would continue to drive slower growth for all players.
Growth Drivers
Population outside formal banking channels provides huge potential for growth for MFIs

Due to the size of India’s population, and considering that a large section still lacks access to formal banking services,
driving financial inclusion has always been a priority for the government. The banking system and 'priority sector’ lending
have been the most explored channels to bring majority of the population under the ambit of formal credit institutions.
India is on the threshold of a high-growth trajectory and financial inclusion is imperative for sustaining equitable growth.
In India, the major reasons for financial exclusion are poverty and low income, financial illiteracy, high transaction cost,
and lack of infrastructure, primarily IT infrastructure. Consequently, a significant proportion of the population still does
not have access to formal banking facilities.

Within the large suite of products and services under financial inclusion, MFIs have a major role to play in the provision
of credit. The sheer size of the market (in terms of financially-excluded households), a business model that offers
sustainable credit to the poor at affordable rates, and a repayment cycle spread over a longer duration, have been key
growth drivers for MFIs operating in India.

JLG business model in the MFI segment

MFIs focus on the JLG model for lending to borrowers due to the convenience of forming such groups, whereas banks
have a dominant presence in the SHG model through their self-help group—bank linkage programme (SHG-BLP).

Under the JLG lending model, the primary task is to identify a prospective village, based on parameters such as total
population, total income, and population of poor individuals. Subsequently, potential members (usually women) are
identified, based on factors such as total household income and number of members in the household. These candidates
are then organised into groups of 5-7 members each, with 3-5 such groups coming together to form a centre; the amount
is advanced to an individual borrower. In the event an individual borrower defaults on payment, the concept of social
collateral is enforced, and the other group members repay the loan amount due. In case of a default, the members of the
group become ineligible to receive further loans from MFIs. This model ensures that the individual borrower is subject
to constant peer pressure that compels the member to make timely repayments. In the JLG model, a minimum attendance
is required, based on the organisation during loan disbursal.

Key Success Factors
Ability to attract funds/ raise capital and maintain healthy capital position

The microfinance industry has grown considerably over the past few years due to the small ticket size and doorstep
disbursement practices. However, a large portion of the market remains underpenetrated, making it necessary for MFIs
to raise funds at regular intervals to sustain growth. This remains a challenge for several MFIs owing to perceived risk of
the borrower segment, their susceptibility to socio-political issues, and volatility in asset quality. In addition, most MFIs
are dependent on banks for their funding, that lend to MFIs to meet their priority sector loan targets. The larger MFIs tend
to rely on capital infusion from their promoters/ parent companies and/ or raise capital from external investors, such as
private equity firms. The ability of MFIs to raise funding from diverse sources and maintain a capital positon much higher
than the prescribed regulatory minimum is vital for long-term sustainability.

Geographically diversified portfolio enables MFIs mitigate risks

As fixed operating costs are relatively high, considering the value of the loan amount, the scale of operations is key for
MFIs. A large, well-diversified portfolio in different geographies enables players to mitigate risks associated with a
concentrated portfolio. In addition, a wider scale of operation enables them to reduce operating expenses as a percentage
of outstanding loans. Expansion by MFIs in less-penetrated areas will support their growth trajectory. Rural areas are still
under-penetrated in India, allowing those operating in and focused on rural areas to witness faster growth in their
portfolios.

Ability to control asset quality and ageing of NPAs

MFIs’ portfolios are vulnerable to local issues and events that impact the repayment ability of borrower households. It is
therefore critical for them to have a strong hold on asset quality and regularly engage with borrowers to control ageing of
NPAs. The operational and fraud risk for the MFI industry is high owing to the cash-intensive nature of the business
during collections. MFIs are therefore required to establish methods and use analytics to understand and predict the quality
of the portfolio, and minimise the frequency and size of asset quality-related risks. This is a key factor for driving

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