MNCs find guaranteed way past MFI norms
Global investors in the microfinance sector constrained by the existing NBFC regulation have found an innovative way to get around these regulatory barriers.
By Priti Patnaik, TNN |
NEW DELHI: Global investors in the microfinance sector constrained by the existing NBFC regulation have found an innovative way to get around these regulatory barriers. These companies provide a guarantee to local banks certifying the microfinance institution (MFI) in exchange for a fee. This, they claim, is a more cost effective way for the MFI to access credit. The local bank reduces the rate of interest on the back of such a guarantee.
"This option of building our portfolio by extending guarantees to MFIs works well because we cannot function as an NBFC. We believe it reduces the transaction costs for both the bank and the MFI," an official with a global investor group, who did not wish to be identified, said.
Typically, investors in microfinance raise a pool of funds globally. An MFI seeks a guarantee from these investors that enables it to access funding from a local bank. The investors conduct due diligence on the MFI and request the intermediary bank to issue a letter (akin to a letter of credit) to the local bank using the guarantee as collateral. The local bank lends the money, generally in local currency, to the microfinance institution.
"Getting a foothold in India can be very difficult given the regulatory environment for NBFCs,” said Blue Orchard, a Swiss company specialising in the management of microfinance investment products, senior investment analyst Julie Cheng. “Blue Orchard has been investing in India since 2002. It has two clients and a total exposure of about $10 million,” she added.
However, according to industry insiders, the effective cost does not come down. Usually investors would need to generate returns to justify their investments to those who invested globally. Typically, the cost of funds would be at least a couple of percentage points over Libor. "Investors are under pressure to maximise returns which may prove to be counter productive while reducing the cost of transactions. Guarantee fees might achieve that," said an industry analyst.
Further, due to the complexity and high cost of these transactions, the model is sustainable only on the back of volumes. In India, the sector is yet to reach sufficient operational scale, the analyst added.
"The problem is to identify well-managed MFIs with a portfolio size of a few million dollars," Ms Cheng said.
However, some MFIs maintain that credit guarantees do help them and the commercial bank guaranteeing the loan by leveraging resources from the formal sector.
MFIs have often met with the roadblocks when local banks insist on collateral to lend to them. However, some MFIs acknowledge they may not be in a position to fully appreciate the implications of cross-border debt taking into account costs, tenor, currency denominations and collateral requirements, among others. Cross-border debt appears cheaper than local debt because of lower nominal interest rates.
"This option of building our portfolio by extending guarantees to MFIs works well because we cannot function as an NBFC. We believe it reduces the transaction costs for both the bank and the MFI," an official with a global investor group, who did not wish to be identified, said.
Typically, investors in microfinance raise a pool of funds globally. An MFI seeks a guarantee from these investors that enables it to access funding from a local bank. The investors conduct due diligence on the MFI and request the intermediary bank to issue a letter (akin to a letter of credit) to the local bank using the guarantee as collateral. The local bank lends the money, generally in local currency, to the microfinance institution.
"Getting a foothold in India can be very difficult given the regulatory environment for NBFCs,” said Blue Orchard, a Swiss company specialising in the management of microfinance investment products, senior investment analyst Julie Cheng. “Blue Orchard has been investing in India since 2002. It has two clients and a total exposure of about $10 million,” she added.
However, according to industry insiders, the effective cost does not come down. Usually investors would need to generate returns to justify their investments to those who invested globally. Typically, the cost of funds would be at least a couple of percentage points over Libor. "Investors are under pressure to maximise returns which may prove to be counter productive while reducing the cost of transactions. Guarantee fees might achieve that," said an industry analyst.
Further, due to the complexity and high cost of these transactions, the model is sustainable only on the back of volumes. In India, the sector is yet to reach sufficient operational scale, the analyst added.
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"The problem is to identify well-managed MFIs with a portfolio size of a few million dollars," Ms Cheng said.
However, some MFIs maintain that credit guarantees do help them and the commercial bank guaranteeing the loan by leveraging resources from the formal sector.
MFIs have often met with the roadblocks when local banks insist on collateral to lend to them. However, some MFIs acknowledge they may not be in a position to fully appreciate the implications of cross-border debt taking into account costs, tenor, currency denominations and collateral requirements, among others. Cross-border debt appears cheaper than local debt because of lower nominal interest rates.
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