There is a major positive change starting to ripple through the microfinance industry … the trend towards running microfinance institutions (MFIs) as for-profit businesses rather than non-profit charities. Today, The Wall Street Journal ran a front page article on this trend highlighting a for-profit Indian MFI, SKS, which I have visited in Hyderabad last October. Unitus, a microfinance venture capital non-profit, was very instrumental in enabling this new direction for SKS and is an early equity investor in SKS.
This trend is incredibly good news for the poor! Why? Here are a few reasons:
- For profit MFIs are much more likely to continue operating for the long haul … which means that they will continue to be servicing the poor when the donated funds for non-profit MFIs move on to the next interest.
- For profit MFIs are forced to operate efficiently in order to create a profit. This means that they need to create an ongoing operational efficiency culture. Over time, (sometimes even short-term) this means that the cost savings can be passed along to their poor clients in the form of lower interest rates or fees.
- For profit MFIs are forced to be more transparent with their governance. Generally, this is forced upon them by regulation and their investors who want to see how their money is being used and to reduce the possibility of fraud and mismanagement. A more transparent, healthy MFI is likely to receive better rates on loans from banks which lowers their cost of capital which over time can (and will due to competitive pressures) be passed along to poor clients.
- For profit MFIs can accept equity capital. That is, investors can buy shares in a MFI. This provides very inexpensive and flexible capital for the MFI which enables them to make forward-looking investments in staff, systems, expansion and other things which enable them to grow and expand. And, unlike loans, the MFI doesn’t have to pay back this capital or pay interest! Additionally, equity capital can be leveraged to enable them to borrow more money from banks which is then lent out to poor clients. So, the net benefit to poor clients is more loan money at lower interest rates.
- For profit MFIs are much more likely to focus on their poor clients as “customers” vs. beneficiaries. That means that they will care about things like customer service and creating financial products which work best for their poor clients in order to retain their customers over the long-term and help their customers be successful. This potentially is one of the greatest benefits to poor clients as their needs change and evolve.
What are other benefits of a for-profit vs. non-profit? What are the downsides of a for-profit? Please post as comments.
6 thoughts on “For-profit microfinance”
Just wanted to let everyone know that there is going to be an online discussion next week regarding the lack of impact made by microcredit:Hype and Hope: The Worrisome State of the Microcredit Movement Dates: May 23-25 “Development is the current frontier of the microcredit movement, and the toughest challenge of all. In the end it is easy to give out microcredit, and using best practices developed over the years, even relatively easy to get the money repaid. But the marginal developmental returns from microcredit simply don’t warrant the enthusiasm nor the money spent so far.”Has the widespread enthusiasm for microfinance transformed a noble idea into a panacea? Based upon his recent article, “Hype and Hope: The Worrisome State of the Microcredit Movement” and the book, “Despite Good Intentions: Why Development Assistance to the Third World Has Failed”, Tom Dichter brings twenty years of microfinance expertise to this discussion that explores some reasons why the microcredit movement has done more harm than good. Interested participants should join microLINKS.org (if they have not already) and subscribe to the live discussion at http://www.microlinks.org/hype. Participants can send in questions and receive email updates during the discussion.
Will Commercial Funds Kill Microfinance In AfricaThe trend in the microfinance sector for funding MFIs is moving towards commercial funds becoming the preferred funding method. As this method is becoming popular and its virtues are being proclaimed, the funds to NGO-MFIs are being squeezed as international NGOs relocate funding to other sectors, believing that commercial funds will fill the gap.However, only the top-tier of MFIs are able to manage commercial funds. These tend to be in Asia, where the microfinance sector is mature, there are large populations and the MFIs are sustainable. But in Africa where the majority of MFIs are NGO based, and the markets are not mature, they are facing this squeeze on funding.The Microcredit Summit 2006 in Halifax put forward new challenges: . to ensure that 175 million of the world’s poorest families, especially the women of those families, are receiving credit for self-employment and other financial and business services by the end of 2015, and . to ensure that 100 million families rise above the US$1 a day threshold adjusted for purchasing power parity (PPP), between 1990 and 2015.Now these challenges are achievable if the funds continue to flow to Asia. But isn’t that a little too easy?I think that the microfinance sector now has to scale-up MFIs in Africa. But how can this happen if NGO-MFIs are having their budgets squeezed as international NGOs move their funds to other sectors and the MFIs are not able to manage commercial funds?We need to ensure that there are specific funds established for Microfinance start-ups and scaling up of MFIs. We need a broader spectrum of funds to provide funding all the way from start-ups to commercial banks especially as International NGOs have typically fulfilled the role of funding start-ups.
Gareth, very good comment.I believe that there are some markets which are ready for commercial microfinance and others which still require a subsidized model. Some places in Asia (notably India and probably Philippines and Indonesia), some areas of Eastern Europe plus much of Latin America have the right environmental elements in place for commercial microfinance to flourish.Other parts of Asia and most Africa and the Middle East still require subsidized models. Although another way to think about it is that they require a longer-term horizon for profitability. I think that this is the better way to think about it. We need very patient “investors” who are willing to invest for a while before they start to see positive cash flow and eventually positive retained earnings. My concern is that if we simply treat Africa with a typical international aid/development approach, it will not force the issues of having an end-game for profitability which, in my view, is the only way that these services are going to be there for the long haul.So, whether it’s NGO’s or long-term thinking investors, I agree that Africa should not be overlooked for financial services to the masses.
There is one very important thing to understand here, and it has to do with why microfinance was conceived in the first place. It is not a matter of commercial M.F. versus subsidized M.F., it is a matter of cutting out the middle man (the bankers). The people become the bankers; the consumers reap the benefits that the private financial sector would otherwise be reaping. The only thing that ought to be subsidized is the initial education of community members regarding how to run the ‘community’ bank. Effective MF is essentially a bank where the savers, the lenders, and often the borrowers are the same people.