In the last post I wrote about the high cost of borrowing money for loan capital. In this post, I'll cover the expectation of high returns of equity investors for private for-profit MFIs.
MFIs which are not allowed to accept client savings get their loan funds from two sources - borrowed money and equity investors. Most borrowed money works in the form of lines-of-credit or interest only loans with the total return of principal at the end of the loan. There are other variations.
The equity investor is different. The investor takes shares in the MFI and invests money for the medium term. The expectation is that the MFI will earn enough net income to show a ROE (Return-on-Equity) of 20.0% to 30.0% per year over 5 years. Another variation is that after 5 years, the MFI will go public or a buyer will be found who will pay the investor a return of 100.0% to 150.0% over his/her initial investment.
As you can see, the MFI is put under severe earnings pressure to cover the interest on borrowed money and/or make a high ROE for investors. Another reason why it costs so much to deliver micro-credit services.