The soaring microfinance industry has been luring private equity investors with its rapid growth and high returns. Growing at a CAGR (Compound Annual Growth Rate) of 105%in the last five years it has emerged as an investment hotspot for private equity investors. In the last 18 months, close to US$ 200 million in PE was invested in Indian MFIs and millions more are in the offing.
While the interest in microfinance equity investments is high, the market is still very young and is posed with many vital challenges. In the opening session of MCCM conference, an insightful panel discussion was moderated by Ravi Kapoor, Managing Director, Head Investment Banking, Citi India, on some of the intriguing equity deals that took place in recent months in the microfinance space. Panelist included James Kaddaras, Partner, Developing World Markets, Avinash Bajaj, Managing Director, Matrix Partners India, Sandeep Farias, Founder & Managing Director, Elevar Equity and Aditya Bhandari from Incofin.
Initiating the discussion, Mr. Ravi Kapoor said “I am quite bullish about the sector, it poses huge opportunity. In the years to come we would see many microfinance organizations building up great value and investor will get benefitted. At the same time I think it is important to keep asking the sustainability questions and we should evaluate both sides of the growth.”
“There are elements of bubbles in this sector at the operational level, the geographical and product concentration level. Valuations should definitely be lower than what they are today. There is definitely a bullish case as I have 20 millions dollar invested”, Avinash said.
Aditya Bhandari compared microfinance sector with other commercial sectors that grew rapidly and experienced a blip. The Indian banking sector also grew very rapidly and had a lot of portfolio issues. But they soon realized that the key to sustainability was having good customer relations.
Focussing on the need of understanding Client’s need, Mr. Sandeep said, “How we are going to crack the market from the point of client is important. We need to refocus back on the customer. Multi product strategy has not achieved much and because of the hyper growth and free cash flow, it is very difficult for microfinance organizations to really shift and become a multi product strategy business. We need to start up all again we need focus team to deliver different products.”
As to why Indian investors are not entering into the microfinance sector and the reasons that are pulling them back, Mr. Sandeep suggested that for a long time it was a question of not accepting microfinance as a genuine investment opportunity so they have not come in substantially. There are also question around valuations and risks. They think it is the subprime of India.” He added, “Domestic investment has always been a challenge regardless the sector, and in the future as the industry matures we expect more domestic investors to enter. It is basically a valuation question. Valuation being very high, there is lesser interest from the investors.”
The valuation question reign the panel discussion as panellist kept coming back to it with insightful thoughts. Mr. James of DWM said, “We have to be very careful about the valuation we enter at and the valuation we exit at. I am amazed at the pace of change in MFIs and don’t underestimate MFIs to rise to the level of risk factored valuation”.
Mr. Avinash said, “The supply of quality MFIs is limited and demand is very high so prices are going up. On the fundamentals I think the risk is not being factored into the valuations. I think as the growth rates will taper off the equity will also taper off and valuations will come down.” He highlighted the fact that all the stakeholders of microfinance are playing a part in raising the valuation. “Entrepreneurs also don’t come with reasonable valuation.” Asking the investor not to compare microfinance with commercial bank, he said, “For settling down the high valuation, let us not compare MF with commercial bank as it is private bank and human network business. Investment should not be based on that logic.”
Answering a question from the ground about the future of retail investment in the sector, Ravi Kapoor commented, “Retail investors always have an opportunity but it comes later to them. They will participate only once companies go public. That will take some time as the sector is still maturing”.
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