Addressing the challenges to MFIs for ensuring their success in the days ahead

NA Venkata and Graham AN Wright concluding their two-part article MicroSave has been involved in reviewing individual lending (IL) products and processes across many countries for over a decade. This experience has shown that there is usually significant scope for process reengineering to improve efficiencies, and to reduce risk of fraud by staff and clients. Micro-finance institutions (MFIs) should clearly draft all processes starting from the initial area surveys to loan appraisal, approval and disbursement; loan recovery; and delinquency management. Policies and procedures manuals should be comprehensive, detailing the "who, what, when, where, why and how" of all processes with adequate internal control provisions to mitigate inherent risks. Further, these manuals should be regularly updated and readily available for staff use. Quality manuals, with process maps at their core, help in staff training and reference, and simplification and standardisation of client messages including marketing collateral. Promotion: Promotion can either start with informal communication by the group loan credit officer, or the IL credit officer may directly contact the entrepreneur at herhis enterprise during the initial villagearea survey. Promotion, in whatever form or channel, should be characterised by clear and concise communication to prospective clients. Simple brochures in the local language with mostly illustrated product features make clients more inclined to frequently refer to them to understand basic features and requirements. People: People management in the case of IL is quite involved, as product delivery procedures are more rigorous and staff training and skills more specialised than with group lending. IL credit officers typically need to maintain closer relationships with their clients, a role played by group officials in group lending. IL carries a greater risk of fraud by staff, which necessitates enhanced controls. A well designed staff incentive scheme aligned to the MFI's portfolio outreach, growth and quality objectives is often necessary; otherwise a bias towards fewer clients with big loans may set in. Place: Place refers to the accessibility of the services. Many MFIs deliver door step service to their clientele and ask the client, spouse and guarantor to visit the MFI's branch office for disbursement only. A number of MFIs offer 100 per cent door step service, including disbursement through demand draftsaccount payee cheques, and loan repayment collection. Also, a few MFIs in the Philippines and Kenya have already initiated loan disbursements and repayments using m-banking solutions to reduce operating costs, as well as costs to the client - this is likely to be the future of IL in other countries as well. Physical evidence: Physical evidence is the presentation of the product and the systems used to deliver it. Physical evidence includes how the branch looks (tidiness, space, wall painting, notice boards, furniture, etc); the appearance of operational documents and marketing materials (including give-aways); and the appearance of staff. MFIs are increasingly investing in ensuring that their physical evidence creates a positive impression in clients' minds. A well-presented branch inspires trust along with a perception of professionalism, quality customer service, and a serious place to do business. The proof of repayment is crucial for building trust with the clients as well, reducing the potential for fraud. Technology related challenges include cases where MFIs issue repayment receipts using handheld devices that fade away in a few days or with m-banking where repayment confirmation SMS message storage is limited by the memory available in the client's mobile handset. Operationalising individual lending: Bangladeshi MFIs' systems and procedures are primarily geared towards group lending, necessitating adapting these operational structures to the requirements of an IL product. Bangladeshi MFIs should be very well aware of the need for customisation, and thus put in place adequate structures to meet the diverse requirements of both products. It is critical to balance all the steps of the lending cycle, depicted in the chart below, to achieve successful lending. Inadequate focus on any of these steps will increase both credit and operational risks. Client selection: Most MFIs automatically consider their matured group loan clients as their primary target segment. While this might be the most convenient way to start with, it usually closes doors to significant opportunities for scaling-up . or indeed achieving critical mass as typically on around 20 per cent of group members are real entrepreneurs needing larger scale financing. Expanding beyond group client graduation calls for a clear determination of who the target clients are and their needs. This is ideally done through thorough qualitative research, so as to direct the IL product design, marketing and communication efforts at the intended segment. Loan appraisal: Loan appraisal in group lending methodology is usually based on simple loan cycle-based incremental amount, dependence on social collateral (i.e. joint liability) and contingent renewal (denying repeat loans to a defaulter's colleagues) to mitigate risk. In IL the client's characterreputation, commitment to the enterprise and the assessed capacity to pay is paramount. Assessing potential borrowers requires a step by step approach, which involves - initial screening, field level verification and cash flow analysis. Loan approval: Loan approvals should be conducted by a credit committee of no less than three members, typically including the branch manager. Many MFIs vest credit decisions in one person, often supervisorsbranch managers, leaving room for errors and personal biases. Moreover, the credit committee also ensures skill and knowledge transfer and reduces the likelihood of fraudulent decisions. However, the credit committee members should be accorded adequate time to make loan decisions - without undue disbursement pressure. Clearly defined loan sanctioning authority should be distributed along the organisational hierarchy with higher level supervisors taking decisions on larger loan amounts. Credit committee guidelines should be provided to committee members to enable this process. Moreover, the committee discussions need to be recorded for reference. Loan disbursement: During loan disbursement, it is essential to ensure that legally valid and completed documentation is prepared. For instance, some MFIs obtain post-dated cheques from the guarantor, which provides additional comfort to the lender. Unlike group lending operations where loans are often disbursed in the field, it is advisable to make in-branch disbursements for the larger amounts involved with IL. It should be noted that legal requirements play a key role in how the loan is disbursed. For instance, in India amounts above Rs 20,000 have to be disbursed using account payee cheques. Monitoring and client relationship management: Although it can be lucrative, IL typically presents increased portfolio quality challenges. Regular client monitoring is vital to read the warning signals before a default occurs. Monitoring schedules should be instituted in advance with a preliminary focus of ensuring correct loan utilisation, regularly monitoring the changes in business and household financials (especially for larger loans), and reminding the borrower (and guarantor) of their obligations. Even if the client completes a loan cycle without any untoward incident, but the loan utilisation was not as agreed, this should be considered negatively when assessing any subsequent loan application. Regular interaction with clients and guarantors also helps in building the relationship, cross-selling other services, and reducing the chance of wilful default. Observations and feedback from monitoring visits should be documented and reviewed, and immediate remedial steps taken where necessary. Conclusion: Introducing IL can provide benefits to MFIs including retaining good clients and diversifying to new customer segments that can help them not only grow and improve profitability, but also reduce portfolio concentration risk. MFIs must, however, address the attendant challenges such as the potentially negative impact on remaining group members and group lending credit officers. Bangladeshi micro-finance institutes (MFIs) have already begun to do some limited individual lending, but this will probably have to be significantly increased as the multiple borrowing by clients escalates and the need for detailed cash-flow analyses increases. A move to individual lending will be to the benefit of both MFIs and their customers, too. NA Venkata is a Specialist with MicroSave in India and Graham A N Wright is Programme Director of MicroSave. The writers may be reached at e-mail: graham@microsave.net