TRANSFORMATION OF NGOs INTO REGULATED

MICROFINANCE INSTITUTIONS
ISHRAT HUSAIN
In assessing the pros and cons of the issue of transforming NGOs into regulated
Microfinance Institutions (MFIs) we have to remind ourselves as to what the ultimate
objective of this exercise is !he objective is that such a transformation should result in
accelerating outreach of microfinance to the poor segments of the population on a
sustained basis"
#e must concede that it is the NGOs who have demonstrated through their wor$
of last %& 'ears or so that the poor can be lent mone' without collateral and that the poor
are a better ris$ as compared to the average borrower of the organi(ed financial sector"
!hese attributes of the NGOs that have made microfinance deliver' to the poor a
wor$able proposition have to be retained in the regulated MFI otherwise the MFIs will
tend to converge toward the mainstream financial s'stem characteri(ed b' collaterals and
securities and the microcredit movement will lose its steam"
!he NGOs are associations committed citi(ens who mobili(e the poor groups and
communities for meeting some goal" In this case the goal is to provide small loans with
which the poor can improve their income generating capacities" !he NGOs have a
flexible approach and are highl' responsive to the client needs and their satisfaction" !he
wor$ing culture of the NGOs is that of collegialit') informalit') and cordialit' and their
mission is mostl' social rather than economic"
On the other hand) there are some built in short comings in the NGO model" !he
inefficiencies and the cost of deliver' of microfinance to the clients are not ta$en
seriousl' as the NGOs normall' operate in a sheltered) protected and segmented
environment" !he presence of a strong visionar' and charismatic leader or group of
dedicated wor$ers under this leader at the helm of the affairs of the NGOs has generall'
been found to be a critical success factor" !he removal of that leader from the scene has
either resulted in the withering awa' of the organi(ation or slowing down of the
momentum" !he long*term sustainabilit' of NGOs) therefore) is a matter of concern"
+anel presentation at Global Microcredit ,ummit held at -alifax) .anada on November /0*/1) 0&&1
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In order to overcome these deficiencies or wea$nesses of the NGOs the regulated
MFI model has been proposed as an alternative" It is argued that the increased e2uit'
capital accessible to MFI will help expand the lending capacit' and allow the institution
to reach a higher proportion of the target mar$et i"e the poor"
!he sources of funding will diversif' as private e2uit') institutional investors)
fund managers) s'ndicated loans) capital mar$et access will become available to a
regulated MFI for both e2uit' capital as well as for lines of credit in addition to the
members3 deposits" !he weighted average cost of funding would come down under this
scenario bringing in new borrowers under the MFI net"
,econd) it will improve the governance structure because of transparenc')
disclosure and reporting re2uirements imposed b' the regulator" Improved governance
and transparenc' will have positive and favaorable impact on potential investors3
perceptions and open up new sources of funding that would otherwise remain inaccessible
under an unregulated NGO setup"
!hird) as these institutions will operate in a competitive environment efficienc'
gains and cost reductions will improve the cost of borrowing to the poor clients
expanding the client base further" Finall') the institutional continuit' can be assured even
in the absence of the strong and charismatic leader or his dedicated disciples" +rofessional
and trained managers man the $e' positions in the MFI and the boards provide strategic
polic' guidance and oversee the operations"
#e must not underestimate the contribution of NGOs even after a regulated MFI
has been set up" 4t the initial stage of the MFI formation the NGOs provide an
established and tested client base) a si(able loan portfolio) the intimate $nowledge)
experience and relationships with the target mar$et) a wor$ing business model of
originating) appraising) leading and recovering loans without collateral and securities
from a mar$et segment that has been shunned b' commercial ban$s" In some instances
the NGOs have also developed s'stems and I! solutions for accounting) monitoring)
auditing) information management and reporting while in others a vast networ$ of
branches has been established" !hese tangible and intangible assets give a headstart to the
regulated MFI and also save them from incurring substantial start*up costs"
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4fter the regulated MFI has been setup the NGOs will continue their social
mobili(ation wor$ i"e screen) identif') organi(e the poor as potential clients for the MFI
and $eep in touch with them and monitor their activities after the loan has been disbursed"
It is not necessar' that the NGOs in the post MFI period will focus on this single activit'
i"e microfinance but can extend the scope of its activities to other areas such as facilitating
access to basic services) inputs and mar$eting etc" depending upon the particular
re2uirements of the communit'" !he transformation of NGOs into regulated MFI does
pose some downside ris$s which should be managed and mitigated consciousl'"
First) there is li$el' to be a clash of cultures that ta$es place in an' merger or
ac2uisition at an' level between the new and old staff" !here will be tensions between
objectives i"e social mission so dear to the NGO staff inherited and the commercial
considerations that are the bread and butter of the staff trained in ban$ing tradition"
,uspicion and mistrust) holding on the their respective wa's of doing things and
uncertaint' created b' the new fusion do exacerbate these tensions and sometimes
dissipate energies and motivation"
,econd the dilution of social objectives in the loan screening and approval
procedures and preoccupation with credit worthiness and other pure financial indicators
under regulated MFI ma' result in a drift from the original mission and thus exclude
some of the poor or the poorest of the poor from access to financial services" !his loss of
original mission ma' possibl' lead to reversal of the gains made b' the microcredit
movement or halt or slow down the outreach and expansion among the poor borrowers"
For example MI54N.O) +eru renewed 6&7 of the loans from the former NGO and
dropped 0&7 as the' were not found credit worth'" !his behavior if persisted b' other
regulated MFIs) could push man' poor clients awa' from microfinance" !he rise in the
average loan si(e b' the regulated MFI to save on cost of transaction ma' also produce
identical results"
It is also not obvious if group lending would be discouraged and onl' individual
lending resorted after the transformation" If this happens) it will have detrimental effects
on the 2ualit' of loan portfolio and on the social mission for which the NGO was setup in
the first place"
!hird) the scaling up and growth in the outreach bring in their fold more uniform)
standardi(ed) rule*bound procedures) more hierarchical organi(ation) more formal and
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impersonal relationships" !hese organi(ational attributes ma' in fact) result in loss of
customer satisfaction as the' were used to a more informal) personal and collegial
wor$ing environment" 4t worst it ma' in fact) discourage the flow of new clients who
ma' feel at unease with the wa' the' are handled in the new setup" +aradoxicall') the
outreach among the poor and expansion activities ma' therefore suffer a setbac$ b' the
ver' fact of scaling up through a regulated MFI"
Fourth) the restraining influence on the strong leader or group of managers who
were operating the NGOs on the basis of their instincts) deep sense of commitment and
ideas ma' result in a loss of direction and leadership at least in the transition towards the
regulated MFI" !he old wa's of doing things ma' not be possible due to the enforcement
of new rules and regulations and it alwa's ta$es considerable time lag before new
procedures) s'stems and controls are put in place" !here is a considerable ris$ that the
new entit' ma' in fact) during this period) witness large scale migration of old clients
from the MFI to other NGOs where their level of comfort ma' be 2uite high"
-ow can these ris$s be managed and mitigated !here are no clear*cut answers
but some measures ta$en in time and effectivel' ma' be helpful"
.ontinuous communication from the top leadership to the staff and the clients at
ever' stage of the transition ma' alla' some of the fears) suspicious and mistrust" In
addition to the intelligent use of technolog' i"e video conferencing) e*mailing) instant
messaging) ,M,s etc" town hall meetings) face to face conversations with the groups of
staff and visits to branches and contacts with clients should be intensified"
!he top leadership should exhibit responsible) impartial and objective behavior in
filling in the $e' positions and avoid being perceived as favoring the insiders or outsiders
or one particular group of emplo'ees compared to the other" 4n' slippages shown at this
stage would have disastrous conse2uences for the morale of the staff" On the other hand if
the leadership adopts a helpful problem solving conflict resolving attitude the ris$s can be
minimi(ed"
!he harmoni(ation of the procedures and s'stems) the adopting of technolog'
platform) the writing of manuals should be carried out expeditiousl' but with a lot of
clarit' as to what each staff member is re2uired to do and what their responsibilities)
accountabilities and performance measurement criteria are"
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.ommon training) orientation) wor$shops and team building exercises should be
underta$en and the emphasis should be on soft s$ills such as interpersonal s$ills)
communication s$ills) conflict resolution and on the shared values of the newl' merged
organi(ation" !he staff should also be made familiar with the new re2uirements of the
regulator" Focus groups) informal feed bac$ surve's and contact with the clients b' the
top leadership to listen to the problems faced b' them under the new set up and ta$ing
immediate remedial measures would reinforce confidence and stop the drift awa' from
the new MFI" For example) the 9now :our .ustomer (9:.) stringent re2uirements ma'
overwhelm some of the existing clients of NGOs and hand holding ma' be re2uired
during the transition process to help them tide over these difficulties"
Hybrid Model
In m' view) the twin objectives of scaling up and expanding the outreach of the
poor to financial services) and long term sustainabilit' of microfinancial institutions
(MFIs) can be achieved if we have an amalgam of both these t'pes of institutions under a
common umbrella i"e a holding compan'"
(a) the NGO will continue to be responsible for social mobili(ation) group formation)
action research and development of new products and bringing potential clients to
the notice of the regulated MFI or MFIs"
(b) !he regulated MFI or MFIs that will be responsible for the deliver' of financial
service to the poor) mobili(ing their savings) lending) insurance) leasing etc"
(c) .hain or groups of private limited companies or enterprises that are setup for
profit and these profits are transferred to meet the administrative expenses of the
NGO for social mobili(ation and ;<= and > or to the MFI for line of credit or
sources of funding"
CONCLUSION
!he h'brid model outlined above will allow to retain the flexibilit' of the NGO in
mobili(ing and monitoring the group of borrowers and the extended outreach capabilit'
of the regulated MFI" !he private companies will generate profits from their operations
that can be ploughed bac$ to support the NGO3s mobili(ation cost or to finance the lines
of credit or e2uit' capital of the regulated MFI" !his model) if implemented) should
ensure the sustainabilit' of microfinance to the poor at a large scale"
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