* Mass-market lender hit by weak demand, soured loans
* Warns on second half profits
* Shares recover on disposal, rights issue news
By Helen Nyambura-Mwaura
JOHANNESBURG, Aug 5 (Reuters) - African Bank Investments said on Monday it would sell its furniture unit and raise cash in a rights offer, as the South African mass-market lender aims to boost a balance sheet stretched by weak demand and rising bad loans.
African Bank, known as Abil, has helped pioneer unsecured credit - loans not backed by collateral - in Africa's top economy by focusing on lower-income customers.
But it is now showing signs of fatigue as borrowers struggle to make payments, their finances hit by a slowing economy, chronically high unemployment and waves of strike action and social unrest.
Abil, which warned that earnings at its main banking unit were likely to worsen in the second half, said it would look to sell its Ellerines furniture business, which it bought in 2007 as a vehicle for selling sofas and armchairs on credit.
The bank, which does not take deposits and relies on the bond market for funding, said it would raise up to 4 billion rand ($406 million) via a fully subscribed rights offer to improve its capital position.
"What they have done is shored up their balance sheet and investors will take confidence in that," said Simon Fillmore, chief executive of Independent Securities in Johannesburg.
"Ellerines has been their Achilles' heel for six or seven years so to indicate that they are going to sell that is quite positive."
Its shares initially tumbled as much as 13 percent but recovered as investors welcomed the asset sale and fundraising, trading up 5.4 percent at 15.16 rand at 1222 GMT.
The stock has lost nearly half its value since May, when Abil reported a 26 percent drop in first-half profit and wrote off 445 million rand in bad loans, sparking concern about its finances.
Cash flow currently accounts for just 16 percent of the bank's average net operating assets, according to Thomson Reuters data, well below the industry median of 50 percent.
Its debt to equity ratio, a measure of a company's borrowing, is at 300 percent, compared with an average of 107 percent at six other South African banks, the data shows.
Analysts are concerned about the possibility of higher bad debt across the banking sector, especially from consumer loans. South African household debt is equal to more than 75 percent of disposable income, central bank data shows.
"It definitely says times are tough, we can see that coming through with the high credit losses," said a banking analyst who is not authorised to speak to the media.
"Funding costs are rising and it's putting a lot pressure on non-deposit-taking banking institutions that do not have access to retail deposits as a form of cheap funding."
As of March, unsecured lending totalled around $46 billion, according to the central bank, showing growth of nearly 25 percent from a year earlier, but down from a peak of 30 percent annual growth in November 2012.
Major South African banks like Standard Bank and Barclays Africa are unlikely to feel as much pain as niche lenders like Abil.
"I would be surprised if you don't see generally increasing defaults in the consumer environment across the board, whether you are looking at clothing retailers or large diversified banks," said Khaya Gododo, a portfolio manager at Afena Capital.
"The question is the magnitude of the impact, for banks it is likely to be much smaller than it is for monoline lenders like Abil."
South Africa's economic growth rate was stuck at an anaemic 0.9 percent in the first quarter, while unemployment has risen to over 25 percent and labour unrest threatens to spread beyond the key mining sector.
Abil, which is facing a 300 million rand regulatory fine after an industry-wide probe into possible reckless lending, said loans in the April-June quarter grew by 19 percent to 60.3 billion rand year-on-year, slower than the 25 percent growth achieved in the previous period.
Non-performing loans accounted for 30.2 percent of all loans, up from 29.2 percent.
Abil said its rights issue would be fully underwritten by Goldman Sachs Group.