A macro view of microfinance

A macro view of microfinance

Mumbai: The 22,500 crore microfinance industry in India is passing through one of its most difficult phases.

The controversy over issues of corporate governance at SKS Microfinance Ltd and the recent Andhra Pradesh government ordinance banning the forced recovery of loans have raised doubts on the business model of microfinance institutions (MFIs). The stock price of SKS dropped below its issue price on Monday and analysts believe the uncertainty surrounding the sector could adversely affect the prospects of other micro-lenders looking to tap the capital market for funds.

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SKS, once considered the poster boy of the microfinance industry, today faces a Sebi (Securities and Exchange Board of India) inquiry into the manner of dismissal of chief executive officer Suresh Gurumani eight weeks after the listing of SKS on 16 August.

While the controversy has raised fresh questions about a sector on which credible information is hard to come by, there had been concerns earlier as well.

Though the latest industry figures are not readily available, a report on the financial performance of MFIs by the Association of Community Development Finance Institutions (Sa-Dhan) indicates that the median portfolio at risk or the proportion of bad loans for MFIs in India is 0.4% of assets, which is lower than the average non-performing assets of banks, which would be in the range of 2-2.5%.

The report is based on self-reported data by 264 MFIs across India and estimates that the total loans outstanding for all MFIs, as of March stands at 18,343.9 crore. MFIs manage an additional 4,200 crore on behalf of banks and other financial institutions. The total portfolio grew by 57% in 2010, the report says.

The rapid growth of the industry, which is still in a nascent stage, has raised several questions on both corporate governance issues as well as the viability of their business model.

In a March working paper, former Indian Institute of Management, Ahmedabad, professor M.S. Sriram questioned the ethical standards of four large MFIs, which raised seed capital to form a not-for-profit organization and later converted that into a for-profit entity, enriching themselves in the process.

The high growth of the industry has meant MFIs have ignored proper controls and have not taken measures to limit multiple lending, says Sanjay Sinha, managing director of rating agency Micro-Credit Ratings International Ltd.

MFIs typically provide short-term loans to poor people in rural areas who do not have access to formal sources of credit, and help them start new business.

Most micro-lenders in India, including SKS, follow a joint liability group lending model pioneered by Nobel laureate and Grameen Bank founder Muhammad Yunus. The joint liability model, in which a default by one member endangers the ability of the entire group to take new loans, is supposed to keep default rates low for these lenders.

The client base of these institutions went up by 46% to reach 26.7 million active borrowers. Over 55% of the loans disbursed by MFIs are in southern India, where the industry took root, and the eastern region comes second, accounting for 25% of loans given, the Sa-Dhan report says. The median loan size is around 10,000.

The fact that the client base of MFIs are the most vulnerable sections of society makes them a target of political activism and regulatory intervention. The high profit growth of these firms is often seen to be at the expense of the poor.