At the conference, there was quite some discussions on profitability vs. outreach in microfinance institutions. There was a widespread consensus that there is no tradeoff between outreach and profitability/sustainability (see for example Richard Rosenberg and Adrian Gonzalez’ paper). This is indeed what we can see from the numbers. But it is important to dicuss the exact consequences of these findings - and here it is not as clear what to tell from the data. At the conference, the consequence seemed to be an understanding of a certain inevitability or at least necessity of commercialization. In this way, commercialization is not just thought to be good for the microfinance business, but also to be the only way forward. It is this conclusion, which I would like to discuss briefly. Commercialization can here be defined in legal terms: It is when a microfinance institution is formally organized and registered as a private, commercial organization, and thus it’s Board and it’s CEO answers to the institution’s shareholders.
Whereas it holds true that NGOs can – and indeed often are – profitable without sacrificing outreach, the question is: Will a transformation of NGO’s into commercial institutions lead to a lesser degree of outreach? Here the evidence is mixed, both according to my own numbers below and to the Rosenberg/Gonzalez paper mentioned above. To be precise, it looks as if, on the average, commercial MFI’s reach the poorer borrower to a lesser extent, and borrow less to women, than do their NGO counterparts. At the same time, they are not more financially sustainable/profitable. As I mention below, more careful research is definitely needed for this to be fully confirmed, but the data at least shows that such research is needed and would be justified.
My results, which are based on the very same data from the MicroBanking Bulletin as reffered to at the conference (though not corrected in the entire same way), are shown in the figure below. Here I use the average loan size, average savings size and percentage of women borrowers to capture MFI’s social performance. As was also mentioned at the conference, these measures are far from perfect. But they are the best ones available – and they do give a tentative indication of outreach. When a do an F-test on the within-variance and the between variance, I find that there is no statistical difference in financial performance, but at the same time the difference in social performance is statistically significant on a 1%-level. I interpret this to mean that commercial MFI’s cannot be said to be more profitable than NGO’s. On the other hand there outreach is not as deep as the NGO’s.
Consequences for research and practice
A (very tentative) interpretation of these results has consequences for at least three areas related to microfinance:
- Current commercialization efforts by MFIs
- Commercial actors in microfinance in general
- Research on inclusive finance.
Current commercialization efforts by MFIs
MFIs who are thinking about commercializing should perhaps think twice. There are situations in which this is the right choice, but they might be fewer than first thought. The thing that matters to MFI’s is their action space. The action space is defined as the possibilities they and their businesses have. Being able to collect savings expands the action space. Getting access to foreign credit to as well. Whether or not commercialization is a good idea depend on whether or not it expands the action space of the MFI significantly. An issue here is the difference between NGOs going commercial and commercial actors starting to do microfinance. The data does not give us any insights into this potential difference, even though it may be important for the conclusions drawn.
Commercial actors, like international banks, can play an important role in the scale-up and development of the microfinance business. But the numbers above suggests, that they should perhaps concentrate on strategic partnerships with NGOs/NBFI or cooperatively organized MFI’s in order to support them with the expertise and the products these actors have, instead of setting up commercial subsidiaries in microfinance themselves. Several of the commercial actors follow this line of thinking already.
For research, the question which need to be asked is: Why do we see these numbers? How come the commercial MFI’s already in business perform so – relatively – badly? That is, why are they not more financially efficient than the NGOs while they at the same time report lower outreach? Answers are pending, but it could be due to path dependency and their history of catering for the not-so-poor: Starting from scratch is perhaps easier than transforming the procedures and cultures which are already in the commercial institutions.
The other side of the coin is at least as interesting:: What drives NGO’s and NBFI’s to financial sustainability when the pressure from shareholders is not there? Is it a strong board, special MFI legislation, efficient management, culture or something else?
These question could very well be addressed in future research, and naturally, I hope to do just that when I continue the work on my thesis. Some of the questions will be answered through further analysis of the 301 MFI’s, some will be investigated through two case studies in Benin, where I am going later this summer.
As always, comments are more than welcome – here or at odrasmussen[at]gmail.com.