There have been startling losses in microfinance
institutions that have wandered too far
from their original microfinance mission due to fierce competition or of
profit-minded management.
Servicing traditional microfinance
clients is expensive because loan sizes are small and the number of people
required to service clients. When competition deters the MFI from charging higher interest rates and absorbs
losses more frequently, it leads to higher loses, explained MacDougall the Director of Risk Management, Blue Orchard
in an article written Microfinance Focus magazine.
According to MacDougall there are
many known ratios used to gauge the strength of MFIs however these should principally
be used them to gauge trends. Often the levels they indicate have limited
meaning, and analysts ought to understand when they do and when they don’t. A
key consideration is whether the institution is mission-driven, rather than
profit-driven. Many MFIs are non-profits or at least not profit-maximizers.
They often charge just enough to cover their expenses and build the portfolio,”
he wrote.
MacDougall, who was formerly an
Executive Director of the ASA Foundation, a microfinance organisation in
Bangladesh that focuses on providing technical assistance, said ASA’s
operational self-sustainability dropped from 240% in 2006 to 185% in 2007. “Far
from being an indicator of weakness, this reduction was the result of the
management’s decision that it was making more than enough to meet its growth
needs. So it lowered lending rates,” he noted.
RISKS AND REWARDS
There are many forms of support available to MFIs which they are unable to
maximize, he said. A broad array of aid agencies and philanthropic investors
are ready to help institutions that can make a difference in under-privileged
communities. Such institutions often tend to take care and mitigate the risk
factor in their portfolio, which investors should assess.
But in case of an MFI that failed to
fully hedge its foreign exchange risk, the crisis turned this error into an
emergency for the MFI. With a large portion of its equity gone, lenders could
have accelerated the loans and forced the MFI into bankruptcy. The situation
forced lenders and networks to look for ways to find ways to get the MFI
through the rough patch because its record of providing services to a large
number of very poor women was excellent, said the director of risk management
at Blue Orchard.
NOT IN SPREADSHEET
Finally, the MFI’s key strength – its management – will surely not be found in
a spreadsheet. Managing a MFI requires leaders with a rare combination of
skills. Amongst other things, they must have a thorough understanding of their
immediate environment while keeping sight of the wider financial context, and
they must be quick to adapt to any changes. They have to train staff to the
peculiar business of microfinance and reaching out to clients who may have only
the most limited understanding of managing their finances, said MacDougall.
At the same time such leaders must communicate transparently with aid agencies
and philanthropic or commercial funders. “In brief, those looking to gauge the
viability of MFIs must set aside their sophisticated models and focus instead
on understanding the activities, context and management of a MFI. They must
acknowledge that strengths in these areas can see a MFI successfully through
troubled times and lead it to flourish,” he commented.
A spreadsheet with numerous ratios
and graphs serves as the standard tool. Unfortunately, such efforts can lead to
erroneous conclusions because their focus isn’t wide enough. The answer isn’t
in the spreadsheet. The fundamental strengths of MFIs lie in the nature of
their business itself. International enthusiasm for microfinance was inspired
by the fact that MFIs offer an essential service where main-stream banks will
not provide it: they grant credits, the possibility to save money and other
financial services to those previously excluded.
While MFIs face a host of
challenges, their socio-economic mission endows them with special advantages.
“We should expect MFIs to succeed where they continue to operate in underserved
markets. Analysts should therefore examine whether an MFI’s mission and
programs focus on traditional microfinance or not,” advised the MacDougall.
