NBFC-MFI sector staring at stagnation in the current fiscal: CareEdge

Bengaluru: The non-banking financial company-micro finance institution (NBFC-MFI) sector is projected to see only a 4 per cent growth in financial year 2025 (FY25), indicating a phase of stagnation due to a range of challenging factors, according to a report by rating agency CareEdge Ratings out on Tuesday.

A major concern is the sharp increase in credit costs, which is expected to severely affect profitability, potentially bringing the return on average assets (RoTA) down to an estimated 0.4 per cent compared to 4.3 per cent in FY24.

This decline in growth is attributed to the rising delinquencies within the sector, which are prompting MFIs to become more cautious in their lending practices. As a result, these institutions are likely to reduce their loan disbursements in the face of increasing credit risk, rendering their portfolios stagnant.

The microfinance industry is currently grappling with a significant rise in customer indebtedness, as evidenced by a 27 per cent increase in the average incremental ticket size over the past three years. This trend, along with borrowers taking on multiple loans, has elevated overall debt levels.

The more cautious approach of MFI players amidst increasing regulatory supervision, may disrupt the funding cycle of borrowers, potentially leading to a further increase in delinquency level.

This cautious approach to lending, combined with the growing challenges in maintaining loan recovery rates, is expected to further curb the expansion potential for NBFC-MFIs, marking a sharp contrast to the robust growth seen in previous years. NBFC-MFIs achieved approximately 37 per cent year-on-year growth in FY23 and around 28 per cent in FY24.

Compounding this issue is the weakening of the Joint Liability Group (JLG) model, traditionally a cornerstone of MFI operations.

Moreover, the RBI has recently imposed a cease and desist order on some NBFC-MFIs, preventing them from sanctioning and disbursing loans.

In response to these challenges, the MFI Network INDIA has advised its members to implement specific measures, including capping the number of microfinance lenders per borrower at four and limiting total indebtedness to Rs 2 lakh.

While investors have demonstrated significant interest in the microfinance industry in recent years, with the sector facing ongoing challenges and increasing regulatory scrutiny, investor caution and selectivity are expected to rise in the coming periods.

Banks have consistently demonstrated their support for NBFC-MFIs, with their share of on-book funding remaining between 59 per cent and 62 per cent over the past four years. However, even this support is waning, particularly to smaller NBFC-MFIs, given the rising delinquencies.

In addition to this, the industry faces significant challenges beyond financial and operational risks, including high staff turnover and rising fraud. These issues, coupled with vulnerabilities to socio-political risks and natural disasters, further complicate the already difficult operating environment for NBFC-MFIs, making 2025 a challenging year ahead.

Still, CareEdge Ratings expects that the sector will navigate through the current stress. The agency finds some reassurance in the sector's solid capital structure and the overall support from financiers.