Indian Microfinance Sector and the companies in the sector

A brief note on Indian Micro Finance Sector:

The Indian micro finance sector has come a long way post the then united AP crisis involving SKS Micro finance. I strongly believe the time has come to invest into this sector as equity partners and be a part of its high growth phase. However, it is important to understand the risks that surround a micro finance company before investing money.

Firstly, let me start off with Risks:

1. Being vey low ticket loans, from INR 10000 to 100000 to 250000, majority being around 25000 INR, the companies serve the really needy people of very low income group. So, political risks exist, where to garner votes, Government may impose restrictions on collections. I personally believe this risk may become low as we progress as an economy.
2. Surprisingly, the net NPAs of most of the micro finance companies is “Zero”. Yes it is. This may be due to the way the loans are given, the business models (group lending, strict KYC norms, tiered lending etc)
3. Though net NPA levels are low, I think it is prudent to build in some NPAs into our models as any natural calamity would displace population and their ability to repay. So, geographic risk exists, but this risk can be mitigated by spreading the loan book across geography.
4. Too high a growth for the next 3-4 years. Yes, most of the MFIs are looking to grow anywhere between 40% to 70% CAGR until 2019. Such high growth will bring in its own associated risks.
5. To be able to grow at such rates, capital infusion at regular intervals is necessary and so companies should be able to secure equity partners else growth is a problem
6. This may lead to equity dilution in order to maintain CAR and though book value might increase if NPAs increase alarmingly the RoE may not scale back to pre-dilution levels.
7. South markets are mostly saturated while North is relatively under penetrated.
8. I’m sure there could be some more risks but I think the above are important risks.

Post the AP crisis, RBI played an active role in formulating regulations, credit bureaus are formed providing customer credit scores to the MFIs who subscribe to these agencies for a fee (X INR per query).

Largest 4 Players in the sector:

SKS Microfinance: South and West: Rural focussed: Listed.
Janalakshmi Microfinance: Pan India: Urban focussed: Unlisted.
Ujjivan microfinance: Pan India: Urban & Semi Urban: Unlisted.
Satin Creditcare network: North India: Rural only. Listed.

There are about 13 NBFC-MFI players pan India which have some scale, of which the largest one Bandhan got Universal Bank license and so is not an NBFC-MFI anymore. So, out of the remaining 12, the above 4 are the largest in terms of AUM in that order. Loans are mostly given for ‘income generation’ activities and not for consumption! It is important to have an eye on this metric if possible as any loan given for consumption would have higher delinquency. A typical loan seeker would be someone with a small automobile parts store, a vegetable vendor, a tailor, someone who wants to expand his small business.

Other Key points:

1. ONLY 2 out of 12 players are listed on Indian stock exchanges and so there will be a scarcity premium attributed for anyone who wants to invest in this sector. Over the next few years, I think the other MFIs would get listed on exchanges and the older players might start to get good valuations.
2. The ultimate destination for these MFIs could be to become a Universal Bank on the lines of Bandhan, Yes bank, Kotak etc. but by then these players would have attained scale.
3. While becoming a bank may reduce political risks as they come under RBI ambit completely and not under local political whims, becoming bank itself will bring in the statutory requirements, initial set up capex etc.
4. Getting a loan from MFI though a time consuming initially, is much better than securing loans from loan sharks who charge atrociously high interest and are not under RBI’s ambit.
5. Huge opportunity as more people move away from loan sharks and move towards MFIs. Better economic activity, GDP growth should provide the required tailwind as well.
6. Microfinance is not a new concept limited to India or to developing countries, it is equally applicable to developed nations where even now there is a set of people unserved by mainstream banks. Recently read about a paypal employee quitting company to set up an MFI in USA and becoming hugely successful.
7. The NIMs are high and the maximum interest spread is capped at 10% by RBI. So, the NIMs are very high compared to NBFCs and banks and so should command better risk adjusted valuations.
8. Due to low ticket size, the client bases are huge, the largest MFI has a client base of more than 2 million.
9. Banks, NCDs, ECBs, other financial institutions are the major source of debt funding while banks still make up the largest source by far.
10. Some MFIs like Satin have other fee based income sources like providing insurance on loans taken, LAP etc. but still do not form significant portion of profits yet but provide nice cushion for PAT growth.
11. Also, the size of loan increases as the customer pays off the previous low value loan. To start with the loan sanctioned would be 15000 INR and if this is re-paid successfully, the loan size would increase to let’s say 30000 INR. This is a very good business model.
12. One customer can avail loan from 2 MFIs only. So circular loans is not possible – revolving loans – take loan from one and pay other continuously. Here the credit bureaus play an important role. So, the data of these bureaus must be updated as we progress.
13. Loan is also provided to customers who have government provided ID cards like ration cards etc. The loan tenure is typically 1 to 2 years and repayment is either daily, weekly, bi-weekly, monthly as per mutual agreement.

Satin Creditcare Network

While each MFI has it’s own strengths and weaknesses, let me concentrate on Satin Creditcare Network as this intrigued my interest based on the below points and so I went digging deeper into the company to evaluate if it is investment grade or not:

The above points made me bullish on the sector as a whole and was looking to invest. However, as pointed out earlier, we have limited choice. It is either SKS or Satin Creditcare Network. SKS is anyway widely covered by analyst community. Satin got listed recently in both BSE and NSE and so is undiscovered.

1. Satin is the largest player in North India which is under-penetrated compared to South and so huge opportunity size.
2. 25 years of history starting with loans to people to buy generator sets and has steadily grown over the years with best risk management systems in place and prudent lending practices.
3. During initial states, the promoter himself personally vetted each application before providing loans. He is a first generation entrepreneur, Harvinder Pal Singh with growth oriented focus and highly qualified (CA and Wharton management course). The promoter is hands on and very experienced in the industry and well respected for his views.
4. Managed to keep promoter’s stake at 35% even others like Ujjivan (promoter stake of 1% only) have diluted own stake. High promoter stake means he has continuously put his own money as well along with other equity partners. High promoter stake inspires trust though it may come down with further equity placements.
5. Has very good fundamental and strong PE investors backing the company – Danish micro finance partners, a Danish Government company, SBI FMO (not our State bank), ShoreCap, NMI Fund etc.
6. High operational efficiency – 6.2% (Opex/AUM%). RoE of 19% in FY 15, RoA of around 1.6. The metrics should improve as the company gets bigger.
7. CARE rating of BBB+, raised rating for consecutive years. As the company grows, the ratings should improve. I believe due to its current rating the cost of funds are higher than Ujjivan and Janalakshmi. By Fy17, the ratings would likely catch up with peers providing the cost of funds reduction.
8. Diversified loan book across 11 states around. Net NPA of “Zero” for past 2 years.
   Looking to grow its AUM from current 2150 crore to 13300 crore by FY19. This was what intrigued me into reading about MFIs and the company in particular and as per my research, this growth is indeed possible!
9. Average ticket size of 22000 INR and should grow aiding AUM growth. Top player in UP and MP. Total of 22500 villages covered with 1.2 million customers.
   The moat for the company in my opinion is it is looking to go deeper into rural areas and cover the population while other MFIs are looking to grow covering urban populace. Though Satin might have higher OPEX, it would have better spreads and lower NPAs as the real rural people are better payers of their EMIs due to peer pressure and strong local/community bondage. Satin has a better understanding as well due to its 25 years of experience in this field.
10. The management is confident of AUM growth. 6 times in 3 years approximately.
11. The distribution channels, company collection officers, collection process, already invested in scalable IT systems ready for future growth, the management expertise, strong PE investors would help company scale up.
12. Majority of Satin customers are women. Mostly women tend to work to augment family’s income and to provide good education to her kids.
13. Majority of Satin’s loans are for agri related, animal husbandry, trade and services.
14. Relatively inexpensive valuations when compared to SKS, the only listed player. My own metric is based on Market Cap/AUM. While it is about 1 times for SKS, it is about 0.5 for Satin. 15. I believe Satin deserves better valuation when compared to SKS owing to its better growth prospects, better managed portfolio, risks, play in North market which has less competition, rural play, prospect of improving its credit rating fro BBB+ to A over a period of time and thus reducing its cost of funds.
15. Almost 85% is with promoter (35%) and PE players (~50%). So, the floating stock is really less. This should help in scarcity premium and richer valuations.

The above notes point to some of the the unique prepositions that Satin offers under MFI companies for investors.

This note has been taken completely from the documents available online (attached) and I have put in my perspective based on my own subjective understanding of the documents. The attached documents would give much better in depth information.

NOTE: This thread is intended for discussions related to micro finance. I have included notes related to Satin also as this is how I made my personal notes and is in sync with thought process. Let’s continue Satin related discussion in its dedicated thread, linked here.

This is to start off with, let’s collaborate further and discuss the micro finance sector per se.

Disclosure: I hold the shares in Satin Creditcare and is about 10% of my portfolio. This is not a buy/sell recommendation. Do your own due diligence.

Must read on the Indian Microfinance sector by Religare. Must appreciate the work done by them.

India Microfinance – Sector Report 19Aug15.pdf (3.0 MB)

Satin Investor Presentation:

Satin_Creditcare_Investor_Presentation.pdf (1.2 MB)

IMFR document on Satin Unique preposition (Old document)

case-study-satin-creditcare-network-limited-unique-in-its-field-2006.pdf (320.8 KB)