Banks question MSME credit narrative, flags data and discipline gaps

Managing Director/CEO Damith Pallewatte 

• HNB MD/CEO says lending constraints reflect information asymmetry, not liquidity
• Traditional credit models fail where financial records are absent
• Warns credit without discipline risks misallocation and defaults

HNB Managing Director/CEO Damith Pallewatte has challenged the prevailing narrative on MSME financing, arguing that the constraint is not a lack of credit, but the absence of verifiable data and financial discipline required to underwrite it.

Speaking at a recent AmCham Sri Lanka CEO forum, he said the discussion on access to finance has been reduced to a question of loan availability, when in practice it reflects a deeper problem of information asymmetry.

“Access to finance is not one-sided,” he said, pointing to the limits banks face in assessing repayment capacity in the absence of reliable financial information.

Pallewatte’s comments come at a time when access to finance is a hot topic with the Government, Opposition and MSME bodies increasingly voicing concerns.

He said the conventional credit process, anchored on historical financial statements, fails at the first step for a large share of SMEs.

“We ask them to provide financials. In 95% of cases, the answer is that they don’t have them. The conversation ends there.”

In the absence of audited accounts or consistent records, banks fall back on collateral as a secondary safeguard, he said, not as a preference but as a response to uncertainty around cash flows. “Collateral is a second way out. The first way out is the cash flow.”

He said the dominance of cash-based transactions further compounds the problem, limiting traceability and reinforcing reliance on asset-backed lending.

“If transactions are not traceable, it is difficult to move away from traditional methods of evaluating credit.”

Pallewatte said a shift towards cash flow-based lending is possible, but depends on the availability of transaction data, supply chain linkages, and digitally recorded business activity that can be independently assessed.

He pointed to emerging models that use distributor networks and value chains to establish visibility on cash flows, reducing the need for hard collateral.

The structure of loan products, he said, also remains misaligned with business realities.

“Repayment schedules are typically monthly, but business cycles are not. They can be seasonal, quarterly, or irregular.”

He said this mismatch can weaken repayment capacity even where businesses are viable.

Pallewatte also questioned the assumption that credit alone resolves financing constraints, noting that weak capital allocation remains a recurring issue.

“Providing a loan alone is not sufficient. There are instances where funds are deployed into non-income generating activities.”

This, he said, has driven banks to place greater emphasis on advisory engagement, particularly in segments where financial literacy and business planning are limited.

He said digitalisation offers a pathway to address documentation and data gaps, though adoption remains uneven and legal frameworks are still evolving to accommodate non-traditional credit assessment methods.

The implication, he said, is that expanding MSME credit requires adjustments on both sides, lenders moving beyond static credit models, and borrowers formalising operations to generate usable financial data.

“It’s not just a loan or an overdraft that businesses are seeking. Access to finance has a wider meaning.”