MANAGING MICROFINANCE INSTITUTIONS IN DIFFICULT ECONOMIC TIMES

Difficult  economic conditions prevailing in a country can  pose a challenge to enterprise development, sustainability and growth processes. Many enterprises including microfinance institutions will have to face the realities and develop the needed approach in order to sustain their operations.

The effect of  economic challenges on micro and small enterprises (MSEs)  will include but not limited to increasing  need for additional working  capital to manage the same size of  businesses, reduction in production or sales volumes, high  production cost and cashflow challenges.

Microfinance institutions (MFIs) as financiers of microenterprises will face various challenges just like the enterprises they finance.  This is largely because what happens to their clients in most cases is mirrored in their operations. For instance the inability of the clients to increase or maintain volumes and values of their sales can directly affect the repayment of their loans. Low volumes of sales can also affect the volume of deposits that can be mobilized.

The challenge for MFIs and other financialinstitutions in difficult economic times will be evident in decline in deposits mobilization,low loan recovery rates,high operational or transaction cost as well as high cost associated with borrowings and difficulty in raising the needed loans to support operations.

The decrease in deposits and low recovery rates are due to the fact that clients or micro and small entrepreneurs in view of their need for additional capital will quickly plough back available money in order to ensure that their enterprises can operate and generate the returns needed to meet other demands which may include repayment of loans, savings and household consumption. By this, therefore, income received from sales is directly used to restock their enterprises for fear of price changes. In some cases where clients are able to save, they do that in reduced amounts and such amounts do not stay long with the MFIs.

Microfinance operations are naturally expensive. This is due to the very nature of the microfinance business which involves making small loans and taking small deposits. The cost of transacting one loan or taking a deposit is very expensive. Owners and operators of microfinance institutions must not be oblivious of the challenging economic situation. MFIs  must prepare and implement the needed operational or managerial strategy to ensure that their businesses are able to continue to provide the needed support to MSEs and still be financially and operationally sustainable.

WHAT SHOULD MFIs EXPECT

Expensive Operations:

 The cost of operating MFIs is likely to increase due to general increase in prices of goods and services. The cost to income ratio is an important measure of profitability for MFIs. With the current economic conditions MFIs will register high “additional” operating cost. The challenge here is that the interest income which is the main source of income for MFIs will not proportionally grow in line with the operational cost. The failure to control the operational cost can, therefore, lead to a high cost to income ratio and further affect the operational fortunes of  MFIs. MFIs will need to implement controls that will lead to cost reduction. They must pay closer attention to growing and maintaining quality loans in order to improve their interest income.

High cost of capital:

MFIs in Ghana incur a high cost in raising funds to support their operations. With rise in inflation and other factors, MFIs in Ghana will further be required to pay more for the loans they contract. The high cost of the loans is due to unstable economic situation which is perceived by investors whether local or foreign as a high risk. The high cost of capital is, therefore, to compensate for the risk associated with the entire macro-economic situation and also to protect the value of their investments placed with the MFIs.

Short terms loans for MFIs:

Aside the high cost of capital, MFIs will witness that most investors will be willing to offer short term investments instead of providing long term investments.Shorter term credits will prevail because most investors are skeptical of the future developments of the economy that can further affect the value of their funds. The dangers with shorter term credits for MFIs is that it may affect the cashflow position of the MFIs. The challenge with short term loans made to MFIs is that MFIs are unable to fully invest these funds in order to record the needed returns to compensate for the cost incurred in raising such funds. MFIs can address this by ensuring to invest such funds in activities that have similar repayment patterns compared with the borrowed facility.

Reduction in deposit mobilization:

MFIs will experience reduction in deposits mobilization. Deposits are one of the key sources of funding for MFIs. MFIs spend to mobilize in order to place the funds mobilized in loans and other investments. Under difficult economic situations, the enterprises of client are financially stretched and the income from these enterprises will dwindle. This is expected to negatively affect the savings habits of these clients. This, therefore, means that clients will not have enough income to spend and save. Clients will prioritize their consumption smoothing needs instead of savings or loan repayments. The other obvious thing is that because the general cost of items have gone up, microclients will have to use more of their little income to buy what they need. All these development have the tendency that will affect the loan repayment potentials of the clients in questions.

Conclusion

Acknowledging the current economic challenges as an owner of a MFI is one step to ensure that MFIs can be able to stay financially sound to support operations and be able to reach out to targeted clients.   The good thing with MFIs and difficult economic conditions is that, there is much evidence to support the fact that MFIs have the potential of surviving harsh economic conditions if prudent steps are implemented. This is made evident by the growth registered by the microfinance industry during the world economic crisis. 

Sustainability of the MFIs is an important step to ensure that MFIs will be available to support the economic empowerment of their clients through the provision of financial and non-financial services.

MFIs must ensure to prioritize the management of their liquidity. This will include having to constantly or frequently review the liquidity positions. This can be performed on weekly basis or at least on monthly basis. Instead of depending on only one person to make decision on the liquidity status of the MFIs, it is advisable to use small committees instead of one man reviews.

MFIs must reduce or suspend capital investments and rather fund more liquid assets. This is because MFIs would have challenges with raising funds and, therefore, must be able to internally make funds available for investments in areas that will yield better returns to support increase in operational cost. MFIs can hold on to branch expansion and rather seek to improve the efficiency of their operations.

MFIs must ensure to do proper and detailed loan analysis for all their loan requests. Credit officers or managers  should not only assess the “ability to pay”loans only based on the financial position of the clients  but must include assessing  the entrepreneurial competencies  of the clients to better make informed decisions to manage and grow their business enterprise. In addition, MFIs must ensure to diversify their loan portfolio by ensuring to finance clients involved in different economic activities instead of financing clients involved in just one economic activity.

This is the time MFIs must place priority on efficiency instead of expansion. MFIs should improve their liquidity management to meet the frequent cash withdrawal and also aim at lean operations. MFIs must survive to support the micro and small entrepreneurs and this can be only achieved if owners and managers of MFIs make inform decisions regarding the day to day operations of their enterprises.