Why microfinance is not just about small loans

Industry bellwether SKS Microfinance said Wednesday it will ramp up and eventually spin off its growing non-microfinance business, sending the stock price soaring as the beleaguered lender struggles to reinvent itself.

The company, once India’s largest micro lender, has been at the center of an industrywide controversy over how to balance the needs of poor borrowers with the demands of investors.

As political and regulatory constraints squeeze profits in microlending, SKS has pushed into other, less scrutinised areas, seeking ways to profit from its rural distribution networks.

“We will stick to the core microfinance,” SKS chief financial officer Dilli Raj said in an interview. “We are moving on to the larger agenda of financial inclusion.”

More from Economy

Inflation likely to be a big focus area for budget 2024, say sources Explained: Will the Bank of Japan break tradition and raise interest rates?

[caption id=“attachment_150537” align=“alignleft” width=“380” caption=“Reuters”]  [/caption]

The company’s shares stopped trading Wednesday afternoon in Mumbai, after they shot up 5 percent, the maximum allowable daily limit.

SKS has been a poster child of financial innovation in making tiny loans to the poor. It attracted aggressive venture capital investors and raised over $350 million in its initial public offering last year.

That exuberance sparked a backlash, led by politicians in Andhra Pradesh, India’s most important microfinance market.

They accused microfinance companies of using predatory collection tactics and pushing too much credit on small borrowers, provoking dozens of suicides. The state cracked down. Loan collection rates plummeted. New loan issuance froze. Banks balked at providing credit. SKS’s stock price tumbled over 90 percent and its founder and chairman Vikram Akula resigned.

As the company picks up the pieces and tries to mollify investors, it hopes to transform itself from a microfinance company into a rural financial services company.

Over the last seven months, SKS has increased sales of life insurance, loans using gold as collateral and loans to buy mobile phones. It also has a deal with German wholesaler Metro to provide short-term credit to small shop keepers on a commission basis.

Those ancillary businesses now account for 4 to 5 percent of SKS’s revenue and 8 to 9 percent of its earnings. The company hopes they will expand to 10 percent of assets, generating 20 percent of revenues and 30 percent of earnings, Raj said.

He said the company plans to spin off those businesses as a wholly owned subsidiary in fiscal year 2013.

SKS also hopes to raise Rs 500 crore ($96.7 million) through a share sale to institutional investors and increase the foreign investment limit from 24 to 74 percent.

The company could leverage that money and raise $500 million from banks to pour into fresh loans across the country, taking advantage of industry turmoil to increase its market share, Raj said.

Spinning off its non-microlending businesses will keep the company from running afoul of central bank regulations that make it easier for microfinance companies to access bank credit, which Indian microlenders rely on to fund 80 percent of their loan portfolios.

SKS also said it would cap return on equity from microlending at 3 percent and appoint an ombudsman as part of a Rs 15 crore ($2.9 million) plan to strengthen borrower protection.

“The industry has to position its social welfare objective with more clarity, instead of just looking for private equity funding, listing and billions of dollars of valuation,” said D.K. Aggarwal, managing director of SMC Investments. He cautioned that it might be hard for SKS to raise additional funds, given dour global market conditions and ongoing regulatory uncertainty.

“Many microfinance institutions are now looking at their business model and trying to figure out what it is they need to do to stay in business,” said Alok Prasad, chief executive of India’s Microfinance Institutions Network, an industry group.

He said there remain vast, uncharted territories of financial need in India.

For example, demand for mini-loans between $100 and $1,000 - which aren’t provided by banks and fall outside the ambit of the central bank’s microlending regulations, which cap interest rates at 26 percent - could easily top $100 billion, he said. “You can do this lending at whatever price you like.”

A****P