From Knowledge at Wharton
Vikram Akula, founder and CEO of SKS Microfinance, launched the company in 1998 to offer small loans to very poor borrowers. Some 10 years later, SKS has become India's fastest growing microfinance institution (MFI), with more than 2 million borrowers. In the next two years, Akula would like SKS Microfinance, whose backers include venture capitalists such as Sequoia Capital, to grow to 8 million borrowers -- which would make it the world's largest microfinance lender, surpassing Bangladesh's Grameen Bank. In an interview with India Knowledge at Wharton, Akula speaks about microfinance.
KNOWLEDGE AT WHARTON: You've spoken in the past about some of the constraints that face the world of microfinance. For example, lack of capital is always a problem. Lack of capacity is another major issue. And microfinance also has high transaction costs. What innovations has SKS has been able to bring about to tackle these issues?
AKULA: We've done three things to deal with these problems that we think can overcome these constraints. The first is to use a for-profit model to overcome the constraints of capital. The second is to use best practices from the business world to overcome the constraints of capacity. And the third is to use technology to overcome the cost constraints.
Even though most microfinance institutions are non-profits, we believe that in fact, you have to structure things in a for-profit way. You have to pay investors high dividends, because otherwise there's no way you're going to access the kind of capital that poor people need. As a result, we've structured SKS as a for-profit, and that's enabled us to tap into commercial capital and provide unlimited amounts of finance to the poor.
On the second dimension of capacity, if you look at most microfinance institutions, they're structured as NGOs. They're small, they think about a thousand clients, or maybe 10,000 clients. In contrast, a business thinks about millions or tens of millions of customers. We've looked at those types of companies and adopted the techniques that they've used within microfinance. That has given us an extremely fast growth rate.
Finally, when it comes to technology, we've developed an automated management information system because at the end of the day you're doing millions of very tiny transactions. There's a high cost to doing that. Unless you use technology, you'll never be able to bring down the transaction cost and to scale rapidly.
KNOWLEDGE AT WHARTON: I understand that SKS has raised funds from venture capitalists. When they invest in SKS microfinance, does that change their expectation of returns? Are they more "gentle" with you because you are lending to poor women, compared to if they were to lend to, say, a technology entrepreneur?
AKULA: We certainly have social investors, who come at it with a double-bottom line approach of making a social impact as well as a for-profit impact. But we also have investors who have a pure commercial interest.
Many people think there's a dichotomy between the social purpose and the commercial purpose, but we actually don't think there's a dichotomy. If you do what's right by the borrowers, if you charge reasonable interest rates, provide good service, not only is that intrinsically the right thing to do, but that's the way to build a good business, especially when you are working with the base of the pyramid, because the base of the pyramid customer is extremely loyal. If they feel they are being exploited or taken advantage of, they will turn on you in a second. But if you treat them well, they will stay with you. That becomes how to build a long-term healthy business. That's what our commercial investors want.
KNOWLEDGE AT WHARTON: Typically, what are the interest rates for microfinance loans?
AKULA: We charge an average interest rate of 24 percent. That seems extraordinarily high, but let me put this in context. Informally the village money lender, the loan sharks, will charge anywhere from 50 percent to as high as 1,000 percent interest. So, we are charging much less than what they charge. I also submit that our interest rate is actually the lowest cost financing available to the poor. Even though a retail bank might charge, let's say, 12 percent, or a subsidized government loan might cost 7 percent, if you actually talk with borrowers and ask them how many trips they are making to a bank branch, what are the lost wages, the bus fares, the brokers fees, and sometimes bribes are paid to access that 7 percent loan, they actually end up paying much higher than 30 percent.
The poor are earning such high returns on their micro enterprises that they have no problem paying 24 percent if their returns are averaging 100 percent or so. I think the best way to tackle interest rates is competition. Certainly in some areas you've got microfinance institutions (MFIs) that are trying to extract and charge high interest rates. Over time, you will see competition pulling that down.
KNOWLEDGE AT WHARTON: How many customers do you have, and who is your typical borrower?
AKULA: Currently we have 2 million customers spread across 25,000 villages in 15 states of India. The typical borrower, typical first loan is about 8,000 rupees or about $200. A woman might take a loan to buy a cow, and then sell the milk, and then repay the loan on a weekly basis. She might do a small village grocery; she might do vegetable vending or another type of trading activity. What we see is there's a very high return on investment, and each year she's eligible to take a larger loan. So even though $200 might seem relatively small, eventually we'd like to see borrowers moving into $1,000 loans. Then you begin to see huge impacts in terms of poverty eradication.
