By Frederic de Mariz, Xavier Reille and Daniel Rozas; published by JP Morgan and CGAP (Consultative Group to Assist the Poor); July 2011; 29 pages; available at: http://www.microfinancegateway.org/p/site/m//template.rc/1.9.52137
In their third annual Global Microfinance Valuation Survey, US-based investment bank JP Morgan and nonprofit research center CGAP (Consultative Group to Assist the Poor) provide an overview of the financial standing of microfinance institutions (MFIs) around the world. Consistent with the title “Discovering Limits,” the authors argue that “no longer can microfinance investment be viewed as an exclusively do-good, low-risk, relative safe haven.”
In the first section of the paper, the authors focus on the global microfinance sector and private equity participation therein, using a dataset composed of 238 equity transactions that closed between 2005 and 2010, involving 110 MFIs in 53 countries. Private equity investment in 2010 was dominated by Latin America and the Caribbean (56 percent), with South and East Asia trailing (33 percent) and Europe and Central Asia further behind (7 percent). The only year-on-year increase, however, occurred in the South and East Asia region.
As microfinance markets have begun to mature, many investors are looking to exit the market by selling their stakes, while fewer MFIs are interested in raising growth capital. Primary issuances such as initial public offerings have slowed and have been replaced with secondary market activity, which now accounts for 70 percent of the value of transactions, up from 12 percent in 2007.
The authors find that earnings multiples, which have historically been a key valuation metric for investors, have lost their reliability over the last year, as a combination of write-offs and increased loan-loss reserves has resulted in ratios that do not reflect underlying quality institutional quality. In Europe and Central Asia, five out of seven transactions involved an MFI with negative earnings.
The report suggests that the forward book value multiple (price-to-book value), has become a more consistent and accurate indicator of performance. After peaking at an average value of 1.7 in 2009, the forward book value multiple fell to 1.6 in 2010, which is commensurate with the authors’ view of microfinance markets. MFIs in Mongolia, Cambodia, Peru and Tanzania, for example, have seen their price-to-book ratios exceed their historical median, justifying strong investor interest and a willingness to pay a premium for quality. Institutions in other countries, such as Nicaragua, Nigeria and Bolivia, have stagnated in value, as political and regulatory uncertainty has contributed to fading investor interest.
South and East Asian institutions have witnessed the greatest volatility in book value multiples, while Latin American and Caribbean MFIs have barely fluctuated from a multiple of 1.0. Whereas India was until recently considered a high-potential growth market, valuations have decreased to the world median book value, and the authors expect a further correction due to regulatory uncertainty, pervasive over-indebtedness and over-reliance on microcredit. On the other hand, Peru’s microfinance sector has passed through its growth phase and holds a significant trove of deposits, accompanied by uniform regulation that includes a functional credit bureau – all signs that point to a stable valuation, even if debt loads are reportedly rising.
The second half of the report focuses on an index of 11 “lower income finance institutions” or LIFIs, which serve as a sample of publicly listed MFIs: Bank Rakyat, Bank Danamon and Bank Tabungan Pensiunan Nasional (BTPN) of Indonesia; SKS Microfinance of India; African Bank and Capitec, both of South Africa; Kenya’s Equity Bank; Compartamos Banco and Financiera Independencia of Mexico; First Cash Financial, which is based in the US; and International Personal Finance (IPF) of the UK. Because the index is weighted by market capitalization and only includes a smattering of institutions, the authors acknowledge that it is of limited use as a proxy for country performance or market quality (for instance, Bangladesh, Peru and Cambodia are developed microfinance markets but are omitted entirely).
The LIFI index is benchmarked against the MSCI World Financials index, which includes a broad mix of global financial stocks, and the MSCI Emerging Markets Banks index, which is a basket of financial institutions in developing countries. From November 2003 until October 2010, LIFIs consistently outperformed the other indices including during the global financial downturn that began in 2008. But from the time that India’s Andhra Pradesh crunch began in late 2010 until the report’s publication in July 2011, LIFI performance became more volatile and excess returns were harder to come by. In years when the LIFI index has lagged its counterparts, the problems have typically been confined to just one of the eleven institutions (such as Bank Rakyat in 2005, Compartamos in 2007 and SKS in 2010).
In terms of valuation, the authors find that companies in the LIFI index tend to have a lower earnings multiple (12.9 times) and higher book value (4.2 times) than the companies included in the MSCI World Financials index, which had earnings and book multiples of 14.3 and 2.4, respectively. According to the report, return on equity for the LIFI group has increased from 22 percent to 26 percent over the last year, resulting in the higher book value multiple and a “slight relative overvaluation.”
The authors anticipate a gradual stabilization in the price and book multiples of MFIs as markets mature, growth slows and consolidation spreads. They expect that price variations among countries will increase according to local market and company characteristics. As an example, they cite the so-called crisis in India’s microfinance sector as having virtually no effect on companies or countries in other parts of the world. For investors seeking high returns, they recommend emerging markets like China, Nigeria and Brazil, which are “earlier in their development cycle.”
By Rohan Trivedi, Research Associate
About CGAP (Consultative Group to Assist the Poor):
Housed at the World Bank, CGAP is an independent policy and research center dedicated to providing financial access for the world’s poor. CGAP is supported by approximately thirty development agencies and private foundations. Its mission is to provide market intelligence, to promote standards and to offer advisory services to governments, microfinance providers, donors and investors.
Sources and Additional Resources:
MicroCapital.org story, April 27, 2010: “MICROFINANCE PAPER WRAP-UP: All Eyes on Asset Quality: Microfinance Global Valuation Survey 2010 Published by CGAP, Written by Xavier Reille, Christoph Kneiding, Daniel Rozas, Nick O’Donohoe and Frederic Rozeira de Mariz”, https://www.microcapital.org/microfinance-paper-wrap-up-all-eyes-on-asset-quality-microfinance-global-valuation-survey-2010-published-by-cgap-written-by-xavier-reille-christoph-kneiding-daniel-rozas-nick-o’donohoe-a/
MicroCapital.org story, March 16, 2010: “MICROCAPITAL BRIEF: Microfinance Institution (MFI) Equity Valuations Rise in 2009 as Portfolio Quality Falls, Says Report by JP Morgan and CGAP (Consultative Group to Assist the Poor)”, https://www.microcapital.org/microcapital-brief-microfinance-institution-mfi-equity-valuations-rise-in-2009-as-portfolio-quality-falls-says-report-by-jp-morgan-and-cgap-consultative-group-to-assist-the-poor/
MicroCapital Universe Profile: Bank Rakyat Indonesia, https://www.microcapital.org/microfinanceuniverse/tiki-index.php?page=Bank+Rakyat+Indonesia+%28BRI%29
MicroCapital Universe Profile: Bank Danamon, https://www.microcapital.org/microfinanceuniverse/tiki-index.php?page=Bank+Danamon
MicroCapital Universe Profile: Bank Tabungan Pensiunan Nasional (BTPN), https://www.microcapital.org/microfinanceuniverse/tiki-index.php?page=Bank+Tabungan+Pensiunan+Nasional+%28BTPN%29
MicroCapital Universe Profile: SKS Microfinance, https://www.microcapital.org/microfinanceuniverse/tiki-index.php?page=SKS+Microfinance
MicroCapital Universe Profile: Equity Bank, https://www.microcapital.org/microfinanceuniverse/tiki-index.php?page=Equity+Bank
MicroCapital Universe Profile: Compartamos Banco, https://www.microcapital.org/microfinanceuniverse/tiki-index.php?page=Compartamos+Banco
MicroCapital Universe Profile: Financiera Independencia, https://www.microcapital.org/microfinanceuniverse/tiki-index.php?page=Financiera+Independencia
MicroCapital Universe Profile: CGAP (Consultative Group to Assist the Poor), https://www.microcapital.org/microfinanceuniverse/tiki-index.php?page=CGAP+%28Consultative+Group+to+Assist+the+Poor%29
Browse the MicroCapital Universe and add your entry to the wiki at https://www.microcapital.org/microfinanceuniverse/
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