Abandoning scale for closer ties

Abandoning scale for closer ties

Hyderabad/Chennai: There couldn’t have been a more inopportune moment to trumpet the growth story of India’s largest and only publicly listed microfinance company SKS Microfinance Ltd.

The Andhra Pradesh government’s strict law on microfinance institutions (MFIs) was not the only reason the October launch of SKS founder Vikram Akula’s autobiography looked ill-timed. It was also because the world described in his A Fistful of Rice, quite simply, had changed.

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Through his narrative, the former McKinsey and Co. consultant paints a picture of a fast-growing microcredit business mimicking the time-crunching processes followed by the world’s largest hamburger chain, McDonald’s Corp. But some microcreditors are discarding the mass-scale, fixed-price, fast-credit menu offered by Indian MFIs.

“We get five people according to a Grameen Bank model, offer them a single non-collateralized loan requiring periodic payment," said Ramesh Ramanathan of Janalakshmi Financial Services, which focuses on the urban poor in several Indian states, referring to the Bangladeshi pioneer of microfinance. “We’ve somehow defined this plain vanilla product as the end-game rather than an intermediary point," Ramanathan said. “None of us who are in microfinance, whether we are promoters or field officers, access our financial needs through a group loan."

Micro financiers such as Janalakshmi, Kshetriya Gramin Financial Services (KGFS) and Equitas Micro Finance are giving up on the push to get as many customers as possible, through a variety of loan and even savings or related products, to a small crop of customers.

Following the Andhra government’s October directive that enforced interest rate restrictions and longer repayment schedules, putting at risk 9,000 crore of outstanding microloans in the state, the MFI sector seems ripe for reinvention. “It is complicated to offer multiple financial products and microcreditors may not be able to afford it on a large scale," said Vijayalakshmi Das, a director at Ananya Finance for Inclusive Growth that has 460 crore in outstanding loans to 130 MFIs across a dozen Indian states.

“But it is what the poor need and, finally, that approach is profitable too. Even two to five lakh (200,000-500,000) members offer a fantastic base."

Two-year-old KGFS—one of the first microcreditors to borrow from Ananya—has 125,000 customers with just three operations across Tamil Nadu’s Thanjavur, Orissa’s Ganjam and Uttarakhand’s Tehri Garhwal districts. Just 40% of its customers borrow at an 18% all-inclusive interest rate on a reducing balance. The majority are non-borrowers who invest in money market mutual funds and insurance products.

As credit and non-credit services are sold unbundled, KGFS claims to cover 60% of households in its target geographies as against an average 10% of a village that a microfinance company usually reaches. “We set up branches in small geographies and justify its cost by serving more people," said Anil Kumar, chief executive of IFMR Rural Finance, the parent company of KGFS. Each branch, costing 3.5 lakh, covers 2,000 rural households and breaks even in 14 months. “You’ve got to decide whether the process is key or is it the customer."

Over a decade, India’s top 10 MFIs focused on processes to shrink a loan officer’s time on field while creating a widely distributable loan product.

As a result, costs per borrower in India halved from 620 in 2000 to one of the lowest in the world at 298 in 2010, according to rating agency Micro Credit Rating International Ltd, or M-CRIL. The quick, low-cost service garnering 99% repayments saw average loan sizes double over a decade to 7,783 in 2010, shows M-CRIL’s November report. But this led to looser ties with increasingly debt-ridden customers who, under the joint liability system and in an environment of multiple lending, had to foot several debts of a defaulting group member. “Today, most microfinance companies have a brittle relationship with their customers," said Janalakshmi’s Ramanathan, who doesn’t have a stake in Janalakshmi Micro Finance and, therefore, no share in its profits as part of a corporate governance measure.

Ramanathan has interests in related not-for-profit Janalakshmi Social Services, or JSS. “A multi-product offering makes customer relationships stick as it offers more value to the users."

With about 200,000 customers across eight states, Janalakshmi is hoping to turn profitable next year through loan and savings offerings. In November 2009, the non-banking financial company (NBFC) started offering a pension product that requires borrowers to pay 100-300 a month up to the age of 58 with a choice to get a lumpsum or monthly amount at the end of it. Two months ago, JSS, which largely offered financial advice to borrowers, turned business correspondent for Axis Bank. In September, the Reserve Bank of India (RBI) said companies, non-government organizations, cooperatives and post offices could collect deposits and disburse loans for banks.

NBFCs, including for-profit MFIs, were not allowed to take on this role.

While this was a blow to MFIs, Ramanathan legally leveraged the non-profit JSS to log 35,000 savings accounts for Axis Bank through a 150-strong sales force, which currently targets non-borrowers. It will spread to five more cities over the next three months. Despite the legislative barrier to collecting deposits—a nominal source of funds when compared to 12-18-month bank loans at 10-12% that MFIs take—some new-age, for-profit MFIs are balancing cost pressures through technological efficiencies.

“Having a low-cost position is becoming important as interest rates are coming down hard and to achieve it you need to have good efficient lean processes or be large scale," said Sumir Chadha, managing director of Sequoia Capital India, a US venture investor with investments in SKS and Equitas.

Floated in 2007 by former banker P.N. Vasudevan, Equitas, an NBFC lauded in the industry as being technologically progressive, kicked off operations with a 50 lakh centralized core banking software that can accommodate deposits in case the MFI wins a banking licence in the future.

Currently, MFIs are prohibited from collecting customer savings like a bank.

Within three years and despite being relatively small scale, Equitas’ operating expenses stand at 8.9% of assets or outstanding loans, close to that of industry leader SKS and much lower than peers such as Ujjivan Financial Services Pvt. Ltd, logging 17%.

“We are dealing with a large number of people carrying out tiny transactions and if you don’t have processes and systems in place, you cannot control operating risks or frauds," said Vasudevan. He chose a central model over a branch-based data unit with 100 people to key in and double-check customer information shipped from 163 branches across five states.

As part of its ecosystem to serve low-income customers, Equitas has an allied for-profit arm that supplies vegetables to loan customers keen to earn a living selling produce. There’s also a non-profit company, Equitas Dhanyakosha, that provides groceries at cost to members on a monthly 1,000 credit. These services will continue if they are accessed by at least 25% of its currently 1.3 million borrowers having 956 crore in loans outstanding.

“The moment you have food security it cuts down on health expenses with indirect impact on income," said Ananya’s Das. “MFIs have to choose if they want to grow faster through a single product or think of the household and gradually link up with (a) basket of services."

This is the second of a three-part series. Next: Policy debates on India’s microfinance sector.