SKS Microfinance reduces interest rates to 24.55%

SKS Microfinance Ltd, India’s leading lender in the microfinance sector, announced to the stock exchanges that it is lowering the maximum interest rate it charges to its borrowers across the country. It will now charge a flat rate of 12.5% or an effective rate of 24.55% to all borrowers. It has also waived off all other charges such as credit shield charge, loan processing fee and card fees. These changes are effective today.

The move follows a sever backlash against for-profit microfinance institutions, who stand accused of trying to earn super-normal profits from poor borrowers. The root of the problem can be traced to Andhra Pradesh, the mecca of microfinance, where borrowers took loans, far beyond their means, and ended up defaulting. The government stepped in as allegations of coercion by the loan collectors began to spread and there were also allegations of suicides being committed by borrowers.

The AP government recently passed a bill which imposes many conditions on the microfinance industry, including registration, regulating their conduct of business, submitting data returns to the government and limits on interest rates. SKS, for example, charged an effective rate of interest of 27% in AP, which it brought down to 24.55% with effect from October 28. The AP government’s decision has had the effect of slowing down loan recovery rates in the state.
SKS’s move extends the benefits provided in the state of Andhra Pradesh to all states. AP contributed to about 28% of its loan portfolio as of October 2010.

The current move by SKS, both lowering of the rate and elimination of fees, will mean that the net interest margins it earns on its loans may go down to that extent. Net interest margin is the difference between what SKS earns from its borrowers and the interest it pays on its own borrowings. Microfinance institutions have been borrowing money from banks, who can account for these as priority sector loans. But it will hope that it will soften the stance of various external agencies towards the MFI sector, which suddenly finds itself in a very difficult situation.

Though margins may fall, MFIs will not mind that much as the key issue at present is to continue the loan growth momentum. If they are able to grow their portfolio, even with lower margins, their performance will eventually improve. Rising interest rates will become a concern too, if their borrowing costs increase, a risk which will play out in the next few quarters.

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