The microfinance landscape has seen remarkable growth in recent years, bridging the gap between underserved populations and formal banking services. However, the sector has encountered significant hurdles recently, including a rise in non-performing loans, excessive leveraging, and unexpected economic disruptions that have strained financial institutions.

Despite these challenges, a recovery seems to be on the horizon. The quality of assets is improving, lending activity is picking up, and early indicators suggest that profitability may be on an upward trajectory. This shift presents a unique opportunity for investors to explore undervalued microfinance banks, particularly those with attractive price-to-book value (P/BV) ratios.

Exploring Undervalued Microfinance Banks

In this article, we delve into five microfinance banks currently trading at low valuations, making them appealing options for potential investors. Let’s take a closer look at each institution.

1. Suryoday Small Finance Bank

Founded in 2008, Suryoday Small Finance Bank has emerged as a key player in India’s microfinance sector, launching its banking services in 2017. This bank primarily serves unbanked and underbanked customers. Currently, it’s trading at a P/BV ratio of 0.5, significantly below its one-year median of 1.

• Financial Performance: For the quarter ending December 2024, Suryoday reported a gross non-performing asset (GNPA) ratio of 5.5%, a rise from 3.1% the previous year. However, adjusting for expected claims under the Credit Guarantee Fund for Micro Units (CGFMU), this figure drops to 2.6%.
• Profitability Metrics: The net interest income (NII) surged by 24.6% year-on-year to ₹861.5 crore, while the pre-provision operating profit (PPOP) increased by 5.2% to ₹342.6 crore. However, the profit after tax (PAT) saw a slight decline of 4.1% to ₹148.7 crore.

2. Utkarsh Small Finance Bank

Established in 2016, Utkarsh Small Finance Bank provides a range of banking services and is currently valued at a P/BV multiple of 0.8, below its one-year median of 1.9.

• Asset Quality: As of December 2024, the bank’s GNPA ratio reached 6.2%, up from 3% a year earlier. Net NPA (NNPA) also rose to 2.5% from 0.2% in the same period.
• Capital Position: Despite these challenges, Utkarsh maintains a robust capital adequacy ratio (CRAR) of 21.1%, providing a cushion for potential losses.

3. Capital Small Finance Bank

With its inception in 1999, Capital Small Finance Bank holds the distinction of being India’s first small finance bank. It is currently trading at a P/BV ratio of 0.9, lower than its one-year median of 1.1.

• Growth Indicators: For the quarter ending December 2024, the bank reported a PAT of ₹34 crore, an 18% increase from ₹29 crore the previous year. Its GNPA stood steady at 2.1%, indicating stable asset quality.
• Capital Adequacy: The CRAR of the bank is a robust 19.5%, significantly exceeding regulatory requirements.

4. Equitas Small Finance Bank

Prior to its licensing as a small finance bank in 2016, Equitas was a fully-owned subsidiary engaged in microfinance operations since 2007. Today, it holds a P/BV ratio of 1.1, appealing when considering its one-year median of 1.6.

• Current Challenges: The bank is navigating higher credit costs, particularly in its microfinance initiatives. As of December 2024, its GNPA was 3%, up from 2.4% the previous year, while NNPA improved to 1%, down from 11% YoY.
• Solid Capital Base: The capital adequacy ratio is a strong 20.3%, highlighting its financial stability amid profitability pressures.

5. Jana Small Finance Bank

Founded in 2006, Jana Small Finance Bank offers a diverse range of banking services and trades at a P/BV ratio of 1.1, below its median of 1.5.

• Recent Performance: The bank’s GNPA ratio improved to 2.7%, down from 2.9% the previous quarter, while NNPA decreased to 0.9%.
• Financial Strength: Jana reported a PPOP of ₹279 crore for the quarter ending December 2024, coupled with a CRAR of 18.4%, showcasing its solid capital position.

Conclusion: A Look Ahead

These five microfinance banks are currently undervalued compared to their historical performance, making them enticing for potential investment. While challenges persist due to high credit expenses and provisioning, many of these institutions are pivoting towards secured lending to enhance long-term sustainability.

The ongoing improvement in asset quality, along with rising lending volumes and profitability, suggests that as economic conditions stabilize, these banks could be poised for significant growth. Investors may find it worthwhile to monitor these stocks closely, especially as the microfinance sector gradually rebounds.

Investing in such financial institutions can be promising, but it’s crucial to conduct thorough research and consult with financial advisors for tailored investment strategies.