Small Finance Banks Expect Microfinance Portfolio Stress to Ease in Next 2-3 Quarters

The microfinance sector, particularly within Small Finance Banks (SFBs), is anticipated to recover from current stress in the coming two to three quarters, according to senior executives from two prominent SFBs. Inderjit Camotra, Managing Director and CEO of Unity SFB, and R Baskar Babu, MD & CEO of Suryoday SFB, shared this outlook. The challenges stemmed from an earlier practice where some women borrowers received multiple loans, exceeding their repayment capacity. To address this, the industry, in conjunction with Self-Regulatory Organizations (SROs), has implemented stricter norms, limiting new loans to a maximum of three per woman, with a total outstanding not exceeding ₹1.75 lakh. This has led to a "new book" of loans under more prudent underwriting standards, even as the "old book" gradually shrinks.

While Gross Non-Performing Assets (GNPAs) for the microfinance segment rose to 6.8% in FY25 from 3.2% in FY24, the sector is at an "inflection point" moving towards better times. Furthermore, the Reserve Bank of India's decision to lower the Priority Sector Lending (PSL) target for SFBs to 60% from 75% is expected to free up capital, enabling SFBs to diversify their product offerings. This diversification includes lending against property, offering gold loans, and introducing credit-builder cards to individuals with no prior credit history. SFBs collectively serve approximately 35 million active customers, significantly impacting the financial lives of around 140 million people.

Impact: This news suggests a positive turn for the asset quality and financial health of Small Finance Banks, potentially leading to improved profitability and stock performance for listed entities. The diversification efforts also indicate a more robust and sustainable business model for the sector. Rating: 6/10.

Difficult Terms: Microfinance: Providing financial services like loans and savings to low-income individuals or groups who have limited access to traditional banking. Small Finance Banks (SFBs): A specialized bank category in India licensed by the Reserve Bank of India to provide financial inclusion services. Self-Regulatory Organizations (SROs): Industry associations that establish and enforce ethical and operational standards for their members. Underwriting standards: The criteria and processes used by lenders to assess the creditworthiness and risk associated with a borrower before approving a loan. Old book/New book: 'Old book' refers to loans issued under previous lending policies, which may carry higher risks. 'New book' refers to loans issued under current, revised, and more conservative lending policies. Gross Non-Performing Assets (GNPAs): The total value of loans where the borrower has failed to make interest or principal payments for a specified period (usually 90 days). Priority Sector Lending (PSL): A classification by the Reserve Bank of India requiring banks to lend a certain portion of their credit to specific sectors deemed important for national development, such as agriculture, micro, small, and medium enterprises (MSMEs), and housing. Adjusted Net Bank Credit (ANBC): A measure used by the RBI to calculate PSL targets, representing a bank's total outstanding credit after certain adjustments. Credit Equivalent of Off-Balance Sheet Exposures (CEOBE): A regulatory measure used to assess the credit risk of financial instruments that are not recorded on a bank's balance sheet, like derivatives or guarantees. Moneylenders: Individuals or informal entities that lend money, often at very high interest rates, outside the regulated banking system.