VIABILITY

ASSESSMENT OF
MICROFINANCE
PROGRAMME
 BACKGROUND
In microfinance delivery system MFIs have to play
a role of intermediary financial institutions in
providing loans to individual and SHGs by creating
a loan fund, loan and grants from other agencies..
MFIs should mobilize savings of the clients, help
them in developing their credit records and
information system and built their capacity.
For operating a micro finance delivery programme
by an MFI it is necessary that its programme
should be financially viable, otherwise will not
sustain.
FINANCIAL VIABILITY OF MFI

By viability we mean the ability

of a micro finance programme
which is managed by an MFI as
an intermediary financial
institution to pay its costs and
generate a surplus that could be
recycled for lending to more
people.
VIABILITY OF AN MFI
The goal of a microfinance program is not to be
financially viable, but to work with beneficiaries
to create a certain desired impact.
Programs which achieve financial viability but
do not have a positive impact on their borrowers
are nothing more than efficient money lender.
Financial viability connotes the ability of an
organization to continue operating because
income exceeds expenses.
MFI that cannot pay their costs cannot continue
operating.
We have to list out the cost
involvement in microfinance
programme
TYPES OF COSTS INVOLVED IN MF Pgm. (ILO)

1. Loan acquisition cost including

investigation of project and processing of
loan application.
2. Loan supervision cost.

3. Record keeping costs.

4. Cost of money or interest paid by the MFI to

its sources of money (Loan, savings etc.)

5. Reserve for default, based on real experience.

6. Mark up a percentage of direct costs to build

reserves for future on lending or distribution
to members.
CATEGORIES OF COSTS INVOLVED

For our purpose, we may categories

the cost involved in three parts.

1 Costs of funds
.
2. Cost of credit
management
 ONE : COSTS OF FUNDS
Costs of funds is related to the rate of
interest paid on borrowings, savings etc. by
the MFI. ILO listed 7 sources of funds;

1. Member’s savings deposit with the society.

2. Member’s original share capital.
3. MFI’s accumulated surplus, which has not been
distributed to members.
4. Loans from Local Banks
5. Loans from Commercial Banks.
6. Loans or grants from Government including SIDBI,
NABARD, RMK etc.
7. Loans and grants received from donor agencies
including foreign sources
 COSTS OF FUNDS
For our purpose, these sources can
be as;
1. Own sources.
2. Grants from other agencies.
3. Loan from development financial
institutions.
4. Commercial borrowings from
Banks and other financial
institutions.
EXTERNAL AND INTERAL COSTINGS
Costs of funds should be maintained in two
reports i.e. i) External and ii) Internal.
External Report: when we calculate the costs of
funds for external reporting, one should not
show the own funds like savings. RBI does not
permit MFIs to give interest on security
deposits. We should not use the word
“SAVINGS” instead use SECURITY.
Internal Reporting : it should show costs of all
funds irrespective of own fund, savings etc. This
will give us the exact costs of funds.
CALCULATION OF FUND COSTS
To arrive at the real cost of funds, one
needs to calculate an average costs of
funds.
Since the quantum of borrowing from all
these sources will also vary along with the
rate of interest, weights are required to
assign to them proportion to their share
in the total funds.
The cost so calculated is called
WEIGHTED AVERAGE COSTS OF FUNDS
– WACF.
 WEIGHTED INTEREST – (External)
Sl. Source of Rate of Amount Weight of Weight x
funds interest / amount interest
annum
1. SIDBI 9.00% 5,00,000 50 450
2. NABARD 11.00% 1,00,000 10 110
3. State Bank 12.00% 1,00,000 10 120
of India
4. RMK 6.00% 1,00,000 10 60
5. Own fund 0% 2,00,000 20 0
Total 10,00,000 100 740
WACF = Total weighted interest / Total weight
The WACF would be = 740 / 100 = 7.40%
ADJUSTED WEIGHTED INTEREST – (Internal)
Sl. Source of Rate of Amount Weight of Weight x
funds interest /pa amount interest

1. SIDBI 9.00% 5,00,000 50 450

2. NABARD 11.00% 1,00,000 10 110
3. SBI 12.00% 1,00,000 10 120
4. RMK 6.00% 1,00,000 10 60
5. Own fund 20.00% 2,00,000 20 400
Total 10,00,000 100 1,140
AWACF = Total weighted interest / Total weight
The AWACF would be = 1,140 / 100 = 11.40%
There is no cash out flow by way of interest for own fund. It
results in more accurate assessment of viability.
WEIGHTED INTEREST

GROUP
EXERCISE
CRITERIA TO BE CONSIDERED - ILO
The interest charge or in the case of funds
already in possession of the MFI might had been
earned through an Alternative investment(loan
against deposits).
The degree to which the MFI’s loan scheme can
maintain its independence or must submit to the
control of the ultimate moneylender.
The ‘image’ of the source of funds in terms of
the degree to which members will feel obligated
to repay. It is likely that they will feel more
responsible to MFI’s or members own funds than
for funds provided from Banks and donor
agencies.
TWO : COST OF MANAGEMENT
There are some administrative and other
expenses, which incurred in managing a
microfinance program viz.
i) Salary and wages.
ii) Documentation.
Iii) Administrative expenses.
Iv) Training expenses.
V) Travelling expenses.
Vi) Printing & stationery.
Vii) Consultancy etc.
These expenses need to be specifically
identified for the lending activity.
THREE : COST OF DEFAULT

It is very rare to see a finance

program where all loans is fully paid.
One must assess the default rate
and try to minimize it in order to
increase the viability of the finance
program.
Default should not be confused
with delinquency.
 COST OF DEFAULT

GROUP EXERCISE
 DELINQUENCY
Delinquency : means
delayed payments.
In case of delinquency,
repayment covers, but
later than scheduled, and
so liquidity is affected.
 DEFAULT

In default case, there is no

repayment and program is
affected.
Default has a social cost in the
sense that this amount of funds
is not available for lending to
other needy members.
 ILO DEFINITION
International Labour Organisation
says ;
i) There is no clear dividing line.
A borrower can be in areas as long
as either he or the lender thinks
there is a chance his loan may repaid.
ii) Once there is an explicit or
implicit admission that the loan will
not be paid without definite action
of the lenders part , then the borrower
can be said to be in default.
 RATE OF DEFAULT
Actual rate of default vary from agency
to agency.
As a thumb rule, we can say that it
should not exceed 5% of the loans
disbursed.

Transformed MFIs suggest that for

managing a microfinance programme a
bad-debt reserve should be established
to cover expected loan loss.
 BAD DEBT RESERVE
The method is vary from agency to agency.
Some of the MFIs establish a “Risk Fund
Reserve” by charging 1% of the total loan
amount from the borrowers.
Some MFIs expense 0.25% of the current
portfolio at the end of each month and credit
this to the loan loss reserve.
Some MFI open the reserve with a one-time
deduction of 5% of the current portfolio to
establish the reserve with the consequent
reduction of total net worth.
Opinion of the participants?
BAD-DEBT RESERVE

GROUP
EXERCISE
 SETTING INTEREST RATE

While managing a microfinance program, it

should be kept in mind that all the three
costs;
i) Costs of funds.
ii) Cost of credit management.
iii) Cost of default

should met with the interest generated by the

MFI on the lending to borrowers.
 ILO’s 6 CHARECTERISTICS
i) Interest compensate the lenders for the
risks that his money may not be returned.
ii) Interest is an incentive to the lender or
depositor to make his money available for
others to use.
iii) Interest charges encourage borrowers to
repay on time so that others may use the
money they have borrowed.
iv) Interest charges must compensate the
lender for whatever else he might have
done with the money instead of lending it
to whoever has borrowed it.
ILO’s 6 CHARECTERISTICS
v) Interest is necessary to cover the
administrative costs involved in appraising,
supervising and collecting loans.
vi) Interest can be viewed as rent for the use of
money. Even if a house or field is returned
in exactly the same condition its owner
expects somebody who uses it to pay rent
for the period of occupation.

Thus, one can understand that income for a

microfinance program comes from the
interest received on its loans, and hence the
rate at which loans are disbursed is of great
importance in determining viability.
 THE FORMULA

Rate of lending > Cost of funds +

cost of credit
management
+ Cost of default.
SETTING INTEREST RATE

GROUP
EXERCISE
 PROFITABILITY PROJECTIONS FORMAT
PARTICULARS 08-09 09-10
A Total number of borrowers.
B Average amount of loan per borrower
C Total loan (cumulative) C = A x B
D Repayment received (cumulative)
E Net outstanding loan (Cumulative) E = C - D
F Total expected income including interest
G Cost of credit management
- Salaries and wages.
- Printing and stationery
- Etc.
H Cost of funds (interest payable)
I Cost of default
J Net surplus J = [E – (G + H + I)]
EXPECTED / CHARGEABLE
INCOME

GROUP
EXERCISE
EXPECTED / CHARGEABLE INCOME
i) Admission fee.
ii) Admission form sale.
iii) Loan form charges.
iv) Loan processing fees.
v) Penalty charges.
vi) Interest.
vii) Others?
LEVELS OF SELF-SUFFICIENCY

There are four levels of

self-sufficiency of a
microfinance program.
 1 : ONE

SHORT TERM OPERATIONAL SELF

SUFFICIENCY (STOSS)

= Total earned income / Cost of credit

management + cost of funds
> or = 100%

It means that at this stage the programme

should cover the cost of credit
management and the cost of fund.
 2 : TWO
Long Term Operational self-Sufficiency
(LTOSS)

= Total earned income / Cost of credit

management + costs of funds + cost of
default
> or = 100%
It means that at this stage the program
should cover the cost of credit
management, cost of fund and cost of
default.
 3 : THREE
Financial self-Sufficiency (FSS)

= Total earned income / Cost of credit

management + costs of funds + cost of
default + cost of devaluation
> or = 100%
It means that at this stage the program
should cover the cost of credit
management, cost of fund, cost of
default and cost of devaluation.
 4 : FOUR
Commercial self-Sufficiency (CSS)

= Total earned income / Cost of credit

management + Adjusted cost of funds +
costs of funds + cost of default + cost of
devaluation
> or = 100%
It means that at this stage the program
should cover the cost of credit management,
adjusted cost of funds, cost of fund, cost of
default and cost of devaluation.
CALCULATION / ILLISTRATION
In a microfinance program of an MFI, the
following costs have incurred during a financial
year.
i) WACF = 95,000
ii)AWACF = 1,10,000
iii)Cost of credit management = 2,10,000
iv)Cost of default = 70,000
v)Cost of devaluation = 15,000

Total earned income during the year = Rs.

4,00,000
SHORT TERM OPERATIOANAL SELF
SUSTAINABILITY - STOSS
STOSS
= 4,00,000 / 2,10,000 +95,000
= 4,00,000 / 3,05,000
= 1.31
= 131%
There was a profit of Rs. 95,000
 LONG TERM OPERATIOANAL SELF
SUSTAINABILITY - STOSS

LTOSS
= 4,00,000 / 2,10,000 +95,000 +
70,000
= 4,00,000 / 3,75,000
= 1.06
= 106%
There was a profit of Rs. 25,000
FINANCIAL SELF SUSTAINABILITY
FSS
= 4,00,000 / 2,10,000 +1,10,000 +
70,000 + 15,000
= 4,00,000 / 4,05,000
= 0.99
= 99%
There was a deficit of Rs. 10,000
(because of the own fund calculation
in AWACF)
THANK YOU