Microfinance rides into Dalal Street

An office earlier occupied by B. Ramalinga Raju, the disgraced Chairman of tech services vendor Satyam Computer Services, who is being investigated for the country's biggest accounting fraud, can hardly be a sought-after launch pad for an initial public offer, or IPO; that too an offering that is the first in its industry. But, when you are Vikram Akula, Founder and Chairperson, SKS Microfinance, you don't quite care.

For, your microlending business has grown at an annual 200 per cent clip since March 2007, income at Rs 554 crore has expanded 55 times, and people running it all for you—nearly 50 times to some 17,000 today from its initial days. You could use the entire 88,000 sq. ft. office to prepare for the hypergrowth ahead of you. (The new SKS office at Begumpet, the commercial hub of Hyderabad, is its fourth office since it set up shop; Satyam vacated it late last year.)

"SKS, along with other leading microfinance institutions, has demonstrated the ability to expand the customer base of microborrowers rapidly. SKS prides itself on adding 100,000 new clients each week. This is noteworthy, as most microfinance institutions in India and globally do not even have a total number of 100,000 clients," says Nancy M. Barry, former President of Women's World Banking, a global network of institutions led by women working in microfinance, and a respected industry expert.

It is with a great deal of interest then that SKS' proposed IPO, slated to raise an estimated Rs 1,000 crore, is being watched—it will be the first offer of shares by a microfinance firm in India and, indeed, among the few anywhere in the world. "This will surely be a watershed moment for microfinance in India as this would mean mainstream markets are willing to fund business models that are built on the premise that poor are credit-worthy," says S. Viswanatha Prasad, Founder of Caspian Advisors, an investment management and advisory services company, and Co-founder of The Bellwether Microfinance Fund.

Few proxies are available to compare SKS with (Mexico's Banco Compartamos trades at 18 times earnings, a discount to the broader Mexico Stock Exchange index), but going by consistent profitability for five successive years—and a sixth in the fiscal just gone by (2009-10) almost for sure—and a healthy one at that (earnings before tax running at 25 per cent-plus), the Hyderabad-headquartered microlender's share sale could have the makings of a successful capital raising.

"Financial inclusion is a rainbow opportunity," justifies Darpin Shah, a research analyst at Almondz Global Securities, a New Delhi financial firm. While he has not looked at SKS closely, he gives the examples of Shriram Transport Finance and Manappuram General Finance that today have 2-4 times net interest margins compared to traditional players that could even be the best in the banking space.

The SKS IPO promises its backers riches. Given that the aim is to raise at least around Rs 1,000 crore from the sale of some 16.79 million shares, the per share pricing could be around Rs 600 each if not more—a handsome exit for SKS funders like venture capital and private equity fund, Sequoia Capital India Llc II, whose average cost of acquiring 9 million shares in the microfinance firm, according to data in the SKS Draft Red Herring Prospectus, is under Rs 62 each. Or, even for backers such as Catamaran Management Services, a fund seeded by Infosys Technologies Founder N.R. Narayana Murthy, which acquired shares in SKS for Rs 300 each as recently as January this year.

Industry insiders say other microfinance players could be in line to tap equity markets in an effort to augment capital, following the SKS example. There are already nearly half a dozen big players in the Indian microfinance sector that could be potential IPO candidates—including BASIX, Spandana and SHARE Microfin, all three of which have the scale and scope to raise public capital.

Take BASIX, one of the earliest players in the industry with its beginnings going back to 1996, for example. The BASIX Group today has around Rs 1,100 crore outstandings and about Rs 800 crore disbursement. BASIX Founder and Chief Executive Officer, Vijay Mahajan, however, is not sure his organisation is of the size ideal for a share sale. "We are still some years away from IPO as it does not make sense to do an IPO of less than Rs 400-500 crore, which means existing capital should be Rs 800-1,000 crore. We are still at about Rs 250 crore capital." The SKS offering, he says, is a part of the natural evolution of a microlender (see Funding a Microfunder).

Post-IPO Worries
Experts are concerned about a lemmings-like phenomenon developing after the SKS share sale, especially if it is a wildly successful one. Barry, the microfinance expert, for instance, points to the hoopla around the Compartamos IPO in April 2007 and its consequences in Mexico. "It had the result of spawning the entry of many new actors looking to make a quick and large profit in financing the poor. Many of these new entrants have already failed and folded, with an adverse effect on the microfinance industry in Mexico," Barry says. The muted profitability of microlenders in India and their relatively lower interest rates (compared to Compartamos' 100 per cent when it first sold shares), she predicts, could limit such mania in India.

The industry is loud in its advocacy of the benefits of a public listing. Some see it as a fix to the problem of missing efficiency and transparency among microfinanciers in India, with little public regulation to keep a rein on them. "Transparency has at least two dimensions — with customers and with investors. Listing improves both, but mainly with investors. With customers, other actions are needed as embodied in MFIN code of conduct," says BASIX's Mahajan. MFIN, or short for Microfinance Institutions Network, refers to a self-regulatory organisation of some 35 microlenders.

The bigger impact could be public disclosures relating to the costs of running the microlending business, which critics have argued are still very high. The average interest rates of SKS, for instance, including servicing charges, rack up to about 28 per cent a year. This may be lower than the 40 per cent or more that informal money lenders or traders in villages charge but still remains high.

Will the listing of an microlender foster enough competition and see interest rates dropping? Vijayalakshmi Das, Chief Executive, Friends of Women's World Banking, India, an institution that funds microfinanciers, is not so sure. At the core of it, she says, is the direct relationship between profits of any business and investor returns. "Reduction of rates will reduce profit margins and that may not be acceptable (to investors). But we cannot say that today as it will need to be watched as much depends on the decisions of individual companies and the quantum of funds raised and invested," she says.

Most of the big microfinanciers in the country, including SKS, Spandana, SHARE Microfin, Bandhan, and Cashpor, among others, got crucial backing from Das' institution in their early days. Some others worry that the social goals that several or most microfinance institutions were set up for will be sacrificed in a focussed pursuit of profits. After the SKS IPO, "what will be watched is how it and others who take this route balance between profit maximisation for investors (a necessity for a publicly-traded company) and creating a social impact and ensuring the interests of the poor borrowers (the primary idea behind microfinance)," says Jayshree Vyas, MD, SEWA Bank, and the Chairperson of Sa-Dhan, a pan-India microfinance network.

After the IPO, some 41 per cent of SKS' equity will be owned by five promoter groups—Sequoia Capital; MBT, a trust representing beneficiary groups comprising women borrower members of SKS; Unitus; SKS Capital; and Akula himself. One aspect of the social impact that Vyas refers to is what companies such as SKS and SHARE Microfin have begun to do through what is known as crossselling or multi-product marketing, which have a bigger potential for changing lives faster in poverty-ridden India.

For instance, SHARE Microfin already makes money out of remittances and selling insurance products using the same distributor network it relies on for its microloans business. Founder and Managing Director M. Udaia Kumar told BT recently he plans to get into selling healthcare products. SKS has laid out a rural platform strategy to move it from a pure microcredit play to a rural distribution platform for a range of financial products and other goods. It already partners Bajaj Allianz on an insurance-cum-savings product for SKS borrowers. Others like the IFMR trust, which works towards financial inclusion, has designed a micro mutual fund product in partnership with ICICI Prudential in which low income customers can start investing with as less as one rupee.

SEWA Bank, along with Unit Trust of India Asset Management Company (UTI-AMC), offers a micropension scheme for the informal sector (daily wage earners, vegetable sellers and ragpickers). "It is difficult to predict whether the IPO will enable SKS to realise this broader multiproduct vision, or whether commercial investors will push SKS to focus on expanding its profitable microcredit operations— becoming narrower and less responsive to the financing and economic needs of low income clients," says Barry.

How the SKS IPO will guide other microfinance share sales in the market will be known in less than 12-18 months of its listing. But in the longer term, the road it chooses—social capital or pure financial capital—will find reverberations deep in the Indian hinterland for decades to come.