<em>The following post, which was <a href="http://nextbillion.net/a-tale-of-four-ipos-is-public-investment-in-microfinance-becoming-ok-again/">originally published</a> on NextBillion, shares a conversation between Anna Kanze, COO of Grassroots Capital Management, and Daniel Rozas, Independent Consultant, on initial public offerings (IPOs) in microfinance. Both Anna and Daniel have contributed to a number of <a href="http://fiecouncil.com/">Financial Inclusion Equity Council</a> (FIEC) publications.  Anna was the principal author of the recent FIEC report, “<a href="http://www.centerforfinancialinclusion.org/publications-a-resources/browse-publications/776-how-to-ipo-successfully-and-responsibly-lessons-from-indian-financial-inclusion-institutions">How to IPO Successfully and Responsibly: Lessons From Indian Financial Inclusion Institutions</a>”. The podcast draws from the report's findings and focuses on the effects of IPOs on Equitas Holdings, Ujjivan Financial Services, SKS Microfinance, and Compartamos.</em>

The IPOs of <a href="http://www.cgap.org/publications/cgap-reflections-compartamos-initial-public-offering" target="_blank" rel="noopener">Compartamos</a> in Mexico and <a href="http://www.cgap.org/publications/indian-microfinance-goes-public-sks-initial-public-offering" target="_blank" rel="noopener">SKS Microfinance</a> in India, in 2007 and 2010 respectively, made a lot of money for investors and turbocharged the sector’s growth. But they also sparked <a href="http://www.mftransparency.org/what-do-ipos-bring-to-microfinance/" target="_blank" rel="noopener">hyper commercialization</a> and <a href="http://finance.yahoo.com/news/ap-impact-lenders-own-probe-080122405.html" target="_blank" rel="noopener">debt crises</a> that rocked the industry, gravely harming its clients and tarnishing its public image.

But last year, two Indian MFIs, Equitas Holdings and Ujjivan Financial Services, had successful IPOs that have garnered a <a href="http://nextbillion.net/behind-the-most-successful-microfinance-ipo-in-indias-history-what-does-gender-lens-investing-have-to-do-with-it/" target="_blank" rel="noopener">much more positive reception</a> in the financial inclusion community – while also bringing in some major funding. We spoke with Daniel Rozas of the <a href="http://www.e-mfp.eu/" target="_blank" rel="noopener">European Microfinance Platform</a> and Anna Kanze of <a href="http://www.grassrootscap.com/" target="_blank" rel="noopener">Grassroots Capital Management</a> about how these four offerings differed, and what these differences could mean for the future of public investment in microfinance. You can listen to the interview in the podcast below, and the excerpts below give a sense of the conversation. And on Monday, Jan. 30, we’ll be discussing these topics in more depth in <a href="http://nextbillion.net/save-the-date-for-nextbillions-1st-ever-twitter-chat-the-subject-ipos-in-microfinance-1000-am-est-on-jan-30/" target="_blank" rel="noopener">NextBillion’s first Twitter chat</a>, featuring Kanze, Rozas and <a href="https://www.mftransparency.org/" target="_blank" rel="noopener">Microfinance Transparency</a> founder Chuck Waterfield – join us at 10:00 AM EST at <a href="https://twitter.com/search?f=tweets&amp;q=%23MFICHAT&amp;src=typd" target="_blank" rel="noopener">#MFICHAT</a>.

According to Kanze and Rozas, the first big difference between the two sets of IPOs was their motivation. As Rozas described it, one of the explicit goals of these early IPOs was based more on public relations and industry-wide strategy than on business need: to demonstrate the attractiveness of microfinance as an investment. “Yes, they needed capital to grow, and yes, they were of the size at which point an IPO was a logical way to get that capital. But in the case of Compartamos, if I remember right, I don’t believe they were actually raising any capital at all. It was just a vehicle for existing investors to exit and sell their shares. In the case of SKS, they were both raising capital and providing an exit for existing investors. And a lot of this was framed in the way of bringing the commercial market to microfinance, and saying this was a major milestone in the development of the sector.” On that count, he said, the IPOs were a success. “If you look at microfinance in Mexico after the Compartamos IPO, it exploded. There were lot of new entrants who came in, a lot of big money started new MFIs.” But unfortunately, along with this new money came new pressure to deliver returns – and not just among SKS and Compartamos.

[soundcloud url="https://api.soundcloud.com/tracks/304341331" params="color=ff5500" width="100%" height="166" iframe="true" /]

The Compartamos IPO led to high interest rates that sparked industry-wide soul searching, with Muhammad Yunus comparing the MFI to loan sharks. “And many of the industry efforts to define appropriate or responsible investing, to define principles for protecting clients – those really arose after that … not immediately, but in the next few years,” Rozas said. And in India, the SKS IPO “pushed it to grow to a level that is really not possible, given its size, without becoming essentially an irresponsible lender.” It also impacted its competitors, creating “a level of competition, especially in Andhra Pradesh, that was unsustainable and led to over-indebtedness. … The IPO drove that reckless growth, and if you look at the statements of the heads of the other major MFIs in Andhra Pradesh, they were all also expecting to have an IPO within one to two years after SKS, and it was a question of who was next. … And I would say that the crisis in Andhra Pradesh, where the government essentially prohibited microfinance, wouldn’t have happened without the SKS IPO, which happened three months before. This was a major factor in that picture, in that juxtaposition of the shareholders in SKS walking away with millions, and some of its poor clients committing suicide. It was the worst possible picture.”

In contrast, Kanze said, Equitas and Ujjivan took a lower-key, socially focused and business-driven approach. They had a mix of social investors and more traditional private equity investors, and “they made it very clear that their social mission was core to their companies’ operations and their corporate culture – I think all their investors knew that going in. … Just comparing Compartamos and SKS to Equitas and Ujjivan, the latter were under two times <a href="http://www.investopedia.com/terms/b/bookvalue.asp" target="_blank" rel="noopener">book value</a>, where Compartamos was close to 13 times book value, and SKS was four times. So that’s to say that the Equitas and Ujjivan prices were a little bit more reasonable, indicating that they wouldn’t be growing uncontrollably, or maybe charging high rates to their customers to create these profits that were unsustainable.”
But Indian regulations also played an interesting role in Equitas and Ujjivan’s approach. First, as Kanze described it, “The regulations had changed after the 2010 crisis, where it wasn’t really possible to charge high interest rates – interest rates were regulated.” What’s more, she said, both Equitas and Ujjivan were prompted to pursue IPOs in the first place because the government limited their ability to go beyond traditional microloans to offer other loan and savings products to their extensive client bases. To get past those limitations, both MFIs had received approval from the Reserve Bank of India to become small finance banks, a new designation that allows them to take deposits from clients, among other benefits. But regulations require small finance banks “to reduce their foreign shareholding below 50 percent. And given that most Indian MFIs already have a lot of private equity investment, they are really unable to do this through domestic private equity alone. So going through the IPO process is one of the only ways to do this.”

According to Rozas, the irony of Equitas/Ujjivan and Compartamos/SKS’ differing approach is that the former two were founded from the beginning as commercial entities with a social mission. “Compartamos and SKS, on the other hand, began as NGOs and transformed into commercial entities afterwards. And in some sense, it actually created both complexities in the IPO itself – both had large amounts of shareholdings held by the original NGO, and in both cases, the oversight of that NGO and where that money went is really unclear.” The IPOs generated hundreds of millions of dollars which went back to the original NGOs and their founders, he said, and it’s not clear what they’ve done with it.

Rozas and Kanze agreed that the impact of the Compartamos/SKS IPOs continues to shape the industry’s approach to public investment – indeed, as Kanze pointed out, the Andhra Pradesh crisis led to the new regulatory framework and credit bureau infrastructure in India that made the Equitas/Ujjivan IPOs possible. But Kanze warned against complacency: “I would caution against relying too much on regulations and credit bureaus. High growth is happening again in India in certain pockets, and I’m sure these IPOs and the positive reaction will probably lead to more IPOs. So it’s important to be vigilant and to continue the focus on the social mission.”

<em><strong><a href="http://nextbillion.net/authors/james-militzer/" target="_blank" rel="noopener">James Militzer</a> is the senior editor of NextBillion.</strong></em>

<strong>Have you read?</strong>

<a href="https://cfi-blog.org/2016/12/07/can-social-missions-be-preserved-in-initial-public-offerings/">Can Social Missions Be Preserved in Initial Public Offerings?</a>

<a href="https://cfi-blog.org/2015/03/11/miv-governance-the-case-of-africap/">MIV Governance: The Case of AfriCap</a>

<a href="https://cfi-blog.org/2016/05/04/equitas-ipo-forges-path-for-investing-in-inclusive-finance/">Equitas IPO Forges Path for Investing in Inclusive Finance</a>

A Tale of Four IPOs: Is Public Investment in Microfinance Becoming OK Again?

Financial Inclusion Equity Council

Initial Public Offering

Impact Investing

Blog Post

Initial public offerings (IPOs) are widely viewed as markers of commercial success. However, in the financial inclusion industry, IPOs are sometimes viewed with suspicion, if not alarm. This paper examines the 2016 IPOs of two Indian microlenders – Equitas Holdings and Ujjivan Financial Services – and how “hardwiring” their missions into their operations and corporate culture helped drive their success. The experience of these two companies suggests how a responsible financial services company can position itself to go public while maintaining its social mission.
<h2>Featured Companies</h2>
<strong>Equitas Holdings</strong>
Founded in 2007 to provide the underserved and disenfranchised people in the Indian State of Tamil Nadu with reasonably and transparently priced microcredit, Equitas diversified after the microfinance crisis in 2010 into affordable housing, small and medium enterprise (SME) and vehicle loans. At the time of its April 2016 IPO, traditional microlending made up slightly more than half of the total portfolio, with over half of assets under management in Tamil Nadu.

In September 2015, Equitas was one of ten companies to receive in-principle approval from the Reserve Bank of India (RBI) for the Small Finance Bank (SFB) license. In order to become an SFB, regulations require that Equitas bring foreign ownership, which comprised 93 per cent of equity before the IPO, below 49 per cent. This requirement was one of the key factors behind the IPO. Once Equitas transitions to a SFB, it will be able to accept deposits, starting with its client base of approximately 3 million.

<strong>Ujjivan Financial Services</strong>
Founded in 2005, Ujjivan Financial Services’ vision was to make financial services available to the urban working poor in India. At the time, most Indian microfinance was focused on the rural population. Started as a four-person team in a Bangalore garage, at the time of its IPO in April 2016, the company had 8,000 employees, three million borrowers, disbursed loans worth Rs.15,600 crore (approx. USD 2.6 billion), and had operations in every Indian state. Like Equitas, Ujjivan received approval to become a SFB and therefore also needed to reduce foreign shareholding. As of September 2016, Ujjivan was on its way to becoming a SFB with diversified product lines.
<h2>Authors</h2>
Grassroots Capital Management PBC and The Financial Inclusion Equity Council (FIEC), with support from the Center for Financial Inclusion at Accion.

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How to IPO Successfully and Responsibly: Lessons From Indian Financial Inclusion Institutions

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A Tale of Four IPOs: Is Public Investment in Microfinance Becoming OK Again?

How to IPO Successfully and Responsibly: Lessons From Indian Financial Inclusion Institutions