Microfinance Industry Witnesses Double-digit Growth Driven by NBFCs

June 4, 2024
Updated on

The microfinance industry is undergoing significant growth driven by various factors. Primarily, microfinance serves as a catalyst for financial inclusion, providing essential financial services to individuals excluded from traditional banking systems. As of March 31, 2023, India’s microfinance sector had catered to 66 million borrowers, accumulating an outstanding loan portfolio of INR 3,48,339 crore across various states. By June-end, the microfinance sector experienced a notable 21% growth in its portfolio, reaching ₹3,58,700 crore compared to ₹2,96,487 crore in the same period of the previous year. This, in turn, is empowering economically vulnerable communities to initiate or expand small businesses, break the cycle of poverty, and enhance overall financial well-being.

Government support, seen in favorable policies and regulatory frameworks, further contributes to the sector’s expansion. Microfinance also aligns with poverty alleviation goals, allowing low-income individuals to invest in income-generating activities. The integration of technology has played a pivotal role, enabling microfinance institutions (MFIs) to reach remote areas, reduce transaction costs, and enhance accessibility. Additionally, investor interest, including support from impact investors, philanthropic organizations, and the broader financial community, has infused the microfinance sector with funding, further fueling its growth. A resilient response to challenges, adaptability to changing economic conditions, and a commitment to responsible lending practices have collectively positioned the microfinance industry as a driver of economic development and financial inclusion.

What are MFIs?

MFIs are financial entities that offer modest loans to individuals lacking access to traditional banking services. The threshold for what constitutes “small loans” varies from one country to another. In the Indian context, any loan below Rs. 1 lakh is classified as a microloan. This sector has been witnessing a growth spurt, as evidenced by the fact that the first quarter of FY 2023-24 saw a portfolio increase of over ₹7,000 crores. Total disbursement by all lenders during this quarter increased by 30% year-on-year, reaching ₹76,274 crore. Bihar, Tamil Nadu, Uttar Pradesh, Karnataka, and West Bengal led in disbursement, constituting 59% of the total. For-profit lenders, including small finance banks, non-banking finance companies (NBFCs), and NBFC-Micro Finance Institutions, recorded significant year-on-year portfolio growth. However, not-for-profit MFIs experienced a 64% contraction, attributed to regulatory changes.

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Sustained Growth in the Microfinance Industry

Sa-Dhan, the industry body, reported that the microfinance sector is sustaining its growth momentum from the previous fiscal year. Despite the typically slow first quarter, the industry performed well, indicating a positive outlook for the year. Asset quality was reported as excellent, matching or surpassing pre-Covid levels. NBFC-MFIs led in disbursements, contributing ₹32,356 crore, with banks closely following at ₹24,511 crore. The industry saw a growth in the number of loan accounts, reaching 14.08 crore in Q1 of FY 23-24, an 11% year-on-year increase. In terms of market share, NBFC-MFIs accounted for the largest share at 41.28%, followed by banks at 31.98%. The sector’s positive trajectory is attributed to improved regulatory frameworks and increased interest from lenders and investors. However, there are local challenges, including efforts to mislead vulnerable populations, emphasizing the need for vigilance by law enforcement agencies.

The role of NBFCs in driving Microfinance Industry Growth

The Microfinance Industry Network (MFIN), an industry body representing microfinance institutions in India, reported that NBFCs are the leading providers of micro-credit, contributing 39.7% of the total industry portfolio with a loan outstanding of Rs 1,38,310 crore as of March 31, 2023. Banks hold the second-largest share at 34.2%, with a total outstanding of Rs 1,19,133 crore, while Small Finance Banks (SFBs) account for 16.6% with Rs 57,828 crore. The MFI sector, with a total portfolio of Rs 3,48,339 crore at the end of the last fiscal year, is deemed to have significant growth potential, estimated at around Rs 13 lakh crore in the current fiscal year (2023-24) by MFIN. The report highlights the sector’s post-Covid recovery in funding, portfolio quality, and client additions, emphasizing the importance of a strategy to maintain client connections through center meetings alongside digital processes to uphold high collection efficiency ratios. According to MFIN, new regulations have strengthened governance in microfinance operations.

Continued trend of Microfinance Industry Growth

The microfinance industry is anticipated to sustain strong double-digit growth in FY24 after overcoming challenges from the Covid-19 pandemic in FY21. NBFC-MFIs have outpaced banks, constituting 40% of total outstanding microfinance loans as of March 31, 2023. A CareEdge report suggests the industry may achieve a healthy loan growth of about 28% in FY24 for NBFC-MFIs. The removal of the lending rate cap by the Reserve Bank of India has allowed for risk-based pricing, boosting net interest margins (NIMs) and increasing returns on total assets (RoTA). Despite a decline in credit costs from FY21, they remain higher than pre-Covid levels. NIMs are expected to improve, leading to a rise in RoTA to approximately 3.8% for FY24. While asset quality is improving, it remains moderate compared to pre-Covid levels due to additional slippages from the restructured portfolio. NBFC-MFIs raised ₹3,000 crore of equity in FY23, indicating renewed investor interest. However, potential risks include increasing customer indebtedness, larger average ticket size, and a shift from group loans to individual loans, leading to overleveraging. Additionally, the industry faces event-based risks, such as political and geographical uncertainties, susceptibility to natural calamities, and dependence on global macroeconomic conditions and support from impact funds and PE investors. Bihar, Tamil Nadu, Uttar Pradesh, Karnataka, and West Bengal are the top five states in terms of assets under management.

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