India Ratings lowers MFI sector outlook to 'neutral' from 'improving'

A disproportionate increase in ticket sizes of borrowers of Microfinance Institutions (MFIs) in some states, compared to the improvement seen in the per capita income levels, could become a key risk for the sector in the near to medium term, according to India Ratings (Ind-Ra).

Flagging caution on overleveraging, the rating agency revised the outlook on the microfinance sector to 'neutral' from 'improving'.

The rural agricultural wage growth has not been keeping pace with the growth in average outstanding per borrower and Consumer Price Index (CPI) inflation over FY20 - H1FY24. Also, during the same period, growth in such loans in some states was much higher than the overall sector growth.

The profitability of non-banking finance companies (NBFCs) working as microfinance institutions (NBFC-MFIs), which was on an improving trend in the past couple of years, is likely to stabilise in FY25. This was expected as the expansion in margins takes a backseat even as credit costs remain benign, said Karan Gupta, Head and Director of Financial Institutions, Ind-Ra.

There was a continuous expansion in their pre-provisioning operating profit (PPOP) margins over the past two years, due to the declining credit costs. The expansion in PPOP margins has been supported by the removal of a prescriptive cap on lending rates in March 2022.

Ind-Ra expects credit costs for NBFC-MFIs to remain comfortable at around two per cent in FY25, in the absence of any major negative event playing out.

The agency expects the sector to maintain growth rates in FY25 largely at levels seen in FY24. It further expected an expansion in Andhra Pradesh and Telangana in FY25 for MFIs as they have resumed operations after 13 years post the Andhra Pradesh crisis in 2010.