MICROCAPITAL STORY: Change in Indian Capital Adequacy Standards Affect Microfinance Institutions

The Reserve Bank of India (RBI) recently tightened capital adequacy standards governing microfinance institutions (MFIs) in India, and several local MFIs worry the change may lead to the need to raise additional capital and increase interest rates.

The Capital to Risk Weighted Assets Ratio (CRAR) is the primary measure used by the RBI of a bank’s capital. The CRAR measures a bank’s capital reserves as a percentage of risk-weighted assets. The majority of MFIs in India fall under the category of non-deposit-taking non-banking finance companies (NBFCs); the RBI had previously set the minimum CRAR for all NBFCs at 10%. However, the RBI cited the global credit crunch in its decision to raise the minimum CRAR: “In view of recent international developments, the risks associated with highly leveraged borrowings and reliance on short term funds by some NBFCs to fund long gestation assets, concerns have arisen regarding the enhanced systemic risk”. NBFCs have until April 2009 to achieve 12% CRAR and must attain 15% CRAR by April 2010.

Several MFIs in India have protested against the tightening of capital adequacy standards. P N Vasudevan, the Managing Director of the Indian MFI Equitas, argued that more stringent requirements were unwarranted, since MFIs “are not into such risky business and their loans are generally very small”. In addition, Indian MFIs worry the need to seek additional capital will lead to higher costs, thus sparking an increase in interest rates. Suresh Krishna, a Managing Director at the microfinance organization Grameen Kuta, expressed concern the capital requirement increase will force MFIs into the arms of private investors, “leading to commercialisation of microfinance, which again makes it an expensive exercise and leads to higher rates.” Krishna also stated the immediate solution is to sell part of its portfolio to other banks or to perform off-balance sheet transactions to reduce its loan portfolio. According to Business Standard, Grameen Kuta has been in discussions with ABN Amro, Axis Bank, Citibank and Standard Chartered Bank to offload a portion of its portfolio.

According to the MIX Market, Equitas was established in 2007 and as of December 2007 had total assets of USD 4.8 million, a total loan portfolio of USD 4.2 million and a debt to equity ratio of 66.27 percent with 16,166 active borrowers. In March 2008 Crisil Ratings awarded Equitas an mfR4 rating. MicroCapital has previously reported on Equitas’ plans to raise funding via private equity and focus on urban areas. Grameen Kuta does not report to the MIX Market, the microfinance information clearinghouse.

By Jocelyn Cheng, Research Assistant

ADDITIONAL RESOURCES:

Sreelatha Menon, MFIs Under Pressure to Raise Funds. Business Standard, August 7 2008.

MicroCapital.org article, July 29 2008: Indian Microfinance Institutions (MFIs) Increase Focus on Urban Areas

MicroCapital.org article, May 30 2008: For-Profit Equitas Microfinance to Raise $12.5m via Private Equity

The MIX Market profile for Equitas: http://www.mixmarket.org/en/demand/demand.show.profile.asp?token=&ett=2813

Reserve Bank of India: Guidelines for NBFC-ND-SI as regards capital adequacy, liquidity and disclosure norms. August 1 2008.