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Analysing the MFI cost structure

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Finance Matters column in The Hindu Business Line – Puneet Gupta and Nitin Chaudhary author the fourth article in the series.


Having understood the deep transformative potential of access to finance and the barriers to accessing it, here’s a look at the fundamentals of the MFI cost structure in delivering finance.

Broadly, an MFI’s costs consist of four components. The first is the rate of interest at which the MFI borrows. MFIs do not accept deposits; the rates at which they raise money thus form the base rate for them to be able to lend. The second component is the cost to the MFI of running its operations — staff costs, and office and administration costs. The third component is the loan loss reserve for anticipated defaults. And the fourth is the cost of capital.

Raising resources

Most MFIs have limited options for raising on-lending funds. The main source of funds are the banks, which often lend to MFIs at a current rate of not less than 12 per cent per annum for the majority of players. There are instances of smaller organisations managing to raise resources at over 14.5 per cent. Thus, despite low levels of defaults, low temporal risk compared to project finance or infrastructure finance (microfinance loans are usually just for one year), and grading by rating agencies such as Crisil, MCRIL and SMERA (for larger MFIs), the borrowing cost is still high.

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