Microfinance:

Asset class through Vivriti’s lens

November 13, 2018

Next 45 minutes..

❑ What holds the microfinance model

❑ Truth vs. Hype – addressing key questions through data

❑ Key risks in the sector and unit of risk going forward

❑ Future of microfinance – the Vivriti Outlook

2
Snapshot of Microfinance
Adjusting for SFB conversions, client acquisition is highest for NBFC-MFIs, further re-
emphasising that this vehicle is best used for dissemination of micro credit

Category wise split '000s crore Change in portfolio quality over last year
160 148 35,000 12.0%
137 10.7%
140 30,000 Incidence of fresh PAR reducing
10.0%
120 107 25,000 in each quarter
100 8.0% 6.7%
20,000
80 6.0% 4.4%
58 15,000
60 50 45 45 48 3.6% 3.2% 2.6%
41 4.0% 2.7% 2.8%
40 30 31 10,000 2.1%
14 2.0%
20 6 10 10 1 1 1
5,000
0 0 0.0%
Overall Banks NBFC-MFI SFB NBFCs Non Profit Jun-17 Mar-18 Jun-18
Mar-17 Mar-18 Jun-18 Average ticket PAR 30 PAR 90 PAR 180

Leverage by NBFC AUM category Larger NBFC-MFIs enjoy Return on Average Managed Advances
7.0 better capitalization*
8.0%
6.0 6.0%
4.0%
5.0
2.0%
4.0 0.0%
-2.0% FY16 FY17 FY18 Q1FY19
3.0
FY16 FY17 FY18 Q1FY19 -4.0%
< 500 500-1000 1000-2000 >2000 < 500 500-1000 1000-2000 >2000

* Excludes SFB as they largely rely on deposits; Source – MFIN data – Vivriti Research
What holds the model now

The New Normal Self-Selection of borrowers (social collateral)

Client filtration using quasi-Credit mechanisms

Operating Risk Management

Regimental discipline for client touch-point (collections)

Data Digitisation for faster TAT and lesser inefficiency

Central oversight of expansion

Organisational Risk Management Asset diversification & Top-line supplementing

Liabilities – De-Risking and better control over Leverage

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Truth vs. Hype

Addressing key questions through data

1. Market for microfinance has saturated
 Microfinance market opportunity estimated at Rs. 5.5 lakh crore

Current market size – Rs. 2.23 lakh crore (SHG and MFI credit) Saturated? Yes No

3 yr CAGR SHG 14% 3 yr CAGR Banks and NBFCs 44%

Our market estimate

Eligible borrowers* Average loan o/s. Market opportunity

180 Mn * Rs. 30,000 = 5.5 lakh crore

• Market expected to expand at a CAGR of 35% over the next 3 years; ~25% expansion in customers & 10% expansion in ticket
size is likely

• Within the lender universe, NBFC-MFIs are expected to grow the fastest as they are well positioned on most fronts – capital,
regulation, customer servicing and proximity to growth pockets

• For the next 3 yrs, growth will be driven more by client acquisition than ticket size; competition and pressures on customer
retention will continue to incrementally increase loan ticket size

Source: Vivriti estimates, research, credit bureau data and MFIN publications
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 Rural penetration and access to capital will drive growth moving forward

Key growth drivers Market penetration opportunity Continued access to debt and equity

• Higher demand for micro credit is • Only a third of eligible borrowers are • Strong regulatory framework with
likely from rural India on the back of active currently; presents scope for dual supervision – RBI and MFIN has
increasing economic activity further penetration aided access to growth capital

• Rural and semi-urban portfolio
growth in microfinance higher than
urban by 51.93%
• With rural growth rates across
automobile and consumption
outpacing that of urban, this will
drive the next phase of growth
• Increasing ticket sizes can widen the
borrower universe moving forward
• 50% of pin codes in the country today
do not have lenders’ presence
• Equity of over Rs. 3,500 crore has
gone into NBFC-MFIs over the last 2
years
• Availability of alternative sources of
liabilities including securitization offer
additional liabilities cushion

NBFC MFIs are best positioned to ride the growth story on account of a superior ability to acquire
and service customers across these growth pockets, an enabling regulatory framework and a
proven operating model

Source: Vivriti estimates, research and credit bureau data

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2. Customers are overleveraged, as competition has forced lenders to go
after the same customer
 Market expansion driven by expanding customer universe along with ticket sizes
Overleveraged? Yes No

Live customers in Mn
70 64 66
22% CAGR
• Competition has intensified across States - # of 60 55
50
active lenders has been on the rise 50
40 35
• Market expansion over the last 3 years driven by 30
increase in customers & increase in loan ticket size 20

– points towards a 35% annual growth moving 10

0
forward Mar-15 Mar-16 Mar-17 Mar-18 Jul-18

• Increasing adoption of a “client view” will keep Average loan ticket size
indebtedness under check 25,000
11% CAGR
20,000
• Stronger independent credit checks and
15,000
assessment of spouse indebtedness are being
used by NBFC-MFIs to manage indebtedness at a 10,000
household level 5,000

Sep-15

Sep-16

Sep-17
Mar-15

Mar-16

Mar-17

Mar-18
Dec-15

Dec-16

Dec-17
Jun-15

Jun-16

Jun-17

Jun-18
Source: Vivriti estimates, research, MFIN publications and credit bureau data
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3. Overheating likely in states/pockets of aggressive disbursements
 ~15 states have seen portfolio growth of over 50% over a 12 month period

Overheating? Yes No
J&K
Jun’18- State Wise- Total Principal 23.11% POS Growth- Microfinance- Jun’18
J&K
5.28 Cr Outstanding over Jun’17
HP
58%
HP PB
PB 43 Cr 48.5% UK
2311 Cr UK 16.1%
HR
848 Cr 27%
HR
2234 Cr
AS
AS RJ UP 74%
RJ UP 8778 84.80% 27.08%
9678 Cr BH
4362 Cr BH
12129 Cr
50%

GJ MP JH
JH WB
GJ 2847 WB 31% 47.42% 50% 43.5%
MP CH
4306 Cr Cr 21244
8430 Cr Cr 57%
CH
2636 Cr OD Expansion seen across
OD 66.7%
8961 Cr MH States in the East
MH 24.78%
11453 Cr TL
TL
2653 Cr 5.16%
Portfolio Degrowth
AP 0.00%
AP KA
29% 4.09% 10.00%
3712
KA Cr 25.00%
13619 Cr 50.00%
100.00%
TN TN
14989 Cr
45.47%

Source: Equifax pincode reports

 Odisha market snapshot – Market expansion driven by customer additions and not indebtedness

Mar-17: No of MFIs operating Mar-18: No of MFIs operating Jun-18: No of MFIs operating

20000 20000 20000

25000 25000 25000
30000 30000 30000

Mar-17: Loan Ticket Size: Client Level Mar-18: Loan Ticket Size: Client Level Jun-18: Loan Ticket Size: Client Level
Increase in presence of MFIs in the region has not moved indebtedness in a meaningful manner; Deeply penetrated markets present
room for customer expansion
Source: Equifax pincode reports
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 Bihar market snapshot – Market expansion driven by customer additions and not indebtedness

Mar-17: No of MFIs operating Mar-18: No of MFIs operating Jun-18: No of MFIs operating

20000 20000 20000

25000 25000 25000
30000 30000 30000
Mar-17: Loan Ticket Size: Client Level Mar-18: Loan Ticket Size: Client Level Jun-18: Loan Ticket Size: Client Level
Increase in presence of MFIs in the region has not moved indebtedness in a meaningful manner; Deeply penetrated markets present
room for customer expansion
Source: Equifax pincode reports
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4. Microfinance portfolio behaves adversely around elections and loan
waivers
 No deterioration in portfolio observed during elections
Build Up to Gujarat Elections (Dec 2017)
Elections affect MFI portfolio adversely? Yes No

Build Up to West Bengal Elections (May 2016) Post West Bengal Elections (May 2016)

Total PAR 0 : Degrowth of -68.98% Total PAR 0 : Degrowth of -3.17%

PAR 0 Growth/Degrowth

-15.00%
-5.00%
5.00%
15.00%

Total PAR 0 : Degrowth of -13.96%

Post Gujarat Elections (Dec 2017)

PAR 0 Growth/Degrowth

-15.00%
-5.00%
5.00%
15.00%

Total PAR 0 : Degrowth of -5.27%

Source: Equifax pincode reports and Vivriti research
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 No deterioration in portfolio observed during loan waivers
Agriculture loan waivers affect MFI portfolio adversely? Yes No
PAR 0 Growth/Degrowth - Post Uttar Pradesh Loan Waiver (Apr 2017) PAR 0 Growth/Degrowth - Post Maharashtra Loan Waiver (Jun 2017)

Total PAR 0 : Degrowth of - 8.84%

Total PAR 0 : Degrowth of - 27.17%

PAR 0 Growth/Degrowth

-15.00%
-5.00%
5.00%
15.00%

PAR 0 Growth/Degrowth

-15.00%
-5.00%
5.00%
15.00%

Source: Equifax pincode reports and Vivriti research

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5. Microfinance portfolio is always vulnerable to natural calamities
 Negligible portfolio slippages and swift recovery seen in cases of natural calamity
PAR 0 : Vivriti Capital Pools: Kerala Floods PAR 30 : Vivriti Capital Pools: Kerala Floods Adverse impact on portfolio Yes No
Event – Aug 2018 Chennai Floods- Impact on MFI Portfolio
3.00% Event - Dec 2015

2.50% 2.45%

2.00% 1.84%

1.50%
1.00%
1.00%

0.50%

0.00% 0.00% 0.00%

20.00% 20.00% Immediately Post Flood 3 Months Post Flood 6 Months Post Flood
40.00% 40.00%
60.00% 60.00%
Bihar Floods- Impact on MFI Portfolio
3.00%
i.e. Only 5.75% of customers who were repaying timely missed one instalment 2.45% Event – Aug 2017
2.50%
Initial State ↓ Final State → 2.00% 1.84%
0 1 2 3 4 1.50%
1.00%
0 94.25% 5.75% 0% 0% 0% 1.00%
1 17.24% 77.98% 4.28% 0% 0% 0.50%
2 1.76% 17.23% 45.18% 35.82% 0% 0.00%
3 25% 0% 12.50% 0% 62.50% Immediately Post 3 Months Post Flood 6 Months Post Flood
Source: Equifax pincode reports and Vivriti research Flood 19
6. Lenders have lost money in Microfinance
 Performance trends in Microfinance
Lenders have lost money in the last 5 yrs Yes No Microfinance ABS- Rating Actions last 5 years
70.00% 62.50% Source – Rating Agencies Press Release

• No MFI has defaulted on on-balance sheet capital market instrument 60.00%

since AP ordinance in 2010 50.00%
40.00% 33.95%
• While few ABS transactions during peak demonetization period have
been downgraded to Default [D (SO)], there was recovery observed in 30.00%
few of these transactions and ratings were subsequently withdrawn 20.00%
10.00% 3.55%
• The write-off protection available to investors in ABS transactions
0.00%
continues to remain at 20%+ levels- similar to pre demonetization period
Upgrade Downgrade Stable

Microfinance Balance Sheet- Rating Actions – last 5 years Average Write Off Protection- MFI ABS Transactions
90.00% 25.00% Source – Rating Agencies Performance Report
82.38%
80.00%
24.00%
70.00%
60.00% 23.00%
50.00%
40.00% 22.00%
30.00% 21.00%
20.00% 14.23%

21.78%
21.68%

21.23%

20.79%

24.17%
10.00% 3.40% 20.00%
0.00%
19.00%
Upgrade Downgrade Reaffirmed
Q1 CY 2016 Q2 CY 2016 Q3 CY 2016 Q4 CY 2016 Post CY 16

Source: Vivriti research, rating agency data and research

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Key risks in the sector & unit of risk moving forward
 Future unit of risk to include a mix of internal and external variables

Vested Interest KYC

Impact across
Cash
MFI lenders
Socio
Operational
political
Localised events Underwriting

Stakeholder People &

engagement Process

Source: Vivriti research

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 How the sector has managed Operating Risks

KYC People and Process Management Cash Management

• Even though UID based eKYC
redundant, data digitisation through
QR code reading is not impacted
• Aadhar still predominant KYC –
probability of voluntary refusal low
• KYC Fraud in microfinance at
significantly lower probability than
earlier
• Increased focus on staff and group
development - induction and
refresher trainings, borrower
education
• Use of technology for better
screening and monitoring – geo
tagging, borrower and staff discipline,
intelligent data gathering
• Effective use of CB data, view on
household debt
• Risks reduced, with move towards
cashless disbursements (87%
Q1FY19)
• Cashless collections initiatives
contingent on bank account
penetration. Will take time
• Daily cash balance reconciliation has
been a reality in microfinance sector
for more than 5 years now

• Technology and people driven industry, maintaining opex key

• Employee expenses account for 70-75% of the overall costs

• Combination of the above factors has led to 50-60% reduction in OER

for a sample of 20 MFIs since 2010

Source: Vivriti research

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 How to mitigate losses from Event Risk?

Geographical Diversification BS loss absorption capability

• Mitigates exposure to localised • Average losses for a sample of 20

event risks MFIs, over a 5 year period have
been c. 2%
• Diversification at not just State, but
pincode, village and district level • Average leverage of the same
sample has been at 5.2x in the
• Invest in capability building and period
move outside comfort zone
• Demonetisation was an example of
• More PAN India players likely. Even an event that exaggerated losses.
those with a regional presence will
do well to diversify granularly • Stronger BS to absorb losses
necessitates higher equity
requirement

Source: Vivriti research

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Future of Microfinance
 SFBs are in a transitory phase with both assets and liabilities
Key constituents of SFB asset profile
• Liabilities strategy of most SFBs is similar – mass-affluent
customers for retail and co-operatives/Government institutions JLG (85- Predominant assets through
for bulk deposits 90%) JLG for most SFBs

• Access to capital markets through CD issuances likely to pick up Secured Business

MSME
over the next few years loans next big bet

• Improving deposits franchise will feed into product Vehicle

diversification outside of JLG – Erstwhile NBFC-MFIs converted 2W and CV finding favour
Finance
to SFBs have demonstrated deposits growth, however not
from their core asset customers Gold, Housing
Finance & Others
Data on 5 SFBs who were previously focused on MFI, wholesale lending
and 4 private sector banks
• The largest SFBs have significantly diversified away from JLG and
Deposits to advances
others are following suit
SFBs Private banks
150% • Dearth of sticky deposit base makes longer tenor assets difficult to
115% 112% experiment with; asset diversification becomes dependent on
100% expansion of the liabilities franchise
60%
50% 30% • In diversification to SME-LAP, HF, CV; SFBs seem to be jumping
segment and catering to a more “prime” segment
0% • Will grow faster with stable credit costs – but can it
Sep-17 Jun-18 overshadow the JLG business
Source: Vivriti research, Investor presentations and publications • Will JLG be rendered as the PSL balancer?
 Increased credit focus in the Group Model

• Client view to be the key differentiator in MFI going forward – driven by 3C’s • Data digitisation &
Analytics key for
meaningful growth
Analytics in granular decisions – on
expansion, area selection to product Central Oversight • Geographical
design and risk management. Move
to a big data approach diversification key – at
the cost of Opex
• Better capitalisation key

Quality
Client Growth Client
Retention Assessment

Maximising wallet share at Client level Intelligent data capturing to feed into
– initiatives include giving clients a underwriting for multiple products
better and direct interface, loyalty upfront
programme – like approach. Move away from Loan Cycle as a
Pricing power to retain clients. surrogate for underwriting
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 Growth capital - Equity interest in the sector continues to be robust

• Historically Early and Growth stage equity investment has been fuelled primarily by Development focussed funds.
• Investments by this category of investor has waned in recent years – although is showing signs of revival. This is good for small MFIs

• Mainstream PEs invest in late stage companies. The valuation on offer and pool of capital here will be highest, but these
investors will be very selective.
• Aside from the below – Consolidation by Banks and IPO market continues to hold significant possibilities for MFIs and
SFBs
Equity Investment 2010 – 2018 (in USD m) Investor Type at Different Stages of Growth
600 120.00%

500 100.00%

400 80.00%

300 60.00%

200 40.00%

100 20.00%

0 0.00%
2010 2011 2012 2013 2014 2015 2016 2017 2018 Buyout Early Growth Late PIPE Pre-IPO

DFI HNI Multi-Lat PE VC DFI HNI PE VC Multi-Lat

Source: Vivriti research and deals data

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 The Vivriti Outlook
Controlled aggression is key
• High growth in the next 2
years
• NBFC-MFIs will continue to
acquire clients faster than
others.
• Those who will also work
towards credit and client
retention, will rise above the
pack – attract better
valuations
• A tightly run distribution unit
will remain a key target for
acquisition by banks and
NBFCs
Technology will impact both Growth and Risk
Technology Management
Intelligent data gathering, Data Analytics will be key
Equity investors will be increasingly selective. PEs
will look for differentiation. DFIs will look beyond
Access to
impact.
Capital Value driven by – ability to enhance ROE (off-
balance sheet and product diversification) and
potential future banking play
Event Risk continues to be the biggest challenge
Risk facing the sector, although an event is unlikely to
take an MFI down.
Mitigation possible through diversification of
operations, diversification of products and tighter
control of people and processes
Thank You..!!
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