SIDBI must rework its microfinance strategy

Merely increasing funding for microfinance, without learning from past mistakes, will not solve the microfinance crisis. As one of the biggest lenders to the microfinance sector, it is up to SIDBI to develop necessary safeguards to ensure that the industry it helped create, does not collapse under the weight of its sometimes over-enthusiastic support for MFIs

I read a very interesting news report yesterday that the Small Industries Development Bank of India (SIDBI) is determined to lend more money to MFIs during this fiscal (as compared to what it advanced last fiscal). This is indeed great news and I am delighted, because shying away from financing MFIs is not the real solution to the microfinance crisis, where liquidity is indeed very important.
The news item reads:
"Small Industries Development Bank of India (SIDBI) plans to disburse around Rs1,000 crore in credit to microfinance institutions (MFIs) during 2011-12, which is 19% more than the loaned amount last fiscal. 'We are not shying away from lending to MFI sector in the recent time. Rather, we do have a target of disbursing around Rs1,000 crore of loans in the current fiscal against Rs840 crore of advances last fiscal,' SIDBI Deputy Managing Director N K Maini told reporters on the sidelines of a seminar on 'Microenterprise Financing' here. …The fund flow to the MFI sector from financial institutions, especially from commercial banks, has dried up in the aftermath of the ordinance passed by the Andhra Pradesh government, restricting some of the lending practices followed by MFIs. … 'We feel that Indian MFI sector is very responsible and continues to be economically viable,' Maini said. SIDBI, which lends money to the MSME sector, is also trying to rope in foreign private equity (PE) investors to invest in Indian MFI sector, he added. 'We have recently met PE players in London and are continuously trying to rope in PE players into country's MFI space,' he added."i

That said, I was somewhat stunned by the cavalier attitude of the above mentioned SIDBI senior management staffii  who said that SIDBI would finance MFIs much more than last year, and gave a ballpark figure of Rs1,000 crore. I was also perplexed by his statement that 'MFIs are responsible' and there is nothing wrong with their behaviour. I soon realised that SIDBI had (perhaps) not learnt from its past experiences.

Coming in the backdrop of the country's largest microfinance crisis, I am really appalled by this self-denial and refusal to learn from the on-going mess. The Andhra Pradesh microfinance crisis occurred because of several factors including the (a) the desireiii  of many MFIs, equity investors and lenders for faster growth, higher profits and greater shareholder wealth, that was achieved through various means such as over, multiple and ghost lending; (b) the strong policy drive for including large numbers of people quickly through a well-intentioned but poorly implemented financial inclusion paradigm; (c) the regulatory gaps and supervisory failure with regard to delivery of financial services to low-income people through MFIs; (d) the huge vulnerability (due to several reasons) in the livelihood of low-income people, especially those living in rural areas and urban slums; and (e) the refusal of all stakeholders to recognise the fact, that in the absence of other enabling services and infrastructure, merely pushing more and more money (=consumption loans) in the hands of low-income and excluded people, cannot help reduce their vulnerability/poverty and could in fact, become counterproductive if it enhances their indebtedness.

Therefore, given this situation, I have to question SIDBI's strategy of indiscriminately fixing targets for disbursing loans to MFIs and perhaps, pushing more consumption loans into the hands of low-income people. That indeed was a major cause for the burgeoning growth of MFIs during the period April 2008 to March 2010, and repeating the strategy now does not seem prudent at all.

I am deeply concerned at this because SIDBI is a public institution with a great mandate and a fantastic track record of work and under no circumstance should SIDBI be allowed to suffer undue losses because of the perceptions and actions of its senior management staff. Therefore, it is critical that we learn, especially, from the past (three years) experience of MFI financing and to facilitate this, I share some key data for the benefit of all stakeholders. A close look at the data reveals that indeed, SIDBI played a major role in the recent burgeoning growth of the Indian microfinance industry.

As the data suggests, SIDBI has consistently been ranked first among all DFIs/bankers in terms of loans outstanding (from the microfinance segment) in the three years. While year on year, SIDBI has increased its outstanding portfolio and disbursementv , what is interesting to note is that the growth has been phenomenal during the years 2008-09 and 2009-2010, both in terms of loans disbursed as well as loans outstanding. What makes SIDBI's loans even more powerful is that it is real long-term funding! And please keep in mind that the period of fastest growth in Indian microfinance (both in terms of gross loan portfolio and active clients) and largest equity investments, occurred during the same period of April 2008-March 2010, as shown in table below. {break}

It is clear from this that SIDBI and commercial banks helped MFIs leverage their burgeoning equity investments several fold. In fact, this combination of equity and leveraged DFI/bank funds provided the MFIs with an unusually high quantum of money, that they used to turbocharge growth, during the period April 2008-March 2010 and especially in Andhra Pradesh. I see this as one of the major causes of the present Indian microfinance crisis.

That being the case, merely trying to bring in the same combination of funding sources and enhance funding for MFIs, without learning from the past and applying the necessary on-course correctives, will certainly not solve the present microfinance crisis. On the contrary, it has all the potential to explode into a permanent rural finance disaster. Therefore, it would be good for SIDBI's management to seriously introspect and understand the motivation for such unbridled growth during the past few years, especially because of the huge indebtedness it caused (among low income people) due to further onward lending by MFIs.

SIDBI would also need to look into their processes/methods of sanctioning and disbursement and also their due diligence checks with regard to end-use of loans. And two issues need to be emphasised here: (a) SIDBI was not able to spot the over- and multiple-lending spree of many MFIs (with the associated indebtedness); and (b) it could not unearth the fast-spreading decentralised agent model used by many MFIs. Both of these are aspects that SIDBI's top management needs to closely look into so that appropriate monitoring and supervisory mechanisms are put in place (on the ground) this time around.

Another issue that is relevant here is that SIDBI is investing as a social equity investor in many MFIs and the impact of SIDBI's investments is such that it gives tremendous legitimacy to the concerned MFI. In other words, apart from the quantum of investments, the real additionality of SIDBI's equity investments in MFIs lies in associating its well-established and highly-regarded brand name with the concerned MFIs. Therefore, its nominee directors are under serious obligation to diligently perform their roles as independent directors in a professional and objective manner.

That SIDBI's nominee director remained a mute spectator when the founder-promoter-managing director of a large MFI gave himself a huge loan to buy shares (at par value) in the same MFI, is indeed a cause for great concern. That action is certainly not acceptable in any financial institution and is unquestionably an act of not-so-good governance. That the SIDBI nominee director again remained silent at the hurriedly convened board meeting of a large MFI, that too on a Sunday, to sack an immensely successful CEO who led the MFI through a spectacular IPO, is again worrisome.

There are many more such instances, but the key issue simply is: As a social investor and one of India's largest DFIs, is SIDBI not expected to ensure appropriate and good governance of the MFIs and more so, among the ones where it has invested (its funds as well as its brand name) and has a nominee director on board? The above happenings clearly call for a serious review of the process by which: (a) SIDBI makes equity investments into MFIs; (b) it appoints nominee directors to MFIs; and (c) it ensures accountability of these directors. This is another issue that requires deep introspection by SIDBI's managementvii .

Going forward, it would be very important to ensure that SIDBI provides the right kind of leadership for responsible (micro) finance-a recent World Bank collaborated project-which SIDBI is currently implementing under its aegis. The mechanism of the lenders forum envisaged in this project is welcome, but it needs to be operationalised carefully, after incorporating lessons from the present microfinance crisis and building necessary safeguards against any real and/or potential conflicts of interests.

Without question, SIDBI is legitimately one of the pioneers of the microfinance (especially, the MFI model) movement in India and it has produced several wonderful innovations and contributed significantly to the development of the microfinance industry. Its staff is deeply committed to microfinance and they are among the most sensitive and experienced with regard to microfinance and micro-enterprises. It is therefore up to SIDBI, its management and its staff to develop necessary safeguards to ensure that the microfinance industry that they helped create, does not collapse under the weight of their well-intentioned, but perhaps sometimes, over-enthusiastic support for MFIs. This is something that SIDBI definitely owes the nation.

iiIts deputy managing director
iiiFor various reasons
 iv Compiled from Status of Micro Finance in India - 2009-10, by NABARD
 vSIDBI has been ranked first among all lenders with regard to loans disbursed for the two years 2008-09 and 2009-10.
 viThe usual caveats apply with regard to data as there is a paucity of information pertaining to equity investment in Indian microfinance. There is also no single consolidated database available, as on date, to the best of my knowledge.
viiOne other aspect with regard to SIDBI's role in Indian microfinance deserves further mention. As I have been traveling in the field, through this Indian microfinance crisis, and observing firsthand the  havoc caused by the agent-led, fast-tracked, decentralised microfinance model in India, and especially in the near microfinance saturated states, I was confronted by some basic questions: (a) Where did the MFIs get the funds to grow as fast they did?; (b) How did wholesale financiers (DFIs like SIDBI and banks) provide so much funds to MFIs and yet allow the kind of not-so-good practices that are prevalent on the ground?; and (c) Are they in some ways responsible for the kind of (not-so-good) practices (like use of agents), which we currently find in Indian microfinance?

(The writer has over two decades of grassroots and institutional experience in rural finance, MSME development, agriculture and rural livelihood systems, rural/urban development and urban poverty alleviation/governance. He has worked extensively in Asia, Africa, North America and Europe with a wide range of stakeholders, from the private sector and academia to governments.)

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