Microfinance Focus, August 26, 2011: The pre-eminence of Bangladesh in the microfinance world has been diluted by its MFIs’ relatively slow adaptation of microcredit products to serve the needs of clients more effectively, says the ‘Bangladesh Microfinance Review’ released by BRAC Development Institute (BDI) in Dhaka recently.

Its diversification from the predominance of credit to an increase of deposit services has been hesitant and the adoption of other financial services has been slow relative to markets such as Kenya and the Philippines in the case of payments and to South Africa and India in the case of microinsurance.

Prepared by Sanjay Sinha, M-CRIL, the report highlights that the active borrower numbers and portfolio have increased steadily over time at an average annual growth rate of 11.6% from 2005 to 2008 consisting of a spurt to 2007 (beginning in 2003) and a slowdown to 3.7% in 2008.  This was followed by a decline of 9.5% in the borrower accounts serviced by the largest 3 MFIs (L-3) in 2009.

The greatest fall in active borrower accounts is in the case of ASA with a drop of 32% between 2008 and 2009 on account of a rationalisation to establish the real number of unique clients. The other two large MFIs, Grameen and BRAC also reported minor changes in their client numbers.

The contribution of microfinance to financial inclusion is substantial. The $2.72 billion credit of the microfinance sector amounts to 7.33% of the $37.1 billion outstanding in the country’s financial system.

The report points out that the (almost) equally large Indian microfinance sector contributes just 0.64% to the Indian financial system.

Average loan balance has increased in real terms over the years from $71 per borrower account in 2005 to $115 in 2009 increasing steadily from 15% of GNI per capita in 2005 to 20% in 2009, thereby making a greater contribution to the economic lives of their clients than five years ago.

However, the savings balance per depositor has, until recently, been very low (less than 8% of GNI).  Over the past couple of years, however, this has grown fast largely on account of an increase in the deposits of Grameen Bank to $152 per depositor, whereas average deposits in the other sample MFIs have actually gone down from $44 in 2005 to $31 in 2009.

MFIs are diversifying through the provision of micro-insurance services, with 40% providing insurance cover for various purposes. A little more than half (55% )of the insurance policies had death cover, another 43% were loan insurance and the remaining 2% were for varied purposes such as livestock, health and accident cover.

MFIs provide employment to 242,000 people and, thereby, sustenance to over a million with a high staff productivity of 252 accounts per staff member for the L-3 while the other seven (O-7) have 131 borrower accounts per staff member.  This compares with the MIX Asia benchmark of 163 accounts per staff member.  The gross loan portfolio of the L-3 has increased steadily over the last five years while their staff numbers have gone down. BRAC staff productivity in particular has increased by over 60% over the past two years.

Cost per borrower is one of the lowest worldwide and operational efficiency is high. Bangladesh ($14) along with India and Nepal have among the lowest costs per borrower in comparison with the global MIX benchmarks of $139 and the Asian median of $51 in 2008 and $27 in 2009.  The average Operating Expense Ratio (OER) of the L-3 is around 11% and is comparable only to the average for MFIs in India and Nepal and much lower than the rest of the world.

The portfolio yield, has reduced from nearly 26% to just over 23% over the past few years while OER has been 11.5-13.5%.  The average yield of MFIs in Bangladesh is much lower than the Asian and Global MIX medians of 29.1% and 31.1% respectively and also in comparison with the Indian weighted average yield of the order of 27%.  Excluding Grameen Bank (19.6% yield in 2009) the consolidated yield for the leading MFIs increases to 25.1% but even that is well within the interest cap announced by the MRA.

The cap is 27% calculated on a declining balance basis with a minimum of 50 weekly instalments.  Since MFIs in Bangladesh have traditionally charged on a flat basis, this translates to an interest cap of nearly 14.5% flat – not 13.5% as is commonly assumed – with a couple of weekly rests in payment resulting from festival holidays; depending on when the 2 or 3 rests are taken.  The financial cost ratio reflects the cost of deposits (and borrowed funds in a few cases).  Without the relatively high interest paid by Grameen Bank on deposits, this reduces to under 7% for the leading MFIs.

But portfolio quality is not so impressive by international standards with a high and variable long term performance of Bangladesh MFIs around the 5-6% level. The higher PAR for O-7 in 2007 is mainly attributable to Cyclone Sidr and the major floods which affected the country during that year. The apparently lower PAR for the largest MFIs in 2007 is mainly attributable to the rescheduling and additional disbursements undertaken by them as a result of the disruption caused to their clients by the cyclone.

The Loan Loss Reserve (LLR) is a provision made from income in order to mitigate the effects of credit risk for MFIs.  The adequacy of the reserve must, therefore, be related to the level of risk in an MFI.  The largest MFIs have reserves that either exceed or nearly equal their portfolio at risk.  Generally, LLR at 75% of PAR is sufficient to cover all possible risks including both the risk posed by natural calamities and the risk of over-indebtedness resulting from multiple lending.

Member deposits and internal accruals play a huge role in the financing of MFIs. At their high level of maturity, the large MFIs in Bangladesh have substantial cumulative client (member) deposits and internal sources of financing for their credit activities. This is in complete contrast to MFIs in India, where there has been a substantial focus on debt financing and other countries such as those in Africa where donor funds still play a significant role in microfinance.

Member deposits have historically been accumulated in Bangladesh as a mandatory condition of a microfinance loan and, as a result, have reached nearly 47% of total funds.  In recent years, however, Grameen Bank has offered a voluntary deposit facility as well, thereby generating a substantial volume of funds.

The aggregate numbers (above) however hide important differences.  The segmentation of MFIs in 2009 on the basis of size shows that the L-3, particularly Grameen Bank, now rely more on deposits as funding sources whereas the O-7 raise their funds chiefly from external sources such as commercial banks and PKSF.

The largest Bangladesh MFIs use their assets in a relatively efficient manner compared to international norms. The net loan portfolio of O-7 is 73% of total funds, which is much higher than that of both Grameen Bank and BRAC, while ASA also has a high proportion of funds in portfolio. The main under-utilization is by Grameen that has just over 50% in portfolio with as much as 39% in cash (albeit partly because of the higher liquidity required for servicing its voluntary savings products).  Cash holdings of 16.5% and above, however, are high by international standards.

During 2005 and 2006, the MFIs in the sample were running very profitable microfinance operations.  However, there was a drastic reduction in return on assets (RoA) for the Top3 MFIs from an average of 6.3% to 2.4% in 2009.  As expected, a dip in returns occurs in 2007 for both L-3 and O-7.  While the profitability of the O-7 recovered to 2.3%, almost pre-calamity levels, the L-3 MFIs have not recovered their profitability to pre-2007 levels.

From the detailed breakdown of the cost and return structure by component it is clear that Grameen has a substantial portfolio deficit due to its high financing cost.  The two other MFIs in the L-3 as well as O-7 MFIs actually have surpluses in their 2009 microcredit portfolio operations but these are lower than their returns on assets indicating that investment income has a significant impact on profitability; an impact that is substantial in the case of Grameen Bank.

The efficiency and profitability of MFIs in Bangladesh suffered a setback in 2007 and 2008 due to Cyclone Sidr.  Subsequently the L-3 MFIs took prudent measures including high loan loss provisioning to cope with high portfolio risk.  So the profitability performance of the leading MFIs in Bangladesh appears to be reasonable, and so does the interest rate cap (27% on declining balances equivalent to 14.5% flat) now imposed on the microfinance sector; though its impact on the availability of microfinance services in less well served areas and its impact on loan size (relative to the needs of the poorer sections of the potential microfinance client group) remains to be seen.

In the context of current developments in the political economy of microfinance in Bangladesh and the government’s action against Prof Yunus, however, the future remains uncertain, the report concludes.