Profitability of microfinance institutions (MFIs) could be suppressed in the current financial year on the back of rising credit costs stemming from asset quality challenges that have begun to surface, said credit rating agency Crisil Ratings on Thursday. This could reduce MFIs’ Return on Managed Assets (RoMA) as well to 2.0-2.5 per cent from a high of around 4 per cent in the previous financial year.
RoMA measures the return generated by assets that are actively managed by the company, such as investments, loans, or assets under management in financial institutions.
While asset quality hiccups may lift credit cost and curb profitability for MFIs, the risk-based pricing adopted by them after the removal of interest margin cap and stronger balance sheets will limit the decline in profitability and support the credit profiles of most MFIs, Crisil said in its report.
Speaking on the impact, Malvika Bhotika, Director, CRISIL Ratings noted four factors that hurt MFIs’ portfolio quality; first, lending to over-leveraged borrowers; second, debt-waiver campaigns; third, continued high attrition of field-staff; and fourth, ground-level operational challenges given elections and intense heat wave.
This led to average monthly collection efficiency declining to around 96 per cent during the first quarter of this fiscal and further to around 94 per cent so far in the second quarter, from an average of 98% last fiscal.”
Importantly, MFI delinquencies in the early buckets viz., loans overdue by more than zero days and by more than 30 days (0+ and 30+ days past due) increased by around 110 basis points (bps) and around 55 bps, respectively, during the first quarter of fiscal 2025 as compared to preceding March quarter.
Crisil said the build-up of delinquencies indicates higher provisioning with MFIs creating management overlays and shoring up provisioning buffers. As a result, credit costs of MFIs may go up to around 3.5 per cent in current fiscal from around 2 per cent earlier.
Prashant Mane, Associate Director, CRISIL Ratings said that after the removal of the interest margin cap, overall margins as well as operating profitability of MFIs had touched a 5-year high with pre-provisioning operating profitability (PPoP) reaching 7.5- 8.0 per cent in fiscal 2024.
Consequently, despite the increase in credit costs and operating costs as collection efforts intensify, overall profitability, though lower, is expected to remain adequate at 2.0-2.5 per cent for the sector, said Mane.
PPoP measures a company’s operational profitability before accounting for provisions, such as loan loss provisions (for banks) or reserves for bad debts.
To mitigate the asset quality challenges, the self-regulatory organisations for MFIs, Microfinance Institutions Network (MFIN) and Sa-dhan had come up with two key guardrails in July 2024; first, limiting the number of MFIs lending to any borrower to four and second, capping the loan limit to Rs 2 lakh per borrower to reduce over-leveraging.
The MFIs’ gross loan portfolio in India had dropped marginally in the June quarter to Rs 4.24 lakh crore from 4.33 lakh crore during the March quarter even as there was 19.2 per cent growth from Rs 3.55 lakh crore during the June quarter last year, according to the latest quarterly MFI report by MFIN.