four people, banks were reluctant to give him a loan.

That is when Five Star Business Finance stepped in, and offered him a ₹10 lakh business loan and later provided him a ₹25 lakh housing loan.

Chennai-based Five Star Business Finance is in the business of providing loans to entrepreneurs like Rajkumar.

It is a small-ticket business and housing finance company that provides secured loans to MSME customers such as shop owners, small restaurants, textile stores, bakery outlets, machine shop operators and self-employed people. It also provides loans for home improvement to MSME customers.

According to D Lakshmipathy, chairman and managing director of Five Star Business Finance, it is playing a niche role in serving the large number of small enterprises that are not catered to by most of the formal financial services companies.

It has raised its latest round of funding of ₹333 crore from investors led by Norwest Venture Partners, Sequoia Capital, Matrix Partners and Morgan Stanley Private Equity Asia. The capital is expected to help the company grow to ₹3,000 crore by 2020.

Five Star Business Finance has been putting in place various strengths, including expertise in assessing cash flows and underwriting credit. Once it perfected this method, all it needed was adequate capital for growth.

The company started its funding journey in 2014.

It raised ₹17 crore from Matrix Partners in February 2014, and ₹15 crore in a follow-on round in March 2015.

In June 2016, Morgan Stanley Private Equity came in with an investment of ₹114 crore.

"The fundraising helps us increasing our equity capital. Besides, private equity investments instill confidence in our lending ability," said Lakshmipathy.

Business model

The company does not want to enter unsecured lending and agriculture lending.

It lends mainly against property. This has saved it from shocks, including demonetisation.

Five Star Business Finance has 110 branches in four states in south India and serves over 18,000 customers.

The housing loan business in a total book size of ₹550 crore is around ₹10 crore. The target is to provide housing loans to existing customers.

There are several players in small-ticket lending. However, Lakshmipathy says he do not consider these a threat, as Five Star Business Finance has strengths in underwriting credit and assessing cash flows.

Vikram Vaidyanathan, managing director of Matrix India, says the focus of Five Star Business Finance on the small borrower sets it apart. The challenges are new customers, asset quality, funding and lending.

The major challenge lies in acquiring the right talent and in training.

Going forward

Lakshmipathy says plans are on to expand beyond Tamil Nadu, Andhra Pradesh, Karnataka and Telangana. Five Star Business Finance will focus on expanding in Karnataka and Telangana this year and by the end of the year will foray into Maharashtra and Madhya Pradesh.

Five Star Business Finance targets its book size will expand from ₹550 crore in June to ₹1,000 crore by next March, and ₹3,000 crore by 2020.

The funds raised in the latest round will be adequate for the company to achieve this goal, but it will be open for further fund-raising.

Expert take

The MSME sector plays a crucial role in our economy with a significant contribution to the gross domestic product (GDP) and employment. Yet, there is not enough institutional credit flowing to the MSME sector.

The latest Economic Survey shows despite various efforts by the government, growth of credit to the MSME sector is in decline over the past three years.

Entities like Five Star Business Finance play a crucial role in enabling timely and adequate credit to this large underserved sector.

Also, given the nature of the sector, the traditional approach of lending based on financial documentation proves to be a challenge. Alternate approaches to cash flow-based lending need to be explored.

The performance of Five Star Business Finance with its high touch and unique underwriting approach has proved the viability of providing credit to the sector.

Given the unmet demand, the opportunity for Five Star Business Finance to expand is big. As the business expands, capacity building and the underwriting process are crucial.

The success of Five Star Business Finance and similar players will lend credence to the opportunity in the MSME sector.