Confessions of a Microfinance Heretic

How Can I Invest in Microfinance? Part 1

by Hugh Sinclair Posted on 18 April, 2014

The question recurs frequently. Well-meaning individuals, and occasionally institutions, contact me asking how they can invest in microfinance. Sometimes they are disillusioned with their existing choice of investment vehicle, other times they are considering microfinance for the first time. Since my recent critical post on Kiva, and their feeble defence, such requests have increased. “If Kiva is flawed, what else can I do?” I need to address this question. But please, this is not formal advice on how to invest, but rather an analysis of the options available.

Essentially there are two types of investors: institutions or individuals. Generally the latter invest smaller amounts than the former. For the purposes of this post, I will focus on individuals wishing to invest in microfinance. I use the term “invest” inter-changeably for debt or equity investments, but in the vast majority of cases the ultimate vehicle is debt-based, i.e. a loan to an intermediary that then lends to the end client. There are essentially 3 main options for individuals:

Invest directly in an MFI – this is the most risky and least diversified method. It is only advisable for individuals with larger sums to invest, excellent knowledge of the MFI, and ideally a local presence. I will not explore this option further, as it is unfeasible for the vast majority of individuals. The exception to this generalisation is to buy shares in a quoted MFI – an option I shall also avoid for the time being.
Invest in a specialised microfinance fund (MIV), which invests in microfinance institutions (MFIs) which lend to the end borrowers. Some of these are retail funds available to individual lenders with modest amounts.
Invest in a so-called P2P platform, which on-lends the funds to the end borrowers, and accept investments as low as $25 or £15.

There may be other categories, but these three represent the majority of options. For this blog series I will not address (1) above, and will reserve (2) merely as a comparison for the focus of these posts – option (3): the P2P lending platforms.

P2P platforms claim to take funds from the ultimate lenders and on-lend them to individual borrowers, thus harnessing the feeling of a bilateral relationship between (multiple) lender(s) and end-borrower(s). Within the P2P category, there are essentially 3 main sub-categories, and I base this categorization on an excellent paper by Iris Ollivault, Markus Grillitsch and Christopher Hoeglinger, who discuss the first two in detail:

Pure P2P lending platforms: these do not pass funds via an MFI, but rather facilitate a direct transaction between lender and borrower. Examples include Zidisha and Kiva Zip. These are basically peer-to-platform-to-peer.
Indirect P2P lending platforms: these are not strictly peer-to-peer, as there is another important stage through which funds travel: they are peer-to-platform-to-MFI-to-peer. Lenders money is channelled through an MFI that manages the client selection, due diligence, disbursement, collection, monitoring and default management of the loan, for which it charges a fee in one form or other. This is the “classic” model. However, within this category there is an important further distinction:
1. Platforms which enable the lender to charge an interest rate to the ultimate borrower, still going via the MFI. The typical example here is MyC4.
2. Platforms which do not enable the lender to charge an interest rate to the ultimate borrower, still going via the MFI. The typical example here may be Kiva, Babyloan or LendwithCare, but platforms such as Kubaru also operate on this basis. Interestingly MyC4 is somewhat unique in that it encompasses both models (2A and 2B).
Donation-based P2P lending platforms: the “loan” is essentially a donation to the MFI, with the assurance that the funds are initially on-lent to the stated individual, but repayments to the MFI are converted to a donation for the MFI to use as it pleases (new loans, operating costs etc). The classic example here would be World Vision’s Micro platform.

There are a variety of platforms out there, in each of these categories. What I will attempt to do over the coming weeks is explain the pros and cons of each method, and analyse the main platforms available within each category. This will not be an exhaustive comparison of all such platforms. Finally, once complete, I will summarise which appear to be the best options per category, and compare P2P lending to its most obvious alternative mechanism – investing via a retail microfinance fund.

My analysis begins with the first category, the purest form of P2P lending, and yet in some regards the least well understood. Pure P2Ps.

Pure P2Ps – an introduction

For all the hype surrounding microfinance, and the P2P, or crowd-funding lending methodology in developed as well as developing nations, actual pure P2P lending is rare in the microfinance sector. Call me pedantic, but the very terminology “P2P” suggests to me that there is no more than a facilitator in-between lender and borrower. This is simply not the case in most so-called P2P microfinance lending platforms, where the intermediating MFI plays a huge role in the process, potentially invalidating the very name “P2P”. Doesn’t it annoy you when you take a direct flight only to find it does a stop-over en route, but that didn’t appear on the ticket because you don’t have to actually get off the plane?

Within the “pure P2P” space there are two main players: Kiva Zip, and Zidisha. The former has only recently progressed from beta to alpha stage, and lends only in Kenya and the US currently. My views on Kiva, its transparency, operating efficiency and choice of partners are well documented and not entirely positive. Instead I will focus initially on Zidisha – the first genuine microfinance P2P lending platform, with a multi-country focus.

Julia Kurnia founded Zidisha following a disappointing realisation that the operating costs of traditional microfinance lending, via a local MFI, required the interest rates charged to the end borrower to rise substantially. In her own words:

“In order to manage the loans we opened an office [in Senegal], hired a loan officer – and saw our overhead costs shoot up to more than a third of the value of the loans we were making. The interest we would have had to charge to cover our costs was high enough to wipe out the borrowers’ profits, defeating the purpose entirely.”

It sounds so obvious, and yet it is a point many have failed to grasp in the microfinance sector. Such people assume the poor are somehow indifferent, or immune to often extortionate interest rates. They believe microfinance is so miraculous that even APRs of 200% are fine. I disagree with them, and so, presumably, do Zidisha.

Kurnia decided to harness the power of the internet, and the increasing prevalence of internet accessibility in developing countries, to bypass the MFIs altogether. Thus Zidisha was born.

Zidisha offers loans in Senegal, Kenya, Ghana and Burkina Faso, and to a lesser extent in Zambia, Niger, Indonesia, Guinea and Benin. It has lent approximately $2m in total in 6000 loans to about 5000 end clients (i.e. some repeat borrowers), with a little under 8000 lenders. According to their statistics page (April 17^th) they suggest the typical lender charges about 5.26%; that three quarters of those loans that should have been repaid by now have in fact been repaid. Of those that have not been repaid (25%), about 5% are late but not in default, 1% have been forgiven, and 19% have been written-off.

Three observations here are important to note. Firstly, these are cumulative statistics from the inception of the company, and secondly that repayment rates have improved recently. However, it has to be stated that these statistics are nowhere near as impressive as those boasted by other P2Ps. Kiva current suggests its repayment rate is 98.93%. The extent to which this figure is true has been questioned, however. Recent criticism of Zidisha has suggested their repayment rate is low enough to render the model ineffective. This brings me to my third observation: this is not the experience I have had with Zidisha. I therefore use my own real, personally verified data to analyse what happened with my loans on Zidisha, in the following post:

How can I invest in microfinance – part 2: my Zidisha experience

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Posted in Uncategorized | Tagged Kiva, Zidisha | Comments Off

Incestuous Relationships, Spin & PR in Microfinance

by Hugh Sinclair Posted on 19 March, 2014

My friend Beth Rhyne (of Smart, CFI and Accion) recently posted a bizarre article on the CFI blog (i.e. on her blog) in which she pleads for money. The premise is that the infrastructure of the microfinance sector, by which she refers to her own institution and those of her buddies, needs fixing. Some might suggest replacing entirely. She doesn’t really state why they are apparently broken, but the bottom line is that she wants money. The club includes the Social Performance Taskforce (SPTF), Smart Campaign, MixMarket, four rating agencies, and she later clips on Truelift. She then further adds the Progress out of Poverty Index (PPI), which is a toolkit rather than a company, but one promoted by her friends at Grameen Foundation USA (GFUSA).

The source of the problem, according to Rhyne, is that the public sector is no longer willing to fund such entities. Private investors are reluctant to stump up the cash. And the microfinance institutions (MFIs) themselves don’t want to pay for their services. This certainly explains why she’s coming cap-in-hand for money. However, there is a possibly simpler explanation for why the public sector, private sector and clients don’t support or want to pay for a product: perhaps it’s not a very good product? MFTransparency does provide a useful function; the PPI is not a product, but a concept; and the rating agencies are generally competent. But in the case of the SPTF, Smart and Truelift there is a very real possibility that “ineffective, unwanted product” could be the cause of this problem.

Indeed, one could wonder why these institutions don’t simply merge into one massive entity for all the cross-relationships there are, they could probably save some operating expenses in the process. I get so confused with the incestuous relationships between them that I spent a few minutes on their various websites looking for their various partners, steering committee members, directors, advisors etc. See if you can spot the pattern:

Smart (also known as Crafty): Accion in various guises, including basically owning Smart, housing it, directing it etc; Larry Reed of the Microcredit Summit Campaign; Beth Rhyne herself (Accion); Finca; Anne Hastings of the CEO Working Group; Asad Mahmood of Deutsche bank (although he recently quit); Credit Suisse; Ford Foundation; Mastercard; SPTF.

The CEO Working Group: Accion; Finca; Freedom from Hunger; GFUSA; Opportunity Int’l; ProMujer; Vision Fund International (VFI); Women’s World Bank (WWB).

The Summit Campaign: Larry Reed is the director, and former CEO of Opportunity Int’l; Bergeron is from Truelift/Smart, and ex-Kiva; Yunus; Hatch (of Finca); another Truelift bod; Citibank; Freedom from Hunger; GFUSA.

MixMarket: Citibank, CGAP and Mastercard.

Social Performance taskforce (SPTF): Ford Foundation; CGAP; Grameen; Ann Hastings (CEO Working Group); MixMarket.

MFTransparency (the only credible member here): various rating agencies; MixMarket; Smart; SPTF; Mastercard; Citibank; Ford Foundation; Deutsche Bank.

Truelift (the least credible member here): Isabelle Barres (of Accion and Smart); Alex Counts (GFUSA, CEO Working Group); Ford Foundation; SPTF; Anne Hastings (CEO Working Group); Deutsche Bank; Larry Reed (of Microcredit Summit Campaign); Premal Shah of Kiva (advisor!); Emmanuelle Javoy (ex-Planet Rating); Sam Daley-Harris (ex-Microcredit Summit Campaign); Susy Cheston (Accion); CEO of MixMarket; Freedom from Hunger.

Am I the only one to notice some similarities in these various entities? They seem to all be sitting on each other’s boards, advising one another, funding one another, hiring one another, promoting one another’s activities, and generally scrubbing one another’s backs, no?

In one of those rare occasions when I actually agree with Rhyne, she distinguishes between first generation entities (MixMarket and the ratings agencies) and second generation (the rest). The MixMarket is not the most user-friendly or accurate database in the world, but actually it’s a decent enough resource which I use and am grateful for. I praise the rating agencies extensively in my book, and let’s not forget that the recent collapse of (Accion’s investment) MiBanco in Peru was first called by Fitch Ratings last year.

I also respect MFTransparency, who publish the real APRs that these MFIs are charging the poor, data which I use to annoy the likes of Opportunity Int;l who don’t like people talking about their 150% APRs, or to demonstrate why Kiva’s estimate of interest rates is so poor. I wish this data could actually get into the hands of those that need it – the poor – but this gripe aside MFT is a valuable addition to the sector and I sincerely hope someone, public or private, finances it.

It’s the other three that are a nuisance. They do almost nothing; off-record most people don’t take them that seriously, everyone knows it is largely window-dressing to maintain the reputation of the sector; and actual client protection comes a distant second when it comes to maintaining these institutions. Note that nowhere in the article does Rhyne state that some actual harm could come to the end-clients (i.e. the poor) as a result of this “existential threat” to these companies struggling to make ends meet. The poor aren’t mentioned in the article, which raises the question, why is this a problem at all? The clue comes later:

“Because international investors are putting money into microfinance at an unflagging rate” i.e. we need to keep the money rolling into the sector.
“Because global bodies are important for keeping standards high everywhere and pointing the way for national initiatives” – and this is what we’ve come up after 30 years of microfinance activities – Smart and Truelift, the latter occasionally confused for a Wonderbra?
“These bodies are important because they shape a global identity for microfinance which is essential for preserving the social character of the industry” – exactly! Maintain outward appearances – Beth and I agree on a second point at least!

So, last night I was checking my Twitter feed and a strange person I had never come across (microfinance is a small sect – you get to know the usual suspects pretty quickly) posted some mysterious comments about Smart Campaign and how wonderful it was. The Twitter handle is @AndrewSprung, and sure enough, he runs a PR company, called SprungPR. Click on the case studies and who crops up on the client list? Accion. Wow, what a small world it is! And look at what the case study boasts:

“Our work has yielded in-depth coverage and interviews with firm leaders in publications including The New York Times, Financial Times, Wall Street Journal, Globe & Mail, Time, Economist, BusinessWeek, Forbes, and Fast Company. Recently, as Accion has taken major equity stakes or wholly financed new microfinance ventures in Asia, Africa and Latin America, these initiatives have been covered in outlets including Dow Jones,People’s Daily and China Daily, Forbes.com, The Washington Post, The Deal, PE Hub, VCCircle,Telecompaper, ITWeb, and BNAmericas. We have also enhanced Accion’s thought leadership by placing bylines in publications including New York Times Dealbook, Forbes.com, Marketwatch, andAmerican Banker, as well as letters in The New York Times, Boston Globe, and BusinessWeek (see examples on the bylined articles page). In addition, we have helped with the development and promotion through social media of a regular Huffington Post column by Elisabeth Rhyne, director of Accion’s Center for Financial Inclusion. More broadly, we have helped Accion engage with the microfinance and development community and interested journalists on Twitter and in other social media.”

So, while Rhyne is going round asking for money, it appears they have enough to employ the services of a PR company. Given that Smart is Accion, this was hardly difficult. So, expect a series of placements in mainstream media about the joys of these initiatives, not because some bright journalist has decided to write about them, but because a de facto lobbyist has campaigned on their behalf. Isn’t it a bit odd that such bodies even need a PR company?

Some may remember a similar case some years ago, when Friends of Grameen employed none other than Burson-Marsteller in response to Tom Heinemann’s controversial documentary about Yunus and Grameen Bank. They engaged in a flawed smear campaign against Heinemann, which should come as little surprise. Burson-Marsteller’s previous clients include Union Carbide, Philip Morris, Blackwater, Nicolae Ceausescu, and Pinochet himself. They did the smear campaign for Facebook against Google, and Rachel Maddow of MSNBC famously commented “When Evil needs public relations, Evil has Burson-Marsteller on speed-dial”. Again, isn’t it strange that Friends of Grameen would need these guys?

And in yet another ironic twist, in my recent critical post against the CEO of microfinance investment fund Incofin I sniffed around the guy who had originally Tweeted the link to this ridiculous interview. The vociferous Tweeter (16,300 to date) named Michiel Sallaets is none other than Communications Manager at Incofin, and according to his bio on the Incofin website, take a wild guess where he worked previously? Burson-Marsteller. It seems the company that boasted Pinochet and the Argentine military junta amongst its clients is now actively working in the microfinance sector.

Anyway, what can we conclude from all this?

Do not trust the likes of Truelift and Smart as far as you can throw them, these are meaningless spin organisations.
Be worried about any such initiatives that rely on dodgy PR companies.
Be aware of smear campaigns, planted articles, dubious media coverage and questionable “research papers” or “interviews”. Investigate carefully the content and background of each.
Note (with fear) that despite appearances, microfinance is almost entirely unregulated. Hopefully one day someone will address this sensibly.
MFIs: ignore these institutions, don’t waste your money on their certifications or silver stars or whatever else they offer, but do submit your data to MixMarket, to MFTransparency, and get independent ratings.
Rating agencies: don’t sell out and start offering pathetic certifications – doing so will undermine your otherwise good work.
Investors (public and private): don’t put a dime into these organisations, but also do not take any faith in their medals and promises and certifications – there is no substitute for a decent due diligence. If a credible and independent regulator does come along, finance it, but check the people running it first. Support MFTransparency and the independent rating agencies, and consider making both a condition for investing in an MFI.

Gargamel

We do need to clean up the microfinance sector. That is beyond doubt, but the current offering is inadequate. If we want to rely on so-called self-regulatory bodies, they must be genuinely objective and independent of the people they are meant to be regulating. The current situation is as farcical as putting Goldman Sachs in charge of the SEC. Or perhaps it’s more like putting Gargamel in charge of the Smurfs?

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Posted in Uncategorized | Tagged ACCION, Citi, Deutsche Bank, Finca, GFUSA, Heinemann, Incofin, Kiva, MFTransparency, Opportunity, SMART | Comments Off

Spincofin – a Flawed Interview with the CEO of Incofin

by Hugh Sinclair Posted on 8 March, 2014

There was a lovely article published recently. Concise, and in a single question one can see the fundamental flaws in the presentation of microfinance. BxLConnect interviewed Loïc De Cannière, CEO of microfinance investment fund Incofin. One question from the article is worth examining closely:

Q. Are there any studies on the success rates and effectiveness of microfinance?

A. It is difficult to measure the impact of microfinance in a scientific way because we have no way of knowing what the situation in these communities would have been if microfinancing would have not taken place. However, there are certain cases that clearly show how it can be effective. For example, we have one story of a Kenyan woman who started selling textile in small markets in Nairobi. Through microfinance loans, she grew into a large company and now frequently travels to Dubai to buy and trade in large quantities. In the end, I think the numbers speak for themselves. We invest in 120 microfinance institutions around the world that in turn have made almost 7.5 million loans. Only 1% of those loans have defaulted, which is remarkable and even lower compared to bank loans in western countries.

It’s a valid question and the response of Incofin’s CEO is fascinating. Firstly, he doesn’t actually answer this rather straightforward question (“are there any studies…?”). His argument suggests that the difficulty in measuring impact arises from the inability to know what would have happened had the client not obtained a loan. This ignores a massive array of academic papers that address this specific question, using random controlled trials (RCTs). Such research methods specifically attempt to tease out answers to such questions, by creating control groups, similar to the medical research. RCTs are not perfect, and in fact no trial can ever be perfect, but they have made very convincing progress in addressing this topic. In one single sentence Cannière manages to dismiss the entire academic literature on microfinance impact assessment, and yet remain optimistic about microfinance.

Consider the similarities with the medical profession. When testing a new drug, they apply it to some subjects and not to others, to see how the drug impacts the former compared to the latter. There is no way to also see, on any single subject, what would have happened if they had received the alternative treatment. Thankfully the medical profession has not discarded the practice of drug testing, while Mr. Cannière simply disregards such practices in microfinance. Perhaps we should be pleased that he is running a microfinance fund and not a drug-manufacturer.

Secondly, despite disregarding the academic literature to date, he states that “there are certain cases that clearly show how [microfinance] can be effective”, and then proceeds to tell us about “one story” in Kenya. So, when asked a question explicitly about the broad nature of an entire sector, his defence rests on a single case. To illustrate this clearly, it is like asking a national lottery operator “what is the impact of national lotteries upon the general public” and the response being: “overwhelmingly positive, for example, Mr. Smith won $1 million last week”. Technically true, but what about the other million people who bought a lottery ticket and did not win? A detail the CEO of Incofin conveniently ignores. And there have been countless studies of microfinance actually hurting clients, forcing them to suicide, the microfinance sectors of entire countries collapsing, chronic over-indebtedness etc. and yet Mr. Cannière fails to mention these. This is a standard defence of microfinance: slap a few success stories, ideally with pictures of African women standing next to a goat or a sewing machine, and present this as the norm. Look at any microfinance website for evidence of such practices.

Thirdly, his final comment perhaps best summarises the fallacy of logic that such people depend on:

We invest in 120 microfinance institutions around the world that in turn have made almost 7.5 million loans. Only 1% of those loans have defaulted, which is remarkable and even lower compared to bank loans in western countries.

The low default rates are used as proof that microfinance works. This is one of the classic defences. But loan repayment does not translate to benefit to the client. The evil moneylenders, who break legs and threaten innocent clients, are the bogeyman of microfinance, and also have decent repayment rates. The fact that someone repays a loan says absolutely nothing about the impact of that loan. Indeed, one could argue that the benefit to a client who receives $1.000 and never repays a single dollar and discreetly vanishes could actually be far greater than that of a client who struggles to repay every last cent. In countries such as Nicaragua, where over-indebtedness led to a nationwide collapse, the poor managed to repay loans with very high success rates. They would borrow from Bank A to repay Bank B, and then from Bank C to repay Bank A. While this merry-go round continues repayment rates are healthy, portfolios grow, paper-profit accrues to the banks and their investors, and everything looks fine. Until the music stops, as it did rather abruptly in Nicaragua. Thus even repeat loans to seemingly “loyal” clients could as easily be a sign of damage as a sign of success.

In short, this was a fair journalistic question with a deeply flawed answer. Why do I pick up on this? Because in different guises this is the standard problem in reporting on microfinance. It is pure spin but superficially looks credible, which is what makes it so dangerous. Now, there are only two obvious conclusions I can arrive at regarding this CEO:

He actually believes his own rhetoric
He knows this is a flawed response, but said it anyway

Which of these is worse? I am not sure. But the conclusion is the same. This is a deliberate attempt to paint microfinance in a rosy light and ignore the mounting wealth of evidence that challenges the wisdom of indebting poor people. It risks deceiving naïve and well-meaning investors, and it risks harming the lives of the poor. Such companies ought not be allowed to take funds from the general public and institutional investors on the basis of such spin. They should be grilled by astute journalists who push for the real answers rather than settle for meaningless patter in what amounts to little more than a glorified PR exercise thinly disguised as “knowledge”. Such an attitude would be fatal in the medical profession. In the meantime they undermine the efforts of those who are actually trying to harness financial services for the benefit of the poor, who are painted with the same brush as this rhetoric. I find this a great pity.

The rest of the interview is similarly flawed. Cannière states interest rates are typically 20-25% per year, while the Economist recently claimed they were 35% per year (which still appears an under-estimate to me). Alas the rest of the interview subsequently deteriorates into a vain PR exercise.

The underlying problem illustrated clearly here is the so-called principal-agent problem. Microfinance investors must entrust their funds to an intermediary, such as Incofin, to invest on their behalf. Will such intermediaries act in the best interests of the poor, of their investors, or in their own best interests? This is ultimately a question of alignment of interests, and the trustworthiness of the intermediating agent. Do the responses to these simple questions inspire confidence in Incofin? That is for the reader to decide.

In the meantime, don’t believe everything you read in the media.

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Too Big to Fail (Just Got Bigger)

by Hugh Sinclair Posted on 21 February, 2014

Credicorp bought MiBanco for $179m. According to the stated equity on the MixMarket, this would suggest they paid 1.25x the net equity of the bank, for a 61% stake. This is a low price compared to most microfinance transactions, but let’s face it, it wasn’t Peru’s best bank. The owner already has the second biggest microfinance bank in Peru (by number of clients), Edyficar, thus the combined bank is a monster – a fifth of the entire sector. If this was too big to fail before, it’s just got bigger. And of course, while the initial fears over the fate of MiBanco have momentarily subsided, the underlying problems remain identical to last week. Over-indebtedness is still a problem, MiBanco has a poor quality portfolio and is bleeding clients. Shifting shareholders doesn’t change that. Indeed, some might argue that paying any premium over book value for this bank was generous. Obviously Grupo ACP are out of the hole for a while, flush with cash, and there is no danger of defaulting on the bond now.

They’ve sold off the family silver, however. An undignified outcome for both ACP and MiBanco without the underlying problem solved – little to celebrate.

And technically speaking the deal has not yet been approved. Indeed, one might suspect that political manoeuvrings behind the scenes got the deal on the table in the first place, so it is unlikely it will fall at the final hurdle.

Needless to say ACP had another spin on this. This was not a firesale apparently, but part of a cunning plan: “We do also believe that the main goal that motivated us for 45 years has been accomplished.” It is probably true that they set out to financialize the poor of Peru, and have played a stellar role in that process for better or for worse. They have left a mature microfinance sector in their wake. Perhaps too mature? But the reality is that this was a firesale prompted by a looming default on a bond due to declining earnings in their rather undiversified portfolio in a country that looks worryingly over-indebted. I doubt this was the plan hatched nearly half a century ago.

An interesting article appeared in the Peruvian press. Those bright journalists dug up all the data on ACPs other investments, and ACP really had nothing else they could sell:

There were a couple of marginally profitable Peruvian assets, and they had already flogged the Bolivian bank (once again, all part of the plan apparently). To raise the sums ACP required, trying to sell a loss-making Mexican asset in a hurry was hardly ideal. They had no option, but don’t kid yourself – there was nothing either clever or strategic about this deal, their back was against the wall because they had over-leveraged themselves. Ring any bells?

But the Semana Económica article points out some other fascinating items:

Obtaining an equity injection from the other investors, such as Triodos was not possible as these minority shareholders were none too impressed with ACP.
ACP had previously tried to raise equity capital in Luxembourg, but had been unable to due to its legal structure as an NGO.
The relationship between ACP, MiBanco and Credicorp has a history. In 2011 Credicorp had tried to buy MiBanco from ACP. When Edyficar was up for sale, ACP tried to buy it. So, finally the family is reunited.
The article estimates the value of MiBanco as of the end of 2013 at US$311. The actual deal was $179m to buy 61% of the bank, suggesting the total value (i.e. 100%) of the bank to be about $295m, so a little lower than their valuation. But in fact this valuation is 37% below what the bank was worth in 2007, according to the article. So, since 2007 the management team actually did quite a spectacular job of destroying value for MiBanco’s shareholders. ACP clearly suffered as a result of this, but microfinance investor Triodos are unlikely to be too pleased about this erosion of value at one of their principal investments. Remember also that in 2013 the equity on the balance sheet of MiBanco fell by 7% alone. Triodos will have to explain this rather awkward result to its own Dutch investors, and while this was not Triodos’s fault necessarily, that doesn’t make the case any easier to justify.

What is interesting here is that in fact Credicorp paid relatively little for MiBanco. The once heralded star of Latin American microfinance was sold for a song. (For readers that are not familiar with equity valuation, skip this section). Basically the bank was sold at 1.25x book value, based on the relatively limited data available on Mix. This is at the very lowest end of the 1.3x to 1.9x range suggested by CGAP as the usual pricing. Presumably this incorporates Credicorp’s discount applied to compensate for restructuring costs, write-offs, integration expenses and redundancy payments. To put this in context, Credicorp paid a 25% premium over the book value of MiBanco in 2014. When Credicorp bought Edyficar in 2009 they paid a premium of 150% over book value. This was a firesale.

So, what is Credicorp going to do? First of all, it will probably find that half the clients of MiBanco are their clients already, which will be a little worrying. Paying off your loan at Bank A with a loan from Bank B is one thing, but they are now the same bank.

They will presumably cut a significant portion of the headcount, at all levels of the bank. It will be astonishing if any of the senior management team at MiBanco are allowed to stay on, but friendships run deep in these banks, and likely the main lay-offs will be the junior staff, but we shall see. You don’t need two CEOs, and right now it is pretty clear which one is doing a better job. Redundancy costs will be high in Peru.

Another pertinent question is whether the newly formed entity will operate under the Edyficar brand, or MiBanco’s, or remain separate. Edyficar is a solid, well-run bank and seems the obvious choice, but common sense should not be taken for granted in this sector – MiBanco is bigger and has a stronger brand name, so maybe that is perceived as better?

Edyficar is in far better shape than MiBanco. According to the MixMarket its return on assets is 4.23%, return on equity is 40.95%. MiBanco wrote off approximately 5% of its portfolio in each of the last two years, while Edyficar wrote off a mere 2.22% in 2012 (2013 data not available). Only 4.38% of Edyficar’s clients are overdue on loan repayments by more than 30 days, and 3.16% at 90 days – a little over half the levels reported by MiBanco.

The deal may provide some respite to ACP, but there are two major problems that have not vanished. They are exactly the same as before this crisis struck Grupo ACP. Over-indebtedness is high, and MiBanco’s non-performing loans are high. Its clients are not repaying their loans. Just because the shareholder abruptly changed will not change that. Compared to MiBanco, Edyficar is well-run, its portfolio is notably better quality, with fewer write-offs. Merging the portfolio of MiBanco is going to deteriorate the overall picture. And it seems unusual to suppose that Credicorp bought MiBanco in order to slow down lending, in all likelihood it will clean up the mess and ramp up the growth once again. Whatever the strategy is, do we expect the merged company will somehow try to manage, or even reduce, over-indebtedness? And now Peru is debatably even less prepared for a systemic crisis in the microfinance sector. A collapse of MiBanco could have triggered a broader collapse across the sector, and now the MiBanco/Edyficar union is even bigger. Too big to fail?

Frankly, anyone thinking this problem is over is deluded. This might be just the beginning.

So, is there a crisis looming? I don’t know. Many ingredients for a storm are present while others are notably absent, as I blogged previously. All it would take is a spark, as in previous crises, often from unexpected sources. There are certainly warning signs, but hopefully this “incident” will send a valuable warning signal to the sector, and in particular to the regulator, that they need to do something. What could this be? I reckon there are a few key steps here that would reduce the chance of the situation deteriorating.

The regulator needs to take pro-active steps to reassure the Peruvian microfinance sector and the international investing community that it is in control, aware of the problems, willing to take action if the situation deteriorates, and is credibly run. It has mud on its face that it permitted this recent debacle to occur in the first place, but no point crying over spilt milk, it needs to look forwards and with confidence.
A possible step, taking a leaf out of Bolivia, Ecuador and Colombia’s books, would be to declare an interest rate cap. This essentially stops poor people being exploited. Interest rates are not that high in Peru in general but there are outliers, charging up to 200% in cases. Get these out. Placing a cap at 50% will have minimal impact on the vast majority of the sector. The banks that really cannot survive without charging rates of 200% – does Peru need them anyway? This would take a little steam out of the sector (not a lot: such loans are thankfully rare), but it would reinforce the signal to the market: “we are not messing about, 50% isn’t so bad, those Ecuadorians are on 30%, step in line as we could always reduce this again”. It’s a warning shot. The free-market fanatics will complain that it is anti-free-market, and also anti their bonuses. Ignore them, a 50% cap is fine.
Insert a minor tax on capital departing the country, perhaps 1% (Ecuador is at 5%). This prevents short-term speculative funds bidding up the sector too rapidly. Again, the idea is to take a little steam out, but on the investing side, and also to send a warning shot. This will not create a panic, but it will have an impact at the margin, and a psychological effect. Plus this would generate tax revenue for the Peruvian government to ideally do something useful with. An alternative to this is to place some sort of minimum capital requirement at the banks.
The regulator didn’t intervene soon enough in the case of MiBanco, and now it has an even bigger beast to manage, and more people watching it, so it should keep an extremely close eye on this merger, and not hesitate to intervene at the first sign of trouble. Something going wrong at a bank that controls 20% of the sector is never pretty.
The regulator may wish to extend its oversight to the shareholders of their banks. How many others are as wobbly as MiBanco? The unusual element in this case was that it was triggered not by the bank itself, but by its main shareholder. So, keep an eye on the shareholders. I have no idea if the regulator was doing this previously – if so it wasn’t doing it very well. If not, now might be a good opportunity to start.
Tighten client protection rules. I am not sure what sort of ombudsman there is in the country, but the last thing the regulator wants is civil unrest against the banks. If there is animosity against banks amongst over-indebted borrowers there ought be a formal channel they can vent their frustration through, and that will offer some form of bankruptcy protection to the poor and rigorous deposit insurance. This might sound overly interventionist, but bear in mind most “developed” countries have precisely this sort of provision, and one need look no further than Nicaragua to see what happens when the borrowers take matters into their own hands. Plus, again, this is wise signalling. Not just to the banks and their investors, but also to the borrowers.
Tighten the rules for measuring clients’ borrowing ability. Indeed, the regulator could limit the number of loans a client may have simultaneously. When a client is managing more than five loans simultaneously one has to wonder if this is healthy. Plus it would force clients to think carefully about who they borrow from, essentially using up one of their five “permits” each time, rather than walking onto any street corner in Peru and getting a loan over the counter.

There will be a continued “period of consolidation” in the sector. This is investor-talk for a period of collapses, with a nice spin applied. This is not necessarily a bad thing, but it has to be managed in a controlled way. A string of collapses is never nice, better to anticipate this and wind them down slowly. A bit like demolishing a building.

The banks need to calm down the relentless competitiveness and desire to perpetually steal one another’s clients, constantly rise in the ranking tables and retain market share. In the short-run such behaviour may produce results, in the long run it is cannibalism and leads to over-indebtedness and possible crisis. Is it too much to ask that they collaborate somehow? Fierce competition is so engrained in the Peruvian microfinance sector (for better and for worse) that this will be a hard cultural shift to initiate. External prompting from the regulator will be required, but soft intervention can also work. Ideally this would also come from the investors, who may have the prudence to suggest that a healthy 10% growth rate is preferable to a 30% dash towards an imaginary finish line. But here I am entering into the role of pure fantasy, the odds of investors with the whiff of profit in their nostrils turning down a quick buck is not the most likely outcome highlighted here.

The fact that the Economist Intelligence Unit declared, for the sixth year in a row, that Peru is the best regulated microfinance country on Earth suggests at least one word in their name might not be entirely valid. Any false confidence this imparts upon the regulator should be re-assessed in light of this recent mess.

But there is no crisis yet. There is time to fix this. It is not too late. But the warning signs are clearly visible, the fact that the entire sector hasn’t collapsed does not imply the warning signs should be ignored. Alas the global microfinance sector has established an incredible tendency to ignore such warnings and wonder aimlessly off cliffs. But this is neither inevitable nor unavoidable.

There are no doubt 100 other measures that the regulator is looking into currently that I am unaware of, and I sincerely hope they can act wisely in the best interests not only of investors but also of the Peruvian public. The trick is confidence. The SBS should activate all the tools at its disposal to fine-tune the sector – no brash moves that could trigger a crisis/exodus/bankruptcy etc. Subtle moves that restore confidence and protect not only the banks, and their investors, but also the poor.

Too much to hope for? Yes, probably.

Correction to previous post: Accion had already been flogged to Bamboo some years ago. Thanks to an anonymous reader for the correction.

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Brief Analysis of MiBanco

by Hugh Sinclair Posted on 8 February, 2014

Introduction

It seemed appropriate to take a closer look at the bank in the centre of the emerging “incident” in Peru’s beloved microfinance sector. In a later post I may do a comparison of MiBanco to other banks in the sector, but for now I shall focus only on the data presented in the MixMarket. I examined data for the years 2011 and 2012, and the quarterly data to the end of 2013 (i.e. 4th quarter – the most recent, but incomplete data available. Select 2010 for “Start Year” and click all boxes for “Report Type”. Mix data is self-reported and not always entirely reliable, but it’s the best we’ve got).

I must stress here that this analysis is entirely from publicly available information. The results are disturbing. I’ll go through this broadly in the order that the data appears on the Mix.

The Mix Data

The number of offices has barely changed, from 117 to 119 in two years.
Leverage (the amount of debt compared to the amount of equity) has increased from 7.5 to 8.1 (2011 to 2013), suggesting MiBanco may struggle to raise additional debt capital. This is not chronically high, but particularly in the circumstances it may struggle to extend this further.
What is far more worrying is the decline in the number of active borrowers. This is worse than I had previously suggested. From the end of 2012 to Q4 2013 borrowers fell from 505,000 to 364,000, a decline of over 140,000 in a single year, or nearly 30%. The number of loans outstanding fell even further, from 565,000 to 369,000, a decline of 35% in a single year. The gross loan portfolio fell by less (from $1.86 billion to $1.60 billion, as mentioned previously), which is a fall of 14%. The reason why the portfolio fell by less than the client numbers is that MiBanco offered larger loans to its clients.
The average outstanding loan balance increased from $3,284 to $4,325 from 2012 to 2013. This is quite a notable shift in focus – some may call this mission drift, but we would need to examine the components of the portfolio in more detail to conclude this. The average outstanding loan balance increased by 31.7% in 2013 and by 7% in 2012.
Looking at the other side of the balance sheet, the number of deposit accounts actually increased dramatically from 2012 to 2013. However, the average deposit account balance fell almost as dramatically, from $3,759 to $836. More people saving less, in a nutshell. The combined effect of this was a 1.7% decline in the total deposits held by MiBanco. However, this should not be underestimated – MiBanco currently holds over $1.4 billion of client deposits, thus a run on the bank would be extremely serious were Peruvians to lose faith in its integrity. This is cause for concern for the regulator – a run on a small Edpyme is not too serious, a run on MiBanco would be dangerous.
As mentioned previously, profits have plunged. The profit margin was a healthy 12.6% in 2011. By 2012 it had fallen to 2.2%. Of course, this led to reduced dividend payments to the shareholders, which contributed to nudging Grupo ACP into technical default of its loans (the Fitch downgrade occurred this same year). The contagion spread from MiBanco to ACP – this is a critical point to grasp.
The other expense ratios actually remained relatively healthy – operating expenses as a percentage of loan portfolio (i.e. how much it cost to lend $1) rose marginally from 11.9% to 12.1%, but this is within normal boundaries. The bank is quite efficiently run, operationally, although for a bank of this size perhaps greater economies of scale might be expected. I would need to compare MiBanco to its peers to confirm this.
Interestingly the number of clients per loan officer or staff member also declined, driven by the fall in the number of clients, but not by a significant amount. This is because MiBanco laid-off substantial staff during the last year. Personnel fell from 4,419 to 3,847 in a single year: 572 lay-offs, or 13% of the workforce. Alas personnel expenses are not reported for 2012 or 2013, but in 2011 they stood at $95 million, i.e. a substantial expense, which has presumably declined. Redundancy payments are alas not reported on the Mix, but in Peru these are likely to have been quite high (and not over yet!).
I previously mentioned the declining portfolio quality, but I failed to pick up the write-off ratio. This is the amount of the portfolio a bank simply deems uncollectable, and removes from the balance sheet as an expense. Naturally, when portfolio is removed from the portfolio (the “bad loans”), the remaining loans appear better quality. What we see in MiBanco’s case is quite shocking. In 2011 the bank wrote of 5.4% of its portfolio, and an additional 4.6% in 2012. And yet (presumably to the grave disappointment of management) the non-performing portfolio remains at alarmingly high levels by the end of 2013 (7.8% delinquent for over 30 days, and 5.8% at 90 days) despite this purging of the bad loans. So far, according to the Mix data, there have not been any write-offs in 2013, but these are quarterly accounts, we should wait for the annual accounts to verify this. Do not underestimate how serious this is. Later on in the report the amounts are published: MiBanco wrote-off $76 million in 2011 and an additional $78 million in 2012. Write-offs therefore cost the bank of the same order of magnitude as its staff costs. This is chronic. And do not forget that each of these written-off clients represents a poor Peruvian who was unable to repay a loan, essentially went bankrupt, and will have presumably been reported to the credit bureau and is now black-listed. These are not merely numbers but people. All too easily we forget this, particularly from the lovely, air-conditioned head office!
The impairment loss allowance for 2013 is $117 million. Again, a significant amount.
Total liabilities over the period increased by 14.5% from 2011 to 2012, as MiBanco took on more debt ($143,617,700 more to be precise). But liabilities actually declined marginally (by 1.5%) in 2013. However, currently liabilities are $1.9 billion. Think about this for a moment – MiBanco owes more money than its entire loan portfolio is worth. Does that sound healthy? Admittedly the majority of this is the deposit balances of the clients, but “borrowing”, which I assume is external debt, is a whopping $382 million ($13 million more than in 2012). With this structure of the balance sheet, and the increased leverage mentioned previously, one wonders if MiBanco can easily raise additional borrowings currently. And indeed, what happens when lenders start refusing to roll-over or make new loans, as BlueOrchard did? Things could get uncomfortable for MiBanco – the most obvious way it can repay this debt is by winding down its portfolio, i.e. shrinking, which is what we have seen quite obviously in 2013. Thus as ACP flogs its assets to pay its loans, is MiBanco essentially doing the same? If MiBanco refuses to extend loans to well-repaying clients, they will simply leave and take their savings with them, further worsening the problem. It is a slippery slope.
And then we have the all-important equity, the single item that keeps the shareholders excited. This fell by $17.4 million in 2013, or 6.9%. Although this is unlikely to please the shareholders, MiBanco does still retain a healthy equity cushion of $234 million, so collapse is not imminent. But the board of directors, and the shareholders, will presumably want a decent explanation of why senior management wiped off nearly 7% of the equity in a single year in a country that is apparently the best in the world for microfinance.
Fees and interest paid by the clients amounted to $380 million in 2011, and rose to just below $400 million by 2012. Unfortunately 2013 data is not reported. Although the portfolio declined substantially in 2013, the average portfolio in 2013 was not significantly different to the average in 2012, so gross income could be of a similar order of magnitude. We await the annual accounts to verify this. While this may sound like a lot of money extracted from the pockets of poor Peruvians, it is not all profit, as the lion’s share goes to covering the operating expenses ($205 million in 2012, a 23% increase from 2011, 2013 not reported yet). But MiBanco also pays interest, and in 2012 its own financing expenses rose to over $80 million, to both depositors (who earn interest) and to external lenders such as the microfinance funds. But, to present a single rather worrying trend, net operating income in 2011 was $48,471,636. This fell an impressive 82% to a mere $8,620,165 a year later, and things appear to have worsened since.
Alas the lack of complete 2013 data makes more observations impossible. The rest of the data presented is of mild interest. From zero female members on their board this fortunately increased to 1 in 2012 (with 11 men). Women account for a little over one third of managers and staff, and marginally over half the clients. Call me biased, but perhaps a few more women running this bank not be a bad idea!

Conclusion

While it is true to say that the current problem was sparked not by MiBanco but by its main shareholder, who is clearly not doing very well, MiBanco is far from healthy. Would you buy shares in this company? Would you lend them money? Would you entrust your savings to them? This is not a backward country without regulations run by cowboys, this is the best country on Earth for microfinance according to the Economist Intelligence Unit. This is not some struggling NGO with a few thousand clients – this is one of the largest MFIs on Earth. Problems with the portfolio are not minor – it wrote-off 1 in 20 loans in both 2011 and 2012, before the current problems emerged. 140,000 active borrowers left the bank in 2013 alone, and even more than this if you consider number of loans rather than number of people. By the end of 2013 1 in every 13 clients was in default over 30 days. 1 in 17 hadn’t made a payment for three months. This is a terrible situation.

The only thing I can suggest here is a change of management. This is not a game – if MiBanco goes down, it will take a lot of people down with it, most of whom are largely innocent. The main shareholder is sufficiently reckless to land itself in default on a senior bond, so there is not much hope there. This is not a country such as Greece suffering major structural problems, Peru grew 6.3% in 2012. Triodos and the IFC may be slightly more prudent, but they have minority stakes. In my personal opinion Grupo ACP has a lot of answering to do, and flogging a few marginal assets in Bolivia or El Salvador to keep its bondholders happy is not enough to resolve the underlying problem.

As we have seen in the recent financial crisis, mis-management in large financial institutions can have a catastrophic impact on entire societies, and I must beg to disagree with the Economist Intelligence Unit that Peru is a well-regulated country. Any regulator that allowed the current situation to arise under its watch should be questioned. MiBanco, the largest MFI in Peru, and its main shareholder, are dangerously close to requiring a bail-out. How can that possibly be considered good governance? It may have been good for investors for a few years, but a regulator has a slightly broader gambit than protecting return on equity for investors. Where was the client protection in all this? What is a multilateral such as the IFC doing investing in such a shoddy institution with tax-payer funding? Who is going to pick up the pieces if MiBanco collapses? What is going to happen to the entire Peruvian microfinance sector (which extends into the mainstream commercial banking sector) if there is a crisis such as Pakistan, Nicaragua, Bolivia, Morocco, Andhra Pradesh, Bosnia etc? What is going to happen to the genuine entrepreneurs who rely on capital to run their businesses?

This looks like gross incompetence to me. And while I’m ranting about the regulator’s deficiencies, the Economist specifically praised it for not using interest-rate caps (i.e. regulating against usury) – MiBanco doesn’t charge very high interest rates, but some MFIs in Peru are charging rates over 200%. What on Earth inspired the regulator to think that was going to help Peruvians grow their businesses? These people are on a different planet.

And are we to believe that MiBanco is the only bank in trouble?

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What are Some of the Signs of a Looming Microfinance Crisis?

by Hugh Sinclair Posted on 8 February, 2014

I have received a few questions on whether I am suggesting this is the beginning of an actual Peruvian microfinance meltdown, and should clarify my stance on this.

Basically, I don’t know.

The signals are inconclusive. But when we look at previous crises (Bolivia, Morocco, Nicaragua, Andhra Pradesh, Pakistan, Bosnia etc.) there are certain triggers, or catalysts, that seemed to push a serious situation over the edge. They differ from country to country, and people have criticised my Peru piece on the basis that “Peru is not Nicaragua”. I totally agree with such critics, Peru is most certainly not Nicaragua, but that does not imply that there is nothing to learn from the Nicaraguan crisis, or any of the others. Obviously if many of the similarities in previous crises emerge in Peru, this would be cause for concern. So, what are some of these alarm bells, and do they apply in Peru?

Andhra Pradesh is perhaps the most publicised microfinance crisis to date. The broad accusation was that loan officers applied extreme pressure on defaulting clients that forced some clients to suicide. Whether or not these claims are valid, there is no evidence (that I am aware of) that this is occurring in Peru. The principal threat to non-repaying clients appears to be black-listing on the credit bureau and an inability to obtain more credit.

If anyone knows of cases of violence or humiliation used by banks against Peruvians, please send me the evidence.

All crises have over-indebtedness in common, and there is certainly sufficient evidence already to suggest this could be a problem in Peru. I have spoken to some funders over the last days, and opinions are mixed. As a broad rule, those with more money invested in Peru believe this is less of a problem, perhaps unexpectedly. I cited two reports in the original post supporting the fears of over-indebtedness. These are both somewhat out-of-date (the situation has likely worsened since they were written) and exclude the endless other sources of debt, formal or otherwise: cars bought on credit, those store cards you can get in Lima shopping centres in about 5 minutes, credit cards etc.

There are various definitions of over-indebtedness, and prior to the Nicaraguan crisis there was no clear consensus. I remember, I was there. But why is delinquency rising in Peru? Why have professional and experienced banks such as MiBanco been unable to control this? Why did they lose 100.000 clients last year? Why is this delinquency happening across the entire country rather than just at one or two troubled banks? We are fast approaching a situation when 1 in 10 Peruvians with loans are unable to meet their monthly repayments – think about that for a moment. No one wants to default on a loan, these people are cutting back their expenses, economising where possible, working harder, draining their savings, perhaps selling personal possessions, and are simply unable to meet their monthly loan repayments. Suggesting that this is not a cause for concern simply because the entire sector hasn’t yet collapsed seems a naïve stance to me.

Some Peruvians are in dire trouble, and we need to limit the extent to which this happens rather than suggest that it is not yet occurring to enough people to cause a systemic crisis.

Nicaragua was triggered by civil unrest. So far there has been no animosity against the banks, but there have been protests against the mining companies. This triggered the “no pago” movement in Nicaragua, as banks over-charged clients and tried to imprison non-repaying clients, which naturally irritated their families. There is no evidence of such behaviour so far in Peru, but it is not inconceivable. However, look at the interest rates some of them are coughing up, this could easily cause poor clients to rise up against their so-called benefactors. The 3 highest I have found so far, according to page 52 of the December 2012 COPEME report, are:

CMAC Del Santa 203.11%
CRAC Sipan 157.26%
Edpyme Inv. La Cruz 233.48%

Another potential trigger is the withdrawal of investors. We have seen this with BlueOrchard, and I have spoken to one fund who makes a similar claim but has been unable (or unwilling) to provide me with tangible evidence that it has reduced its exposure to Peru. Perhaps in a later blog I will examine the individual portfolios of a few funds to see if this is the case, but most funds are extremely non-transparent in revealing where they have invested, so this is not so easy.

An additional alarm bell would be depositors withdrawing their savings from the banks as they lose faith in them as guardians of their scarce savings. The evidence in the case of MiBanco is mixed. It actually has increased the number of depositors, but each depositor now holds a reduced balance. The overall effect in 2013 was a 1.7% decline in the total deposits held at MiBanco, which is not indicative of a run on the bank. But then again, the bank was only recently put up for sale, so it will be interesting to see the latest data to confirm if this remains the case.

Another alarm bell would be disconcerting action taken by the regulator. If investors perceive the regulator as making adverse moves that could harm their earnings, this could prompt investors to leave. If the regulator does nothing the situation is unlikely to improve. If the regulator offers overly-generous client protection (in the eyes of the banks and their investors) this could also trigger the departure of investors. What about an interest-rate cap? The Economist Intelligence Unit specifically praises Peru for NOT having such a cap (“The lack of an interest-rate cap, reasonable capital requirements and the availability of various legal structures create low barriers to entry” – register for free to download report). Most MFIs charge relatively reasonable rates, but even preventing interest rates of over 100% might be a wise move, as such loans inevitably lead to strife. And if either the investors or the general public perceive that the regulator is worried about the situation, this could trigger an investor exodus or a run on the banks as clients attempt to rescue their savings in the expectation of a possible crisis – also not ideal.

So actions of the regulator are also indicative of the likelihood of a crisis, but could themselves trigger a crisis, it’s a fine line. And Peru’s regulator is not in an easy position currently (although one could argue that it was the same regulator who allowed this current situation to arise).

Obviously the collapse of a major bank would be a serious alarm bell. The cajas are in trouble, MiBanco is in trouble, ACP Is in trouble – this is not entirely inconceivable. Collapses of institutions are often euphemistically described as “consolidation”, but is the collapse of a major MFI in Peru really that unlikely?

And of course, there are many other signs of a crisis looming. This is a brief blog post. Do we see these in Peru? Yes, some of them, to some extent. Does that mean a crisis is imminent? No, but it does mean we should keep our eyes peeled for more signs, and make concerted efforts to avoid a crisis, rather than keep going along the same trajectory with our eyes closed. Let’s learn from previous mistakes.

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Update on the Unfolding “Problems” in Peru, Friday February 7th

by Hugh Sinclair Posted on 8 February, 2014

I have received endless calls, emails and messages about my recent post, almost unexpectedly, so I feel obliged to keep my loyal readers up to date on the unfolding problems in Peru. I have therefore diligently prepared three new posts (I will assume that readers of these posts have read the original):

An update on recent events (below)
A brief description of some of the warning signs of a microfinance crisis
A brief analysis of the financials of MiBanco up to Dec 2013 based on MixMarket data

First, Credicorp posted some disappointing results. Earnings are down 28.1% in 2013 due to “extraordinary expenses” in their investment bank and insurance areas. So, does this increase or decrease their chances of buying a defunct and large Peruvian bank such as MiBanco? There’s no comment so far.

But in a comic twist, following the rather unexpected sale by Grupo ACP of a 12% holding in BancoSol in Bolivia (they still hold a 6% stake after the sale), the CEO of BancoSol made a most extraordinary statement. I shall use Google Translate in order not to be accused of unfair translation:

“As part of its investment policy worldwide, and on the understanding that [Grupo ACP’s] mission to establish strong microfinance institutions that empower microentrepreneurs in several countries has been met in Bolivia, ACP decided to transfer part of their participation in a group three European banks through the advice of the prestigious Responsibility Investments AG of Switzerland.”

So, according to this interpretation, Grupo ACP decided to sell simply because it had already achieved such stellar performance in Bolivia that it would flog the shares to the Europeans. No mention of the fact that Grupo ACP is in technical default on its senior bond, presumably facing a rather dire cash crunch, and looking to sell whatever it could to avoid a full-blown default on the bond prompting Fitch to cut the rating to junk status. Are we to believe this was a pure coincidence of timing? And with their clear mission to “empower microentrepreneurs”, there was no mention either of the fact that MiBanco, ACP’s main asset, empowered nearly 100.000 fewer this year.

And what exactly is ACPs current “investment policy worldwide”? I suspect if could be “flog anything you can and use the funds to pay interest on that pesky bond that we should never has issued in the first place” – hardly a sophisticated strategy.

My question is simply, what gets flogged next? Banco Forjadores in Mexico? Apoyo Integral in El Salvador? Emprenda in Argentina?

But my questions don’t end there. How much did ACP get for the sale? I imagine the “prestigious” responsAbility made a tidy buck on that one. Someone in Switzerland will get a nice bonus this year. Such prices are rarely disclosed, and given the political and regulatory risk in Bolivia right now it is hardly a risk-free investment.

The million dollar question, obviously, is whether Credicorp (or anyone, for that matter) has agreed to buy MiBanco. If they decline the price will plummet. It’s one thing to offer a widget for sale at $10, it’s another thing to wonder around seeing if anyone will buy your widget in a hurry despite others having announced in the national press that they aren’t interested. The longer they wait the lower the price, and the greater the stress to ACP and speculation in the market. Maybe they could post it on eBay?

“Peruvian bank for immediate sale, any offer accepted, cash only, vendor assumes no responsibility for the quality of the portfolio or for the cost of a major restructuring involving substantial redundancy payments, buyer will have to share ownership with some pretty irate Dutch investors, the vilified microfinance fund Accion, and the IFC. See other items for sale by this vendor”.

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Trouble Brewing in Peru? MiBanco in Dire Straits

by Hugh Sinclair Posted on 6 February, 2014

I was surprised more fuss wasn’t made of Fitch’s October 2013 downgrade of Grupo ACP – the main shareholder of Peru’s flagship microfinance institution (MFI): MiBanco.

“The downgrade [] is driven by ACP’s losses (mainly due to foreign exchange volatility during 2Q13 in Peru and the region) and the weakness of its dividend revenues caused by the performance of its main operating subsidiary and revenue generator, Mibanco… Mibanco’s performance deteriorated in 1H2013, as credit costs (loan loss provisions) increased significantly and, along with lower operating revenues, drove profitability down to 0.74% (ROAA)…, recovery is not expected to be swift… At end 2Q13, ACP breached the indebtedness covenant of its 10- year, US$85 million corporate bond due on 2021.”

The article goes on to explain how Grupo ACP negotiated a waiver of its loan covenants until June 2014 – not long now. S&P subsequently issued a warning about the Peruvian microfinance market. Peruvian banks saw profits slow in 2013, profit at Edpymes (small private MFIs) fell by 13%, while the cajas saw profits plunge 90%.

MiBanco is one of the biggest MFIs on the planet and it doesn’t seem to be doing that well. Dividends and profitability are down; portfolio quality is deteriorating; its main shareholder, Grupo ACP, is breaching its covenants; and the rating outlook is negative. Sounds pretty serious to me.

MixMarket data confirms this. MiBanco’s return on assets (ROA) fell from 1.91% in 2011 to -0.10% a year later, while return on equity (ROE) fell from 20.47% to -0.89%. The more reliable COPEME reports support these results.

Furthermore, the ominous warning about deteriorating portfolio quality is confirmed by the available data. In November 2012 MiBanco had a reported overall PAR30 (proportion of outstanding loans delinquent over 30 days) of 7.3% – fairly high by international standards, particularly for a large commercial MFI, and compares unfavourably with other Peruvian MFIs. PAR30 reached 9.1% for loans specifically to small companies. The MixMarket reports an overall PAR30 of 8.14% by mid-2013, and over 12% in 2012 (while ACP claim it was only 4.5% on page 39 of their 2012 annual report).

From December 2012 to September 2013 MiBanco’s portfolio declined from $1.9 billion to $1.7 billion, while client numbers fell by nearly 100.000. Even more worryingly for such a large MFI, 61% of its clients have loans elsewhere (the second highest bracket in the COPEME report), hinting that over-indebtedness could be an issue in Peru. This is not the first time over-indebtedness concerns have been raised in Peru: see a June 2012 article; or a March 2013 Planet Finance report which summarised succinctly: “obvious – and high – degree of multiple borrowing in Peru”.

According to the Economist Peru is the best country in the world for microfinance, and MiBanco is the largest MFI in the country. But something is going wrong. This is interesting firstly because there are already murmurs in the sector that Peru could be about to face a serious crisis fuelled by chronic over-indebtedness. Secondly, MiBanco boasts an important set of investors, including Accion – a key global player in microfinance. In part for their profiteering performance regarding Banco Compartamos in Mexico, Accion inspire polarized opinions regarding the benefit, or curse, of commercial microfinance. It will be interesting to see how Accion’s pet project for sector-wide self-regulation, the inappropriately-named Smart Campaign, will respond to mounting evidence of a crisis in Peru. I imagine with utter silence, as their salaries depend to some extent on the profitability of their investments. They claim to be the self-regulator or watchdog of the sector, the fair trade label of microfinance. But Accion holds some uncomfortable investments.

But perhaps even more intriguingly, according to the April 2013 Investor Update of Swiss investment fund BlueOrchard, their total microfinance portfolio was $270m, but by May it had fallen by $15m to $255m. What accounted for this dramatic decline of nearly 5% of the fund value in a single month? In the April report the single largest loan of the fund was to MiBanco, representing 6.47% of the entire fund (about $17.5m). Peru was the single largest recipient of funding with approximately 9.5% of the entire fund, i.e. BlueOrchard had other Peruvian investments of approximately 3% of the portfolio.

By May, Peru had fallen to 12^th place and represented only 3% of the portfolio. In light of the downgrade it appears that BlueOrchard may have been fortuitous to get out of MiBanco when they could. They mention the departure of MiBanco explicitly, but without mentioning the MFIs performance:

“[T]he allocation to Peru decreased considerably as a result of the timely repayment of an outstanding loan to Mibanco. Changes in the Peruvian regulatory framework require a 36-month minimum duration for new loans to microfinance institutions that can currently or in the near future capture deposits (financieras and banks). This translates into a minimum life of 41 months, whereas the prospectus guidelines of the BlueOrchard Microfinance Fund limit the loan tenor to a maximum of 3 years. With an increasing number of institutions graduating to the status of financieras, this regulatory constraint will result in a reduced country allocation to Peru and further diversification within South and Central America.”

Did Blue Orchard re-lend this capital to other institutions, if not in Peru perhaps in South and Central America, as stated? It appears not – by August the portfolio had fallen a further $2m, to just under $253m. Meanwhile Peru fell to 17^th place in BlueOrchard’s portfolio by November, just above Cameroon.

Is Blue Orchard’s justification for not rolling over the MiBanco loan valid? It could be a convenient excuse for getting out of an over-heated country without stating so explicitly. The new CEO is no fool, but nor will he wish to irritate the funding sector by pointing out what many already fear. It was either lucky or intelligent – well done either way.

Blue Orchard’s main rival, responsAbility, has a staggering $110m invested in the Peruvian financial sector (see page 13 of their 2012 annual review), including $6m to MiBanco – they must be sweating currently. And let’s not underestimate the size of the Peruvian microfinance sector – according to the MixMarket (the best data available, alas) Peru represents nearly one third of all lending in Latin America and the Caribbean. At $10.7bn, Peru is 12% of all microfinance lending on Earth ($90bn). It’s 25% more than Africa and the Middle East combined. South Asia, including the markets of India and Bangladesh, accounts for only $8.2 billion. To conclude that Peru is therefore over-saturated would require a more detailed analysis of populations and penetration levels, but in short – microfinance in Peru is big business. Only the microfinance sectors of Indonesia and China exceed that of Peru, but with populations of 240m and 1.4bn respectively, versus Peru’s rather modest 30 million. Mexico, Bolivia and Ecuador, all of which have faced concerns over over-indebtedness, have a combined population of nearly 150 million, and yet their combined microfinance sectors are smaller than Peru (approximately $10 billion). While such comparisons may not be entirely valid, it goes without saying that a collapse of Peru’s microfinance sector would have catastrophic implications for the entire microfinance sector.

To put this over-indebtedness into perspective, there are approximately 4 million microfinance clients in the Peruvian microfinance sector, of which a quarter are shared with other banks (i.e. double counting due to multiple lending, according to COPEME), for a total of approximately 3 million unique clients. The average client therefore has an outstanding microfinance loan of approximately $3,500, excluding store cards, mortgages etc. Interest rates are typically of the order of 35% per year, suggesting the average client is paying about $1,200 per year in interest alone. For a country with a GDP per capita of $6,500, it seems worrying that a fifth of this is directed merely to interest payments on loans.

According to the MixMarket the following are also “funders” of MiBanco: AECID (Spain); Bamboo Finance (spin-off from BlueOrchard, Switzerland); the IFC (multilateral); Incofin (Belgium); Triodos (Holland); and Profund (Costa Rica). In addition MiBanco posts its shareholders on its website:

Grupo ACP hold 60.7%
The IFC has 6.5%
Accion has 15.69% (via the Cayman islands, of course)
Triodos has 11.82%
Other minor investors account for 5.92%

Those listed on the MixMarket but not on MiBanco’s website are either out of date (not the first time the Mix has deviated from reality); debt-only providers (e.g. responsAbility); or included within “other investors” (Bamboo Finance lists MiBanco as an investment on its website, so it is presumably one of the smaller investors).

The rating downgrade makes another ominous claim: “ACP’s management reports advanced negotiations to capitalize the group. However, if the capitalization is delayed or reduced, ACP would have limited cash flow to fulfill its financial commitments, hence the Negative Rating outlook”. Who would invest in ACP right now? Its international portfolio consists of marginal institutions, the only jewel in the crown is MiBanco, and recovery there is unlikely. A 21% reduction in return on equity in a single year combined with a breach of covenant is hardly attractive, and profits in 2013 halved. The larger microfinance funds such as responAbility or DWM could be interested, or even an existing investor such as Bamboo Finance. Beyond that, the mainstream private equity investors are unlikely to take such a gamble while the legal status of ACP is still unclear – it is currently an NGO. However, a vulture fund focussed on acquiring distressed assets could seek to buy MiBanco at a low price, strip it and get out quickly, helping Grupo ACP to limp on another day. But the redundancy costs involved would be huge.

Rumours have surfaced that Credicorp (main shareholder of Banco de Crédito de Perú – BCP) may be sniffing around MiBanco as a potential acquirer. Everything depends on price – Barings Bank was in dire trouble in 1995 and yet ING bought the bank for £1. To buy a clearly struggling, massive bank in a country that most sane insiders suspect is significantly over-heated and enjoys rampant over-indebtedness is a bold move. But, as decades of microfinance history has shown, the sector is littered with fools willing to ignore facts and take reckless gambles for the sake of a quick buck at the expense of the poor. The management of Credicorp will no doubt get a bonus for pulling of an acquisition, and do we really believe they will put the long term interests of the Peruvian poor above a nice bonus and a quick buck for their shareholders? Perhaps Credicorp’s board may wise up to this. I hope so, as this could be an expensive mistake. They are in safe hands, however – the advisors to the transaction are none other than those of Banco Compartamos, so they are familiar with vulture capital(ists).

As if evidence of strife at ACP was not yet clear, on February 4^th this year (i.e. this week), they flogged a 12% stake in Bolivia’s BancoSol to prop up their balance sheet. Desperate times call for desperate measures.

But let’s not exclude the broader situation in Peru. Economic growth is forecast to slow in 2014, while inflation is rising. Investors are broadly pulling out of developing countries. Civil unrest aimed against the some of the large mines has already caused riots, eerily reminiscent of the Nicaraguan “no pago” crisis. Mining revenues are declining, as is tax income. With growing over-indebtedness it is not inconceivable that more militant factions of this somewhat socialist country could trigger a similar meltdown. The images above are from a recent uprising in Peru, and the Nicaragua “no-pago” crisis. Can you spot which is which? With so many deposit-taking institutions, a run on the banks is possible were Peruvians to begin questioning the safety of their deposits.

A final observation is that people in the sector have been very unwilling to discuss this. For the magnitude of the implications it received remarkably little attention. microDINERO was the only news agency to translate the Fitch downgrade report to Spanish. Even Peru’s leading financial newspaper, Gestion, failed to mention it.

However, there is no way the sector would allow a collapse of either an MFI of this size, or of the Peruvian microfinance sector more broadly. They are simply “too big to fail”. The implications of a Peruvian collapse would be catastrophic, and almost every microfinance fund would lose significant sums, if not collapse entirely. No, this has to be bailed out, and if not by BCP or a vulture fund, then a state-funded bail-out, or some soft-financing from the IFC or some such body would be required. The sector is groaning after five years of criticism and scandal, this could be the hair that breaks the camel’s back. Even if the neo-liberals have to dig deep into their own pockets they are not yet ready to throw in the towel on their beloved scheme to indebt poor people. Peru may be their current, and perhaps greatest challenge to date.

So, what can we conclude from this brief analysis? I would suggest the following:

Regardless of what the Economist says, I wouldn’t invest a dime in Peruvian microfinance right now. Over-indebtedness is mounting, the pre-cursor to previous crises; the flagship MFI is in trouble; and the first investors are withdrawing.
This will be the acid-test for the Peruvian regulator, whom the Economist praises so lavishly. Can it avert a crisis without over-regulating the sector? We are about to find out, but let’s not forget that India was thus praised prior to the Andhra Pradesh crisis, as was its leading MFI – SKS – prior to the 90% collapse in its share price. Pride comes before a fall. And whose interests will be protected – those of investors, or the poor?
MiBanco is likely to re-focus its portfolio in the sectors where it performs best:
- Housing loans earn a small gross margin and are a relatively minor share of the portfolio, so unlikely to be the source of the turnaround.
- Consumption loans have healthy returns but are also a relatively small share of the portfolio.
- Microfinance loans are their core market, have reasonable returns, and MiBanco maintains an acceptable risk level in this segment (PAR30 of 4.7% for microloans according to COPEME).
- … But this does not necessarily bode well for other Peruvian MFIs. If MiBanco re-focuses on microfinance and consumption loans (often interchangeable), this will further direct funding to these already over-indebted niches.
- Fitch’s downgrade was strongly worded, with a negative outlook, and explicitly states that improvement is far from imminent – there has been none to date.
- Blue Orchard were wise to get out when they did – a fund attempting to avoid any scandals or collapses following the mass exodus of its own investors over the last couple of years. Once bitten twice shy – they were bitten in Nicaragua and presumably don’t want a repeat.
- Triodos are likely rather nervous and watching the Peruvian market closely, but as equity investors there is little they can do other than ride it out. However, they may be sitting on a sufficiently large capital gain that a fire sale exit may be under consideration. I generally like Triodos, and blogged about them previously. MiBanco was always an outlier within their portfolio.
- Accion – they’re sitting on such a pile of cash from their investment in Compartamos that I can’t feel too worried for them. If anything disastrous does occur in the Peruvian microfinance sector it might make the Smart Campaign look even more ridiculous than it already does, but does anyone take Smart seriously anyway? As one commentator suggested wittily, “The SMART Campaign is actually misnamed—CRAFTY would be more appropriate.” Preventing over-indebtedness is apparently one of their key goals, and at least two of Accion’s investments are major contributors to the problem.
- I am keeping my eyes peeled for any signs of civil unrest, animosity towards banks, bank activities that could be viewed as aggressive (confiscating assets etc.) which typically spark (not cause) a national revolt, as happened suddenly and violently in Nicaragua and India.
- If fair-weather investors discreetly start to reduce exposure to Peru, or there are signs of Peruvians withdrawing savings as they fear for the integrity of some institutions, this may accelerate such a collapse.
- Keep your eyes open for soft funding to prop up either ACP/MiBanco or an acquirer. If BCP/Credicorp pulls out of the acquisition, hold your breath.

Microfinance crises are obvious with hindsight, but difficult to predict as their causes are often hidden by the MFIs and their investors, and begin with a small spark. See Nicaragua or Andhra Pradesh if in doubt. The first warning signs are generally ignored. Is this a Peruvian red flag? I don’t know, but it certainly makes me nervous.

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Posted in recent developments | Tagged ACCION, BlueOrchard, Compartamos, Fitch, IFC, Incofin, MiBanco, responsAbility, SMART, Triodos | Comments Off

Microfinance Warnings from South Africa

by Hugh Sinclair Posted on 7 October, 2013

It’s not every day I read a post or article on microfinance that nearly knocks me off my chair. This article is one of them. Read it. It’s short and surprisingly frank. The opening reference to Yunus is tangential. The article is mainly about an investment fund that pulled out of the sector: Futuregrowth Asset Management. If I may just quote three particularly poingnant comments:

“The industry seems to be pumping debt down peoples’ throats. It is no longer socially responsible and does not belong in developmental funds.”

“The fundamentals are blown and the business model is unsustainable; 70% to 80% of ‘new business’ is to existing clients. So the trick is to keep them on an indefinite treadmill, always reoffering them a new loan, or reschedule but by lengthening the term to reduce the instalment”

Prof Yunus, who spoke at the Gordon Institute of Business Science, said: “We don’t lend money for consumption. Your consumption should come from income. When you create a consumption loan, there’s no end to it.” Instead, Grameen focused on lending money to people who would use it to generate income.

The poor on treadmills? The image that occurred to me was of a hamster happily spinning round his wheel, hooked up to a mini-generator to provide a drip-feed of electricity to the owner!

And once again that awkward mention of consumption lending – sooner or later people might realise that they are mostly not financing entrepreneurial activities at all, but new TV purchases.

This is dangerous for the microfinance sector for at least three reasons. Firstly, the article makes reference to yet another microfinance bubble, and it is questionable how the sector would survive such a scandal, still reeling from the Andhra Pradesh crisis, with Mexico and Peru suffering chronic over-indebtedness. Bad news from the microfinance sector of Ghana is an almost daily event. Secondly, this is another departure of an investment fund from the sector, and these are the jokers who provide the fuel for the fire. Take them away and the fire might go out. Sure, there are other ways capital enters the sector (governments, P2Ps etc), but this doesn’t bode well. The die-hard microfinance funds will continue assuring us that this is the miracle cure for poverty if only we’d hand over our dollars to them to invest on our behalf and take a nice management fee in the process, but when this class of investor starts pulling out, images of decks of cards spring to mind. If the funds don’t refinance the MFIs, the MFIs can’t refinance the clients. If clients don’t expect to be able to get additional loans from an MFI, there is a strong(er) incentive to not repay the current loan. If default rates rise and more investors are scared away, this can become a self-fulfilling prophecy.

Thirdly, the microfinance sector is furiously trying to re-brand itself, and launch all manner of initiatives to perk up its ailing reputation (largely window-dressing, see Truelift). If such measures fail to persuade the professional investment funds, for how long will the general public remain convinced? Sure, this is not a large, global microfinance fund, but watch this space.

Meanwhile Blue Orchard continues to decline. From $268m in January the August report suggests the fund is now hovering at just below $253m.

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Posted in Uncategorized | 4 Comments

Exploitation Declines, a bit

by Hugh Sinclair Posted on 3 October, 2013

I had a go at Opportunity International in November 2012 over their extortionate interest rates. I thought I’d update the findings, as new data has emerged on Chuck Waterfield’s excellent website www.mftransparency.org. The results were interesting:

The poor Kenyans saw the total APR on the most expensive loans increase by 1%, but they are unlikely to notice this in the repayment amount given it increased from 134% to 135%. Hardly a bargain, but neither is this the highest rate Opportunity charge, unfortunately.

The lucky Ghanaians are receiving a positive bargain from Opportunity. From an eye-watering 161.4%, the most expensive loan is now “only” 124.1%.

Alas Malawi did not benefit from such generosity, as it’s most expensive loan now costs 144.5%, up from 128.3% previously.

Mozambicans pay the same – 152.7% – also not the cheapest source of capital on the planet. I am not sure if this is because the rate didn’t change, or new pricing data wasn’t provided.

The Ugandans also benefitted, with a full 2% slashed from the overall APR, to a mere 103.1%. if this reduction in interest continues they could be paying double-digit interest-rates in a few years.

Rwanda also saw a substantial reduction, from 107.5% to 76.8%.

Last, but by no means least, Tanzania’s 92.1% is a relative bonanza compared to the previous rate of 109%.

Imagine if your mortgage company told you the interest rate was declining by 10% – you’d be over the moon! But spare a thought for those poor Malawians who saw rates increase by nearly this amount. I can’t be bothered to work out the weighted average etc., other than to say that on average it looks like Opportunity are slightly reducing their maximum rates. Still, triple digits always concern me, and one wonders how this will impact their bottom line – most of these MFIs were loss-making already.

The comments on the previous blog tended to focus on the irony of such interest rates being charged by a nominally Christian institution. I think the irony remains. The company’s FAQ section is still equally nebulous about the interest rates charged. It’s pure speculation, but I imagine they have no desire for all those generous donors to actually find out the rates they are fleecing from the poor Africans, and are probably not entirely happy with MFTransparency publishing the rates nor me writing about them, but this is publicly available information.

Do not understimate how powerful Chuck Waterfield’s site is: you can see precisely who is exploiting who, to one decimal place, and download the actual repayment schedules.

Long live transparency (and regulation)

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Posted in Uncategorized | Tagged Opportunity | Comments Off

Confessions of a Microfinance Heretic | Blog

How Can I Invest in Microfinance? Part 1

Incestuous Relationships, Spin & PR in Microfinance

Spincofin – a Flawed Interview with the CEO of Incofin

Too Big to Fail (Just Got Bigger)

Brief Analysis of MiBanco

What are Some of the Signs of a Looming Microfinance Crisis?

Update on the Unfolding “Problems” in Peru, Friday February 7th

Trouble Brewing in Peru? MiBanco in Dire Straits

Microfinance Warnings from South Africa

Exploitation Declines, a bit

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