MICROFINANCE 101: WEEK TWO

Introduction to Microfinance Institutions

Robert Gailey, Point Loma Nazarene University

WELCOME!

OUTLINE FOR TONIGHT Introduction of Mr. Rivera – learning about his business

Introduction of new participants

Review from last week

How are MFIs different from other traditional financial services available to

poor people?

How are MFIs different from traditional relief?

How are MFIs different from traditional banking? Inspiration from Sam Daley-

Harris

Exploring interest rates and key financial metrics for MFIs

Scope of impact - Microcredit Summit Report and Mix Market

A few important debates in the industry

Important books and websites

Outline of remaining weeks of class

Question Time

2

3

INTRODUCTIONS – ANY NEW PEOPLE?

State your name

Your institutional affiliation if you have one

Your first exposure to microfinance

What you hope to get out of the course

4

REVIEW FROM LAST WEEK1. Why do people need

financing?

2. What things/events do people

finance?

3. What mechanisms exist for

people to access financing?

5

HOW IS AN MFI DIFFERENT FROM:

Traditional banking?

Typical financial services available to poor

Traditional Relief?

6

HOW MICROFINANCE IS DIFFERENT: FORMAL BANKS VS MFIS

Formal banks

• Offer financial services to

non-poor people

• Make large capital loans

• Requires significant

physical collateral

• Expect clients to come to

them

• Wealthy, literate men

gain greatest access

• Clients are viewed in

profit terms mostly

Microfinance institutions (MFIs)

• Offer financial services to

poor people excluded from

banks

• Make small capital loans

• Leverage social

guarantees instead of

physical collateral

• Bring the bank to the

clients

• Poor, illiterate women are

primary targets for services

• Focus is on building the

dignity and success of

clients

7

HOW MICROFINANCE IS DIFFERENT: GIFTS VS LOANS

Grant Programs

• Funds used once

• Projects rely on

continued giving

• Often discourages

savings and business

planning

• Reaches few poor

people

• Activities are limited by

donations

• Fosters dependency

Microfinance Institutions

• Funds recycled to help

multiple times

• Builds a sustainable

institution

• Rewards savings and

business planning

• Reaches many poor

people

• Can be financed by loans

and client savings

• Rewards initiative to work

KEY TERMS AND DEFINITIONS

Interest rate (flat or declining): Flat – same amount is paid each period. Declining –amount paid in interest decreases as amount owed (principle) decreases.

Operational Expenses: Salaries, electricity, vehicles, equipment, etc.

Costs of capital: Currency devaluation, inflation, loan default, & interest paid on borrowed funds.

Savings Balance: Total amount clients have in savings – what is owed back to clients by the MFI.

Portfolio Outstanding: Amount of money out in loans that is not yet repaid.

Financial

KEY TERMS AND DEFINITIONS

Income: What comes in for products or

services.

Profit: Generating something above what

it costs you. Revenue exceeds expenses.

Subsidy: Anything which doesn’t cover its

costs and must be covered by other

sources (grants, donations, free labor, etc.)

Financial

KEY TERMS AND DEFINITIONS

Repayment Rate (on-time and overall): How much is paid on-time and eventually.

Arrears: How much is due but has not yet been paid.

Portfolio at Risk: Value of portfolio outstanding that is in arrears.

Loan Loss (Default rate)/[Loan loss reserve]: How much of the loan portfolio is written off or how much is set aside to write off

Institutional Health

KEY TERMS AND DEFINITIONS

Operational Self-Sufficiency: Income/Operating

expenses (+ costs of capital)

Financial Self-Sufficiency: Income/Operating

expenses + costs of capital (+ implicit subsidies).

Efficiency: Income up and/or expenses down

Institutional Health

12

SETTING THE INTEREST RATE

Here is a formula that can be used by an MFI in order to determine the appropriate interest rate: R = AE + LL + CF + K –II 1-LLWhere R is the interest rate, AE is administrative expenses, LL is loan losses, CF is the cost of funds, K is the desired capitalization rate, and II is investment income.

Or, use my friend’s back-of-the-napkin excel program:

13

SETTING THE INTEREST RATE

However, in practice, MFIs usually do not set their rates based on this formula, but rather based on what the interest rates of other MFIs and lenders in an area are charging and what the operational expenses of the MFI are.

 

MFIs charge interest for at least five reasons:

1) To cover operating costs of administering loans (salaries, rent, etc.).

2) To cover financial costs of the cash used for lending if borrowed by the MFI from an interest-charging resource or from another currency.

3) To cover the risk of loans not being repaid.

4) To cover the time-value of the money lent (inflation).

5) To grow their program/portfolio.

14

USEFUL WEBSITES Microfinance Gateway:

http://www.microfinancegateway.org/p/site/m/

Microcredit Summit: http://www.microcreditsummit.org/

MixMarket: http://www.mixmarket.org/

Microfinance Focus: http://www.microfinancefocus.com/

Microfinance Transparency:

http://www.mftransparency.org/

PLNU Microfinance Club Blog:

http://plnumicrofinanceclub.blogspot.com/

15

IMPORTANT DEBATES

Savings-led versus credit-led

Financial services only or combining with

health/education services?

Who owns the bank – organizations or clients?

Whether to become a formalized, regulated

institution or stay informal

To stay non-profit or turn into a for-profit

How transparent to make one’s interest rates

16

RUTHERFORD (2000 + SUMMER 2009)THE POOR AND THEIR MONEY

17

ARMENDARIZ AND MORDUCH (2007)

18

COLLINS, ET AL. (2009) PORTFOLIOS OF THE POOR

19

MILWAY (2008) ONE HEN

20

OUTLINE FOR REST OF COURSE Week 3: Focus on local microfinance

institutions – International Rescue Committee, Accion, CDC Finance – introduction and information

Week 4: Hearing from the clients, clubs, and investors – meet staff and clients from La Maestra, college clubs, and San Diego Microfinance Alliance, and local individuals who are invested in microfinance

21

CONCLUDING REMARKS

Questions/Remarks

Please turn in your tags

Come hungry next week – Two clients of

CDC – El Pollo Grill for dinner and Sweet

Dreams for interview