Microfinance is a predominantly small ticket size, unsecured loan. Risk related to unsecured credit means high NIMs and higher RoE. This higher RoE in microfinance gets normalized by credit events ( AP crisis, floods) where non-performing assets see a spike, eating away the excess returns generated during good times. It is also important to note that most credit events are geographically localized, so geographical diversification can somewhat mitigate that risk.
So, if you are looking for a micro-finance institution, have an eye on those who can generate above-average RoEs adjusted for the credit events, i.e, by somewhat reducing their downside during bad times.
Understanding JLG (Joint Lending Group) –
JLG model was championed by Grameen Bank, Bangladesh where small advances are made to a group of women. Grouping of women is aimed at increasing the accountability of the group members and lowering the risk of defaults. It is important to note that while the liability is not enforceable on the joint lending group as a whole, intangible social coercion of being a part of the group, reduces the risk of individual defaults.
Self Help Groups (SHG)-
It is also an informal group of people with similar backgrounds, who come together to generate employment for members like handicraft business, papad business, etc.
Benefit to Borrower: Faster disbursements of loans
Benefit to Lender: Better scalability
How things work: Small ticket loans for income-generating (setting up shop, buying equipment) or other activities (marriage, medical emergency) are needed by lower-income groups, the application is reviewed, repayment frequency is decided (weekly, fortnight, monthly) and the loan is disbursed. If needed a top-up loan is also given. As the borrower repays her dues on time, with each cycle the lender may be willing to provide a higher loan next time and after a certain income level lender may also cross-sell other products like housing loan.
Outstanding Amount per Borrower: Rs.39k (Up by 7% YoY)
Average Ticket Size: Rs.22k (Up by 9% YoY)
Average Loan Accounts: 1.8/per borrower
As of Q1FY21, total loan accounts stood at 10.3crores (12% YoY), however unique accounts stood at 5.8crores (11% YoY). Loan Accounts per borrower has remained constant for the past few years.
|Avg Ticket Size||Rs.25.3k||Rs.21.7k||Rs.19k|
|Deviation from Avg||(+16%)||(Flat)||(-14%)|
Average Outstanding per Borrower (Rs.)
Impact During Demonetisation:
(Source- RBI, CRIF, HSIE)
Microcredit borrowers mostly transact in cash and repay the loans in cash. DeMo severely impacted their repayment ability. As seen in PAR Trends for PAR 30 days (Non-repayment of due for more than 30 days from due date), there was a sharp spike in delinquencies initially rising to 10%, but it recovered sharply as well close to 2%. This was not the case for PAR 180+(Non-repayment for more than 180 days from due date). Because it is a longer duration delinquency bucket, it obviously rose after a few quarters. It peaked at 6.7% and remained fairly in that range, dropping to 4.7% in Q1FY2019.
Localized Credit Event – Kerala Floods:
(Source- RBI, CRIF, HSIE)
Similar to DeMo, there was a sharp spike and then recovery in the short duration delinquency bucket – PAR 30 KL. Overall asset quality remained stable.
After the DeMo, the asset quality in microcredit has been quite stable except for a few localized events like floods or protests in Assam.
After the DeMo, Covid-19 is probably going to be the biggest asset quality challenge for the lenders. While many lenders claim that most of their borrowers are related to essential activities in rural areas, the large scale migration, unemployment, and the effect of disruption would be seen only after the moratorium ends. Assessing borrower income during such an economic downturn raises one more difficulty. With high unsecured credit and over-leveraging of borrowers (loans with multiple lenders) defaults would mean higher write-offs and erosion of capital.
Collection efficiency in the first quarter was down due to lockdown. As mentioned most borrowers repay in cash, so the collection was not possible. Lenders gave moratorium to all borrowers. Subsequently, as restrictions were lifted, the collection efficiency rose.
Month-wise collection efficiency trends of Securitised Pools:
(Source – ICRA, HSIE, RBI)
Share of Top 5 states for microcredit is 55%. West Bengal and Tamil Nadu have the highest share of 14.5% and 13.7% respectively, followed by Bihar having distribution share at 11%.
Average Outstanding per Borrower:(SRC – MFin, HSIE)
Average outstanding in West Bengal and Assam is much higher than other states as well as the industry average. Also, out of the Top 10 Districts, 7 belong to West Bengal state.
Top 10 Districts in terms of microfin outstanding:
(Src – Sa-dhan,HSIE)
What do MFIs have that banks don’t?
- Better data to evaluate the borrower
- Better understanding of the region
- Higher servicing cost of small accounts for banks
- SFB’s have access to high yield (high risk, unsecured) and low-cost deposits
Small Finance Bank
- 75% of advances to PSL (Priority Sector) [40% for Banks]
- 50% loan book below Rs.25lakh loan value
- CRAR – 15%, Tier 1- 7.5% [Banks – 9% and 7%]
- 25% of branches in the semi-urban and rural region
- Advantage of accepting low-cost deposits and advancing high yield loans (high risk, unsecured credit).
|Share to Total Deposits||0.5%|
|Share to Total Credit||0.9%|
SFB’s have a small base so they experienced high growth in the past.
Regulatory Guidelines on NBFC-MFIs:
|Multiple Borrowers and Indebtedness||Max 2 lenders can lend to the same borrowerTotal Borrower indebtedness Cap – Rs1.25L, First Cycle Cap at Rs.60k|
|Pricing of Loans||Spread cap at 10% (AUM>Rs.1B), 12% othersInterest cap at 2.75x the average base rate of 5 largest banksProcessing Fee: Max 1% of Gross Loan|
|Borrower Characteristics||Income should not excess Rs.2L(Urban) and Rs.1.25L(Rural)Loan Tenure to not exceed 24 monthsIncome Generating Loan – At least 50% of the book.|
|Individual Loan||Cap at 15% of Loan Book|
|Recovery||To be made at a central designated placeField staff to visit borrowers only after the borrower fails to appear for more than 2 times.|
These regulations are not for banks and SFBs, hence they enjoy a sort of regulatory arbitrage, which might lead to aggressive lending and cause to harm to both the lender as well as other lenders, due to over-leveraging of the borrower/district.
Asset quality trends for most MFIs has been fairly good, which is ironic with compared to the unsecured and higher risk nature of the loans they disburse. GNPA and NNPA numbers have to be closely tracked through FY21 to get a better sense of judgement of these microlenders.