Commercialisation of Microfinancei n Sri Lanka

7/30/2019 Commercialisation of Microfinancei n Sri Lanka

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COMMERCIAL MICROFINANCE AS A STRATEGY TO REACH THE POOR IN SRI LANKA:

A COMPARATIVE STUDY

Perera K.D.D.

Department of Accountancy, Faculty of Commerce and Management Studies

University of Kelaniya, Sri Lanka

[email protected]

ABSTRACT

The microfinance sector in Sri Lanka suffers from the core problem of poor quality of microfinance

services offered, and this seriously threatens the sustainability of the offered financial services and their

outreach to poorer households, micro and small entrepreneurs. In early days, financial exclusion; the

provision of financial services to those excluded from the formal financial system was a hint of potential

breadth of micro financial services which was an expanding focus for microfinance institutions. However,

Commercial Microfinance, where microfinance services are provided by commercial organizations that

are part of the formal financial system has received increasing attention in todays financial market.

Therefore, this study explores downscaling by banks as a model of microfinance commercialization that

has used as a strategy to reach the poor. In order to answer the main research question, an explorative casestudy methodology was chosen, based by a microfinance programme of a well established commercial

bank in Sri Lanka, the Hatton National Bank. Their performances were compared with the performances

of a well established microfinance institution Sarvodaya Economic Enterprise Development Services Ltd.

(SEEDS) specially under commercialization debate areas; sustainability and outreach, financial

performances and impact on clients. The findings reveal that commercialization of microfinance is still

working towards commercial perspective, and they are largely catering to the entrepreneurial poor segment.

Key words: Commercial microfinance, Microfinance institutions, Sustainability, Outreach

1. BACKGROUND

Microfinance has received increasing attention incontemporary financial markets, though it is not

regarded as a new conception. In early days, this

has developed from the basis of microcredit

programmes, and today it had become a matured

financial industry by adding savings, insurance

and money transfers to their products and

services chain. In general terms, microfinance

can be defined as the provision of financial

services to those excluded from the formal

financial system. Therefore, this concept has

been positioned to overcome a variety of access

barriers to a wide range of financial services for

the different customers those who were excludedfrom the formal financial services. Initially,

microfinance institutions (MFIs) began shoulder

to cater this neglected niche market and many

MFIs in different countries have proven that their

clients are bankable and institutions are

profitable.

Most of the bankers, regulated financial

institutions in particular, have not regarded

microfinance as a genuine option and they have

believed it as unprofitable. One major reason for

this perception was bankers perceive small

businesses and microenterprises as bad credit

risks as they do not have a stable, viable business

for which to borrow and from which to generate

repayment and lack of traditional collateral to

guarantee their loans. They further believed that

since the microloans are small and for short

terms, banking operations will be inefficient and

costly.

However, surprisingly, many commercial banks

in developing countries have begun to examine

the microfinance industry by relaxing theirpreviously tough lending conditions and have

entered into the microfinance sector with more

favorable approaches (Baydas, Graham &

Valenzuela 1997). Therefore, commercial banks

intervention into microfinance sector has

recently received an increasing attention. Some

people believe this recent trend as unhealthy, as

the MFIs are at a clear disadvantage with the

intervention of commercial banks into this field.


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1.1. COMMERCIAL MICROFINANCECommercial microfinance therefore is broadly

defined as microfinance services provided by

commercial organizations that are part of the

formal financial systems such as banks, and non-

bank financial institutions. These organizations

are financed by commercial capital and usuallyconfined by regulatory framework (Clerk 2005).

1.2. MODELS OF COMMERCIALMICROFINANCE

Different countries adopt different models of

commercialization; Transformed microfinance

Non Government Organizations (NGOs),

Downscaling by banks, Small Specialized Banks

and Finance companies are major in this regard.

Downscaling as a model of microfinance allows

the programme to take advantage of the funding

and infrastructure advantages of a commercial

bank while providing the microfinanceprogramme with the necessary space to operate

successfully (Bharti, Bhargava & Bellur 2006).

Therefore, the researcher focused on

downscaling as a model of commercialization of

microfinance to continue this study.

1.3. DEBATES IN COMMERCIALMICROFINANCE

The debates on commercial microfinance begins

with the argument that whether commercial

approach is concerned on the ultimate objective

of microfinance; the poverty alleviation.

Because, the poverty oriented microfinanceinstitutions will prioritize the impact that the

lending programme is having and the level of

clients poverty. However, commercially

oriented microfinance institutions believe that a

permanent impact can only be had if services and

products can be provided in a sustainable manner

(Bharti, Bhargava & Bellur 2006). Therefore,

sustainability and outreach would be a main

debate area of commercial microfinance which

often identifies a trade-off between these

concepts.

1.4. MICROFINANCE IN SRI LANKAThe microfinance sector in Sri Lanka suffers

from the core problem of poor quality of

microfinance services offered, indicated by

insufficient outreach, poor repayment rates, low

cost efficiency, recurring losses, financial

products which are not client driven and

significant deficiencies in regulation and

supervision (CLEAR 2009). This seriously

threatens the sustainability of the offered

financial services and their outreach to poorer

households, micro and small entrepreneurs.

Commercial banks have made some efforts to

serve the poorer population; however, one

suspects that these efforts are merely to boost

their image. However, there is no national policy

for Microfinance Sector in Sri Lanka or an

institutionalized mechanism to coordinate

microfinance interventions with other policies

which have been formulated for rural

development and poverty alleviation

(Microfinance Industry Report 2009).

2. THE RESEARCH ISSUE OF THESTUDY

Due to some structural deficiencies in the

microfinance institutions (MFIs) and the

unstable financial environment created due to the

collapse of unregulated financial institutions inthe recent past of Sri Lanka, many MFIs are at a

great risk and it is arguable that whether they are

sustainable enough to reach the poor. However,

from the regulated commercial banks

perspective, entering into the microfinance sector

would be a natural sign of growth as they have a

number of competitive advantages over the

exsisting players in microfinance. This would

indicate that commercial banks can play a giant

role if they properly positioned downscaling

operations in this microfinance industry.

Therefore, this research study aims to explore the

intervention of commercial banks into SriLankan microfinance industry so as to ensure

whether they would add value to this industry by

way of reaching down the poor. In fact, this

study would raise the most controversial matters;

can commercial microfinance reach and serve

the poor? Do they possess a right business

approach to reach the poor as compared to the

existing microfinance players?

3. OBJECTIVE OF THE STUDYThe main objectives of this research study are,

1.To identify the commercial microfinanceexperience of commercial banks in Sri

Lanka.

2.To recognize the gap between themicrofinance services offered by

commercial banks and conventional

microfinance institutions in trems of

debatable areas in commercial microfinance.


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3.To recognize the extent to which thecommercial banks have been able to achieve

the objective of reaching down the poor in

comparison to conventional microfinance

institutions.

4. LITERATURE REVIEWSome relevant literature was reviewed by the

researcher specially in the areas relating to the

intervention of commercial banks into the field

of microfinance. Accordingly, Baydas, Graham

& Valenzuela, (1997) have concluded in their

study; (1) microfinance within commercial banks

is largely attributed to the efforts of a single

person or to a small group of people to promote

these activities, (2) Most commercial banks

largely use their own deposit base for

microloans. Donor funds and governmentrediscount lines represent cheaper sources of

funds for a number of organizations, but some

conditions and limitations restrict use of these

resources, (3) The current outreach of

commercial banks in microfinance is at best

modest in scope.

Further, Bell, Harper and Mandivenga (2002), by

a case study done on two different commercial

banks in Zimbabwe and Kenya, has concluded

that there are still very few cases of privately

owned commercial banks downscaling to

microfinance for purely business reasons. One of

the most important reasons they have identifiedis the effect of liberalizing markets; as local

banks face increasing competition from new,

start-up local banks, and foreign banks entering

the market, they are obliged to seek alternative

markets to survive. Segrado (2005) has identified

that in many countries, MFIs are losing their

monopolistic control over the market, and

emerging reality of increasing competition

necessitates a different approach to microfinance

both from MFIs and from commercial banks.

5. RESEARCH METHODOLOGYThis research study was based by two case

studies in a qualitative research approach. The

commercial banks intervention into microfinance

was measured through Village Awakening

(Gami Pubuduwa) programme (GP) of Hatton

National Bank (HNB) PLC, a well established

commercial bank in Sri Lanka. Today, GP

programme is considered as the largest player in

commercial microfinance in Sri Lanka. Their

experience in microfinance was compared with,

Sarvodaya Economic Enterprise Development

Services Ltd. (SEEDS) a well established MFI

currently doing successful operations in

microfinance industry. Today, SEEDS has

emergerd as the largets and the oldest indigenous

NGO in Sri Lanka with linkages at a global

level. Therefore, the researcher believes that the

two institutions selected for this study would

suggest the requisite outcome of the research

issue. As depicted in the research design,

commercial banks capability in catering the

poor population and MFIs ability in successful

survival while catering the poor were measured

and compared with identified variables. The

study was based on primary and secondary data

gathered from these two institutions.

5.1.CONCEPTUAL FRAMEWORKAs indicated in section 1.2 of this report, the

researcher will focus on the commercial

microfinance model of downscaling, which

specifies that funding and infrastructure in

particular would provide a wide space for

commercial bank to operate successfully in the

microfinance field. Back by this theoretical

model, the researcher conceptualized a

framework which addresses the objectives and

the research issues of this study. Accordingly, it

was assumed that the commercial banks would

be at a great advantage in terms of their

organizational structure and the capacity to offera wide range products and services in

comparison to the conventional MFIs. Further,

the performances; both financial and non-

financial were also identified so as to compare

and identify the gap between these two

microfinance approaches.

Figure 01: The Conceptual framework

Organizational Structure

Products & Services

Performances

Commercial

Banks

MFIs

GAP


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As depicted in the Figure 01, the services offered

by GP and MFI and their performances are

measured and compared between each other. The

researcher idetifies indicators such as business

goals, regulatory environment and infrstructure

system of these instutions for evaluating the

organizational structure. Products and services

offered are measured through methodoloy by

which they offer the products and the variety of

products offered by these two institutions are

also identified and compared. Finally, the

performances will be measured and comapred

through main financial indicators (to measure the

sustainability); Operational Self-Sufficiency

(OSS) and Financial Self-Sufficieny (FSS), and a

non-financial indicator; the Outreach. The main

objective of this study is to identify the approach

in which commercial banks have recognized the

concept of microfinance and their approach in

catering the poor. The researcher intends to

compare their performances with an MFI so as tosee whether there is any gap between these two

approaches; commercial microfinance and

microfinance through MFIs.

6. KEY FINDINGS AND DISCUSSION6.1.ORGANIZATIONAL STRUCTURE6.1.1 BUSINESS GOALS

Hatton National Bank being an indigenous

financial institution in Sri Lanka has been

involved in rural development almost from the

inception of the Bank in year 1972. HNB, having

realized the importance of this social &

economic upheaval, has been initiated Gami

Pubuduwa (Village Awakening) programme in

May 1989 with a view of extending banks

assistance to the rural youth in exploring self

employment activities. The core objective of

Gami Pubuduwa (GP) programme includes

developing a sustainable programme which will

provide a new orientation to the village folks,

contributing to uplift their lifestyles (HNB

Annual Report 2008).

SEEDS main objective is to alleviate poverty by

promoting economic empowerment of ruralpeople for a sustainable livelihood (SEEDS Web

Site)

6.1.2. REGULATORY ENVIRONMENT

There is no separate microfinance regulation

currently exist in Sri Lanka though the proposed

Microfinance Act by the Central Bank is still at

the draft level. The GP programme operated by

the HNB is therefore governed by the Banking

Act No.30 of 1988 and the Monetary Law Act

No.58 of 1949 under the prudential regulations,

which belongs to the category of Licensed

Commercial Banks.

SEEDS on other hand is registered underCompanies Act No. 17 of 1982 (Amended No.07

of 2007) Limited by Guarantee. The Gami

Pubuduwa programme is integrated into HNBs

operations as an additional product line offered

by the bank. SEEDS is currently running under

seven separate divisions, where as microfinance

is major among them.

6.1.3. INFRASTRUCTURE AND SYSTEMS

The Gami Pubuduwa programme is integrated

into HNBs operations as an additional product

line offered by the bank. Therefore, GP does not

perform as a separate banking division, however,

it is a part of the Development Banking Unit,

established under the Personal Banking Division.

The bank today has 110 micro financing units

disbursing funds to micro entrepreneurs. They

currently possess 37 agricultural professionals

and 87 micro finance field officers. SEEDS

currently operates its businesses through

different divisions with 25 offices and 1032

personnel.

6.2. PRODUCTS AND SERVICESThe GP programme is mainly offering credit and

savings facilities to its clientele. As depicted in

Figure 02, the GP loan portfolio has an extensive

exposure to a wide spectrum of micro enterprises

consisting of agriculture, cultivation &

processing, fisheries & aquaculture, handicrafts,

pottery, and food preparation etc. The GP loans

are ranged from a minimum of LKR 5,000 to a

maximum of LKR 1,000,000 depending on the

requirements of the customers.

SEEDS offers a wider range products and

services from credit and savings to microinsurance and micro pawning facilities. It offers

four main types of microcredit products (Shown

in Figure 03); Type A loan scheme is focusing

on promoting income generating projects which

targets poorest among the poor members of the

community, Type B loan scheme is of two

categories; Non-Solar and Solar, both are

commercial loans which focus on enhancing


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quality of life of households. Type C loans are

given for creating new employment

opportunities by initiating and expanding viable

enterprises. The loan disbursement for Type A

and B loans are ranging from a minimum of

LKR 10,000 to a maximum of LKR 50,000,

where as Type C loan disbursement ranges from

LKR 50,000 to LKR 500,000. The lending

methodology of GP is different to SEEDS. GP

largely adopts individual based lending and

SEEDS on the other hand take on group lending

approach, comprising five members for each

group which ensures the repayment, as the group

is liable together.

Figure 02: Sector wise Distribution of Loans:

GP

Source: HNB PLC Annual Report 2008

Figure 03: Sector wise Distribution of Loans:

SEEDS

Source: SEEDS Web Site

6.3. PERFORMANCESTable 01: Measuring & comparing the

performances (Year end 2008)

Description GP SEEDS

Sustainability CRR

95%

NPA 5%

OSS

102.31%

LLR 1.89%

Outreach

Total Loan

Outstanding

LRK 2.2

Bn

LKR 3.8 Bn

Clientel 14,053 178,509

Average Loan Size

(A rox.)

LKR

158,000

LKR 21,000

Per Capita GNP LKR

213,262

LKR213,262

Depth of Outreach 74% 10%

Source: Mix Market Research Web Site, HNB Annual Report2008 & Reserachers Own Calculations.

6.3.1. SUSTAINABILITY

The GP programme at HNB does not separatelymeasure the Operational Self-Sufficiency and

Financial Self-Sufficiency for their decision

making purposes. Because, the branch offices

only maintain their financial information

separately and the cumulative income and

expenditure will be accounted at the head office

including all HNB operations. Therefore, the

researcher would see this as a major limitation of

this study. However, previous study which have

been done by USAID in 2005 for the HNB Gami

Pubuduwa programme identifies the OSS for the

year 2003 as 121%, which indicates that HNB

GP programme has been able to cover its

operational expenses while achievingsustainability. Further, GP programme has been

able to maintain a client repayment rate (CRR)

of 95% with a Non-Performing Assets (NPA)

rate of 5% (See Table 01). SEEDS has been able

to maintain a continuous sustainable operations

as indicated by OSS 102.31% and loan loss

(LLR) and write-off ratio of 1.89% in year 2008.


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6.3.2. OUTREACH

Outreach refers to the ability of the Microfinance

Institutions to reach large number of clients. The

depth of outreach indicates whether the MFI

provides microfinance services to clients

belonging to the lower income segment of the

country. The basic assumption is that smaller theloan size, the deeper the outreach, or the poorer

the client. Thus, loan size has been consistently

used as a proxy for the level of poverty. And

also lower the percentage of depth, deeper the

outreach of the institution.

The total outstanding loan portfolio as at the year

end 2008 of the GP programme is amounted to

LKR 2.2 Bn. Their clientele is 14,053 and a

gradual decrease in the number of borrowers has

been encountered as it moves from year 2006 to

2008, though the total portfolio has been grown

by around 9% in year 2008. As far as the depth

of outreach is concerned, the figure remains at

74% which is considerably high compared to the

microfinance norms. SEEDS on the other hand

is maintaining a considerably high loan portfolio,

which is LKR 3.8 Bn in year 2008. They are

maintaining a continuous growth in their

clientele though there is a slight drop in 2008.

They are maintaining a larger client base of

178,509 which is considerably very high as

compared to GP programme. Further, the depth

of outreach is also very low, it is 10%

approximately. Further, SEEDS average loan

balance is amounted at LKR 21,000, which is

very low as compared to the GPs average loanbalance LKR 158,000.

6.4.DISCUSSIONThrough the above analysis the researcher was

able to identify several gaps between GP at HNB

and SEEDS microfinance operations. As far as

the funding and required infrastrucre is

concerened, the GP which operates under a well

established commercial bank would enjoy a

greater benefits compared to MFIs such as

SEEDS. Because, most of the GP projects are

operated through HNB retained funds and

refinancing funds. As such they do not have

major difficulty in generating funds. One major

advantage would also be their strong deposit

base which amounts to approximately LKR 2Bn,

almost closer to their total loan portfolio.

Though the GP at HNB maintains a strong

repayment rate of 95%, their average loan size is

larger as compared to the SEEDS. Because, GP

programme maintains its sustainability by

concentrating on a few larger loans at the

deprivation of services to the entrepreneurial

poorer segments as happening in certain cases

where commercial banks collect small savings

from village areas and use these funds to grant

loans to better off customers in urban areas.

However, as indicated by the OSS, SEEDS is

also considered as sustainable, while catering to

the poor segment as compared to GP.

The most imperative objective of this study was

to identify whether the microfinance of

commercial bank system would pave the way for

the concept of reaching down the poor. When the

scale of lending in terms of loan portfolio is

increasing from small to large scale, the spread

of depth of service reduces. In other words, the

ability of the institution to reach large number of

clients is reducing. Microfinance has evolved as

an economic development approach intended tobenefit low-income groups. Therefore, when the

depth of service is reducing with large scale loan

outstandings, it ignores the theme of

microfinance reaching down to the poor. The

depth of outreach measured for GP and SEEDS

indicates a larger gap between these two

institutions in term of their outreach. The 74%

depth of GP indicates that their average loan size

is larger, with few clienteles. On the other hand,

SEEDS depth of 10% indicates that their average

loan balance is smaller with larger clientele. The

industry norm of depth indicates that larger the

depth, lower the outreach. Therefore, the GP

programme is however catering to the category

of entrepreneurial poor, as rightly indicated by

their depth of outreach. This gives a good

indication that SEEDS has reached to the poor

segment significantly as compared to GP

programme.

The present population in Sri Lanka is

approximately 20Mn, where 41.6% of them are

at poverty, earning below USD 2 per day and

5.6% are earning below USD 1 per day (Central

Bank Annual Report 2008). Further, based on

household income and expenditure survey

carried out in year 2006/2007, it has identifiedthat 15.2% of people are belonging to the

category of poor households. This situtaion is

very depressing and therefore, instituions like

GP, who seek to capture this segment should be

tamper with their outreach if their ultimate

objective is to contribute to eradicate poverty in

Sri Lanka.


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7. CONCLUSIONFinancial inclusion for poor would be a natural

sign of growth of rural development and it paves

the way for eradication of the poverty, specially

in a developing country like Sri Lanka.

Microcredit as a powerful tool in offering

financial loans to the poor has servedtremendously for their development over the past

years in Sri Lanka. As compared to SEEDS, GP

programme maintains its sustainability by

concentrating on a few larger loans at the

deprivation of services to the entrepreneurial

poorer segments. The reaching down the poor

concept ignores in this regard, while giving rise

to a trade-off between sustainability and

outreach. However, protection against prudential

regulations, physical infrastructure, better know-

how, greater access to funds, and enhanced

capacity, make commercial banks the most

qualified to meet the untapped demand of microentrepreneurs. Therefore, movement of

commercial banks into industry needs to be

proceeded by several interventions, specially

need to address the reaching down the poor

concept.

REFERENCES

Baydas, M., Graham, D. & Valenzuela, L.,

(1997). Commercial Banks in

Microfinance: New Actors in the

Microfinance World, USAID.

Bell R., Harper A., & Mandivenga D., (2002),

Can commercial banks do microfinance?

Lessons from the Commercial Bank of

Zimbabwe and the Co-operative Bank of

Kenya, Small Enterprise Development

Journal (SED), vol.13 (4).

Bharti A., Bhargava H., Bellur A., (2006),

Commercialization of Microfinance,

The Icfai University Press.

Central Bank (2008), Annual Report, Central

Bank of Sri Lanka.

Clerk H., (2005), Commercial Microfinance:The Right Choice for Everyone? The

Icfai University Press.

Country-Level Effectiveness and Accountability

Review (CLEAR) Sri Lanka 2009

Hatton National Bank PLC (2008), Annual

Report.

Microfinance Industry Report Sri Lanka

(2009), GTZ ProMis.

Mix Market Research, Retrieved February 2,

2010, from Web Site:

http://www.mixmarket.org

Segrado C., (2005), The Involvement of

Commercial Banks in Microfinance:

the Egyptian Experience, University

of Torino.

SEEDS, Retrieved February 2, 2010, from

Web Site: http://www.seeds.lk

USAID (2005), Case Study on Profitability

of Microfinance in Commercial

Banks.

Documents

Commercialisation of Microfinancei n Sri Lanka