Think micro

India is the 4th largest economy in the world, after the United States of America, European Union and China, and is estimated to register a growth rate of 7.4 per cent in fiscal 2015 as compared to a growth of 5.1 per cent and 6.9 per cent respectively in fiscal 2013 and fiscal 2014.  

Fiscal 2015 has witnessed key policy reforms, aimed at aiding growth revival and surmounting the structural constraints in the economy. In the recent past, the economy faced testing times with issues like lower growth, high levels of inflation and widening current account deficit; escalated by an unsupportive external environment. Growth is back, with its desirable concomitants of mild inflation and manageable current account balance with stable rupee and rising foreign exchange reserves, signaling improvements in macro-economic stability, according to the Macro Economic Framework Statement, 2015-2016.

India is home to 21 per cent of the world’s unbanked adults and about two-thirds of South Asia’s. Between the year 2011 and 2014, India’s account penetration increased from 35 per cent to 53 per cent. However, India’s account penetration is still low at 53 per cent when compared to other BRICS 

countries. According to Global Findex Database, a mere 15 per cent of adults reported using an account to make or receive payments.

Non-Banking Financial Company – Factors (NBFC-Factors): NBFC-Factor is non-deposit taking NBFC engaged in the principal business of factoring. The financial assets in the factoring business should constitute at least 50 per cent of its total assets and its income derived from factoring business should not be less than 50 per cent of its gross income. Financing needs in India have risen with the notable growth recorded by the economy over the past decade. NBFCs have played a major role in meeting this need, complementing banks and other financial institutions. To their credit, NBFCs help fill the gaps in availability of financial services with respect to products as well as customer and geographical segments. A strong linkage at the grassroots level makes them a critical cog in catering to the unbanked masses in rural and semi-urban reaches, thereby enabling the government and regulators to achieve the mission of financial inclusion. NBFCs’ loans outstanding grew at approximately 21 per cent in between fiscal 2010 and fiscal 2015, and as of March 2015, they accounted for almost 18 per cent of the overall systemic credit.

NBFCs typically have several advantages over banks due to their focus on niche segment, expertise in the specific asset classes, and deeper penetration in the rural and unbanked markets. NBFC Sector – Trends, Regulatory Framework and way Forward, December 2014, CARE Ratings by virtue of access to low cost funds and extensive branch network, banks compete with NB FCs, especially on the cost front. However, with their strategic presence in lending segments as well as geographies, NBFCs have carved out a niche for themselves to effectively compete with banks. 

Currently NBFCs only dominate construction equipment finance, while they are slowly gaining market share in housing, and LAP. CRISIL Research expects the loan book of NBFCs to post 15-17 per cent CAGR between fiscal 2015 and fiscal 2017. 

So far, NBFCs have gained market share at the expense of banks owing to focused lending, widening reach and resource raising ability. However, going forward, the growth is expected to moderate significantly given a slew of regulations in terms of convergence with banks. Further, with slowing corporate demand for loans, banks have shifted their focus to retail assets. As a result, the pace of growth in NBFCs’ market share in most of the segments will slow down compared with the past. While the traditional vehicle financing business is expected to achieve stable growth, NBFCs are also actively looking at relatively untapped segments such as structured finance, unsecured business loans for growth and diversification. As per CRISIL Research’s view, low penetration in Tier-II and Tier-III cities, product and process innovation, and continued focus on core businesses will be the key enablers for steady growth amidst regulatory overhaul, especially  in the retail finance segments (gold, microfinance, housing finance, auto finance).

Microfinance is seen as an important tool for poverty alleviation and over the years, MFIs have placed themselves as fulfilling this developmental goal. The microfinance movement was initiated by NABARD in collaboration with Banks and Non-Government Organisations (NGOs) for unbanked population known as Self Help Group (SHG) – bank linkage program in 1992. The programme was a government-initiated programme with refinancing to banks from NABARD. SHG bank linkage programme involved NGOs to form SHGs and train them. Each SHG typically consists of a group of women/men members interested in accessing financial services including savings, credit insurance etc. Post the training, NGOs provided SHGs access to funds by linking them to banks which provided financial services (including thrift, credit, etc.) to them directly. NGOs’ role was to ensure financial discipline of the SHGs. Besides this, there were state government-run SHG programmes. Thus, microfinance in this phase was government-driven.

The microfinance sector started evolving with private sector participation leading to formation of microfinance institutions (MFIs.). The MFIs accessed bulk funds from banks and did on-lending to the end borrowers (either SHG members or JLG members ). From thereon, the microfinance activities were being implemented by the two channels including MFI model and SHG bank linkage model.

The RBI granted priority sector status to bank loans advanced MFIs in 2000-2001, following which, the microfinance sector witnessed rapid growth in the value of outstanding loans. The growth was mainly driven by the MFIs due to large scale availability of funding in terms of both debt and equity. The gross loan portfolio (GLP) grew at a CAGR of almost 50 per cent from Rs 71 billion in fiscal 2008 to around Rs. 235 billion in fiscal 2011. Andhra Pradesh (AP) was the largest state in terms of MFIs’ outstanding loans, accounting for around 30 per cent of the overall market in fiscal 2011. The AP state government ordinance in fiscal 2011 adversely impacted the business models of MFIs by impairing their growth, asset quality, profitability and solvency. The ordinance was an 

outcome of concerns regarding the usurious interest rates charged by MFIs and coercive collection mechanisms deployed by MFIs, in the event of default. This ordinance put in place extremely stringent operating guidelines, resulting in 34 per cent shrinkage of AP portfolio and ultimately leading to a y-o-y decline of almost 14 per cent in the industry in fiscal 2012.

Further, after the RBI released guidelines for MFIs in 2011, for–profit MFIs were to function as microfinance NBFCs, whereas non-for-profit institutions could operate through trusts or section 25 companies. NBFCs-MFI constitute a dominant share in the Indian microfinance industry of 88 percent.

Unorganised or informal sector constitutes a pivotal part of the Indian economy. More than 90 per cent of the workforce and about 50 per cent of the national product are accounted for by the informal economy.  Before the first five-year-plan began in 1951, almost all financial needs of rural sector vis-à-vis agriculture were provided by moneylenders. At that time, the RBI was very active in pursuing cooperative movements through a variety of initiatives.  Despite all those efforts, the provision of credit through cooperatives and commercial banks were to the extent of about four per cent of the total outstanding debt as at the end of June 1951.

Those in the rural credit market prefer to use informal sources of credit, despite the fact that the interest rates are much higher. Informal sources do not insist on punctual repayments as banks or cooperative societies do. 

Usually, it is possible to obtain loans for such purposes as marriage and litigation only from informal sources. There are generally no intricate and complicated rules governing the granting of loans by the village moneylenders and informal sources are willing to lend money more freely without collateral and on the borrower’s mere promise to repay.

In recent years, the informal credit has certainly declined as a percentage of total debt, and both professional and agricultural moneylenders have reduced their share  over time.  The decline in the share of moneylenders reflects in part the Government’s efforts to register and regulate professional moneylenders.

The RBI guidelines have been instrumental in restoring confidence in lenders and investors, improving the inflow of both equity and debt to the sector. The government, in Budget 2016, announced that it would set up the Micro Units Development and Refinance Agency (MUDRA), which will be a major driver for the MFI industry by serving as a regulator for MFIs and providing them refinancing services through a corpus of Rs 200 billion, while financing cooperative banks, MFIs, regional rural banks etc.