Rating Rationale

Key Rating Drivers & Detailed Description

Strengths:

* Expected financial, operational and management support from the parent

Given majority ownership, shared name, common branding and corporate identity, CRISIL Ratings believes MFL has a strong moral obligation to support MML. Parental support is expected on an ongoing basis as well as in the event of distress. The MPG promoters are also on the board of MML. The microfinance business is strategically important to the group and is its second largest business, in terms of assets under management (AUM), after gold loans. In addition, MML provides diversity to the product profile. The company is likely to benefit from new microfinance regulations, which allows for risk-based pricing. Consequently, MML’s share in MPG’s profitability is expected to increase over the medium term.

* Adequate capitalisation

MML is adequately capitalised with networth of Rs 2,678 crore (Rs 1,626 crore as on March 31, 2023) and adjusted gearing of 3.9 times as on December 31, 2023. The capitalisation has been supported by recent capital infusion during December 2023 through an IPO with fresh equity of Rs 760 crore and Rs 200 crore through offer for sale. The capital adequacy ratio (CAR) improved to 29.6% as of December 31, 2023 (21.87% as of March 31, 2023). Despite the recent equity raise, wherein MFL’s stake has reduced to 50.2% from 60.3% earlier, CRISIL Ratings understands it will continue to retain majority ownership in MML. The extent of ownership retained by MFL will be a key rating sensitivity factor.

* Comfortable earnings profile

The microfinance business has been profitable for MPG. During the first nine months of fiscal 2024, the company reported profit after tax (PAT) of Rs 330 crore translating into return on managed assets (RoMA) of 3.6% (annualised) as against 1.8% during fiscal 2023 and 0.7% during fiscal 2022. The trend in profitability is expected to remain stable, mainly supported by controlled operating expenses and credit costs. The company has reduced its yields by around 55 basis points on fresh disbursements from February 2024 onwards and a further reduction of 40-50 basis points is expected The effect of this move will be reflected in subsequent quarters.

As far as operating costs are concerned, the company expanded its branches during the last 2-3 years, leading to operating cost at ~5%. The company would now be leveraging on all these and existing branches for incremental growth. As a result, the operating expenses are expected to remain stable with no material increase over the medium term. CRISIL Ratings believes that, considering the revision in interest yields and credit costs on incremental basis remaining low, MML’s earnings profile is expected to improve considerably from present levels.

Weaknesses:

* Moderate, though improving, asset quality

With the diminishing impact of the Covid-19 pandemic and certain steps taken by the management, MML’s asset quality started stabilising. The 90+ dpd (at reported level) stood at 4.2% as on December 31, 2023, as against 5.1% as on March 31, 2023. Furthermore, the outstanding restructured portfolio stood at Rs 148 crore (1.4% of the total portfolio) as on September 30, 2023. Nevertheless, the asset quality pressure is expected to ease to some extent given that the collection efficiency during the nine months of fiscal 2024 has been around 99%. During the third quarter of fiscal 2024, the company witnessed higher delinquencies in Madhya Pradesh and Punjab, but exposure to the impacted geographies remained low. CRISIL Ratings believes MML’s ability to maintain healthy collection efficiency across buckets, including restructured portfolio, will remain a key rating sensitivity factor.

* Geographical concentration remains high

Operations are expected to remain concentrated in South India over the medium term. MML's microfinance operations from three states accounted for around 51% of AUM as on December 31, 2023, with Tamil Nadu, Kerala and Karnataka contributing 26%, 16% and 9%, respectively. The company has been expanding operations outside southern India to around 14 other states over the past two years. As a result, per-state concentration has been consistently declining, with the top state accounting for 26% of the total portfolio as on December 31, 2023, down from 53% as on March 31, 2016. However, the ability to replicate similar systems, processes and controls in new geographies will need to be closely monitored. As a result of the natural calamities in fiscal 2018 (cyclones in Tamil Nadu and Odisha and floods in Kerala), the company plans to reduce geographical concentration of the portfolio to around 20% per state, over the medium term, to reduce the impact of such events on the overall portfolio.

* Susceptibility to regulatory and legislative risks associated with the microfinance sector

The microfinance sector has witnessed two major disruptive events in the past decade. The first was the crisis promulgated by the ordinance passed by the Government of Andhra Pradesh in 2010 and the second was demonetisation in 2016. In addition, the sector has faced issues of varying intensity in several geographies. Promulgation of the ordinance on micro finance institutions (MFIs) by the Government of Andhra Pradesh in 2010 demonstrated their vulnerability to regulatory and legislative risks. The ordinance triggered a chain of events that adversely affected the business models of MFIs by impairing their growth, asset quality, profitability and solvency. Similarly, the sector witnessed high level of delinquencies post-demonetisation and subsequent socio-political events. The microfinance sector remains susceptible to regional issues such as elections, natural calamities and borrower protests, which may result in momentary spurt in delinquencies. This indicates the fragility of the business to external risks. As the business involves lending to the poor and downtrodden sections of society, MFIs will remain exposed to socially sensitive factors, including high interest rates, tighter regulations and legislations.