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Authors: Kevin Hogan Luke Shuffield

SKS Microfinance Limited: A Microlender’s Mission

It was November 2011, and Puranam Hayagreeva Ravikumar had some big shoes

to fill. Dr. Vikram Akula, the founder and Executive Chairperson of SKS Microfinance Limited as well as one of Time Magazine’s “100 Most Influential People” in 2006, had just announced his formal resignation from the company, and Mr. Ravikumar had been chosen to take his place as Non-Executive Chairperson-Interim of the Board1. Ravikumar, a commercial banker by trade with over 37 years of experience in financial services, had been on the Board of SKS for five years, four of which were spent as Chairperson of the Audit Committee. The circumstances of Dr. Akula’s resignation were tumultuous enough to cause rumors that he had been forced to leave, despite the company’s claims to the contrary, and two other Board members had already resigned before him. The man once called the “poster-boy” of microfinance left behind a “raging controversy on the direction in which the beleaguered company should be steered, corporate governance issues, mounting bad loans, low recoveries and rising losses.”2

Having experienced explosive growth since its founding in 1997, SKS was an Indian microfinance institution (MFI) that sought to improve the socioeconomic welfare of impoverished women in Indian states by providing them with small loans that would make otherwise inaccessible capital available to them. Facilitated by the social pressure of borrowing members being part of groups that were meant to hold each other accountable, these microfinance loans initially had an undeniably positive effect on the economic environment in rural India and became the crowning achievement of men like Muhammad Yunus, who won the Nobel Peace Prize for his efforts.

SKS had grown up in the midst of this microfinance boom and now stood as the single largest MFI in India by number of members and value of outstanding loans, a distinction the company attributed to its somewhat unique approach to the industry: a standardization of practices borrowed from other commercial sectors and an aggressive accumulation of capital via equity sales. Many of SKS’s top shareholders were now profit-maximizing stakeholders such as private equity funds, a governance decision that SKS justified by identifying its booming demand base. In 2010, this same incentive served as the impetus for SKS listing itself on the Indian Stock Exchange in an enormous I.P.O., selling millions more capital shares to public investors. Helping as many Indian women as possible was its mission, and to do that, it needed the funds, but it now appeared that this tradeoff might have come at a price.

Rumors had begun circulating that alarming numbers of borrowing women in Andhra Pradesh, the poverty-stricken Indian state that once contained 75% of SKS’s

                                                                                                               1  “Vikram Akula Steps Down as Executive Chairperson of SKS Microfinance.” SKS Press Release. <http://www.sksindia.com/press_releases_details.php?id=233> 2 “Vikram Akula quits SKS Micro.” The Hindu Business Line. 23 November 2011. <http://www.thehindubusinessline.com/industry-and-economy/banking/article2653811.ece>.

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business, were committing suicide because of the unbearable pressure of paying back their loans3. If true, these accusations meant that SKS was not only failing to achieve its intended social mission; it was directly subverting it. It was amidst this critical context that Puranam Ravikumar found himself at least temporarily in charge of SKS Microfinance’s strategic direction. As he settled into his new office, Ravikumar thought to himself: should he leverage his commercial banking experience to drive SKS toward a more diversified portfolio of financial offerings in less volatile markets? Should he bite the bullet and call for a write-off of the loans already issued in Andhra Pradesh, where each new report of a suicide might as well have been a casualty directly attributed to SKS as far as its public image was concerned? Should he take SKS back to its ideological roots and refocus some of the decision-making power and incentives within the firm to correspond more closely to the representative interests of the borrowing members? These were big questions that needed big answers, and fast. The Role of the Microfinance Industry

Before looking at SKS in particular, it is important to understand the roots of the microfinance industry at large. Programs that provided microcredit and microfinance services to the poor are based on the idea that access to financial services, especially credit, is an extremely important factor in allowing the poor to achieve upward mobility and self-sustainability. Often times the poor who are self employed require some amount of initial capital to make investments into supplies, machinery, etc. to make their productive activities profitable and allow them to achieve economic self-sufficiency. It is very difficult for the poor to access credit through traditional banks because the small loan amounts that they require would be unprofitable for banks to service and they lack the collateral required to obtain a traditional loan. In India, for example, only 17.7% of the poor have bank accounts and only 2.9% had received a loan from a bank. In many cases, the only credit available to the poor was through local moneylenders, who tend to charge exorbitantly high interest rates, at an average annual rate of 48% in India.4

Microfinance institutions (MFIs) were created to fill this void. The general business model behind the MFIs is to give small loan amounts to the poor that do not require collateral or extensive legal documentation to obtain. These loans are repaid at interest rates that are relatively high to cover the financing and transactions costs of servicing many small loans. Borrowers are also often placed into groups that provide support and assistance and also provide social pressure to encourage timely payments on loans. Many MFIs do the vast majority of their lending to women as well, as they have found that women in the regions that they lend to will be more responsible with loan repayments and will be more likely to use the loan and the income they earn from it for the benefit of their families.5

                                                                                                               3  “Q&A: S Dilli Raj, SKS Microfinance.” Business Standard. <http://www.business-standard.com/india/news/qa-s-dilli-raj-sks-microfinance/456631> 4 SKS Microfinance. Draft Red Herring Prospectus. 5 Global Envision. History of Microfinance. <http://globalenvision.org/library/4/ 1051/>  

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The microfinance industry has grown significantly across the world, but the growth has been particularly prominent in India. The World Bank estimated that at the time of the SKS IPO there were approximately 150 million poor households in India. MFIs had done a good job at beginning to penetrate this market, serving over 22 million borrowers and disbursing over 4.3 billion dollars in loans to these customers. There remained a significant amount of unmet loan demand, with the total demand for microloans in India being estimated at over 50 billion dollars.6 Muhammad Yunus and the Grameen Bank Model

One of the key figures in the developments of microfinance is Muhammad Yunus. Mr. Yunus worked as an economics professor in Chittagong University in Bangladesh. His involvement with microfinance began in 1976, when he became aware of the issues facing a number of women living in a nearby village. These women worked as self-employed seamstresses and they required outside funding to purchase the materials they need to sew clothing. Since they were unable to access traditional credit sources, they were forced to borrow from local loan sharks. The interest rates that they faced from these loans were so high, that the women were unable to make any profit from their activities. Yunus intervened by loaning them a small amount of his own money, which allowed the women to invest in materials that they needed to begin to run profitable businesses. Encouraged by this initial success, Yunus expanded this operation, eventually creating an organization known as Grameen Bank, meaning Village Bank in Bengali. 7

Yunus saw microfinance as a way to allow the poor to harness their existing entrepreneurial talent and he also felt that the emphasis of any MFIs should be solely its social mission and not financial returns. Grameen Bank was thus created with a unique governance structure in that its borrowers own it. The poor who are customers of the bank receive ownership stakes, creating a situation where 95% of the equity of the company is in the hands of its clients. Grameen also receives savings deposits from its customers. This allows the bank to finance its loans purely from its internal deposits, removing the need for outside donor funding or public/private capital.8 Foundations and Growth of SKS

SKS Microfinance began with the same value-based principles as Yunus, agreeing that “the ultimate goal of microfinance is to enable the poor to build assets, increase incomes, reduce vulnerability to shocks and economic stress and improve quality of life by enabling better access to education and healthcare.”9 In even clearer and more concise language, SKS states, “our mission is to eradicate poverty.”10 This social mission adopts an unwritten mandate: expand as much as possible, so that as many women as

                                                                                                               6  SKS Microfinance. Draft Red Herring Prospectus. 7 Muhammad Yunus. Banker to the Poor: Micro-Lending and the Battle Against World Poverty. 8 Grameen Bank. Grameen Bank at a Glance. < 9 SKS Microfinance. Draft Red Herring Prospectus. 10 Ibid.  

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possible can benefit from the economic opportunities that microfinance is designed to enable. Expansion, it would turn out, was an understatement. In just over a decade, SKS grew its membership to 220,000 beneficiary member groups with approximately 6.8 million women members. In the three years between 2006 and 2009 alone, the company saw an almost 2000% increase in its member base, spreading from 80 branches in five Indian states to over a thousand branches in 18 states.

Organizationally, SKS saw its growth as no different in theory from the growth of companies in completely different industries, stating, “benefits realized from scale and capacity have also been achieved through proven business models in other sectors such as food, consumer durables and retail.” In order to facilitate its expansion, SKS treated its organizational processes across the board, from employee training to customer relations to product types, as singular concepts. The company explains that they “standardized [their] recruitment and training programs and material,” that their “business processes, from member acquisition to cash collections, have been standardized,” and that “the terms and conditions of [their] loan products are generally uniform throughout India.” Sales personnel were recruited directly from local villages, given two months of financial and operational training, and were then responsible for personally managing “approximately 547 members on average.”11 Initial Methods of Financing

With this standardized, explosive growth came a simultaneously burgeoning need for cash, a need to “finance [their] expansion by accessing multiple sources of capital, both debt and equity, including listed debentures, priority sector qualifying loans from banks, and equity investments from venture capital and private equity investors, institutions and others.”12 On the surface, it seems that SKS’s emphasis on leverage and equity strategies worked: as of September 2009, the company’s net non-performing assets (defaults, etc.) comprised only 0.15% of their total outstanding loan base, and their debt securities were given the highest, most secure ratings by relevant Indian agencies13. SKS took several steps to achieve these numbers during their period of explosive growth.

First, they progressively leveraged itself higher and higher via priority sector funding from an eventual list of more than 40 commercial banks and financial institutions to cover its accounts payable. In 2009, the firm’s debt-to-equity ratio stood at 3.38, which more than met India’s capital adequacy requirements of 10% of aggregate risk weighted assets.14 Taken in the context of time, however, this ratio begins to appear less desirable. Over the same three-year period that membership increased around 2000%, SKS leveraged itself up from 692 million rupees in 2006 to 26.03 billion rupees in 2009, an increase of 3,800%, almost double the growth rate of members.15 Although both rates were certainly exponential, the gap between the two meant that SKS was compounding its debt quickly, and therefore increased its critical need to pay all its bills on time. This

                                                                                                               11 SKS Microfinance. Draft Red Herring Prospectus. 12 Ibid. 13 Ibid. 14 Ibid. 15 See Appendix A  

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debt was coupled with the aforementioned evolution in corporate governance. Evolution of SKS Corporate Government

Originally founded as a non-governmental organization (NGO) in 1997, Swayam Krishi Sangam (SKS) began in the impoverished Indian state of Andhra Pradesh. Its technical legal status was as an Indian “public society,” formed via a memorandum of association (much like the traditional formation of a corporation in the U.S.), but which is specifically designated as having a literary, scientific, or charitable purpose. This governance model did not last long, though.

The now-MFI explains the transition by stating that, “after several years of operation as a NGO, SKS Society and its inherent not for profit business model was limited in its ability to address the credit needs of the poor throughout India.” This lack of ability refers primarily to lack of necessary assets for the rapid expansion in the microfinance industry at large, as explained earlier. So, in 2003, SKS became a private limited company, one with limited shareholders with direct financial relationship with the profits of SKS. Mutual Benefit Trusts and Share Dilution

While one might instinctively think of this transition as a move to a boardroom filled with profit-maximizers, 99.5% of SKS’s initial shares were distributed to five mutual benefit trusts (MBTs), which were composed of beneficiary member groups that directly represented the 16,600 female borrowers/members: “each trust initially had five trustees comprised of three employees and two beneficiary members from each respective region where the groups were located.” In other words, the capital shares were distributed and later owned by thoroughly democratic governance structures that were directly created as “a vehicle to foster the development of poor women.” Although this was, indeed, a transformation from public and not-for-profit to private and for-profit, SKS’s governance circa 2003 was tied closely to its social mission. This representative connection would prove to be stretched considerably thinner in the coming years of company growth.

SKS themselves admits that following 2003, the company “completed several dilutive issuances with investments by our investors to fund our growth.” In layman’s terms, “dilutive issuances” means that SKS deliberately issued progressively higher and higher amounts of equity shares overall in order to “dilute” the value of each individual share. Then, these new shares could be distributed to, in theory, whoever the company wants. In doing so, shareholder power in governance terms was also dilutable and easily redistributed within the private company. A detailed timeline of SKS’s share activity can be found in Appendices E and F, describing each transaction and the top ten shareholders by shares, respectively. These changes are represented graphically in snapshot pie-charts from 2006 and 2010 (just before the IPO) in Appendix G, as well as a timeline in Appendix A. The transition is clear: shareholder power was increasingly transferred to non-borrower-representing institutions and private individuals (e.g. Sequoia Capital India, Small Industries Development Bank of India, Sandstone Investment Partners, and Dr. Vinod Khosla). Once in control of virtually all the shareholder value, the MBTs in

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2010 held an aggregate of only 14.7% of share capital. Many of these transactions were obviously made for the purpose of raising cash quickly that could then be used to meet SKS’s increased demand base, but this ballooning demand did not just mean a need for more capital. It also meant there were millions more women members being represented by those same MBTs (whose shares were simultaneously being diluted). Once directly represented by 2/5 trustees per MBT, borrowing members looked on as, “in November 2009, SKS Trust Advisors Private Limited . . . was designated the sole trustee of each SKS MBT.”16

SKS took certain steps to counteract this dramatic shift in governance, at least in principle. They allowed beneficiaries to elect and appoint up to 100 non-trustee “representatives,” but it was unclear and unwritten how these “representatives” would participate in any decisions at the Board level. SKS also provided the MBTs with an extension of the time to pay the required purchase price of the dilutive issuances. In other words, they softened the blow by allowing the MBTs a little longer to handle the transition and come up with the money for the fresh shares. None of the (comparatively) gradual equity changes, however, could compare to the shift introduced by SKS’s decision to go public. Initial Public Offering

In July 2010, SKS became the first microlender in India to list itself on the National Stock Exchange, making $347 million worth of shares available for public investment. This decision simultaneously further diluted the value of existing shares owned by MBTs and others and also directly transferred shareholder power internally. SKS planned to issue 16.8 million shares to the public, 7.4 million of which would be “Fresh Issue” and 9.3 million of which would be an “Offer for Sale” by current shareholders. The combination of these moves would directly reduce the percentage of total shares owned by each MBT by over 25% apiece, whose governance responsibilities were already changing. By purely financial metrics, going public proved initially successful: “the company's valuation reached the top of the offer band price (which initially listed the value of the company at $1.5 billion), and the share price rose 13% on its first day of trading and rose 29% within four weeks of the IPO.”17 This success on the Street was highlighted as a possible precursor for more social-mission-oriented companies to follow suit and go public.18 However, going public was not just a financial decision with only tangible financial impacts. The significant IPO immediately sparked impassioned debate about the ethics of opening up the ownership of a private company with the goal of eradicating poverty to the buying and selling whims of the public market. To a certain extent, share capital represents corporate governance power, and all kinds of financial investors had just been granted access to that power.

                                                                                                               16 SKS Microfinance. Draft Red Herring Prospectus. 17 Feasley, Ashley. “SKS Microfinance and For-Profit MFIs, Unscrupulous Predators or Political Prey?” Cornell Law School Inter-University Graduate Student Conference Papers. Paper 49. <http://scholarship.law.cornell.edu/lps_clacp/49>. 18 “Microlender, First in India to Go Public, Trades Higher.” The New York Times. <http://www.nytimes.com/2010/08/17/business/global/17micro.html>  

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Media Blowback

News of the SKS IPO led to a variety of negative reactions, especially from members of the non-profit community. The central theme of these critiques lied in the fact that turning to the market for funding sources would led to an emphasis on profit generating activities and a failure to consider the social mission of providing assistance to the poor. This fear was at least partially driven by the fact that among the main benefactors of the IPO were several private organizations that had made investments into SKS. Among the most vocal of critics was Muhammad Yunus, the founder of Grameen Bank. Professor Yunus compared the actions of SKS to those of loan sharks, saying, “Poor people should not be presented as an opportunity to make money… We started out with the idea of getting loan sharks out of people’s lives… If you’re making money out of poor people, then you’re loan-sharking.”19 His concern stemmed primarily from the profit motive of the IPO. He noted that he is not necessarily opposed to attracting public capital, but cautioned that if microfinance institutions were to pursue this route, then they should make sure that they emphasize that they will be maintaining their social mission and that the investment opportunity will not be profit generating in nature.20Though the SKS IPO was targeted at profit-conscious investors, Appendix H contains passages from the prospectus indicating that voting control will remain with pre-IPO owners and that management will not be solely concerned with maximizing shareholder returns.

Other members of the non profit community in India expressed similar opinions to those of Yunus. Ramesh Ramanathan expressed fear saying that the nature of the market will corrupt the mission of SKS, saying “Markets are a double-edged sword. All of that positive also comes with baggage. That baggage is greed.”21 He also noted what he felt to be hypocrisy in the case of Akula and the IPO, as Akula constantly preached that SKS was a social business, “but when push came to shove, the actions were all of a commercial enterprise”22. M.S. Siriam felt similar about the potential corrupting effects of the markets on MFIs, noting “When an MFI becomes for-profit, the danger does exist that it might lose its moral and ethical compass…Everybody succumbs to the lure of the market.”23 Further Controversy

                                                                                                               19 Microfinance Africa. Don’t Profit from the Poor Says Grameen Bank’s Yunus. <http: //microfinanceafrica.net/microfinance-around-the-world/don%E2%80%99t-profit-from-the-poor-says-grameen-bank%E2%80%99s-yunus/> 20 Microfinance Focus. Microfinance Pioneer Prof Yunus Raises Concerns over SKS IPO <http://www.microfinancefocus.com/news/2010/04/09/microfinance-pioneer-prof-yunus-raises-concerns-over-sks-ipo/> 21 India Knowledge at Wharton. Capitalism vs. Altruism: SKS Rekindles the Microfinance Debate. <http://knowledge.wharton.upenn.edu/india/article .cfm?articleid=4533> 22 Ibid. 23 Ibid.  

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Several events that occurred in the immediate aftermath of the IPO also stirred controversy. Unitus, a nonprofit based out of Seattle, WA that invested in MFIs and held a valuable stake in SKS, announced that it was shutting down its microfinance operations and firing its current staff. Unitus indicated in a press release that it was shifting focus to working on “new early-stage, poverty-focused philanthropic activities”, but its decision raised skepticism amongst others. 24 Critics contested that Unitus Board Members simply used the SKS IPO as an opportunity to cash in and were abandoning their commitment to the social goals of microfinance. Timothy Ogden, a philanthropy consultant, commented on the issue, “I don’t know how you avoid wasting the millions of dollars the organization is supposed to get through the I.P.O. and its stake in SKS, if you don’t have the staff to make smart choices” Muhammad Yunus also added, “If Unitus is closing down, that shows what is the real result of the IPO…You are now encouraging the profit-maximizing part, and the non-profits are closing down.”25

Resignations of SKS board members also raised eyebrows. The board in question was created prior to the IPO to govern the various trusts that controlled ownerships stakes in SKS. While their interests had been diluted significantly over time, these trusts controlled a significant stake in the company and stood to receive an amount valued in the hundreds of millions of dollars. The controversy arose of how to use this money that they were receiving. Two board members, Narayan Ramachandran, who previously headed the Indian operations of Morgan Stanley, and Anu Aga, a prominent philanthropist, both resigned over differences of opinion with Mr. Akula on how to spend this money. The departed board members wished to funnel the money into existing nonprofit projects, while Akula preferred setting up new organizations that would support SKS’s borrowers. The departure of these two left questions as to who would control what was supposed to be an independent board now that Akula had significantly increased his own influence.26 Lending Crisis in Andhra Pradesh

Directly on the heels of their historic decision to go public, SKS and the microfinance industry at large found themselves bombarded with claims of predatory lending and even driving borrowers to suicide. Parallels were drawn to a recent, similar situation in America, and fears mounted that “microfinance could become India’s version of the United States’ subprime mortgage debacle, in which the seemingly noble idea of extending home ownership to low-income households threatened to collapse the global banking system because of a reckless, grow-at-any-cost strategy.”27 This connection centers on the most basic principles associated with profiting from the poor, with some

                                                                                                               24  Unitus. Unitis, Inc. Redirect Efforts. < http://unituslabs.org/updates/unitus-redirects-efforts/> 25 New York Times. Rich IPO Brings Controversy to SKS Microfinance. < http://www.nytimes.com/2010/07/30/business/30micro.html?pagewanted=all&_r=0> 26 Ibid. 27 Polgreen, Lydia and Vikas Bajaj. “India Microcredit Faces Collapse from Defaults.” The New York Times. 17 November 2010. <http://www.nytimes.com/2010/11/18/world/asia/18micro.html>.  

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arguing that predatory lending or “loan-sharking” is always a consequence of a business model that continually needs to disburse more loans in order to stay in the black. Critics like Vijay Mahajan, Chairman of another loan provider, placed the blame squarely on the shoulders of large MFIs, stating that, “in their quest to grow, they kept piling on more loans in the same geographies. That led to more indebtedness, and in some cases it led to suicides.”28 The situation in Andhra Pradesh, specifically, merits a bit more nuanced statistical look at its status as one of these allegedly targeted geographies. On one hand, the people of the Southern Indian state were certainly more indebted, both in general and to MFIs specifically, than their neighbors. The average indebtedness per household in Andhra Pradesh was more than eight times the Indian national average in 2010, and in a study that “compares five Indian states with high levels of microfinance penetration” found that “the average loan amount per poor household in Andhra Pradesh [was] triple the size for the next largest state [in 2010].”29 A comprehensive study conducted in 2008 based on data from 2007 confirmed a pre-existing, high debt load in the state, with 93% of surveyed households having some kind of loan outstanding, and 84% having two or more loans.30 Appendices M, N, and O display some of the data from this study graphically, illustrating a higher penetration of MFIs in Andhra Pradesh than in neighboring states and a comparatively high number of clients per branch and average loan size.

This statistical picture, however, is incomplete. The same study also determined that MFIs in particular were neither the primary source of the overall indebtedness nor aggressively targeting increased supply in oversaturated markets. Only 11% of the rural Andhra Pradesh households had a loan outstanding from an MFI, while a staggering 82% were indebted to an “informal” source, like friends or local moneylenders. While multiple borrowing from multiple sources was rampant overall, only 28% of households with an MFI loan had more than one loan from an MFI (or 3% of total households). At the end of the day, the authors concluded that there was “no discernible trend of higher growth occurring in those districts with high initial penetration as some have claimed . . . MFIs are in fact expanding to previously un-served markets in search of clients and there is little evidence of ‘piling on.’”31 In December of 2010, the local government of Andhra Pradesh passed the “MFI Bill,” which required MFIs to register company information like rates and processes for recovery with the government, levied restrictions on lending to the already indebted and repayment periods, and assessed harsh penalties for recovery operations that are coercive.32 Yet, the situation in Andhra Pradesh did not fully boil over

                                                                                                               28  Ibid. 29 CGAP. “Andhra Pradesh 2010: Global Implications of the Crisis in Indian Microfinance.” Focus Note 67. Washington, D.C.: CGAP, November. 30 Johnson, Doug. “The Geographic Distribution of Microfinance Services in India, 2007.” Centre for Micro Finance. June 2008. 31 Ibid. 32 Feasley, Ashley. “SKS Microfinance and For-Profit MFIs, Unscrupulous Predators or Political Prey?” Cornell Law School Inter-University Graduate Student Conference Papers. Paper 49. <http://scholarship.law.cornell.edu/lps_clacp/49>.  

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until, in the first three months of 2011, 90% of SKS borrowers in the area failed to make their payments.33 A significant portion of SKS’s portfolio was now in serious jeopardy.

Loan-sharking Accusations

In response to the aforementioned crisis, accusations of loan sharking were levied against SKS. These typically revolved around two separate types of unethical practices: 1. A lack of transparency or direct deception regarding loan products and 2. the creation of artificial demand through multiple loans to the same borrowers and saturation in high-growth areas. Both of these claims can prove difficult to verify at a granular level, because the stated intentions and practices of a company do not necessarily mirror their actual practices.

The first charge relates to the difference between MFIs’ initial “flat” interest rate and the real interest rate that emerges from the loan over time. When MFIs quote a rate of ~10% to their potential customers, the burden is on them to explain adequately that this rate is considered “flat” because it is always calculated based on the initial loan amount, not the remaining balance, which can produce a “hidden” interest rate of ~25%. In other words, if someone takes out a $10,000 loan at flat 10% interest, her monthly loan payments would always be supplemented by $1000 in interest. Vikram Akula maintained that SKS “clearly communicates to the borrowers that though the loan was at a flat rate of 12.5%, it effectively works out to over 26% because there is an ‘extraordinarily high cost of doing microfinance.’"34

The second charge relates to the broader and potentially more sinister vicious cycle of lending to the poor, in which loan officers concern themselves more with growth than responsible financial practices, giving money to people who will never be able to repay it. Here, a certain degree of personal responsibility comes into play. After all, no one physically forces a borrower to sign his or her name and accept a loan, at least not generally. However, especially when there are concerns about the transparency of the sales staff or the ability of the underprivileged to understand fully the financial implications of their decision, offering and marketing loan packages to women who may have other debts to pay down and can see no other escape walks a fine line between financial inclusion and predatory practice. The SKS Connection Extensive information on specific SKS training and recovery protocol is heavily guarded and thus not publicly available, but we do know a few facts. SKS’s commercialized scaling model, based on McDonald’s and Starbucks franchising, allowed it to train 500 new loan officers per month and add an average of two new branches per

                                                                                                               33 Bajaj, Vikas. “Luster Dims for a Public Microlender.” The New York Times. 10 May 2011. <http://www.nytimes.com/2011/05/11/business/global/11micro.html>. 34 “The ugly underbelly of Microfinance.” The Times of India. 18 October 2010. <http://timesofindia.indiatimes.com/business/india-business/The-ugly-underbelly-of-Microfinance/articleshow/6766589.cms>.    

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day.35 Salary data to determine information like commission payments is unavailable, but we know that in December 2009, SKS launched an “Incentives Galore” campaign for its sales staff:

“Agents won prizes worth up to 10 times their average monthly salary for signing huge numbers of new borrowers . . . [They] coordinated the shipment of 8,800 televisions, refrigerators, gold coins, mixers, washing machines and DVDs as rewards for more than 3,000 districts nationwide . . . One loan officer signed up 273 groups in a month. Under training protocols, the ideal number of groups formed per month is 12 and the maximum is 36, according to field agents and reports written by Mr. Akula. ‘The focus is only on targets,' Ramulu Sirgapur, who spent a decade at SKS before he left in December, told AP. ‘Even if we've given feedback, there might be recovery or repayment issues. That's OK. Just concentrate on growth.' . . . Six current and former SKS staffers with experience in the field told the AP they no longer had time to check a borrower's assets or follow up and make sure a loan was put to productive use. They said that they were pressured to push more debt onto people than they could handle and that the number of days devoted to borrower training was cut in half.”36

This same report, unveiled by the Associated Press in February 2012, drew a connection between these incentives and tangible consequences: “in October 2010, a mob of 150 people surrounded SKS's Hyderabad headquarters, protesting the suicide of a borrower's husband. They threatened to drag the corpse inside and demanded $20,000.”37 This incident had been, unfortunately, merely a warning sign of the controversy to come. The AP investigation revealed that more than 200 poor, debt-ridden people in Andhra Pradesh committed suicide in late 2010. The government had blamed microfinance in general, but SKS commissioned its own independent investigation, which showed an explicit connection between SKS loan agents and at least seven specific suicides in the region. An excerpt from the report states:

“SKS employees had verbally harassed over-indebted borrowers, forced them to pawn valuable items, incited other borrowers to humiliate them and orchestrated sit-ins outside their homes to publicly shame them . . . One woman drank pesticide and died a day after an SKS loan agent told her to prostitute her daughters to pay off her debt . . . Another SKS debt collector told a delinquent borrower to drown herself in a pond if she

                                                                                                               35 CGAP. “Indian Microfinance Goes Public: The SKS Initial Public Offering.” Focus Note 65. Washington, D.C.: CGAP, November. 36 Associated Press. “SKS Under Spotlight in Suicides.” The Wall Street Journal. 24 February 2012. <http://online.wsj.com/article/SB10001424052970203918304577242602296683134.html>. 37 Ibid.  

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wanted her loan waived. The next day, she did. She left behind four children.”38

Whether or not these kinds of recovery practices are taught and openly tolerated by upper management at SKS, evidence suggests that the problem was beyond a few isolated incidents. In late 2010, the industry group Microfinance Institutions Network hired Glocal to investigate the deaths of debtors of microfinance companies, including SKS. In January 2011, the results of the investigation were reported to SKS executives, including Vikram Akula: multiple suicides showed clear instigating involvement by SKS employees. SKS then hired its own private investigative agency, Third Eye, to “carry out a fact finding enquiry on the causes of suicide and complicity of our field staffs without any prejudice.”39 The second report confirmed the first, this time with videotaped interviews of weeping, distraught borrowers. The AP was privately provided with emails showing that the summary report of Third Eye’s damning follow-up investigation was indeed sent to SKS executives. By then, the mayhem on the ground had spread to the very top of the company. Internal Disputes and Conclusion

The revealing AP article uncovered subtle, Hollywood-caliber power plays within SKS board meetings in 2011. Revealed under condition of anonymity for fear of retribution, a former employee told reporters that on July 26, 2011, Vikram Akula provided board members with copies of a 55-page presentation that detailed the suicides, described how the pre-IPO push for growth had led to a systemic breakdown, and urged core reforms to restore training and lending discipline. The internal company minutes of the meeting, however, made no mention of the report, so Mr. Akula complained. When he did, the company secretary replied on September 26, “as per my notes, this was not part of the board proceedings.” Akula kept pressing, reiterating his frustration with the overlooking of his presentation and warning about the direction of the company, in further emails seen by the AP that Akula sent to seven board members, including soon to be Non-Executive Chairperson-Interim of the Board, Puranam Hayagreeva Ravikumar. Chaos within the board continued to build until, on November 23, 2011, the founder resigned. According to the AP, Ravikumar stated that SKS never authorized any independent inquiry into borrower deaths, that the board was never informed that SKS employees were implicated in any suicides, and that Mr. Akula never presented any such findings to the board. Additionally, with respect to the e-mails sent by Akula, “Ravikumar declined to comment on what he said was personal correspondence.”40

It was in this provocative situation that found Puranam Hayagreeva Ravikumar himself. Unlike most Board Chairmans of publicly traded companies, Mr. Ravikumar’s decisions would not just affect his firm’s employees or the bottom line for institutional

                                                                                                               38  Ibid.  39  Ibid.  40  Ibid.  

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investors; they would affect the very lives of millions of Indian women in need. Sifting through the piles of granular information about Andhra Pradesh that covered his desk, he breathed a heavy sigh and wondered where SKS should go from here.

Study Questions

1. What impact does the corporate government structure of a company have on its

operations and the overall mission of a company? When SKS went public, did its financial duty to its shareholders supersede its social mission?

2. What are the advantages and disadvantages to the corporate governance structure of Grameen Bank and SKS? How do these structures make these organizations more or less effective at carrying out their missions?

3. Vikram Akula was recently quoted as saying, “Professor Yunnus was right. Bringing private capital into social enterprise was much harder than I anticipated.” What about it is harder? Why is SKS’ industry different from any other in financial services?

4. In response to the SKS IPO, Muhammad Yunus stated, “If you’re making money out of poor people, you’re loan sharking”. Is it inherently unethical for businesses to earn profits from serving disadvantaged customers? Does the motive of the company matter in this situation?

5. Problems that arise from questionable lending practices, such as those that led to the US housing crisis and the situation in Andra Pradesh, are often the result of asymmetrical information between the lender and the borrower. In these situations, is the burden on the lender to provide complete and transparent information about the loan (“caveat venditor”) or on the borrower to fully understand the terms of their loan before they sign off on it (“caveat emptor”)?

 

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Appendix A: Timeline of SKS Evolution

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Appendix B: Screenshot from SKS’s website detailing its mission and values

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Appendix C: Illustration of SKS business model

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Appendix D: Company Financial Statement

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Appendix E: Equity Share Transaction History

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Appendix E cont.

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Appendix F: Top 10 Equity Shareholders by Share Value

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Appendix G: Changes in SKS ownership from 2006-2010

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Appendix H: Passages from SKS IPO Prospectus 24. Certain of our existing shareholders together may be able to exert substantial voting control over us after this Issue, which may limit your ability to influence corporate matters and may cause us to take actions that are not in our best interest. Upon completion of this Issue, certain of our existing shareholders representing our five largest shareholders will beneficially own, in the aggregate, approximately 53.5% of our outstanding Equity Shares. This concentration of ownership could limit your ability to influence corporate matters requiring shareholder approval. These existing shareholders will be able to exercise considerable influence over all matters requiring shareholder approval, including the election of directors, approval of lending and investment policies and the approval of corporate transactions, such as a merger or other sale of our Company or its assets. In addition, if our shareholders do not act together, such matters requiring shareholder approval may be delayed or not occur at all, which could adversely affect our business. Pursuant to the terms of an agreement with us, our existing investor SIPI will continue to have the right to appoint a nominee director to our board of directors. Moreover, these shareholders are not obligated to provide any business opportunities to us. If these shareholders invest in another company in competition with us, we may lose the support provided to us by them, which could materially and adversely affect our business, financial condition and results of operations. …26. Our management will have broad discretion over the use of the Net Proceeds and they might not apply the Net Proceeds in ways that increase the value of your investment. We intend to use the Net Proceeds for the purposes described in the “Objects of the Issue” on page 49 of this Draft Red Herring Prospectus. We currently intend to use the Net Proceeds from the Fresh Issue to fund our growth. Our management will have broad discretion to use the Net Proceeds and you will be relying on the judgment of our management regarding the application of these Net Proceeds. Our management might not apply the Net Proceeds in ways that increase the value of your investment. Pending utilization of the Net Proceeds, we intend to invest such Net Proceeds in bank deposits as approved by our Board of Directors in accordance with our investment policy. Although the utilization of the Net Proceeds will be monitored by our Board of Directors and Monitoring Agency, if appointed, there are no limitations on interim investments that we can make using such Net Proceeds. … OBJECTS OF THE ISSUE The Issue comprises of a Fresh Issue and an Offer for Sale. We intend to utilise the Net Proceeds for the following objects: (a) augment our capital base to meet our future capital requirements arising out of growth in our business; and (b) to achieve the benefits of listing on the Stock Exchanges. We will not receive any of the proceeds from the Offer for Sale. The main objects clause of our Memorandum of Association and the objects incidental and ancillary to the main objects enable us to undertake the activities for which the funds are being raised by us in the Issue. Further, we confirm that the activities we have been carrying out until now are in accordance with the objects clause of our Memorandum of Association.

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We are engaged in providing microfinance services to individuals from poor segments of rural India. As there is no project to be implemented, the Net Proceeds will be used to augment our capital base to meet our future capital requirements arising out of growth in our business. Interim Use of Funds Pending utilisation for the purposes described above, we intend to invest such Net Proceeds in bank deposits as approved by our Board of Directors in accordance with our investment policy. Our management, in accordance with the policies established by our Board of Directors from time to time and subject to the relevant regulations of RBI, will have flexibility in deploying the Net Proceeds of the Issue subject to the Objects of the Issue.

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Appendix I: Breakdown of Parties who received Proceeds from SKS IPO

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Appendix J: SKS Corporate Partners

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Appendix K: Timeline of Unitus Activities related to SKS

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Appendix L:  Transcript  of  conversation  between  Vikram  Akula  and  Muhammad  Yunus  at  the  2010  Clinton  Global  Initiative    

Muhammad Yunus: Let’s first define what micro finance is. It’s lending money to the poorest women for income generating activity, without collateral, so she can help herself out of poverty. If you cross that boundary, then use another term because when you use the term micro credit, you confuse people. Then loan sharks can say they are doing micro credit. I say find a name for yourself: call it [Bottom of the Pyramid] BOP credit.

Vikram Akula: I see Yunus as a mentor and like Grameen Bank, SKS gives micro credit for income generating activity, collateral free…. [The question is] how do you design micro finance in a way so you don’t say no [to anyone who needs it?] You do it by accessing capital markets and yes, commercial microfinance is an important tool for inclusive access.

Yunus: I’m not opposed to profit. Grameen Bank is a bank. But ownership is the question. Grameen Bank is owned by the borrowers and the profit goes back to them. We oppose that the money of the poor people goes to someone else; [or at least] is there a rule restricting the percentage of profit that goes to someone else? We are opposed to who makes the profit and how much. If it’s 1-2%, go ahead. Vikram says he can’t give money to the poor people who need it [because there is a lack of funds.] We say, go ahead and start Grameen Bank. Each branch mobilizes its own deposits…. We live in an ocean of money. [In Bangladesh, 80% people have access to micro finance.] Instead of rushing to the capital markets, rush to the government [to demand a license] to open a bank.

Akula: In Bangladesh there was a special act by Parliament that allowed for deposit taking from borrowers. That’s not the law in India. Our urgency is how do we reach all the people we need to reach. Commercial capital markets are the only place to get those funds. Over the last 12 years SKS got 7 million clients, we have grown three times as fast as Grameen Bank…. Scale and rapid scaling is very important.

Yunus: Many branches of Grameen Bank have more money from savings of borrowers than from outstanding loans. Having external money slowed us down from our model.

Akula: Yes you increase profits by pushing up loan sizes and raising interest rates. But SKS loan officers are not incentivized by loan size; we want him to give out the right

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loan amount. The logic is to create great shareholder value as she [the woman who takes the loan] moves up the ladder to take multiple loans for multiple products. SKS has reduced interest rates from 36% to 24% and in the same period ROE has gone up from 5 to 22%. You can bring these two elegantly together.

Yunus: Conventional business has its own logic; there’s no getting away from that. You get caught up by “others”–other shareholders and that’s the wrong direction. Micro credit should be about local money. When you get outside money, you get the risks, the volatility of it [too.] You could’ve lobbied with the government [to pass an act similar to the one in Bangladesh.] Microcredit is not about exciting people to make money off the poor. That’s what you’re doing. That’s the wrong message completely.

Akula: Getting a banking license in India is nearly impossible…. One challenge we had was access to capital and because we went to the capital markets we could get the capital…. A woman [taking this loan] is not concerned with who is making a profit but if she’s getting her loan. Yours is maybe the more morally pure way but it’s a long way away from helping all the people who need it.

Yunus: You have to bring in patience and passionately pursue it. If you don’t even try, it’ll never happen. You go to the easier solution.

Akula: We need more than one approach with 3 billion people to save. I will take up your suggestion and lobby the government as well. But I don’t think it’s fair to make a poor woman wait while the government [changes its laws.]

Yunus: You didn’t come to me. I could’ve done that [lobbying] for you.

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Appendix  M:  Average Loan Size and Median Number of Borrowers per Branch for Indian MFIs in 2007

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Appendix N: Average MFI Penetration by Indian State in 2007

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Appendix O: Graphic Distribution of MFI Penetration in India in 2007