Global investors meet to promote new principles in Inclusive Finance
Microfinance Focus January 31, 2011: A group of 40 global investors met at a recently concluded Responsible Finance Forum in The Hague for promoting responsible finance for Investors in Inclusive Finance.
The event was organized by the Dutch Ministry of Foreign Affairs in The Hague, Netherlands, BMZ, CGAP and IFC. The United Nations Secretary-General’s Special Advocate for Inclusive Finance for Development, Her Royal Highness Princess Maxima of the Netherlands was among the ones present at the event.
The event saw investors stating their commitment towards a fair treatment and protection of the interests of the clients in inclusive finance- low income households and small and medium-enterprises. They also asserted their goal of supporting and investing in those financial service institutions that offered responsible micro-finance, including a wide range of quality services to clients together with embracing transparency and sustainability.
James Gifford, Executive Director of Principles for Responsible Investment, said “Micro investments are one of the most important mechanisms to help us achieve the UN Millennium Development Goals. Principles for Investors in Inclusive Finance make an important first step to mainstream microfinance in a way that safeguards all stakeholder interests.”
hi jan, i dont see any feedback to my last response sent more than a month back?
regards/vasu
hi Jan, it is nearly 2 months since i had replied to your second set of queries. there has been no response from your end. would be happy to have your response to the issues raised by me in my reply
regards/vasu
Hi Jan, there were two elaborate comments from your end and i had written two equally elaborate replies to them. my last reply was dated 3rd March 2011. today is 16th May 2011, nearly 2 1/2 months since my last reply. i had also asked you to share evidence of some serious allegations u were throwing at Equitas but so far nothing has come from your end on this either.
but i find that neither have you replied yet nor have you been able to come back and substantiate your allegations. in all fairness, having raised issues, you should either:
1. provide evidences necessary to substantiate the charges, or
2. seek further time from me for providing the same, or
3. apologise
look forward to your response
regards/vasu
It is good that finally the investors are saying they will also be ‘Responsible Investors’. Be it in micro finance or any other area of operation, when an investor wants to invest, he is definitely required to do a full length study to find out the principles with which such organisations are run. and if those principles are not good then, even if the investment is likely to lead to a good and healthy financial return, the investor is expected to walk out of the deal. However unfortunately we have seen many investors, some leading ones at that, invest in MFIs knowing fully well that there are many issues and ethics, fairness or transparency are missing in such institutions.
the blame for the current situation has to be borne by the investors as much as by the MFIs themselves.
one only hopes that the investors would, atleast from now, do a thorough diligent check on ethics and princinples of the MFIs they invest in and then take a call, rather than on just financial returns
regards/vasu
Vasudevan’s comment above is correct: investors bare some of the responsibility for the current mess, and need to play an active role in ensuring CPPs are adhered to over and above pure financial returns. Alas many of the offending investors have endorsed all the usual transparency initiatives such as Microfinance Transparency, SMART Campaign, Africa Microfinance Transparency etc., and these initiatives neither expel offending members or endorsers, nor have any enforcement capabilities. Endorsement without enforcement is useless.
The microfinance sector has claimed for years to be able to benefit the poor, make reasonable returns for investors, and self-regulate. This is clearly not the case. Like all other aspects of the financial sectors of developed and developing countries, microfinance should be formally regulated by governments, with enforcement. Critics of this will be mostly those that have the most to lose from actual, rigid enforcement: the investors themselves, rather than the poor, who deserve enforced client protection as those in developed countries have enjoyed for years.
As Yunus said in the NYT on Jan 14: “Stricter government regulation could help”. Let’s hope that government regulation is not limited to those countries that have suffered widespread abuses of the poor, but also to Holland, the USA, Germany, Switzerland etc. where many funds originate from. The blame is all too often focussed exclusively on the MFIs, but we forget that this behaviour takes place with the tacit approval of funds that share in the benefits of extortionate interest rates and aggressive collection practices, while assuring their own investors that they are “helping the poor”. Regulation is required from the loan officer on the ground to the MFI’s senior management; over the MF fund in Europe and the US; and to protect the interests of the poor as well as the ultimate investors who place their money in such funds with little idea how it is actually being used in practice. While NGOs such as Microfinance Transparency attempt to publish accurate interest rates of MFIs in an attempt to prevent exploitatitve interest rates, institutions such as Kiva are unable, or unwilling, to even state the interest rate being charged to the poor. The current self-regulatory system is obviously failing and needs to be entirely overhauled.
The basic assumption, underlying the drafting of this set of principles, is that social investors, based in ‘the North’, through their investment policies and criteria could make an important contribution to keeping up ethical standards in the ‘value chain of inclusive finance’.
So far, criticism on microfinance, especially ‘microcredit’, has been primarily directed at local MFIs, and not so much their international funders which provide them with equity or debt financing. Yet, we should not forget that in most countries, the most important equity stakeholders in MFIs are international ‘social investors’.
Some industry investors are known to expect a return of 20 % or more, and indeed , in some countries like India, Mexico and Cambodia returns in the range of 30 to 45 % are no exception. In that context the launch of this set of ’Principles’ could also be regarded as a step towards self-regulation, at investor level, of a sector which, so far, has been driven by a ‘leave it to the market’ philosophy, to counteract unfair and inefficient industry practices.
The seven principles, says the document, are “ especially meant for direct investors or fund managers “ , who “can more directly influence adherence”. Those who sign, pledge that they “will commit to adhering and promoting” the Principles. Closer reading shows that the Principles deal much more with the way the investees, the local MFIs, should behave in their dealings with the end-clients of the system, and the investor’s duty to monitor the MFI practises, than with the way the investors should act and behave responsibly to serve their clients, i.e. the MFIs. This gives the principles in their present form a paternalistic flavour, in the sense of ´we investors know best what our investees should do or refrain from´. It is obvious that the poor borrowers, should be protected against abuses by MFI/debt providers, for example by applying the SMART Campaign principles, but what about the MFIs´ need for ‘protection’ against undue pressures from investors for profitability and rapid expansion, and the investors´ interference into MFI policies and practices ? What about the direct investors’ collective responsibility to refrain from overfunding of the MF sector in given countries, as has happened in some cases. I suspect that if these principles for responsible, international financing in the MF sector had been drafted by a representative group of socially minded, local MFIs , they would have looked differently. It could be an interesting challenge for some national MFI networks to express themselves on these Principles, based on their experience with foreign investors, and then request investors to endorse the same, but written from a different perspective.
The challenge for the entire sector of ’inclusive finance’ is to go a step further and develop clear standards for ‘fair finance’, to be respected by all stakeholders along the value chain, and whose compliance can be certified by neutral observers, such as rating agencies. If ‘fair finance’ as a concept, similar to ‘fair trade’, could be certified and made operational, different categories of socially-oriented investors – ‘high net worth individuals’, ‘retail investors’, private institutional fund ( pension funds, family offices) as well as public investors – could feel more confident to invest, until such time that MFI capital requirements can be fully financed from local resources.
Dear Mr. Vasudevan,
Thank you for your contribution. I think you are right that if an investor should be expected to walk out of the deal if the principles of the investor are not good even if the investment is likely to lead to a good and healthy financial return.
I know an investor who has invested INR 20,54 million in an mfi. Besides this initial investment, the investor is also entitled to subscribe upto 2.000.000 equity shares of the company at par (!) value of Rs 10 per share over a 3 year period. That would mean that, in case he would subcribe to the options the investor would have invested in 4.054.000 shares.
In the latest publicly available information of this mfi available ( the annual report 2009/10) it is mentioned that two new investors paid a premium of Rs 136,20 per share. The said investor thus would virtually (!) have increased the value of his shares from Rs 40,54 million to Rs.592 million (equivalent to USD 12,8 million). The net profit would then be Rs. 552 million (equivalent to USD 12 million) in just a little more than 2 years! Not too bad.
But what about the principles of this particular mfi? The mfi is well known because of it’s transparency and it’s systems, professionalism and efficiency. The mfi is applauded for the fact that it was able to grow from 0 to 1 million clients in just a little more than 2 years.
This means that every week approximately 10.000 clients per week were added or appr. 2.000 new clients on a daily basis. To be able to do so the mfi had to rigourisly hire new staff from scratch. All staff were new and not exposed to microfinance unless the staff were poached from other mfi’s. So is the case with clients. It is nearly impossible to organise new groups with inexperienced staff unless the staff and clients are already known to microfinance. It is much easier to work with clients who are already exposed to microfinance through the formation work of others (also referred to as ‘cannibalisation’). The help of ‘broker agents’ or ‘collection agents’ also makes the expansion a bit easier. Nowadays this is common practice in India. This was confirmed by Mr. Alok Prasad of MFIN at the Responsible Finance Forum, the Forum to celebrate the signing of the Principles for Investors in Inclusive Finance.
We have now learned the consequences of pouring out loans on poor people the hard way. It lead to over indebtedness, coercive practices etc. What does transparency in pricing mean for a client who already has the burden of 5 other loans? A client might be better off with one tailored made loan instead of accepting too many loans (including one loan with the highest level of transparent pricing!) which are beyond the repayment capacity of the client.
Unfortunately this particular mfi used the business model of poaching of clients and/or cannibalising SHGs clients which were formed by other mfi’s. Because of the existing practices at the field level the loan officers of this mfi now face the heat. Instances are reported that loan officers have been beaten up out of frustration of the clients and their community. Is this the true development that we wish to achieve?
So Mr. Vasudevan, may I ask you the question: if you were the investor in this mfi, would you find this highly profitable (virtual) return justified while the principles of the mfi are questionable as may have become clear from the above? Would you stay or would you walk out?
Dear Mr. Vasudevan,
Thank you for your contribution. I think you are right that an investor should be expected to walk out of the deal if the principles of the investor are not good even if the investment is likely to lead to a good and healthy financial return.
I know an investor who has invested INR 20,54 million in an mfi. Besides this initial investment, the investor is also entitled to subscribe upto 2.000.000 equity shares of the company at par (!) value of Rs 10 per share over a 3 year period. That would mean that, in case he would subscribe to the options the investor would have invested in 4.054.000 shares.
In the latest publicly available information of this mfi ( the annual report 2009/10) it is mentioned that two new investors paid a premium of Rs 136,20 per share. The said investor thus would virtually (!) have increased the value of his shares from Rs 40,54 million to Rs.592 million (equivalent to USD 12,8 million). The net profit would then be Rs. 552 million (equivalent to USD 12 million) in just a little more than 2 years! Not too bad for an investment that is supposed to contribute to poverty alleviation.
But what about the principles of this particular mfi? The mfi is well known because of it’s transparency and it’s systems, professionalism and efficiency. The mfi is applauded for the fact that it was able to grow from 0 to 1 million clients in just a little more than 2 years.
This means that every week approximately 10.000 clients per week were added or appr. 2.000 new clients on a daily basis. To be able to do so the mfi had to rigourisly hire new staff from scratch. All staff were new and not exposed to microfinance unless the staff were poached from other mfi’s. So is the case with clients. It is nearly impossible to organise new groups with inexperienced staff unless the staff and clients are already known to microfinance. It is much easier to work with clients who are already exposed to microfinance through the formation work of others (also referred to as ‘cannibalisation’). The help of ‘broker agents’ or ‘collection agents’ also makes the expansion a bit easier. Nowadays this is common practice in India. This was confirmed by Mr. Alok Prasad of MFIN at the Responsible Finance Forum, the Forum to celebrate the signing of the Principles for Investors in Inclusive Finance.
We have now learned the consequences of pouring out loans on poor people the hard way. It lead to over indebtedness, coercive practices etc. What does transparency in pricing mean for a client who already has the burden of 5 other loans? A client might be better off with one tailored made loan instead of accepting too many loans (including one loan with the highest level of transparent pricing!) which are beyond the repayment capacity of the client.
Unfortunately this particular mfi used the business model of poaching of clients and/or cannibalising SHGs clients which were formed by other mfi’s. Because of the existing practices at the field level the loan officers of this mfi now face the heat. Instances are reported that loan officers have been beaten up out of frustration of the clients and their community. Is this the true development that we wish to achieve?
So Mr. Vasudevan, may I ask you the question: if you were the investor in this mfi, would you find this highly profitable (virtual) return justified while the principles of the mfi are questionable as may have become clear from the above? Would you stay or would you walk out?
Dear Jan Postmus Equitas commenced operations in Dec 2007 and in the last 3 years, everyone who has come into contact with us have always showed a high level of appreciation of the work we do and the very high principles of fairness and transparency that we have set in the MFI space. this is the first time that anyone has challenged our claim of a fair and transparent company and hence it is also the first opportunity for me to further highlight and showcase what we do at Equitas and more importantly, how we do it which enables us to, i believe, justifiably, claim that we are the most fair and transparent MFI around the world!!
I am providing the link below to go to my response Click [ Link ]
Now, Jan, to answer the question you have raised at the end of your response, whether I would invest in such an MFI or walk away from it. My answer is that not only would I invest in it but feel proud enough to someday share it with my grandchildren! Regards/Vasu
After reading Mr. Vasudevan’s reply. Only one word I can say is “Hats Off” to you.
I have seen many MFIs and their operations very closely over the period of time, as we are technology service providers, very few can even come nearer to Equitas in terms of their operational efficiency, fairness in their dealing.
hi Jan Postmus, you had posted a response to my comment on this subject on Saturday 5th Feb and asking me a serious question whether what i have done in Equitas is fair and equitable. in response i had prepared a 10 page reply and posted it on Monday 7th Feb. since then i have been waiting for your further feedback but find that there has been no response from u. i take all comments posted on such public blogs pretty seriously and hence had taken the trouble of typing out a good 10 page reply to your comments. the minimum courtsey that one would expect is that you read it and give your feedback.
as mentioned before, i believe what i am doing in Equitas is absolutely fair to all stakeholders including clients, employees, regulators, bankers, investors and society. however if we are erring in any area, it is only out of ignorance and not out of choice and if such areas are pointed out to us, we would be thanful and correct ourselves immediately to keep our standards of fairness high.
mftransparency.org has publised the Indian MFIs all-inclusive interest rates in thier site recently and as to be expected, the foll two things are apparent:
1. Our lending rate at 25.9% is the lowest amongst almsot all the MFIs, including even all the not-for-profit entities
2. the rate published in this site is the same as what we print in our passbook and give to our clients … showing that right from the beginning, the rate we communicated to clients by printing on passbook is the true all-inclusive cost to clients
so jan, pl do take the trouble of reading my reply and favour me with your response. bouquets would make me happy (obviously) but brickbats would get me to improve further
regards/vasu
Dear Mr. Vasudevan,
Thank you for your elaborate response of 11 pages to my comment. Here is then my reply to you.
I have heard and read enough to be convinced that your back-end system in Equitas is among the best in the microfinance sector. Just like Mr. Shabbir Hakim, who is a technology service provider hiimself, I can take my hat off for Equitas for deploying cutting edge technology. Also your transparency in pricing is an excellent initiative and can be considered a trendsetter for the sector. Equitas has made a considerable contribution to the microfinance sector in terms of introducing technology to increase the efficiency of the model. The deployment of cutting edge technology is a necessary prerequisite to make the maximum growth possible. The question is however whether this maximum growth is desirable.
At the Responsible Finance Forum in the Hague, Mr. Alok Prasad of MFIN used a metaphor to explain the growth in Indian microfinance related to the current problems in India. According to him it is like driving a Ferrari with more than 100km/h on Indian roads which is asking for trouble.
This might as well be the case at Equitas. Your back-end systems may be as sound as a Ferrari, but is the Ferrari well equipped to drive on the interior village roads or the narrow slum alleys in the cities?
Let me now comment on a few salient points in your reply.
1. what strikes me most is that you outright state in point 2ic (page 3) that overlending takes place by other mfi’s. Furthermore you state that ‘In the meanwhile, furious growth by MFIs has led to multiple lending in some cases beyond their ability to repay.‘ This fingerpointing to other mfi’s is remarkable as Equitas is known for it’s fast (or furious) growth which is acknowledged by many. A few quotes are a.o. ‘the fastest growing mfi on the planet (Harvard Business Planning)’, ‘Equitas has won acclaim for its exceptional growth (Goodwell)’ , ‘In the first year of operations, Equitas crossed 250,000 clients, which is a world record.(Aavishkaar)’. So, if Equitas is the champion of furious growth, why shouldn’t Equitas be part of the multiple lending problem and in its focus on growth also lend to women beyond their ability to repay?
In your reply you are very clear and straightforward that Equitas has not contributed to multiple lending. But are you 100% sure? I consider it as highly risky statement with a high reputation risk for you and your organisation..
You are most likely much more aware than me that Equitas is part of the multiple lending problem. I am not in a position to judge on this, but I am quite sure that sooner or later evidence will come out that Equitas is not better than any other mfi. Some informal not yet confirmed information from the field that has reached me, is pointing towards that direction. My advice to you is to acknowledge the problem instead of hiding the problems (which is also not transparent to all stakeholders involved). Denying any involvement in the multiple lending problem now, will lead to a higher reputation risk to you in the (near) future.
2. You mention in point 2ib that Equitas ‘was able to grow in the early years mainly because the area of operation in Tamilnadu, except for 3 small to medium sized MFIs operating in a few districts, there were hardly any other MFI operational.’ In your conclusion you repeat that ’we were probably lucky not too many MFIs operated in the earlier years’
This is interesting for two ways. First, as a 3 year old mfi you are talking about ‘the early years’ which makes no sense to me. Secondly you give the impression that that only 3 mfi’s were operating in a few districhts in Tamil Nadu. This is absolutely incorrect. For example, before Equitas landed in Trichy, at least 7 mfi’s were based out of Trichy. Most of these mfi’s already operating from Trichy for more than a decade. So what is than the added of value of Equitas to come to Trichy? This is the same case in other districts like Vellore, Namakkal, Salem, Coimbatore, Karur and so on. The information you provided is thus incorrect and not transparant.
3. You mention that if your investment of INR 3,95 Crore increased 8 fold (to INR 31,6 Crore = appr. USD 7 million) even a cynic may probably say that you deserve it. I may not be cynic, but what becomes clear from your answer is that you see this investment as straightforward selfish investment and not a social investment. In ‘where to microfinance’ G. Woller et al (in ‘Where to microfinance’, 1999) came up with a useful definition of selfish vs. social investors. According to Woller, ‘a social investor is willing to accept a “below market” financial return in exchange for a compensatory amount of social return. A selfish investor, on the other hand, seeks solely a financial return. The investor may be interested in the social mission of the institution, but any interest in the social mission is subordinated to the selfish motives behind the investment.‘
Your answer that you deserve a potential gain of USD 7 million in only 3 years, can be seen as a confirmation that your selfish motives behind the investment is the major reason and that the social mission is subordinated. The annual report of Equitas confirms this view. Like in many mainstream companies, the social activities of Equitas are part of Equitas’ Corporate Social Responsibility policy (see Paragraph 19 on page 12 of annual report 2009/10).
The interesting thing is that a number of investors in Equitas see themselves as a social investor and subsequently also label their investment in Equitas as a social investment whereas it is clear that you see you own investment from a selfish perspective. So here we see a mixing up of social vs. selfish investments which forms the basis of a lot of confusion in the sector.
4. If we talk about returns it is important to distinguish two types of returns. First, the net profit which can be used to calculate the RoE. You always use the example that Equitas has a cap on RoE (and a cap on managerial renumeration). The second return is the increase of the value of shares. The latter is the main driver to create selfish gains (especially if the growth in asset size is fast) whereas the profits are reasonably low (profits can be kept low due to the necessary investment required to enable the growth).
The cap on RoE is then used to distract the attention from the real driver of returns, which is value creation through shares. Also in your case the value of shares has increased furiously. This is the same with the promoters of other high growth mfi’s. They have used the value of the shares to maximize the profits (refer to discussions about shareholdings (including sweat equity) about Vikram Akula, Udaia Kumar, etc.in the Economic Tiimes). If you claim to be transparent, than also please be transparent in your communications that the creation of value through shares in not capped in Equitas.
5. To me it is difficult to understand that Crisil has provided a high rating to Equitas. The main asset of an mfi is it’s portfolio and Equitas’ loan portfolio is not really seasoned. The true asset quality is not very evident. The majority of the clients is still only in it’s first or second loan cycle (given the two years loans that Equitas provides). With the current crisis in mind, the relationship with the clients will have to be tested (see also point 6)..
6. The mission of Equitas is to improve the quality of life by increasing total household asset value of your clients. This mission makes no sense if you do not take into account the liabilities of the clients. To ascertain the nature of the growth of the assets, one needs to look at the ‘balance sheet’ of the clients, just like in a company. The total size of the balance sheet of the household may have increased, but the liability side of the balance sheet will tell you how the growth of the assets has been financed. If there is no increase (or even a decrease of the net worth) and an increase of the short term liabilities then the situation of the client may not have improved. Or even worse, the debt/equity ratio has gone below the minimum acceptable level and the equity is overleveraged. In a normal situation banks would not lend anymore to the company. This should also be the case with clients of mfi’s.
Here’s also a huge leverage risk for the mfi’s. If the mfi’s clients are overleveraged, then this will have an effect on the quality of the assets of the mfi. It is important therefore to realize that an mfi is impacted by leverage twofold: at the company and household level. With losses or a fall in asset values, leverage makes it more difficult to repay these debts. This is what can be called the magnification effect of leverage. For households it is easy to see how loose credit can suddenly be the cause of a dangerous and downward spiral. Widely recognized risks are over-indebtedness due to multiple borrowings, high cost of debt, credit risk, asset liability mismatch, etc. The greatest danger to repayment problems is the magnification effect of any of these, caused by leverage. Then it is also important to assess the leverage of the mfi. Many Indian mfi’s are looking to expand to impact more people’s lives. But as a contradiction, expansion to impact more people’s lives cannot be used as an excuse to try to ‘lever up’ and increase size if the motivation is purely for economic interests. Especially if the mfi’s motivation is purely to gain size and thereby attract increased enterprise valuations from potential investors. Or in other words, a short-term number game bent on increasing the number of borrowers, with no concern for long-term scaling impact. The contradiction of leverage is that it is a tool that can be used to effect very quick growth. However this leads us back to magnification effect. Should any of the multiple risks occur, we enter the dangerous cycle and the assets and/or equity shrinks very rapidly. On the short term it can be disastrous for the client. The mfi will may face the problems on somewhat longer term.
7. And you know much better than me, that Equitas is currently arriving in the phase that is facing problems at the ground level. And as I argued in point 1, it is highly likely that Equitas also has contributed to over financing of clients. Again, my advice is that it is much better to acknowledge the problem. Only after acknowledging the problem, one can work on a solution. Your 11-page answer does not give any indication that you are part of the problem. On the contrary, you are mainly advocating for your contributions to the sector (and no denial, you have also contributed good things to the sector! Please do not misunderstand me). Unfortunately you are not the only one who is denying to be part of the problem. Hardly any mfi acknowledges that the drive for growth has contributed to the current problems. But if apparently no one is part of the problem, how is it than possible that microfinance sector in India is facing a severe crisis? It takes courage, but the best step that you can take is to first admit the problems. Only then one can look for solutions.
I am however concerned that your solution to the problem may be driven by factors that are not aligned with the interests of your clients. This is related to vested interests where you have to deal with. Let me explain this with the following data. Last year Lumen Investment Holdings and Sequoia Capital India were willing to pay a premium of Rs. 136,20 for each Rs. 10 share. They were willing to pay this price most likely for two reasons: the past performance and the future prospects of the company. The past performance of Equitas showed a fast growth. The projections were most likely patterned on the same growth rate. This is confirmed by a Crisil rating report (page 14, nov 2008 rating report) that Equitas has high growth aspirations. The Aavishkaar website mentions that Equitas targets to reach six million customers over next three years. The valuation of the shares is basically depending on the size of the portfolio. When Lumen and Sequioa decided to invest they thus expected the portfolio to grow significantly in order to create share value. Given the current state of the microfinance sector it is nearly impossible to reach these projections. I truly wonder how you are able to satisfy the investors on one hand and to seek sustainable solutions for the clients in the current crisis on the other hand. Even a an optimist may probably say that this is nearly impossible.
Despite that, I wish you all the best in your endeavours.
Yours sincerely,
Jan Postmus
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Hi Jan, nice to see u back again with a load of more questions. let me take them one by one:
1. Is Equitas part of the problem of over lending?
In a scenario of this kind, the common belief all of us tend to come to is that if a company is growing slowly they are not contributing to this problem and if a company grows faster, it has contributed to this problem. This is simplistic and generalising. The truth can even be exactly the opposite. The real answer lies in the actual practices of each company. as explained earlier, Equitas had an absolutely clear policy of not extending credit to people in urban areas if they already had loans from more than two MFIs and in rural areas if they had a loan from more than one MFI. We had put in place strong trainig and communicaiton to field staff not to exceed this and also random verifications by BM (25%) and risk team (another 10%) of cases to ensure its implementation. You could always come up with some exceptions where such rules were violated but i know out of my personal monitoring and overseeing the operations that we have followed this rule with probably less than 5% exception. This was one of the fundamental principles on which the company was built and hence I can say this with high confidence. Clients themselves never tell the truth when asked how many loans they already have. We make them fill up in the application form how many earlier loans they have and ask them to sign it but even then they dont fill up the truth which is most unfortunate. In the absence of a credit bureau it is difficult to find the truth in all cases. If only the clients had also cooperated by disclosing truly all their borrowings, it would have helped substantially.
2. Credit bureau
However we always realised we need authentic data base of the sector, to resolve multiple lending issue on a 100% certain basis and hence as mentioned in the previous posting, we had taken significant effort at both Tamilnadu level and at an all-India level and the result is that today we have a credit bureau up and running for the sector with data of about 8 of the top 10 MFIs and we hope in another 1 to 2 months we will have the balance about 35 MFIN members also on the bureau. This has for the first time given us authentic data of client’s overall borrowings and together with either MFIN’s code of conduct (not more than 3 MFIs and not more than Rs. 50000 loan per client) or RBI guidelines based on Malegam report would hopefully ensure that the risk of over lending to same client is resolved once for all. And if u check around, I am sure there would not be too many people who would grudge the seriousness and efforts put in by Equitas in this crucial initiative which is going to be a long term benefit to both borrowers and lenders. This is the culmination of nearly 2 years of focused effort
3. So is Equitas really denying involvement in being the cause of over lending inspite of being such a fast growth company?
As mentioned above, we had our policy very clearly in place that in Urban, if she has borrowed from more than 2 MFIs we don’t lend and in rural, if she has borrowed from more than 1 MFI we don’t lend. It is a fact that the members themselves never tell the truth and always hide the information on their total borrowings. Yet I am so convinced that we have put in place a very tight system of controls and monitoring mechanism that I am pretty confident we have not violated these norms in a majority of the cases. There would, I am sure, always be exceptions where we have violated these rules but I am sure it would hardly be even 5% of the total numbers. To my knowledge, many MFIs never had such a norm in place in their organization. Jan, if you are aware of MFIs in Tamilnadu who had such a norm in place over the last few years as part of their credit filters, I would be happy to have this list from you. Money lending is basically a banking business and requires license from RBI either in the form of a Bank or as an NBFC. It is easy to find out which are the banks or NBFCs which operate in an area since they are registered. Also they have to be of a certain size and above because of regulations on minimum capitalization etc. So, when I refer to MFIs above, we always took into account only NBFC-MFIs. You have mentioned about 7 MFIs operating in Trichy when we started there. If you are referring to NBFC MFIs, please do let me have the list since I feel this is wrong. However if you are also referring to non-RBI licensed lenders, then Jan, why talk of 7 lenders? In Trichy as in other places, there are literally hundreds of money lenders. We would not be able to count all of them and hence we stick to counting only NBFC-MFIs. Even the Malegam report recommendation talks of restricting lending to a member by upto 2 NBFC-MFIs but they are not talking of covering all type of non-RBI licensed lenders. If such lenders want to be counted, they should necessarily be licensed by the Regulators.
4. You need to back up your allegation or apologise:
You are alleging that Equitas caused over borrowing by clients on the general assumption that any company which grows must be doing this. This is like saying that all NGOs are frauds since we know that almost all of them are definitely fraudulent. While it is ok to talk of this in general, but if I specify an NGO by name and call him a fraud, I should do it only after I have enough evidence that they are doing fraudulent activities. Similarly if you want to specify Equitas as a company causing over borrowing problems to clients, then you need to have sufficient evidence before you can level such an allegation. Since you do allege this, I assume you have sufficient evidence for the same. We have nearly a million clients in Tamilnadu and to be called as a company causing over borrowing problems, we must have violated our lending norm to clients (mentioned above) in atleast 10% of the cases which is about one lac. If you have evidence for atleast this number of clients please do share it with me and I would admit to your charge. However if you don’t have any such evidence, then you surely have no right to throw charges like what you are doing and I would look to a graceful apology from you.
5. ‘Early years’ and how it makes sense:
You say that since Equitas is only a 3 year old company talking of early times does not make sense to you. You seem to be in a time warp. It took 150 years for the typewriter to change into a computer. But today it takes less than 150 days for the latest computer to go through dramatic change and become an unrecognizable machine. In Equitas, let me explain why it does make sense. Early times and late times are with reference to phases that a company goes through. If a particular phase lasts for say 5 years, that would be one block of time whereas if it lasts for 6 months and then a different phase starts off, then this phase has lasted just a few months. In Equitas we have already moved through 3 different phases viz: the beginning period where we built the branches and went through slow support from banks etc and then able to post some growth lasting nearly a year; next phase where the global credit crunch had its impact in India also and we went into a maintenance period where number of new clients serviced per month remained constant, lasting another about a year; next phase where there was a growth for a few months and then slow down in Tamilnadu and growth from the branches in West, lasting another about a year; and the current phase where we are seeing reduction in clients serviced and are awaiting stability to come in the sector in the form of regulatory certainty, robust credit bureau and authentic data base, regulations regarding multiple borrowing by same client etc. Once these things become settled down and clear, the next phase would begin where growth, holding on or shrinking the size would be decided based on the type of regulations that come in finally. So you see, even though we are only a 3 year old company we have had enough phases we have gone through and it makes sense to talk of early and later times
6. Social vs selfish investor:
Micro finance has for long held on to what I believe, is an untenable philosophy of eradicating poverty or lifting poor out of poverty. And this positioning probably helped many MFIs in their earlier years attract donations and grants too. However even as we started Equitas, we were very clear that as a company extending credit, we were in no position to claim to deliver poor out of poverty. We never took such moral high grounds. In fact through out our mission statement or other writings, we never use the word ‘poor’ or ‘delivering out of poverty’. Rather our purpose was very clear: if certain segment of the people were unable to access credit from the banks then we would reach credit to such people in a fair and transparent manner. This was our claim from the beginning and we have been consistently at this job of making available credit to such people in a manner which is very fair and totally transparent. I have already explained in the earlier reply the whole mission statement and what we have been doing over the last 3 years to fulfill every part of that mission statement. We have made a mission statement and we have consistently delivered on that. We were very fair to clients in pricing also. I had already explained our unique pricing philosophy where we never factored in actual cost of operation in determining our lending rate. Thus our first loan in Dec 2007 was at 25.5% reducing balance plus 0.5% membership fee at a time when the lowest lending rate in India by other MFIs was not less than 32%. Also we put a cap on RoE which protects pricing on a long term basis. These unique fair practices have been hailed by everyone associated with micro finance as global benchmarks. We are running a micro finance company, borrowing from banks on the one hand and lending to those whom the banks are unable to reach directly. While we can claim we are doing a service to them, since we also earn an interest income, you can’t take this claim of ‘service’ too far. But the big question is : are we doing this with a social consciousness? And this is where our fair practices come in and the whole team in Equitas down to our last staff are very happy working in a company which is extremely fair to its borrowers which I hope Jan, u also agree. If you have a difference on this pl do write back to me.
7. So am I a ‘social’ investor or a ‘selfish’ investor?
I am neither. I never started this company for the purpose of making money … nor started it for charity purpose. We put out a mission for the company and have consistently worked on and been delivering on it … period. I promoted this company and sticking to our initial mission … to this day! When you are quoting Woller I think you are a bit confused between what the business earns and what price the shares sell at. If a company earns let us say, a below market return (as woller puts it), of say 15% in a market where other companies earn at say 20% RoE, this does not mean that the shares of this company would be appreciating by 15% p.a also. If you take HDFC Bank in India, it has consistently given a RoE of around 20% over many years. However if you take the shares of this bank, in the last few years it has multiplied by many times and not by 20% p.a. And if you take the initial investment by the promoters at par, this share has multiplied by over 230 times over the last 10 years while the RoE is not 230%. The shares are valued on multiple factors of which RoE is one. Other things include quality of management team, quality of back end systems and controls in place, quality of branch team, ability to innovate on products, processes, IT capabilities, the prudence in its accounting practices, its transparency, quality of audits, ability to consistently deliver similar results, sustainability of the organisaton under crisis times etc etc. On the other hand, ICICI Bank shares are traditionally valued at a lower level by the market, even though they are almost twice as big as HDFC Bank because the market probably does not value them as high as HDFC on the above parameters. And please note that the RoE of ICICI Bank is also almost at similar levels as HDFC Bank!! If the share prices of Equitas has multiplied many times in the last 3 years it is because people have high faith on the company as a company which is built to last. It is not because we are a ‘selfish’ investor or a ‘non-social’ investor. I hope this is clear to you now.
8. Are investors in Equitas correct in claiming they are ‘social investors’?
For long micro finance has been called ‘social sector’ business. This might have been appropriate when it was purely a charity business. But even after NBFCs operate in micro finance it is still called ‘social sector’. I am not getting into semantics. You people can decide what sector this is. To me what is important is that do we have a clearly stated mission statement and are we living it in letter and spirit? If yes, we can be happy. And we believe in Equitas we definitely live our mission.
9. So are there really any social investors?
There are many people who are regarded as social investors such as Grameen Capital, Oiko, Manaveeya, Opportunity International, MSDF etc. But what are they really doing? They are funding companies either in the form of equity or debt at a stage which is the highest risky stage of the company. And always, if they invest in equity, it is at par and if they provide debt it is at a rate higher than commercial banks. If such companies do well, the investors make a good return; however if the companies don’t do well, they tend to lose value. So are they social investors? Or are they angel investors? What is the difference between angel investors and social investors? Both come in at an early and risky stage of a company, both invest generally at par and in a few investments, they get good returns and in a few, bad. To me it does look like they are all angel investors only. Anyway I don’t want to get into semantics as I said before and if you still believe these people are social investors and others not, pl do hold that view. I don’t see any relevance for the same. And don’t tell me social investors don’t push companies to get high RoEs while angel investors would do this. The investors never push the promoters on anything. If a company pursues high RoE and high profit route, it is because the promoter wants to do this and not the investors. If the promoter is clear from the beginning of what the company will deliver, the investors come with clear knowledge and there is no way they push for anything higher after that.
10. Leveraging at company level and customer household level:
At the company level we have always been highly prudent in leveraging and as a policy we never go below a CAR of below 20% (including off-book), far higher than statutory requirement. As far as leveraging at household level of customer is concerned, as elaborately mentioned in my previous reply also, we have always been worried about this and put in many efforts both within the company and at the sector level to address this risk. I have elaborated these many times over and if you still have doubts on this pl do write back again
11. Current crisis situation and managing investors while satisfying client needs:
You talk of the investors who have invested in Equitas on the belief of a strong growth in future which looks impossible to reach in the current situation. So you wonder how we are going to “satisfy the investors on one hand and to seek sustainable solutions for the clients in the current crisis on the other hand. Even an optimist may probably say that this is nearly impossible.” Jan, you always seem to think of everything as a 1 and a 0, a win and a loss. You seem to believe that either the investor wins or the clients win. Either we can satisfy the investors or we can seek sustainable solutions for the clients etc. But please note neither business nor life is a zero sum game. Sustainability comes not in one winning and the other losing. It comes by everyone moving up together. Let me explain how Equitas plans to ‘satisfy’ its investors while also being very good to clients:
a. In micro finance we will continue to either shrink in size or remain where we are till two things fall in place:
- New regulation expected from RBI which would bring regulatory clarity to the sector
- Addressing the risk of over borrowing by clients through a combination of credit bureau which has just got functional and regulation on number of loans that a borrower can take from MFIs
Once these happen we review the situation and take further course of action. Since Equitas is already run on extremely fair practices including our own internal lending rate cap, margin cap etc, we believe that as and when the regulation comes in place, we are likely to be one of the few MFIs who would be fully compliant with any stringent regulation. In fact Equitas is almost wholly compliant with the Malegam recommendations and there are hardly any changes we need to make to be in line with this. This is probably why most people have a liking and respect for Equitas
b. Diversification:
i. We had applied to NHB for a license for our subsidiary Equitas Housing Finance P Ltd in May 2010 and the same has been received recently. We expect to commence operations in the next few months. This would be focused on self-employed businessmen buying what is referred to as affordable homes. The banks are unable to reach this segment given the difficulty in credit assessment which we hope to fill in
ii. We are also commencing another subsidiary in which we would be undertaking used commercial vehicle financing, which is again addressing that segment of the population where banks are unable to reach
We have significant amount of managerial capabilities on these new lines of businesses which gives the confidence to the investors to approve these business plans. We expect to be able to create value for our investors through a balanced growth over a diversified product lines. And at the same time, we hope to continue to be providing high quality service and fair pricing to our micro finance clients. The micro finance clients would continue to be provided our various other social services too which we have commenced such as free medical check ups and treatments, vocational skill development training programmes, food security programmes, education support for their children etc etc.
So Jan, to conclude, I would suggest that you don’t keep proceeding on the path of ‘either investors gain or clients gain’. There is always a mid path to your line of thinking .. of being an extremely friendly and useful service provider to our clients in the most ethical manner possible and also provide value to our investors. This is difficult, needs total clarity and conviction of what we are doing and tremendous execution skill. And practically everyone who has visited us have expressed confidence on Equitas on this philosophy. You must stop throwing allegations in the air. If you are serious, please do visit us at any time of your choice and understand us better.