Valuations of Indian micro finance institutions (MFIs) were at six times their historical book

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value in private equity transactions in 2009, three times the global average, according to a report by CGAP and JP Morgan. However, it said such valuations are not sustainable going forward.

Housed at World Bank, CGAP is an independent policy and research centre, which provides market intelligence and offers advisory services to governments, micro finance providers, donors and investors.

The report studied about 200 private equity transactions between 2005 and 2009 and India accounted for over 30 per cent of the transaction sample. India garnered 35 per cent of microfinance private equity investments in 2008 and 25 per cent in 2009.

“India’s still unmet demand for microfinance remains the highest in the world. Microfinance appears to be the dominant target for private equity in India, with MFIs having comprised 40 per cent of all private equity transactions in the country during the past two years. Perhaps this should not be unexpected, given the high growth rates of Indian MFIs and the still very large market potential,” it added.

CGAP also noted Indian MFIs enjoyed the highest growth rate of over 100 per cent in both assets and net income from 2003-2008 and have maintained excellent asset quality.

The report attributed that asset quality, net income growth and age of the MFIs as the main drivers of price. Valuations in Asia have an upward bias, due almost exclusively to transactions in India, which account for more than 80 per cent of all Asian transactions in 2009.

Meanwhile, on the flip side CGAP also said while the recent impressive growth of Indian MFIs is expected to continue, their current and future earnings expectations do not justify such high multiples.

It added that to justify present valuations, average return on equity of MFIs should stand at 45 per cent. However, they are generating an average ROE of only 14.4 per cent.

The report also said MFIs are heavily concentrated in the southern states, with relatively little presence in other regions and overall profitability is likely to decline in the near term as MFIs expand into less penetrated areas, given the relatively higher operating cost such expansion incurs. At the same time, margins will begin to shrink in the more competitive markets in the south, it added.