Proliferation of MFIs is leading to crisis  

Rural Microfinance Development Centre Limited (RMDC) is the largest wholesale lending organization for MFIs in the country as its outreach shares nearly four-fifth of the entire microfinance industry’s business in the country. ShareSansar caught up with the CEO of RMDC Mr. Shankar Man Shrestha, who is not only one of the pioneers when it comes to the microfinance sector in the country but also has extensive experience of rural, agricultural and cooperative banking. He has been in the rural and microfinance sector for last 47 years. We talked to him about the prospects and challenges faced by the microfinance sector in the country.  Excerpts:

How do you view the growth of microfinance sector in the country? Is it satisfactory?

The growth of microfinance sector over the last 12 years is pretty fast and sturdy. Before the inception of RMDC there were two non-governmental microfinance institutions in the country – CSD and Nirdhan and five grameen bikas banks mainly owned by the central bank and the government. But the four of these five state-run microfinance banks did not pick up upto the expectation, and four of them could not perform well and incurred losses due to poor management and are teetering on the brink of bankruptcy. The government and central bank are now trying to merge all of them into one in a bid to rescue them. It is not yet clear as to what would be the outcome of that initiative. Capital injection alone cannot ensure sustainability and viability of an MFI. The management is the most important aspect. However so far as the non-governmental microfinance institutions are concerned, microfinance institutions have mushroomed in the country in recent years and most of them are reporting good performance for the time being.

As a wholesale lender to its partner MFIs, how is RMDC supporting the promotion and the institutional development of microfinance sector in the country?

Talking about RMDC, we have been involved in institutional infrastructure development of MFIs in the country.  Today RMDC has 160 partner organizations. We call our borrowers as our partners. We have developed more than 80 percent of our partners from scratch. Our partners alone provide microfinance support to 1.5 million households across the country. We were able to achieve this progress through huge capacity building support, including staff training, system development and onsite consultancy etc. We have trained around 15 thousand staff of MFIs till date. And our trainings are entirely different from the conventional classroom based training conducted through some experts, which are largely ineffective in my opinion. However, almost all of our training programs are practical and field-oriented.  Our slogan is “reach out to the poor households and learn about their needs from them” so that we can chalk out the credit plan accordingly. These MFIs, which started off with some 100 to 150 clients, now have more than one lakh clients each and they are already in a position to hold transactions of billions of rupees.

When we started to build these organizations by providing Rs 1 lakh to each of these organizations no other organizations were willing to trust them. Even the commercial banks were plagued with the mindset that MFIs and the poor people are non-bankable. On the other hand, they had to invest three percent of their total investment in the deprived sector, but they could not make direct lending to target people. To make the matter worse for them, there were no professional institutions through which they could make the disbursement. Such were the problems of the BFIs vis-à-vis MFIs when RMDC was just incepted with the initiative of the central bank and the Asian Development Bank — of course, with the government’s support. We eventually could create market for them. Not only the volume of disbursement to be made by the commercial banks in the deprived sector has risen over the recent years their numbers have also surged to 31, in a sense we created market for them to make deprived sector lending. See, microfinance sector demands a very specialized lending mechanism. A commercial bank just cannot make successful lending in the sector even if they wish. It is evident from the fact that while the commercial banks’ have failed in the sector, MFIs have the record of near ninety nine percent loan recovery. The commercial banks just do not have the right mindset and expertise required for the microfinance sector.

What we also need to understand here is that RMDC’s structure was, and still is, different from other traditional FIs. Though established with the government’s support, RMDC does not have any investment from the government. The central bank had invested 25 percent of the total investment in RMDC at the outset along with thirteen commercial banks which made share subscription at the behest of the central bank. Similarly, five grameen bikas banks, too, have less than 1 percent investment in RMDC. Its initial mandate was to provide wholesale loan to MFIs.  But there were only two MFIs back in those days, and that too very limited in size.  Going by the mandate to give loan to MFIs as per the appraisal of the loan they sought, we would not have been able to help in the expansion of microfinance in the country.  Hence, we were compelled to engage in the promotion and institutional development of MFIs.

At the outset, our focus was on the reform the grameen banks. We started to provide training and other supports for the first two years. We even prepared a comprehensive viability plan in 2000 for each of them.  As per our recommendation, there was a capital re-injection of Rs 16.28 crore by the government and the central bank in those banks. This capital injection was one of the 16 recommendations we had made to enhance their capabilities. The other recommendations, including those pertaining to ways to improve the management and addressing the overstaffing, were not heeded. This failure has led to the debacle the grameen banks face now.

Nonetheless, the lesson we have learnt from the grameen banks gave a lot of insights to us for the development of other MFIs. The most encouraging aspect of the MFIs in the country is that almost all of them are viable and sustainable. The repayment in the sector is at the highest level compared to other FIs. They are making good profit. We were behind the institutional development of the MFIs, and we take pride in it.

Microfinance sector has been providing better returns than all other groups in the stock market. The sector has grown by over three times over the last two years. On the other hand, your IPO was floated in premium rate, scrips of other microfinance development banks such as Sana Kisan Bikas Bank, which was floated simultaneously with RMDC, are better priced in the market compared to yours. How do you see it?

As I mentioned before, MFIs are making very good profit, and they are also offering a high dividend. This is one of the reasons the shares of MFIs are surging in the stock market. But what the share investors seem to overlook is that they have a very low paid-up capital. This is very risky thing in a long-term perspective. I do not understand how could the price of the scrip of a microfinance institution with a paid-up of Rs 1 crore be as high as Rs 900! On the other hand, the share of RMDC, with 160 crore net worth, has price less than that. It defies all logics! I talked to a lot of stakeholders from the sector, including share traders, and what I could infer is that the share investors are more than happy with any MFI that offers good bonus shares and dividend. They apparently are not thinking much about the background of those institutions – whether they are strong, sensible and sustainable.

The MFIs which was limited to two in number only a few decades back have grows hundreds of times by now, and you have played a very important role for their institutional development. Nonetheless, don’t you think that the mushrooming of MFIs also pose some risk to the entire sector and the economy?

Over the recent years, Nepal Rastra Bank has been issuing license to too many MFIs much in the manner it issued permissions to BFIs in the past. Now it is compelled to ask the BFIs to merge. I don’t understand why we do things that we are not supposed to do in the first place, and then repent.  With the proliferation of MFIs, the sector is already witnessing too much of multiple financing and over indebtedness in clients. Though multiple financing may not be bad in itself, but over indebtedness is definitely troublesome. With over indebtedness, the poor clients are struggling for repayment. This has in turn made the MFIs to turn to non-poor people, that too, in easy to reach places for profit. This has also triggered a cut-throat competition between the MFIs for profit, they are making profit — but at what cost!  

See the problem is that the microfinance sector has failed to become market-driven even though they are receiving the deprived sector fund at the lowest cost. Initially their average fund cost was 10 to 11 percent. As their operating costs were also high in the initial phase we advised them to charge around 24 percent interest rate. It was necessary for their survival. And you cannot survive with a business done in loss. You have to make profit and for that you have to fix appropriate interest rate.   Even after charging 24 percent interest rate, they were reporting loss. Gradually, however, they started to pick up. On the other hand, their fund cost also has now dropped to around 3 to 6 percent. One of the major reasons for the reduction of the fund cost is the move to increase cap of deprived sector loan from 3 percent to 5 percent, and the other reason is the increased number of commercial banks, the development banks and finance companies which have to meet the deprived sector lending at any cost and the tough competition between them. The commercial banks are, at the end of the day, the major wholesale lenders for MFIs. If the commercial banks do not invest five percent of their portfolio in the deprived sector they would be liable to pay penalty as high as their highest interest rate charged to clients. On the other hand, if they invest in the microfinance sector even at zero percent interest rate they are on the safe side. Most of the commercial banks look for RMDC partners for their lending because we have that expertise and the capacity to monitor and supervise them. Anyway, this is resulting into overflow of fund in the microfinance sector. Now, that there is too much supply of fund to the MFIs, they are tempted to look for clients other than those from the deprived families, thereby going against the core objective of the microfinance to reach out to the poorest and finance them as per their need and capacity.  

How are you trying to address this dangerous situation of overindebtedness so that the crisis could be averted?

We are serious about the client overindebtedness, and are trying to address the situation by giving thrust to client education. I have repeatedly gone to the MFIs and have urged their management not to resort to wrongful practices. I urge them not to repeat the mistake again. They made a promise but only to break it. This is the reason we are laying emphasis on the client education. We need to launch a massive campaign to educate the clients on the risks such as over indebtedness they face due to the overflow of fund in the MFIs.

The authorities concerned also need to realize that some policy intervention is required to address the crisis the microfinance sector is getting into despite good growth. All the stakeholders in the microfinance sector need to understand that making money or profit does not necessarily mean progress. They should also realize that distributing loan alone to the poor will not reduce their poverty. MFIs are not traders. It’s high time they start credit-plus program with client education.

I also want to advise the MFIs that they should not compete to give dividend to the shareholders. They should build up their capital and create a good reserve so that they can be self reliant in the days to come. If the deprived sector financing of banks gets phased out, the MFIs would hardly receive any money from commercial banks. At the time when you are making some profit, you should also spend part of that profit for your client development. If your clients are not sustainable, how can you be sustainable? The MFIs seem to have forgotten this fact.

How does RMDC monitor and supervise client MFIs' activities to ascertain adherence to prudential and non prudential regulations?

First of all we have a very strong appraisal before issuing a loan. Then we visit them every three to six months to monitor and supervise them. Look at it this way, we are the only organization to issue IPO at the premium price in Nepal and we are the only microfinance institution in South Asia, and probably in the entire Asian continent, which has zero NPL, zero case of loan default, since the very beginning.  

You have worked as Executive Director of CSD, an NGO, as well as Deputy General Manager of Agriculture Development Bank of Nepal for 25 years before joining RMDC as the Chief Executive Officer back in August 1999. Which of these jobs you found the most challenging and why?

The current position I hold is the most challenging because it is not easy to convince the poor to take loan. They are scared of loan. We have to prepare them for six months to get them ready for a loan from an MFI. The main challenge in this sector is to prepare the poorest to get ready for loan and to make them creditworthy.  It is also a challenging to get MFI ready for microfinance lending without collateral.

Last but not the least, RMDC has made an astounding profit rise in the second quarter of the current fiscal year. The investors are quite upbeat about very impressive results by the end of the fiscal year. So what is your projection for the profit and dividend for the current fiscal year?

Our profit at the end of the fiscal year will come to the tune of the profit we made in the last fiscal year. Our profit for the current fiscal year should be around 10 percent more than what we posted in the last fiscal year. Our profit cannot be much higher than that due to tough competition. Retail MFIs’ spread rate range is wide but ours is almost static or even lower than before. However, I should say, we are an organization with a social mission. Our success should not be measured on the profit we make, rather on the contribution that we make to the microfinance sector development and reaching out to the poor with financial services.