MSMEs are struggling to finance ESG integration despite contributing 3-4% of India’s carbon emissions; here's why

This is not an isolated case. Indian MSMEs, primarily in the export business, are being pushed to provide ESG reports from foreign customers as part of the bidding process.

The carbon footprint of MSMEs—which contribute more than 30% to India’s GDP and are responsible for nearly 45% of exports—is sizeable at 3-4% of the country’s total carbon emissions, according to a report by the NITI Aayog.

“My clients in IT and data analytics are being asked for ESG metrics for bids called by multinationals. The trend I can see is a push-driven one, or if there is a progressive promoter who wants to push for ESG. Growth and overseas diversification are becoming bigger triggers for MSMEs to comply with ESG metrics,” Kumar Subramanian, Founding Partner and Managing Director of Sculpt Partners, tells BT.

In this scenario, it is becoming inevitable for value chain partners of listed and export-oriented entities to make the transition. MSMEs in the automotive, leather, and textiles sectors have started generating emission data, sourcing solar energy for operations, measures for water and energy efficiency, and waste management.

Anil Bhardwaj, Secretary General of the Federation of Indian Micro and Small & Medium Enterprises (FISME), says these efforts are limited to some industries and more concerted action is needed for MSMEs’ decarbonisation journey.

A start has been made in the Indian context with a regulatory nudge. The Securities and Exchange Board of India (Sebi) has taken the lead with its Business Responsibility and Sustainability Reporting (BRSR) Core framework. Beginning FY25, the top 250 listed companies by market capitalisation must make disclosures for the value chain under this framework on a comply-or-explain basis. They need to provide limited assurance, a less stringent form of third-party validation of value chain reporting, from FY26.

“With the BRSR, listed companies will have to provide data related to the supply chain. As of now, we don’t even have baseline emission data related to the MSME sector. We are trying to develop a template for baseline data for carbon intensity in the electrical engineering industry,” Bhardwaj says.

FISME is the national apex body of MSMEs and is working with the NITI Aayog to devise a decarbonisation road map for the sector.

“The first thing we said was that we need systems to get our processes mapped; second was assistance from experts on how we can reduce carbon emissions and resource efficiency; third was having a carbon credit marketplace; and finally, we need an agency to certify the green measures so that they are acceptable to buyer countries,” adds Bhardwaj.

The industry bodies are handholding SMEs in this journey of transition. The CII-ITC Centre of Excellence for Sustainable Development (CII-CESD), which provides advisory services, is currently engaged with more than 600 value chain partners and MSMEs in 10 industrial clusters to achieve sustainability through its ESG intelligence and analytics services, which include capacity building, ESG assessment, advisory, and reporting.

“India’s aspiration to achieve net zero can only be realised when the MSME sector, which is the backbone of the economy, makes the transition towards a low-carbon pathway. We urge our large industry members to mentor and build the capacity of their MSME value chain partners to make this transition,” says Seema Arora, Deputy Director General of CII.

There are other such examples as well. The Energy Consortium, an umbrella energy research initiative at IIT Madras, is helping MSMEs conduct energy efficiency assessments free of charge and recommends changes to improve it. It has conducted 150 such assessments across sectors, but the highest interest as of now is seen in export-oriented industries such as textiles and leather.

The consortium is also working on building an ESG reporting framework for MSMEs to generate data related to the sector.

Finances

One factor that needs to be considered when looking at the transition is the amount of money this costs. Many small firms might find it hard to access such funds, and hence monetary incentives will be required in the form of cash, tax credits, easy lending from banks, and relaxing credit guarantees. These are some of the issues flagged by FISME.

“Financing the MSME transition is a key challenge. There is an urgent need to create an ecosystem that facilitates this. The actors of such an ecosystem—government, industry, and financial institutions—will have to collaboratively develop alternative models of finance that can work in the Indian landscape,” adds Arora.

MSMEs seem to be very keenly aware of the need to make the transition. A survey by DBS Bank and Bloomberg Media Studios completed in November 2022 found that almost all such firms (92%) are focussed on adopting ESG measures to be part of the global value chain. However, 57% face challenges like the cost of deployment of ESG initiatives.

Rohan A. Shah, Director of professional services firm PwC India, says there are other challenges beyond financing as well. These include limited awareness and capacity, resource constraints, compliance burdens, and market access and recognition.

“Limited access to finance is a significant barrier for MSMEs looking to invest in sustainability initiatives. Policy interventions should focus on improving access to finance for ESG projects through measures such as dedicated green financing schemes, subsidised interest rates for ESG investments, and incentivising banks and financial institutions to prioritise lending to sustainable MSMEs,” says Shah.

Beyond these initiatives, some listed entities are taking the onus and working with their value chain partners to help them in their transition journey. PwC’s assessment of publicly accessible BRSR reports of the Top 100 companies in FY24 found that 62% of companies provided training on key ESG issues to their value chain partners, while 54% of companies assessed their value chain partners against environmental indicators.

Many MSMEs, too, are working proactively to cut emissions at their end. According to PwC, MSMEs are innovating products and services keeping sustainability in mind, thereby driving value chain decarbonisation. For instance, engineering MSMEs are developing energy-efficient machinery and equipment that consume less electricity and produce lesser emissions during operation.

Similarly, agro-processing MSMEs are introducing eco-friendly packaging solutions made from biodegradable or recycled materials, reducing the carbon footprint of packaging and distribution activities. By offering sustainable products and solutions, these MSMEs catalyse broader shifts towards decarbonisation across value chains.

Textile MSMEs are adopting closed-loop production systems where discarded garments are collected, recycled, and reintegrated into the production process.

FISME’s Bhardwaj feels MSMEs have begun the decarbonisation journey, and there is no escape as the listed entities will have to provide value chain disclosures. But the focus should be on devising a comprehensive transition pathway.

@richajourno