The primary objective of microfinance is to create financial inclusiveness and provide an avenue for the delivery of essential financial services to sections of the society who would otherwise be largely uninvolved or unable to fully access them.
Ghana’s microfinance sector has been immensely beneficial to the economy. It has expanded the scope of participation in Ghana’s financial services sector, created jobs and also become an avenue where individuals are able to create residual income or progressively build their financial assets over time.
Nonetheless, it has also been a source of deep pain, disappointment and resulted in the monumental loss of the life savings and investments of some.
The proliferation of Microfinance Institutions (MFIs) has spawned the infiltration of the industry by some operators who are probably unauthorised, illegitimate and whose activities are frequently out of sync with the authorised and permissible activities of MFIs.
These operators are generally imprudent, reckless, unprofessional and avariciously ambitious in their activities and the consequential damage to the image of industry has been immense.
In view of the critical importance of the microfinance subsector and its relevance in the growth of developing economies like Ghana, it is essential that legitimate players of the sector are protected, supported and insulated against the activities of these intractable few.
Companies or business failures are not entirely strange but frequent failures with a particular subsector should incite deep concern and probably raise the ire of its well-meaning stakeholders.
While a business may fail for a variety of reasons, a preponderant number of MFI failures are largely attributable to the following key factors: Funds Diversion, The Hubris of Success and The Undisciplined Pursuit for More, Inexperience Management, Lack of Credible Outlets for Funds Mobilised in Savings and Investments, Funds Diversion and Excessively High Interest Rates on Fixed Deposit Investments.
1) The Hubris of Success and The Undisciplined Pursuit for More: In his book on “How The Mighty Fall” Jim Collins notes that “Great Enterprises can become insulated by success; accumulated momentum can carry on enterprise forward, for a while even if its leaders make poor decisions or lose discipline.”
Some microfinance companies who have recently achieved a modicum of success suddenly begin to feel invincible. They begin aggressive branch expansion, introduce products out of the realm of their core competence and engage in financial transactions that significantly stretch their existing financial capacity.
The consequences of these actions may not be immediately apparent and usually take a while to manifest. They progressively squeeze the finances of the MFI, creating a huge liquidity gap that eventually makes it extremely difficult for them to meet their maturing short to medium-term obligations.
2) Inexperienced Management: Like most businesses, MFIs are often set up by Entrepreneurs. These entrepreneurs may or may not have had any knowledge of banking or general working experience within the financial services sector.
The entrepreneurs or founder-owners who lack such experience would ordinarily have to employ experienced, qualified personnel and seek the guided goading of experienced professionals at the Board and Management levels. In most failed MFIs, the practice has been to engage the services on the basis of familiarity and personal trust rather than individual competence, knowledge, and experience.
3) Lack of Immediate and Credible Outlets for Funds and Deposits: Microfinance funds and deposits are typically expensive, often at interest rates that are reasonably above the prevailing BOG Treasury bill and Banks’ Fixed Deposit rates.
Additionally, they are usually placed for short periods and so MFIs are under enormous pressure to immediately trade with these funds at margins high enough to pay for the average cost at which such deposits were secured while still retaining a surplus as profits.
Unfortunately, some MFIs obviously lacking any credible outlets for the efficient and profitable deployment of these funds may wilfully or unwittingly apply these funds to some unauthorised activity or transactions whose returns are either not guaranteed or not easily realizable.
4) Funds Diversion: This is the tendency for some MFIs to engage in activities that are completely out of sync with those which are permissible by the Bank of Ghana. Such activities would usually include the utilisation of depositors’ funds for Aggressive Branch Expansion, Investment in Real Estate, Transport, Fuel Stations and other such ventures. These activities may not only require a vast array of expertise to manage but also have a pay–back period that is a lot longer than what the standard operational cycle of an MFIs can accommodate.
5) Excessively High-Interest Rates on Deposits: Some MFIs in seeking to get ahead of the competition and to grow inordinately faster than what could be considered normal growth offer excessively high-interest rates for deposits to attract investors. DKM, which is easily the most recognizable recent failures in the industry, is known to have been offering interest rates ranging between 17% – 20% per month. These interest rates which are evidently unsustainable invariably threaten the long- term survivability of these MFIs.
There may be several other reasons why an MFI may fail. However, I consider the factors enumerated above to be the most dominant precursors and eventual precipitators of most MFI failures in Ghana.
GUIDELINES FOR INVESTING WITH MICROFINANCE COMPANIES
Investing in MFIs could pay the highest return but it is also essential for prospective investors to give consideration to these key issues before making any such investment decision:
1) At the minimum, please ensure that the MFI you desire to invest with is duly licensed by the Bank of Ghana.
2) Ensure to know that the company has a proper and functioning board and a qualified team that serves in its Executive Management. This should most likely be provided on the MFI’s website if it has one.
3) Ask to know the calibre of assets or loans they apply their deposits to and further seek some clarity on the proportionality of loans to various sectors. How are these loans secured? What is the recovery rate for these loans? What are the inherent risks associated with these kinds of assets? How does the MFI mitigate against these risks? Do not invest if these questions are not satisfactorily answered.
4) Think twice if the MFI is offering an interest rate that is significantly higher than the Government of Ghana Treasury bill rate and Average Banks’ Fixed Deposits interest rates.
5) Do not be needlessly swayed or impressed by a wide network of branches, massive physical Structures, Cars and other movable assets. While these may be genuine signs of a growing and blossoming business entity, they may also be mere appearances of splendour and a facade for an entity that may not be doing as well.
These guidelines are by no means exhaustive. Further, Individuals or institutions who are desirous of making investments in Equity, Quasi-Equity, Long Term Debt and Convertible Debt may require deeper insights and need to ask further questions on the operations of the MFIs in which they have chosen to invest.
The MFIs subsector is critical to fostering financial inclusion, creating jobs and contributing meaningfully to the development of the Ghanaian economy. It is essential that we harness the advantages and opportunities it presents and ensure that it is beneficial to all its current and future stakeholders.
The author is a lecturer, finance professional and entrepreneur. You may reach him via email: [email protected]