Growth for the non-banking finance company (NBFC)-microfinance institution (MFI) sector would flatten or there will be a decline in FY25 and a muted performance in FY26 due to funding challenges for incremental growth till the time asset quality challenges subsidise, cautioned India Ratings & Research (Ind-Ra).
As the sector has been grappling with multiple headwinds, Ind-Ra believes loan growth could take a back seat for lenders, and focus would be on managing the asset quality cycle, leading to shrinking of loan book across players.
This could also keep the headline asset quality numbers elevated, necessitating revisiting of covenants with debt lenders and a build-up of liquidity buffers to address any recall of debt loans by lenders.
The credit rating agency believes the sector cohorts need to be monitored. It warned that there could be a cascading risk for the sector, if any NBFC-MFI sees a heightened asset quality risk with debt recalls, impacting the ability of all NBFC-MFIs to raise debt incrementally.
Ind-Ra noted that the NBFC-MFI sector is poised to face multiple headwinds, including stress from asset quality and tighter funding, in the medium term. It opined that this could necessitate taking control on the business model across multiple aspects, containing broad basing of stress from asset quality to funding and thereby the overall growth for the sector.
Referring to the second quarter results, which highlight the added stress for the sector due to overleveraging and a cyclical slowdown in disbursements, both accentuating asset quality challenges, Ind-Ra said this could also lead to the debt lenders to the sector assessing their incremental disbursements.
This, in turn, will require monitoring of rollover of the existing debt to factor in asset quality challenges, which could impact the growth outlook for the sector in the medium term.
“Amid the continuing challenges, incremental funding to the MFI sector is likely to get constrained along with a likely elevation in costs. Any restrictions on top-up loans/rolling over of loans is likely to aggravate the asset quality issues that the sector is already facing,” says Karan Gupta, Director, Financial Institutions, Ind-Ra.
2nd half disbursements to be impacted
Ind-Ra noted that the second half, which normally tends to be a strong period in terms of disbursements for the sector, could be impacted in FY25 as funding from lenders could remain tight unless collection efficiencies start improving.
Furthermore, the recent regulatory actions on some entities placing embargo on disbursements amid concerns regarding loan pricing and increase in risk weighted average have added to the concerns of lenders to the sector.
Also, there has been a discussion on netting of loans, where Ind-Ra understands it has been a longstanding practice of providing top-up loans to same performing borrowers in JLGs (joint liability groups). Thus, any change would alter the business models of MFI lenders which could even have asset quality implications.
Raising capital could be challenging
Ind-Ra assessed that the leverage ratio across large NBFC-MFIs remains moderate and liquidity buffers adequate to manage debt repayments over the next one to two months without factoring inflows.
The agency believes NBFC-MFIs’ ability to navigate the challenges would also depend on their parentage (or promoters) for upfronting equity capital to manage leverage covenants due to higher write-off impacting overall profitability. The challenges also hinder NBFC-MFIs’ capital raising plans till the concerns on the sector subside.
The agency had earlier highlighted rising overleveraging across MFI borrowers not limited to MFI loans, but other loans as well such as Kisan Credit Card loans, gold loans, state government loans and fintech loans which is adding to the overall distress for the borrowers.
With a further rise in the inflationary pressure, as seen from food inflation numbers, the agency believes borrower cashflows would be under pressure impacting their repayment ability.