Microfinance Investment Risks Profiled

Microfinance Focus, June 24, 2010: A rapid increase in global commercial investments in microfinance has also surfaced an array of associated risks for investors and microfinance institutions to manage. The investment landscape is marked with challenges like potential changes in regulatory statutes, portfolio dependence on a single product offering, political challenges to profitability, high regional concentration and the near total dependence by Indian MFIs on local banks for debt capital. Despite the industry’s growth potential, these risks have become a cause of concern and deterring mainstream investors from penetrating into the market.

Assessing these risks, Dr. Kshama Fernandes, Chief Risk Officer, IFMR Capital remarked, “In finance, risk is measured as the volatility of returns, from the MFI, investors’ and borrowers’ angles. There are endogenous risks that can be controlled by MFIs, such as operational, and origination risks, and there are exogenous risks that are external and hence more uncontrollable, such as natural disasters, political interference and regulatory changes.”

Agreeing with Dr. Kshama, Rajender Sehgal of HDFC Bank said “assessing risks is one of the most disliked jobs in the industry. Banks can look at it with a business vertical, or like any other vertical, or a stepping stone to another goal”. As a sector which is looking to enter the industry, he said, “Dimensioning is also a challenge for banks. Microfinance industry has not gone through cycles of shocks that have caused it to mature, and this affects the confidence in the industry. We have to take such risks into consideration, but it is difficult to do so in an industry where there are few regulations and hardly any support systems. There are also no benchmarks of growth and profitability against which external agencies can measure the investment-worthiness of MFIs”.

“In the last one half years, the image-beating that some MFIs have suffered by the public revolve around the interest rates etc. There are a lot of mutual funds sitting on the verge of non-compliance. We don’t have the kind of body that can talk with the bureaucrats, politicians etc, and help them to understand why MFIs do what they do, or charge interest rates in such a way. It is easy to lend to people who are readily availabl but how much of that are going into consumption or generating cash flow? So these are the questions that we ned to look at”, he added.

Speaking about the risks the industry poses, Vishal Mehta, Managing Director, Lok Capital said, Lack of innovation is a risk. There is a clear lethargy in the sector we are too comfortable with our products and processes. Certain areas need re-evaluation. Like HR, training and the technology. These are the things that will lead to developing successful relationship with the client. He also said that credit risks which the increasing growth doesn’t fully allow us to see that. It is rising in certain geographies and it is wilful default. “We have created a lot of wealth and value but we have not done anything which can make it more customer oriented which is the most important thing. We need to distribute the wealth”, he stated.

Sanjay Sinha of M-CRIL said, “People are at the centre of this business an when we forget that problems start happening. I am afraid too many clever things are happening and it reminds me of the financial crisis. Microfinance industry is over heating but many of us are in denial. The industry has to go through 2-3 business cycles before it can be a mature industry. The green scenario is that few MFIs are going bust which will make promoters understand what to do. Multiple Lending, indebtness, and over-ratedness are significant. If even 10% of 20 million clients have three or more loans, it is 3 lakhs peopl. And if only 10% of those are being harrassed by loan officers, 20,000 people are being harrassed. These people will go running to their community leaders and politicians. We can imagine what will happen when this number goes high. MFIs need to sober down.” 

 Giving an account of the risks that he has encountered in other countries, Mr. Eric Gouert from Triple Jump said, “Growth factor is the main driver for equity players but it is a big risks when you are making a loan. I have seen how risks are in practice. You cannot see risk as something isolated from the business that you are doing. Risk is also an opportunity and if you know how to deal with it.” Further he adds “From a microfinance perspective we see various risks, like very strict regulation of the industry, entities cannot take savings, NBFC cannot take foreign lending and you have to depend on priority lending which in a way is risky. There is lack of Indian capital but at the same time there are restrictions on the level of ownership of foreigners in the MF. We also don’t have a credit bureau unlike other countries.”

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