Tuesday, October 19, 2010

Flat Rate

Eradicating poverty with flat rate of interest? SKS Microfinace, the largest in India with 73 lakhs of customers is in limelight for two reasons - hugely successful IPO and sacking of its CEO immediately after that. This got attention of people and we get educated about this flat rate of interest the profiteering microfinance companies charge. Today's edition of TOI reports, "While offering a loan, they often quote a “10% flat” rate of interest, which, on the face of it, appears like a good deal. However, there is a catch. This ‘flat’ rate of interest means that it will not be calculated on reducing balance. It implies that even after the borrower has paid a few installments, the interest would still be calculated on the initial sum borrowed, and not on the balance loan amount. The result is a (hidden) final rate of interest of 24-30%, or even higher for the poor who can barely afford a square meal a day. “Microfinance, as practised by MFIs is unethical to the extent that it evades the truth in lending,” said R Balakrishnan, a financial market veteran turned independent adviser." And SKS uses 12.5% of flat rate of interest!!!

Now one cannot be faulted to think them as "no better than moneylenders but have so far been able to operate under the pious garb of poverty eradicators."

Add to this the strong arm tactics used. TOI further says,"The high rate of interest is also leading to defaults and fraud. Recently, there has been a spurt in suicides in Andhra Pradesh and Orissa, allegedly due to harassment by MFI agents who started resorting to strong-arm tactics to recover loans as chances of default rise. M Subba Rao, of NGO Masses, who trained under Grameen Bank founder and Nobel prize winner Muhammad Yunus in Bangladesh, describes the cases of alleged harassment by MFIs as the result of ‘irresponsible lending’. “There is high pressure on the staff (of private MFIs) to lend. They have targets to meet and they dump money (on people) in many cases,” said Rao. Consider this: The loan outstanding, according to the latest estimate by Microfinance Institutions Network (MFIN), the organization of 40 MFIs, is about 30,000 crore with about 3 crore poor banking on MFIs for their financial needs. While the four southern states of AP, Tamil Nadu, Karnataka and Kerala account for a chunk of this borrowing, West Bengal and Orissa too have rural poor relying on MFIs. Besides, the sector is also on an uptick in UP and Haryana."

This was lesson for even seasoned bankers like State Bank of India chief. The concludig part of TOI report says, "Of course, eradicating poverty through the MFI route, for some, is a lucrative business. The IPO document by SKS disclosed that Gurumani was drawing an annual salary of Rs 1.5 crore, an equal amount or more as performance bonus, and also a onetime bonus of Rs 1 crore. Akula is entitled to up to 1% of SKS’s net profit, in addition to ESOPs.
Not surprisingly the ‘success’ of some of the MFIs and the mega-listing of SKS recently have stunned even seasoned bankers. When asked about the success of the MFI business in India, during a recent interview with TOI, O P Bhatt, chairman of State Bank of India, said even he was surprised by their numbers. He wanted to go deeper into their finances and business model to understand how MFIs, who borrow from banks, including SBI, can make profit which these very banks can’t make. The same is the case with some other finance veterans. After all, like mobile tariff plans, no financial product is protected by patents and IPRs and the uniqueness of any new and lucrative one cannot last for more than 24 hours.
The problem seems to be with the business model, and not the approach. In India, largely there are three kinds of MFIs: The self-help groups (SHGs) which are government-supported MFIs, nonprofit NGOs and the private for-profit firms.
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4 comments:

Rajan Alexander said...

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 the 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. Technically and fundamentally, the share looks bearish and ready for a free fall. We expose the dark underbelly of a Frankenstein unleashed by NGOs.

Read more: http://devconsultgroup.blogspot.com/2010/11/micro-finance-to-face-slow-painful.html

gs said...

The following appeared as editorial in today's economic times. The editor argues in favour of high interest by building up certain logic. I cannot claim that I am an expert on this. But as a commoner but rational being the reason/advice given by the expert editorial team to experts in Govt./judiciary appears to be flawed and one sided, motivated(?).
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SKS wilts under pressure
Wrong Move To Cap Interest Rates


SKS Microfinance, the first publicly-listed microfinance company, has set a wrong precedent by capping interest rates on loans to the poor. A cap, 24% in this case, is a discretionary instrument. It will trigger a rate war among MFIs, squeeze profits that are vital to the expansion of the microfinance sector and make small and new MFIs unviable. The company has clearly wilted under pressure to lower interest rates — for the second time in a month — after the Andhra Pradesh government issued an Ordinance to check malpractices. Some MFIs were accused of using force to recover loans and such coercion, it is alleged, led to suicides. But only a rigorous investigation can prove the connection. Sure, regulation is needed to check malpractices and MFIs that use strong-arm tactics to recover loans must be punished. However, the Ordinance, that restricts MFIs from charging high interest rates on readily-available small loans, will encourage rent-seeking and stifle the sector’s growth. This is unfortunate. The Centre should encourage the state not to convert the Ordinance into law, even as the AP High Court is hearing a case arising out of a legal challenge to the Ordinance. Today, the poor do not have access to formal finance. Unlike banks, MFIs lend without collateral and charge interest rates of up to 30% to cover high operational costs. A cap is not the answer to lower interest rates. It will only dampen the supply of microfinance and force the poor to turn to moneylenders. Caps will also curb MFIs from entering remote areas and undermine the goal of inclusive finance. Barriers in the form of price controls are retrograde and should be shunned. Instead, policy should aim at an increase in the supply of credit for lowering interest rates.
An expert panel set up by the Reserve Bank of India is now examining the entire gamut of regulatory issues in the microfinance sector including interest rates, lending and recovery practices of MFIs. This is welcome as the study will help spot the trends that impinge on borrower’s interests. It should analyse whether MFIs are indeed charging exorbitant rates. Hopefully, that will end the debate.

gs said...

The following appeared as editorial in today's economic times. The editor argues in favour of high interest by building up certain logic. I cannot claim that I am an expert on this. But as a commoner but rational being the reason/advice given by the expert editorial team to experts in Govt./judiciary appears to be flawed and one sided, motivated(?).
-----

SKS wilts under pressure
Wrong Move To Cap Interest Rates


SKS Microfinance, the first publicly-listed microfinance company, has set a wrong precedent by capping interest rates on loans to the poor. A cap, 24% in this case, is a discretionary instrument. It will trigger a rate war among MFIs, squeeze profits that are vital to the expansion of the microfinance sector and make small and new MFIs unviable. The company has clearly wilted under pressure to lower interest rates — for the second time in a month — after the Andhra Pradesh government issued an Ordinance to check malpractices. Some MFIs were accused of using force to recover loans and such coercion, it is alleged, led to suicides. But only a rigorous investigation can prove the connection. .... The Centre should encourage the state not to convert the Ordinance into law, even as the AP High Court is hearing a case arising out of a legal challenge to the Ordinance. Today, the poor do not have access to formal finance. Unlike banks, MFIs lend without collateral and charge interest rates of up to 30% to cover high operational costs. A cap is not the answer to lower interest rates. ....

gs said...

From ET, 13.12.2010

BANGLADESHI microfinance pioneer Muhammad Yunus on Sunday attacked companies for “misusing and abusing” his original concept of helping the poor via small loans, after a backlash against profit-making lenders.
Mr Yunus admitted the reputation of microcredit had been tarnished by Indian commercial companies that charge high interest rates and use heavy-handed tactics to collect repayments.
India’s biggest lender to the poor, SKS Microfinance, has been in the spotlight following a series of suicides among debtladen villagers in Andhra Pradesh where authorities have reacted by ordering a crackdown on microfinanciers.
“A lot of people are misusing and abusing the concept and use it as vehicle to make money. And SKS is a big example in this regard,” Mr Yunus told reporters in Dhaka.
He said SKS boss Vikram Akula had set up a non-governmental organisation and transformed it into a profit-making company which he then launched on the Bombay Stock Exchange.
“It’s a complete detour and nothing but a quitting of the (microfinance) mission,” said Mr Yunus, who won the Nobel Peace Prize in 2006 for his Grameen Bank’s microfinance work.
“The original micro-credit concept cannot be blamed for their faults,” he added.
The microfinance industry in India, once seen as a saviour of the poor, is in crisis after criticism of the alleged abusive practices by debt collectors and high interest rates.