Shanti, a native of Chennai, moved to Bengaluru in search of work. She found work in a sari store doing odd jobs. But, within a few years, she used her experience to turn entrepreneur. She opened her own sari store, inside her house in one of Bengaluru’s slums and today sells several saris a day for Rs. 50 each. In the world of microfinance, Shanti is a micro-entrepreneur. She started with a loan of Rs. 8,000 from Ujjivan microfinance. Transforming from an employee to micro-entrepreneur, she makes more money, is constantly thinking about how to improve her business and is able to spend time uplifting her children’s lives. Shanti is just one among many of those proving that we no longer live in a world where the rich get richer and the poor get poorer.
Such micro-entrepreneurs are springing up in several locations across India where the microfinance sector has made in-roads. States such as Andhra Pradesh, Tamilnadu and Karnataka have seen tremendous progress. Out of the 3,150 microfinance institutions (MFIs) in India, many have begun their journey in South India as the region has a proven track record of being credit worthy. The sector is also attracting attention from private equity (PE) investors. In a poll conducted by Venture Intelligence, a research firm tracking the private equity and venture capital industry, the microfinance sector was voted the most attractive among all other financial services sub-sectors. In the period between June 2004 and December 2009, 23 per cent of all PE investments in the banking and financial services industry (BFSI) went into MFIs. The sector raised more than U.S. $ 350 million in 2008 and 2009. Of course, there remain several challenges that we still need to overcome. For instance, critics believe that microfinance customers borrow money from one MFI to repay another MFI. Regulatory challenges still plague the sector and scaling up continues to be a challenge what with less than 10 per cent of all MFIs catering to more than 10,000 customers.
In this story, we focus on what stands in the way of the growth of microfinance in India and what the sector must accomplish to overcome these factors. Gradually, MFIs will have to offer more than basic credit products and offer more innovative financial products including insurance, education loans and even savings products. Greater penetration and expansion into newer geographies is inevitable. But, the biggest hope we have for the industry comes from our faith in the Indian entrepreneur. The new-age entrepreneur holds the ability to conceptualise newer business models, develop technology platforms to reduce operating margins and even produce drastically different financial products to empower customers.
Simple product, great execution
The most popular product from MFIs in India has been the simple 50-week credit product where the MFI provides a loan between Rs. 6,000 and Rs. 15,000. The customers repay the loan in equal weekly installments. The loan officer collects the repayment at the center meeting attended by 15 to 20 borrowers. MFIs get their funds in the form of term loans from banks with interest rates in the region of 12 per cent. Most of the MFIs that operate in India have a similar product with a focus on improving operational efficiencies and loan officer productivity.
The bigger MFIs including SKS Microfinance, Basix and Spandana have managed to scale up and serve an increasing number of customers mainly through greater penetration and transferring focus onto the customer. “Both Basix and Spandana are fascinating stories. Spandana primarily scaled up by repeatedly recreating what they did best in several locations. On the other hand, Basix adopted a customer-centric model to scale up. They spent time in understanding customer needs and offered him a multitude of products. If a customer borrowed money to buy a cow, they also offered an insurance product for the animal and probably even the services of a veterinary doctor as value-added products,” says Venky Natarajan, managing director at Lok Capital, a venture capital firm that has invested in several Indian MFIs including Basix and Spandana.
There is one thing clear about entrepreneurs setting up microfinance institutions. They are dedicated, passionate people who have the ability to deliver on operations. Says Sandeep Farias, co-founder and managing director at Elevar Equity, an investment management firm that has invested in the sector, “These businesses are not about corner offices. One needs to have empathy for the customer, tremendous people management skills and on-field execution skills. One needs to enjoy spending time with the customer in the field.”
These businesses are not about corner offices. One needs to have empathy for the customer, tremendous people management skills and on-field execution skills. One needs to enjoy spending time with the customer in the field. – Sandeep Farias
Managing and training people is the heart and soul of a microfinance firm. At the branch level, the loan officers have similar backgrounds as their customers. They understand the local language and culture and are able to connect with their customers. They are trained to assess the credit worthiness of their clients and collect repayments. Expanding into a new region involves understanding newer customers in an efficient manner. Since loans are largely handed out to women entrepreneurs, the culture of women in the newer region needs to be researched and analysed. “Starting up operations in a new location is very challenging. We have operations in 13 different states and it is like operating in 13 different countries,” says Samit Ghosh, founder and chief executive at Ujjivan, one of India’s first large-scale, urban MFIs.
Once the establishment is in place, it is all about keeping the model simple and replicating it. As industry experts mention, there has been a single operating model till now. Typical operating margins stand at 10 percent. This is primarily due to the tedious process of lending small amounts of money to a large number of people. Training costs are high as well. “If people can innovate and come up with newer models that would make it very interesting,” says Farias. Today, MFIs lend at 24 percent to 26 percent, keeping in mind the operating costs. Inspite of these interest rates, customers hardly default on repayments. Most borrowers run efficient micro-enterprises which ensures their weekly cash flows are in line with their borrowing. Moreover, customers do realise the importance of borrowing again from MFIs and would like to maintain high credit ratings. Adds Farias, “The demand-supply gap is high and if technology can be used to improve operations that could even bring down interest rates. Differentiated products would also meet different financial needs of the poor.”
So why do most microfinance companies start off by offering only loan products? Is it really the most sought-after product by microfinance customers? No, not at all. In a number of cases, people in the bottom of the pyramid (BoP) segment could use a savings product before they take on more loans. The answer to our question lies in the fact that loans are the most non-regulated among financial products. Almost anybody can offer a loan and that is why it is the most popular.
Insurance is also popular with MFI customers. In several villages in Andhra Pradesh, which has exposure to a large number of MFIs, a typical customer will have two or three loan products and three insurance products. Life insurance and health insurance are the most sought after.
While livelihood creation and generating income through jobs is extremely important, education for children has also become priority. Small quantum education loans are offered, but, these loans are tricky for MFIs. “A typical microfinance credit loan is something where the MFI borrows long and lends short. Anytime you have to borrow short and lend long, as in the case of an education loan, the model does not work very well,” says Natarajan. And this is one basic problem for MFIs. The sector has shown hesitancy in diversifying its product offering, while sticking to a simple model that can be replicated, time and again. The next obvious step is to deliver on a mix of products with a scalable model.
We have seen the usefulness of financial products. India’s middle-class largely benefitted from the gamut of insurance, savings, education and home loan products that banks churned out. Natarajan says, “The savings product is the most crucial. When there are problems that come up in the lives of the poor, the credit product hardly helps.” Adds Farias, “There is no doubt. The customer need for the savings products has been largely researched and it is primarily a regulatory challenge at this point. In many parts of the world, including the Grameen Bank, a large chunk of their portfolio comes from savings from their customer base.”
The ultimate goal
When asked what he would like to see the microfinance industry transform into over the next ten years, Farias’s answer was plain and simple. “If access to finance is available to everybody, through banks or MFIs or newer models, that would be my great hope for the industry,” he says. Farias sees the ecosystem evolving rapidly and hopes for greater linkages with the financial system, further penetration and more innovation on the delivery methodology and products. Natarajan largely agrees. He would like to see more and more happy customers. He believes MFIs have already started looking at people they serve, as customers, rather than as borrowers. On the regulatory front there is a lot that can be done. MFIs come under a category called NBFC (Non Banking Financial Corporations) and it makes policy-making very difficult since several different types of institutions fall under this category. Says Natarajan, “If we can get a separate category for MFIs that would be a good start to make regulatory changes.”
Overall, inspite of several debates about the microfinance sector, there is one fact that is indisputable. The role of MFIs in creating jobs and alleviating poverty cannot be doubted. Healthcare, education and several other sectors need to work in tandem, but, the role of MFIs itself has been proven. It is now time to deliver and work towards the ultimate goal of delivering access to financial services to every citizen of our country.