India's Microfinance Clampdown May Trigger Failures, World Bank Aide Says

(Corrects to say Srinivasan consults for World Bank in first paragraph.)

A quarter of Indian microfinance companies may fail after a clampdown last month in their biggest market pared debt payments and curtailed bank financing, said N. Srinivasan, who consults for organizations including the World Bank and the Asian Development Bank.

As many as 60 to 70 of the nation’s 260 microfinance institutions are likely to collapse in coming months as banks halt lending to them to curb risks, Srinivasan said in an interview Nov. 19 in New Delhi. That would have a “devastating effect” on the poorest borrowers in remote regions, he said.

Lending and collections by micro-lenders have ground to a near halt in southern Andhra Pradesh state after the local government introduced new rules in mid-October aimed at protecting borrowers. A slump in microfinance loans may trigger a chain reaction of defaults by borrowers with multiple debts, Srinivasan said.

“Multiple loans help people manage money, like juggling balls,” he said, adding that every poor household in Andhra Pradesh has 9.6 microfinance-loan accounts on average. “What’s happening is that right in the middle of it, you remove a ball. Suddenly there is no ball to throw.”

Andhra Pradesh, the largest market for most micro-lenders, on Oct. 15 capped interest rates that companies can charge and ordered them to collect payments monthly rather than weekly. It also barred them from using coercive measures to force borrowers to repay debt.

Straining Capital

The move led to a slump in micro-lenders’ cash flows, strained capital levels and spooked banks, which account for most of their funding needs. Microfinance companies are seeking 10 billion rupees ($221 million) from banks for a liquidity fund, Vijay Mahajan, head of a lobbying group that represents about 44 micro-lenders, said Nov. 16 in New Delhi.

The new rules sent shares of SKS Microfinance Ltd., the largest such lender in the nation, plummeting 47 percent before Chairman Vikram Akula said on Nov. 19 that the firm had received bank funding and didn’t have a cash shortage. The comments helped shares of SKS, more than a quarter of whose loans are in Andhra Pradesh, rally 5.4 percent that day.

Rival Share Microfin Ltd., backed by New Zealand billionaire Christopher Chandler, plans to delay an initial public offering until customers restart payments and state and central governments deal with the current upheaval. Banks need to regain confidence in the companies’ operations, M. Udaia Kumar, its managing director, said in a Nov. 18 interview.

‘Trickle-Down Effect’

“Even if a single MFI defaults, it might have a trickle- down effect on the entire sector,” he said. “Institutions with stronger net worth have a possibility of survival for a period of time.”

Share Microfin, based in Andhra Pradesh’s capital of Hyderabad, had planned to raise 10 billion rupees in early 2011.

Spandana Sphoorty Financial Ltd., India’s second-largest microfinance company, will indefinitely postpone an initial public offer after the clampdown in Andhra Pradesh nearly halted loan payments and disbursals, said founder and Managing Director Padmaja Reddy.

“I don’t think this is the time for us to go to the market,” Reddy said in a telephone interview today. The state accounts for 49 percent of Spandana’s outstanding loans.

Twelve micro-lenders, including SKS Microfinance and Spandana, could see a debt downgrade, Crisil Ltd. said in a note today. The fallout from Andhra Pradesh may permanently impair lenders’ profitability and fund-raising, said Crisil, the Indian arm of Standard & Poor’s.

Nobel Prize

Microfinance, which focuses on loans in poor areas largely shut out from traditional banking services, gained prominence globally when Muhammad Yunus won the Nobel Peace Prize in 2006 for his role in founding Bangladesh’s Grameen Bank. India, where banking services are available in about 5 percent of cities and towns, is the largest market for such credits.

India’s micro-lending has expanded at an average annual rate of 62 percent over the past five years in terms of number of customers, and 88 percent in terms of credit, according to Micro-Credit Ratings International Ltd., a Gurgaon, India-based rating company for the industry.

A shortage of microfinance funding may force borrowers to turn to moneylenders, said Dipak Gupta, executive director of Mumbai-based Kotak Mahindra Bank Ltd. These unauthorized lenders operate outside the formal credit-delivery system and charge usurious interest rates.

‘Back to the Moneylender’

“Money has stopped and a borrower is used to getting that money and circulating it,” he said. “If you don’t create an alternate system or don’t allow the system to rotate, he will go back to the moneylender.”

SKS, whose stakeholders include George Soros, has received 3.67 billion rupees from eight lenders including Axis Bank Ltd. in the past two weeks, Chief Financial Officer Dilli Raj said on Nov. 19 from Hyderabad, where the company is based.

Axis, India’s fourth-largest lender by market value, is awaiting a report by a committee set up by the central bank last month to review concerns about the microfinance industry, CFO Somnath Sengupta said.

The report, due in January, “will be the guiding principles for lending to the sector,” he said in an interview on Nov. 19. “We will continue to be prudent. There is no reason to panic.”

Axis’s loans outstanding to microfinance companies account for about 1 percent of the total, he said.

Still, the industry is bracing for consolidation, said Mahajan, who is also chairman of Hyderabad-based microfinance company Basix Group.

“We could see casualties among small microfinance institutions,” he said.

To contact the reporter on this story: Yoolim Lee in Singapore at yoolim@bloomberg.net; George Smith Alexander in Mumbai galexander11@bloomberg.net

To contact the editor responsible for this story: Michael Serrill at mserrill@bloomberg.net; Jeffrey St.Onge jstonge@bloomberg.net

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