Micro-Finance To Face Slow Painful Death. SKS Share to enter Free Fall. Sell, Sell, Sell!

SKS, the Indian micro-finance giant’s IPO was supposed to signal the coming of age of  micro-finance (MF). Instead, it contained the seed for the destruction of the entire industry. Their Rs 10 share on listing attracted a premium of Rs 975 and such was the investor confidence, it touched a high of Rs 1,490 in a matter of days.

Then hell broke loose with the industry hit by charges of them profiteering and causing farmer suicides. Its reverberations were so strong that it had been felt by the industry all over the world. The stock plunged to Rs 890 before recovering to be a tad over its listing price and hovering around this range for the last one week.

Much water has flown under the bridge since. The script is presently very weak both technically and fundamentally.

Technicals

 

The upper chart illustrates that the predominant trend is steeply down and the probability of the share crossing Rs 1,000 again is likely to be nil. The lower chart compares SKS price movement with those of the Mumbai Sensex. Even when the Sensex trend shows a firmly bullish trend, those of the SKS script is clearly moving in the reverse direction. Both charts show a classical bearish pattern of the SKS share. So bearish, that even when penny stocks gained during the Diwali trading session, SKS still ended up in the negative. Candlestick analysis has similarly given a clear bearish confirmation and all technical indicators give a sell signal.

Since it’s a new stock without a price history, it is difficult to guess what its next support level is. Its historic low is Rs 890 though this cannot be considered a firm support level since the script was hammered there from levels of 1,490, its historic high, a fall of 33%.  By then bears made a killing and covered their shorts as the market tentatively greeted favourably SKS decision to cut back their peak interest rates by 2% and with Narayana Murthy, founder of Infosys, rushing for a hastily convened Board Meeting to firefight the situation. As on 5th November, SKS closed at Rs 992, giving it a P/E of 36.8. Trading volumes have become thin and therefore not a reliable indicator of its actual value.

 

As seen from the table, SKS has been steadily losing its value over the last one month after the MFI was tainted with allegations of being linked to borrower suicides and problems related to governance became public. During the last week, it began to move increasingly within a narrow band and we should be expecting a swift and sharp downward breakout very shortly.

So what could be its next price support level? An informed guess could be Rs 637 - the price Vikram Akula sold part of his holdings to Tree Line Asia, the Singapore Hedge Fund. Assuming annualised earnings per share (EPS) of 30 on an expanded equity base and price-earnings ratio of 20, this places the share value around Rs 600. So most probably, it is within the range Rs 600-630 which the script is most likely to move next. But depending on the import and quantum of bad news flow, even this support level may look very weak.

While there is no disagreement that the script is a bear’s delight, what queers the pitch is the falling volume, which limits freedom to exit.  In the last trading session, just 12,527 shares changed hands, mostly delivery selling. This is just 4% of the 28,738,066 shares with non-institutional shareholding of SKS and a fraction of 1% of total shareholding.  Compare this figure with the brisk trading of  the share in its first hour of trade - 97.71 lakh shares or approximately 58% of the IPO size has been traded! That's how illiquid level it has fallen.

From its listed price of Rs 985, the share skyrocketed 1,490 on large volumes suggesting retail investors who bought the share post listing are sitting tight with huge losses and haven’t made up their mind yet whether they want to dump it or wait for a miracle trend reversal giving them an exit opportunity to avoid losses.

But as MF industry stumbles from one crisis to another, almost everybody would have by now reconciled to the fact they are holding on to a dud share. Now, if they are not allowed to exit, then investor anger builds up. This does not augur well for any future IPOs that the industry plans to follow. On the other hand, panic selling can open the floodgates and then we can see a free fall for the share.

 

Fundamentals

1.  Fund flow affected: Private equity firms feel that the flow of funds to the MF sector would be affected. Vikram Utamsingh, executive director & head of the private equity group at KPMG India, said private equity investors would be very wary about putting money in an industry where business ethics have been questioned. Read more here. 

2.  Poor Governance: Just 6 weeks after the successful debut, the man in charge, CEO & Managing Director Suresh Gurumani was given the boot by the company’s board. “I think we are seeing for the first time a listed company acting like a privately held fiefdom”.  Read more here. Gurumani went to court and got a stay, until an extra ordinary general body of shareholders ratifies the Board of Governor’s decision. Read more here. SKS is likely to announce this week the timing of this EGM. As and when this is held, this would be messy and dirty linen washed in public that further reinforce SKS poor governance public perception.

3.  Crisil to re-rate the sector downwards: "But the biggest micro-finance irony came from rating agencies like CRISIL, which informed the market that they are re-assessing the generous credit rating they had given to many MFIs. Though CRISIL, a Standard & Poor’s company, deserves some credit for always keeping some reservations about the socio-political risks the MFIs faced, the moot point is what kind of an expertise is involved in re-evaluating the ratings much after even the smallest investors have re-evaluated companies like SKS Microfinance. Now, the real paradox is whether Indian rating agencies themselves will get regulated and re-rated due to the MFI rating fiasco, much like how the US rating biggies like S&P, Moody’s, & Fitch came under scrutiny for indirectly causing the sub-prime housing finance crisis. The Indian agencies were already facing some potential regulatory heat before the MFI house of cards started tumbling." Read more here.

4.  Increased bureaucracy: Starting this week, Micro-finance Institutions (MFIs) in the state will be required to double check with this database and ensure that a potential borrower has repayment capability and does not get multiple loans. MFIs operating in other states will have to follow the database from January 1, according to the Microfinance Institutions Network (MFIN).  This increased bureaucracy practically cripples the growth rate of MFI.

5.  Ordinance: The Andhra Pradesh government has introduced a Bill making mandatory for MFIs to register before lending to borrowers. Alok Prasad, CEO, MFIN said, “The registration process was very onerous, that needs to be simplified and rather that doing it across each single district with the government authority it should be at the state capital level. It should not be on an annual basis and may be five years and a review after that. So firstly registration, second is vis-à-Vis the clients themselves where I think the government’s rules are very anti-client. For example repayments can happen only at the Gram Panchayat office which means the client has to walk long distance, loose whole day; wages may be in the process.” Read more here.

"While coercion will be a crime of sorts, leading to a punishment of up to three years, the MFIs will also have to disclose the interest collected to the authorities on a monthly basis. The government will also set up fast track courts to try the violations of the MFIs.  This means no more usurious rates and mega profits. Repayment rates will drastically come down, affecting net profits”. Read more here. A worse nightmare, the governments of Karnataka and Orissa have announced to bring similar bills and this is likely to tempt more state governments to follow suit. Read here and here. 

6.  Repayment Plunges: On an average, the Hyderabad-based SKS collects dues of Rs 28 crore a week, and around 38 per cent of its business comes from the State. The company could neither collect dues nor disburse new loans in some regions, as its employees were not allowed into the villages. Read here. To make things worse the festival season is typically the peak season for micro-finance institutions (MFIs), as people buys things ranging from new clothes to crackers and small-scale manufacturing and trading activities need greater cash flow. Because of all controversy, MFIs were not able to capitalize as they did in previous years. Read more here. This rings the death knell for the micro-finance industry, as it will make the recovery of tiny loans very difficult.

7.  Human Rights Commission probe: The police have booked at least 70 cases across the state against representatives or affiliates of micro finance institutions, hardly a week after promulgation of AP Micro Finance Institutions (Regulation of money lending) Ordinance, 2010.) Read here. The State Human Rights Commission, on Tuesday, issued notices to 4 District Collectors and Superintendents of Police, directing them to submit a comprehensive report on the exploitation and harassment of microfinance institutions in tribal areas. According to sources, the Commission, taking Suo Motu notice against the exploitation of tribals and farmers and luring them into taking loans at hefty interest rates, directed district Collectors Superintendents of Warangal, Anantapur, Karimnagar and Rangareddy to submit a comprehensive report on the affairs of microfinance institutions (MFIs). Read more here. . This report should be ready by this week and as and when it is released could be a trigger for panic selling.

8.  Competitive Political bashing: Not only the government but the main opposition party has joined in MF bashing. Chandra Babu Naidu, ex-chief minister said "Don't repay your loans till the interest rate is brought down to three percent as promised by the government. If MFI agents harass you for repayment, tie them up in a room and call the TDP workers for support," addressing a public meeting at Uppal. The growing public ire against the rising incidents of suicides saw offices of SKS Microfinance being targeted by irate groups across the state. Read more here.  As politicians in other states realise that MF bashing is a vote winner, Naidu’s antics can be expected to be replicated all over the country!

9.  Net Margins to Be Double Squeezed: First a Working Committee recommended exclusion of bank loans to NBFCs from the Priority Sector Lending (PSL) category and then the Financial Services Secretary wrote a letter to banks urging them to “ensure that the rates of interest charged by the MFI to eventual beneficiaries are at reasonable level, say around 22-24% per annum”. The latest in this chain has been the exclusion of the Non Banking Financial Companies (NBFCs) from the list of entities to be engaged as Business Correspondents by Banks and deprive them of priority lending status. Read here.

10.  SKS not to get banking license: One of the reasons why SKS attracted a whooping P/E was the expectation that it could get a banking license. The Finance Minister sprung a surprise in his Budget speech when he announced that RBI is contemplating issuing additional banking licenses to private sector players.  All 10 top MFIs were eyeing for this licenses. It makes perfect sense for a Micro-finance Institution (MFI) to take a plunge into full service banking as it reduces the cost of capital by half. Currently, a Micro-finance Company musters capital at a cost of 11-13 per cent, but once transformed to a bank the cost would substantially reduce to 7-8 per cent. But with this scandal exploding, this dream has gone up in flames Read here. 

 We further encourage readers to visit two excellent postings by the blog Finance Mortem. In a post dated 9th April 2010 titled “Commercially Yours, SKS Micro-finance IPO”  and 24 December 2009 titled "SKS Microfinance IPO: A Zealot’s Dilemma". This makes the following conclusions:

• That the IPO is priced undeservingly high.
• That book building process has been manipulated by finance sharks in the board of SKS  to jack up valuations.
• That Vikram Akula is just a fall guy in this whole controversy - A group of four PE investors of SKS, replaced Mr Vikram Akula (founder of SKS), as promoter of the firm (reported on 11th March, 2010).
• The IPO has been brought about at the behest of the PE investors of SKS as a major chunk of the issue proceed is used to give exit to the PE investors at inflated levels.
• The IPO merely provides an exit route to existing investors, then the entire process will be a shareholders’ re-organisation exercise rather than being an alternative and meaningful fund-raising activity.
• The Government and the Regulator are in the process of finalizing the regulatory guideline for the sector.
• Many social investors believe that it is a profiteering mentality to rush for an IPO before the regulations come into effect. The prudential practice would have been to first prove that the company and its business model can withstand the regulatory environment and then come up with an IPO. The sheer credibility that regulation brings in will attract more investors to the IPO.

VCircle blog in their post of 11th November 2008 interviewed Vikram Akula and this is what he said: "SKS has raised funds from Sequoia Capital, Vinod Khosla, Odyssey Capital, Silicon Valley Bank and others. Talking about the exit route to the investors, Akula said its likely to be through an IPO. But they have other options like mergers and acquisitions on the table. Also the investors are likely to get a return of 20%"  

Here's the confirmation from the horse's mouth that such an exit for investors were being planned as far as two years ago. The investors did more than 20% return. They took more like 20 times multiples of their investment. This is valuable foreign exchange we are talking about.

The postings then paint a different picture of Soros, Narayana Murthy and Khosla. It appears pre-IPO PE investors wanted to exit at inflated prices and left this trio carrying the baby (dud share) meaning suckered them! Imagine the headlines of international media when they discover that old Soros had been suckered! Why the gang of 4 pre-IPO PE investors wanted to rapidly exit with inflated profits was because they wanted to beat the new MF regulations coming by December that would have capped their interest rates on one hand and deprived them of priority lending rates by public sector banks, the combined effect would virtually put them out of business.

What’s wrong with Micro-finance Institutions? Practically everything as the case of SKS illustrates

What’s wrong with Micro-finance Institutions? Practically everything as the case of SKS illustrates

When we started out in development a couple of decades ago, we instinctively targeted to reduce the influence of moneylenders, if not eliminate them completely. Why? They were seen as the traditional oppressors and exploiters in society. Their powers often overlapped with those of their caste and traditional village leadership.

Micro-savings and revolving loans often worked very well. Self-Help Groups (SHGs) being small and homogeneous, are controlled by members where borrowers themselves play a key role in the development of SHGs. They contribute small savings, regularly attend the meetings and participate in making the rules related to loans, interest rates, repayment schedules and mechanisms. These groups are thus are more likely to be characterised by self-management and self-reliance.

This is until the much-hyped micro-finance institutions (MFIs) burst into the scene.  They started easing out NGOs on the specious argument that we were not equipped with our limited capability to run micro-finance lending programmes. These MFIs operate under these two beliefs:

“Having access to expensive credit is better than no credit” and “the observed rate is where demand equals supply”.

These two beliefs were ironically the very same fulcrum the traditional moneylenders operate around.

The result is an “animal farm” situation where we are now not able to distinguish between “pigs” and “humans” and vice versa. In fact, moneylenders have got a makeover by re-branding themselves as MFIs. A good example is Mohammed Yunus of Grameen Bank who comes from a traditional money-lending caste. And of course, he got the Nobel Prize and so did Al Gore & Pachauri. And thank God, the Nobel Committee did not confer Gandhiji the same distinction, by clubbing him with these scamsters. In India, it is perhaps not a coincidence that Vijay Mahajan, described as the Father of Microfinance, also comes from a traditional money lending community. 

A creature of neo-liberalism, the idea of giving small loans to poor people became the darling of the development world, hailed as the long elusive formula to propel even the most destitute into better lives. And boy the neo-liberals loved it as this rhetoric strongly resonated with their love of the non-state, self-help, fiscally-responsible and individual entrepreneurship beliefs. MFI besides fits very well with the main tenets of neo-liberalism that includes macroeconomic policies focused on eliminating inflation rather than expanding job opportunities; cutting government subsidies - including credit subsidies and opening domestic markets to imports, multinational investors and speculative financiers. The neo-liberal environment encouraged the image of MFIs to be spun as a golden bullet to alleviate poverty, inflating its sense of success and underplaying their lack of holistic vision and action.

Still there were many within the NGO sector, willing to speak out. Michelle C. Schaefer in her feminist blog highlighted the following:

“MFIs overlook several of its realities, including the shame and fear that many poor people associate with debt (suicide rates are high amongst those who cannot repay), illiteracy (not being able to read contracts), the possibility that debt is the last thing poor people need, macroeconomic emergencies and natural disasters — let alone personal illness, deaths within families, dangerous work conditions and spouse brutality.

Micro-finance detractors also list corruption, inflated interest rates, lack of savings services, non-transparent transactions, not reaching the “poorest of the poor” and joint liability amongst its many faults. One Bangladeshi man even describes Yunus as the world’s biggest loan shark.”

In the Indian context, perhaps the best refutation of MFI as poverty alleviation’s golden bullet comes from seasoned MFI consultant, Ramesh Arunachalam: 

 ”Even if you lend at 0%, returns from agriculture would most likely be negative and micro-finance skirts agriculture and most of India’s poor are engaged in agriculture. So, micro-finance cannot and should not be expected to make a serious impact on poverty in India”

Prakash Bakshi, Executive Director, NABARD in an interview to the Economic Times was even more categorical:

 “In a static village economy, there is little scope to have too many petty traders. Two-thirds of the villagers directly live on non-cash-crop agriculture, and another 20% are small-time artisans. The cycle of economic activities for these people range from about six months to one year. None of them generate income to meet weekly repayments, and none of these activities generate a rate of return to afford interest rates of 20-40%.

And if they borrow — and many are compelled to borrow at such interest rates because banks have failed to provide them with credit that they deserve at affordable interest rates — they would never be able to rise from their levels of poverty, and very often just go back a few years in their economic status.”

Findings from several studies converge that poor households do not benefit from micro-finance; it is only non-poor borrowers who benefit. A vast majority of those with starting incomes below the poverty line actually ended up with less incremental income after getting micro-loans, as compared to a control group, which did not get such loans.

The real weakness of MFI is the key assumption of the business model that treats each and every borrower as an entrepreneur. Most poor people do not even have the basic education or experience to understand and manage even low level business activities. They are mostly risk-averse, often fearful of losing whatever little they have, and are struggling to survive.

Well Oiled Racket that makes Poor, Poorer, and the promoters and financiers Multi-Billionaire Tycoons 

According to the Washington Post: "Private capital first began entering the micro-finance arena about a decade ago, but it was not until Compartamos, a Mexican firm that began life as a small non-descript NGO whose public stock disinvestment generated $458 million in 2007, that investors fully recognized the potential for a windfall.

CARE, started a micro-finance institution in Peru in 1997. The initial investment was around $3.5 million, including $450,000 of taxpayer money. But a year ago, Banco de Credito, one of Peru’s largest banks, bought the business for $96 million, of which CARE pocketed $74 million." 

From then on, there was no turning back. Micro-finance ended up a money making machine for almost everyone. Mark Straub in his blog on the rise of the MFI phenomenon in India:

“Collectively, the Indian micro-finance sector raised over $500M in private equity last year alone.  With on-paper valuations of these companies in the hundreds of millions (dollars not Rupees!), and in at least one case over $1 billion, sales of founders’ stock in private secondary sales has created Hyderbadi millionaires seemingly overnight, something unseen in India outside of BPOs, Bollywood and corrupt politicians.

The rise of micro-finance as a venture capital-backed asset class, now poised to see multi-hundred million-dollar initial public equity offerings in the next 12-18 months on the Indian stock exchange.  Well known giants of Indian micro-finance who serve millions of clients – SKS, Spandana, SHARE and Bandhan – as well as upstarts Ujjivan and Equitas, have attracted millions in risk capital from top global venture capital firms and sovereign wealth funds, in several cases transforming themselves from non-profit NGOs to corporations in order to raise capital and attract top management talent.”

Ramesh Arunachalam in a perceptive analysis in Malcolm Harper’s blog, warns against the dangers of this trend of rapid commercialization by drawing an apt parallel with the Satyam:

“MFIs have to manage multiple stakeholders including investors and balance their expectations well. This is also very critical for MFIs especially because of the traditional orientation of the sector and its predominant focus on the low-income customer segment.

The Satyam fiasco happened because the promoter was hugely focused on investors (shareholders) and wanted to create value and wealth for them in an aggressive manner – and he did everything possible (legal and illegal) to bolster performance, quarter on quarter and year on year for almost 7 years. In fact, this aggressiveness, haste and urgency are perhaps what led Satyam to grow unnaturally and eventually fail. As one of the employees of Satyam aptly argues, Mr Raju would always want to take giant steps and go from 100 to 1000 rather than 200."

The IPO of SKS, one of the largest MFIs in India,  saw it over-subscribed by 15 times; their Ten-Rupee share was priced at a premium of Rs 985 - showing how much the market had confidence on their profitability while “banking with the poor”. With earnings per share (EPS) of Rs 32.98 as on 31 March 2010, it trades with a price-earning (P/E) ratio of over 50, given its expanded equity.

Sucheta Dalal explained in her blog how over-priced the SKS script was:

“At the upper price band of Rs 985, the company is demanding a valuation of almost 50 times its FY10 earnings. For a non-banking financial company (NBFC), which has a limited period of operational history and no dividend record, the valuation looks very much stressed.

Although the company in its draft red herring prospectus (DRHP) claims that it has no competitive peers, SE Investments Ltd, a micro-finance lender, is already listed on the Bombay Stock Exchange (BSE). SE Investments' EPS stands at Rs1.21 in the first quarter of FY10. The company posted a net profit of Rs17 crore (10 Million is a crore). Based on the EPS of the first quarter of FY10, its P/E works out to 11 (annualized), which is lower than the PE of SKS.  SKS reported a net profit of Rs 174.8 crore on total revenues of Rs 958.9 crore and an operating revenue of Rs 873.50 crore for the year ended 31 March 2010. It had a negative cash flow of Rs 541.20 crore for the year ended March 2010." 

SKS Share is a Trading Bear’s Dream  

The most interesting question is whether SKS can grow 50 times its FY10 revenues during F11 season. The Economic Times gave some vital clues to the answer:

“More than 60 employees of the embattled micro lender, SKS Micro-finance, have each made more than Rs 1 million selling their shares after listing, making a return 29 times their investment in three years. Employees working in various capacities - ranging from an assistant manager to a vice-president - have sold their holdings in at least 130 separate transactions ever since the Hyderabad-based firm listed its shares, data show. 

So far, the employees have sold 1.96 lakh (100,000) shares, accounting for nearly a sixth (or 16%) of what they got through an Employee Stock Purchase Scheme (ESPS) in 2007. Though a comparable macro data on share sale by staff are not available, the number of shares sold immediately after the listing is seen as a high number. They got the shares at an average price of Rs 38 per share and in less than three years time; the same shares were sold at an average price in excess of Rs 1,100 - a cool profit in excess of Rs 1,050. 

SKS has introduced a mix of employee stock options and stock purchase plans since 2007, including one for independent directors. Eligible employees were encouraged to buy their entitlement in the stock purchase scheme, with interest-free loans for a certain time period. 

Under the first stock option plan, only SKS chairman Vikram Akula was allotted 9.45 lakh shares at a price of Rs 49.77 per share in December last year. At the time of filing the offer documents, just before the public offer, Mr Akula held option rights for another 2.68 million shares, accounting for little over 4% of pre-issue share capital. Earlier in February, SKS Microfinance's founder and chairman Dr Vikram Akula sold 9.45 lakh shares at Rs 6 39 per share to Tree Line Asia Master Fund (Singapore) Pte for $12.9 million"

All pretense of altruism was cast aside, and the so-called poster boy of MFI demonstrated his ugly face as a profiteer prompting Sucheta Dalal to comment: 

"Another related fact is that out of the total issue size of 1.68 crore shares, more than half or 55.7% shares are put on sale by Sequoia Capital. According to the DRHP, the key management of SKS Micro-finance has decided to sell their stake in the run-up to the IPO under both stock option and stock purchase plans at a significant premium. Collectively, the transactions would imply a sale of 1.42 million shares or 8.4% of the IPO size. Although the Reserve Bank of India (RBI) has approved the transactions and there is nothing illegal about en-cashing investments, this raises a larger question of commitment on the eve of an IPO." 

The selling spree is very likely an indicator of SKS employees’ lack of trust in the company’s near term future. SKS employees, including Vikram Akula, by booking profits, were implicitly stating that they have no confidence that SKS can grow 50 times its FY10 earnings to maintain its present P/E.

If you are an equity trader, this could be interpreted as a clear signal to hammer this script down in the most aggressive way. Particularly so as the Andhra government's clamp down should squeeze its growth in the most profound way, given that 40% of its lending is accounted by this state. While the High Court order put these restrictions on hold and allowed the lenders back in the field this week, close to half of all borrowers are continuing to avoid payments, micro lenders say. Local politicians have joined the issue by telling their constituency not to repay MFI loans. If this situation continues for the next few weeks, it is easy to see it can turn into a repayment crisis that can ring the death bells for many in the industry.

MFI: Return over Capital, Highest in any other Sector 

The moot question is when SE Investments P/E stands at a measly 11, what justifies SKS's whooping 50? It appears to be intricately linked to the allotment pattern. The issue consists of a fresh issue of 74.45 lakh shares with 50.37 lakh shares reserved for retail investors. Qualified Institutional Buyers (QIBs) were allotted one crore (10 million) shares. The company expected to raise Rs 1,427 crore - Rs 1,654 crore through this IPO, which they over-achieved. 

The key to understanding all these numbers is the differential price for QIBs/high value investors and retail investors. While retail investors had to shell out Rs 985 for a SKS ten-rupee share, the latter together with SKS’s existing venture capitalists, including some private equity funds that have stakes in these companies all paid below the listing price and made a killing.

And just who were these QIBs and high profile investors? Big global names like pseudo socialist and financial racketeer, George Soros, pseudo-corporate saint, Narayanan Murthy, the founder of India's, IT giant, Infosys and pseudo-Green Vinod Khosla of Sun Microsystems. Their profiles are sketches below:

George Soros. In 1992, the lead fund, Soros’s Quantum Fund became famous for “breaking” the Bank of England, forcing it to devalue the pound. Soros had bet his entire fund in a short sale on the ultimately fulfilled prediction that the British currency would drop in value, a coup that netted him a profit of $1 billion. In 1997, Soros was also blamed for forcing sharp devaluations in Southeast Asian currencies.

Corporate “saint” Narayana Murthy exhorts “We need to promote commercialisation that can be legal done, ethically sound and sustainably carried forward”. If you take this character seriously then consider this. His investment in SKS quadrupled overnight on allotment of the share!! Saint Narayanan Murthy even outdid old Soros. The shares were acquired by Soros Quantum Fund was for a total sum of Rs 19.08 crore which translates into a price of Rs 636 per share. Soros therefore shelled out more than double than the “Saint” did. Narayana Murthy was also quoted by the media as saying: “A clear conscience is the softest pillow in the world.”  We now have an idea what kind of pillow he sleeps on. That's of course, assuming he has a conscience. 

Vinod Khosla.  His venture company has called cellulosic bio-fuel his “real love” and invested in more than a dozen bio fuel ventures. These bio fuels are one of primary factors responsible for global food inflation and scarcity; increased starvation deaths and nutritional deficiencies; and food riots all over the globe!

Their name association however prompted the market to accord a higher P/E. While these promoters, venture capitalists and QIBs laughed all the way to the bank, the retail investors as usual faces the high risk of their investment eroding in a scam-tainted company a la Enron or Satyam.  Their worst nightmare  is if the script becomes too illiquid to trade.

The good news is that QIBs pre IPO allotment investments are locked in and the likes of Narayanan Murthy are trapped, at least during the next two years statutory period. Nevertheless, far from giving price stability, there are too many floating stocks in SKS that trading bears can target to make a killing in the market.

As for the fate of SKS hapless borrowers, they continue to live in abject poverty.  With MFIs going public, all pretense is off. Now they flaunt their real face - more accountability to private equity investors than to the borrowers (their touted mission) I guess this isn’t new at all as this is borrower’s story all over the world.  Patrick Bond in his blog explains the myth of Grameen Bank and exposure of Mohammed Yunus as a fraud:

“Consider this outlandish claim, made by Yunus as he got started in the late 1970s: ‘Poverty will be eradicated in a generation. Our children will have to go to a ‘poverty museum’ to see what all the fuss was about.’ 

Grameen’s origins are sourced to a discussion Yunus had with Sufiya Begum.  Describing Begum and the first 42 borrowers in Jobra village in Bangladesh, Yunus waxed eloquent. 

But what is the current situation in Jobra? Says Bateman, ‘It’s still trapped in deep poverty, and now debt. And what is the response from Grameen Bank? All research in the village is now banned!’ As for Begum, says Bateman, ‘she actually died in abject poverty in 1998 after all her many tiny income-generating projects came to nothing.’ 

The legendary Malcolm Harper, once the chairperson of Indian MFI - Basix, once said, "Keeping people in debt is profitable to MFI no matter the social or economic status of customer" The case of Bangladesh with the longest and highest outreach in the world certainly validates Harper’s viewpoint.

Interest rates: The Poisonous Fangs of MFIs

MFIs were touted to provide the poor access to affordable credit, reduce poor people’s need to use moneylenders and indebtedness. In short, provide a much kinder, cheaper alternative to the village loan shark.  

Instead, they evolved as the new class of institutionalized loan sharks which neo-liberals gave respectability to. MFIs did of course improve access to micro loans but failed in their touted mission to provide affordable and gentler credit and above all, one that lifted people from the clutches of poverty. Objects of institutional financial sustainability exhort them to charge interest rates and fees high enough to cover the costs of their lending and other services.

In Asia, these MFIs are estimated to charge an annual interest rate varying between 36-70 per cent. If this is considered predatory, then consider the plight of Latin American and African countries where interest rates hover beyond 100%. How do MFIs actually fix their interest rates? They claim it is based on the cost of capital (interest on loans); administrative cost of delivery; bad loan cover, and profits. Let’s look at each one of these: 

Cost of Capital  

Indian MFI’s argue that they incur an average interest between 10-11%, equal to the interest public sector banks charge for lending to them. There are two problems with this argument. Firstly, this is a wrong equivalent. MFIs raise their capital from several sources, including grants and loans at much softer rates. The cost of capital should be the average interest as a weighted function of capital deployed for re-lending activities. 

Secondly, if we accept the argument that all or most of the re-lending activities are sourced from public sector banks, then they are implicitly admitting that their capital for re lending is all accounted from taxpayer’s money. Accordingly, the Indian public and parliament has the right to determine what rates they should be re-lend. In a market economy, MFIs have the choice to accept these recommendations, reject and explore alternative funding sources or shut down their businesses. Cribbing unfortunately is not one of these choices. 

BAD DEBTS

MFIs claim that they are attaining 99-100% repayment.  Such a rate is an envy of any public sector or private banks. So if we take their claims at face value, then bad debts or cost of non-performing assets should be considered negligible.

ADMINISTRATIVE COST OF DELIVERY

 

MFIs argue that the costs of reaching the poorest, most inaccessible borrowers are high, making costs of servicing such lending high. Moreover, transaction costs are high as it costs more to handle 10 loans of $100 than one loan of $1,000. Fair enough. But it also means that if we take into account their touted mission objectives of offering affordable credit to the poor, their present business model fails to align itself to their mission objectives. Either they should change their business model that finds a tighter alignment with their touted mission or they should stop expecting taxpayer’s money to increase poverty and indebtedness in this country.  

A posting in the blog Smart Investor reveals that part of the problem of high administrative costs is traced to the exceptionally high salaries of MFI staff:

“Gurumani was appointed in December 2008; it was supposed to be a five-year term with effect from April 1 last year. At a consolidated salary of Rs 1.5 crore (raised this May to Rs 2 crore for 2010-11) and a performance bonus of Rs 15 lakh per annum, with annual increments of up to a maximum of 100 per cent. The board had the liberty to sanction more. Plus a one-time bonus of Rs 1 crore, paid in April 2009, with a Rs 4-crore life insurance cover.”

This prompted Devinder Sharma, well know food security analyst to comment:

“In any case, we are only talking of the salary and perks of the CEO. What about the other senior MFI functionaries? They too receive bountiful salaries, all derived from the sweat and blood of the poor”

MFIs pretend all the time being highly efficient. If so, they would be the only sector to be an exception. Nevertheless, this pretense comes useful to them to pass on their inefficiencies as high lending costs to their borrowers.

PROFIT MARGINS

MFIs argue that they need a wide spread apart from all costs to provide for contingencies and growth. Fine but the moot question is how much should this spread be?

MFIs further argue that economies of scale and competition will drive interest rates down. This remains only a theoretical argument. "Mexican micro-finance institutions charge such high rates simply because they can get away with it”, said Emmanuelle Javoy, the managing director of Planet Rating, an independent Paris-based firm that evaluates micro lenders!! 

If at all, the average Indian MFI interests rates appear more benign than in Latin America or Nigeria, then it simply because other than factors internal to the MFI industry, the sector faces strong competition from governmental and NGO SHG micro-saving programmes in the absence of which, these MFIs would most probably formed a cartel. Past angry public and government reactions that resulted in a backlash against them, which included the arrests of MFI top leaders, like Uday Kumar of Share Microfinance Ltd as in 2007, keeping their profiteering impulses under check at least to some extent.
  

Sacha Singh in an interesting blog offering a critique of micro-finance has this to say as a summary:

 “An interest charge represents money taken out of clients’ pockets, and it is unreasonable if it not only covers the costs of lending but also deposits “excessive” profits into the pockets of an MFI’s private owners. Even an interest rate that only covers costs and includes no profit can still be unreasonable if the costs are excessively high because of avoidable inefficiencies.”

Since we are aware, just a 0.5% hike in interest rates can crash the stock market, we know to what degree corporate feasibility is sensitive to interest rates. Just how much subsidies did Ratan Tata gets to produce a one-lakh car? Rahul Gandhi estimates this as Rs 66,000!. Notwithstanding this maybe an exaggeration, the likes of Narayana Murthy that now sit on the board of SKS should know better how much subsidies Infosys, the IT company he founded received to make it a global success that it is today - state governments gifting land for a song, power rebates, grants, soft loans, investment allowance, depreciation etc. It is a perversion to think the petty businesses of the poor are viable no matter high the interest rates.

If Blood Diamonds can be banned, why not MFIs?

Not only excessive profits, high salaries or process inefficiencies prompts high MFI interest rates but it also arises from the need of self-inflicted pressures to quickly and aggressively scale-up their lending programmes that in turn, need excessive profits to adequately plough back into their business. While it may or may not be true that in the long-term interests rates may fall drastically as MFIs claim, the old adage reminds us that this means nothing as in the long-term we are all dead. 

But what we know for sure is that in the short and intermediate term, the poor are being exploited by these MFIs, promoters and investors are being catapulted to overnight multi-billionaires, international investors are plundering our foreign exchange from profits made from the blood money of poor who made poorer and more indebted. That is all that matters. 

If it was only exploitation, we may be tempted to take a more charitable view of MFI relevance in society. But combine this with oppressive face, we are left with no option but to seek their ban. A month ago, SKS in the state of Andhra Pradesh was accused of a series of farmer suicides that prompted the state government to introduce new restrictions on the micro-finance industry by seeking to cap lending rates and end coercive means of recovery. Last week alone, Andhra Pradesh police arrested three loan agents of SKS Micro-finance and Spandana Sphoorty Financial Ltd. after borrowers complain that they were illegally pressured by the agents to repay their small loans around $1,300.

It was Shantanu Dutta in his blog that highlighted such acts of oppression is not new:

“Many decades ago, Rabindranath Tagore wrote a short story titled Kabuliwallah, based on the life of the Afghan money lenders who used to do brisk business in undivided India. Largely illiterate, through a complicated maze of signs and symbols, the moneylenders kept meticulous track of who owed them how much, when was pay day and then were there at the right time and place to collect their dues. 

Their interest rates were of course usurious but they provided unsecured loans which their customers not having much collateral to give found beneficial. However defaults on payments were not tolerated and when patience ran out, the Kabuliwallah’s justice was rough and ready. It was during such instance that the Kabuliwallah in Tagore’s story stabbed a client, went to prison and the beginning of the story’s climax begins there.”

For those of us in the field, suicides due to MFI harassment hold no surprise. But we need to question the deafening silence. Where are the voices of the likes of Christian Aid, Oxfam, Action Aid, World Council of Churches, CARE  etc who ostensibly been pursuing the agenda of social justice? Are their hands as bloodied as MFIs or are they too embarrassed to take on their own kind?  For that matter where are the voices of human rights groups - the Amnesty International (now headed by our own Salil Shetty), Human Rights Watch, Human Rights Law Network, People’s Watch etc. In particular, where is the voice of Arundhati Roy, the one book wonder who won the Booker Prize  despite poor plot and atrocious prose who now decided to take up causes on drop of her hat whether Narmada Dam, Naxalism and Kashmir?  Does she have an opinion on MFI suicides or doesn’t she? 

Sadly, it was left to the likes of Wall Street Journal (WSJ) to see shades of the predatory lending crisis in the Andhra suicides:

“Unfortunately, due to the high investor inflows and saturation of this asset class, it looks more like the subprime industry than a financing vehicle for the underprivileged. Using targeted marketing and promises of “easy credit” and “quick cash,” predatory lenders can trap borrowers in a cycle of high interest payments, abusive fees and terms that can lead to home foreclosures, and ultimately devastate borrowers’ financial futures”. 

The Obama Administration clamped down on predatory lending in citadel of capitalism - the US. While the Andhra Pradesh deserves to be complemented in doing the same, the Central Government is dithering, fearing the consequences will affect the image of India as an investment destination. And why should they? If it didn’t affect the US, why should it affect us? Moreover, this government won on the plank of the Aam Adhmi (Common Man). If the Aam Adhmi means anything, the ruling Congress Party at the centre needs to show more resolve by introducing stronger regulation of MFIs, if not banning them outright.

The sooner MFIs are seen as profit enterprises, the better. The longer they pretend they are pro-poor, the longer they discredit the NGO sector that gave birth to a Frankenstein. By 2014, they target to reach 110 million borrowers. Remarkably, despite two decades of operations, if statistics are to be believed, these MFIs currently reach just 20 million people in the country, a good proportionate of them, multiple counted. Yet, they succeed in gaining an attention, so disproportionate to this minuscule reach. Act now to prevent them from becoming an epidemic scourge in the country. Act now, when they are most vulnerable. And how do we know they are vulnerable? Because Vijay Mahajan, the father of MFIs in India tells us so:

“We are facing collapse. Unless something changes on the ground, the industry as we know it is basically gone.”

Mahajan, we have news for you. The day when the likes of you are gone, that will be the turning point for the fight against poverty!