This study was carried out in Kenya (Kisumu CBD 2010)

1. MASENO UNIVERSITY
FACULTY OF ARTS AND SOCIAL SCIENCE
DEPARTMENT OF ECONOMICS AND BUSINESS STUDIES
MAR 2010
IMPACT OF MICROFINANCING ON PERFORMANCE OF SMALL AND
MEDIUM ENTERPRISES (SMES’) IN KISUMU CENTRAL BUSINESS
DISTRICT- A STUDY OF KISUMU LAKE MARKET BUSINESSES.
BY:
KENNEDY NYABWALA BA/3150/06
A RESEARCH PROJECT SUBMITTED IN PARTIAL FULFILMENT FOR THE
DEGREE OF BACHELOR OF BUSINESS ADMINISTRATION WITH
INFORMATION TECHNOLOGY
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2. TABLE OF CONTENTS
DEDICATION.................................................................................2
ACKNOWLEDGEMENT..............................................................3
CHAPTER FOUR.........................................................................25
DATA ANALYSIS AND PRESENTATION..............................25
4.1 INTRODUCTION.................................................................25
4.2 BUSINESS MANAGEMENT...............................................25
The study found out that the highest number of respondents
were in the line of electronics. This was attributed to the
technological advancement and the respondents life styles
and culture.................................................................................27
CHAPTER FIVE...........................................................................32
CONCLUSIONS AND RECOMMENDATION........................32
5.1 Summary of the Findings......................................................32
5.2 Conclusion .............................................................................32
5.3 Recommendations .................................................................33
5.4 Suggestions for further research..........................................33
DEDICATION
We dedicate this project to our family members who have always stood with us and to the
entire body of Department of Economics and Business Studies for the academic
inspiration.
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3. ACKNOWLEDGEMENT
We acknowledge our supervisor Mr. Nelson Obange who guided us throughout the
research period.
We also acknowledge the spirit and willingness in terms of cooperation of our esteemed
respondents to our research. Without your cooperation our research could not have been
successful.
Finally, we thank the Almighty God for the life and strength He has given unto us all
through. Amen
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4. LIST OF ABBREVIATIONS
ABBREVIATIONS
SMEs’ :Small and Medium size Entrepreneurs
MFI :Micro-financial Institution
SHG :Self Help Group
NGO :Non Governmental Organization
GB :Gremeen Bank
DCCB :District Central Co-op Bank
UCCS :Urban Credit Co-op Society
UCB :Urban Co-op Bank
HFI :Housing Finance Institution
RDB :Rural Development Bank
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5. DEFINITION OF KEY TERMS
Micro-financing
Micro-financing is the provision of financial services to low income clients who include
customers and self employed individuals that traditionally lack access to banking and
related services.
SME
The research considered a small enterprise to be that consisting of 10-50 employees, a
turnover of Kshs 0.5 million annually and an asset base of Kshs 100,000. A medium
enterprise was assumed to consist of less than 250 employees, a turnover of Ksh
5million annually and an asset base of Kshs 500,000.
MFI (micro finance institutions)
These are financial institution that offer credit facilities to individuals and businesses for
an agreed period of time.
CBD (central business district)
The CBD in kisumu is the main center of kisumu town where majority of business
activities take place.
SMEs’ performance
This is the measure of growth, profits and stability of the SMEs’ in relation to business
environment in which they operate.
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6. CHAPTER ONE
1.0 INTRODUCTION
This chapter provides the background to the study. It details the problem statement,
research objectives and questions and rationale for the study.
1.1 BACKGROUND OF THE STUDY
Micro-finance concept has operated for centuries in different parts of the world for
example, “Notable” in Indonesia, “cheetu” in Srilanka, “tontines” in Ghana West Africa
and “pasanaku” in Bolivia.
One of the earliest and longest serving micro-credit organization providing small loans
to rural poor dwellers with no collateral is the Irish loan Fund system initiated in the
early 1700”s by Jonathan swift. His idea began slowly in 1840s and became a
widespread institution of about 300 branches all over Ireland in less than one decade. The
principal purpose was to advance small loans based on some trust for short periods. The
Irish loan fund attracted about 20 percent of all Irish SMEs’ leading to growth of small
and medium enterprises every year.
In the 1800”s various types of longer and more formal savings and credit institutions
began to emerge in Europe organized primarily among the rural and urban people. These
institutions were known as people’s banks credit unions and savings and credit
cooperative. The credit unions and cooperatives were motivated by concern to assist the
rural population to break out of their dependence on money leaders and to improve their
welfare.
From 1870 the unions expanded rapidly over a large cooperative movement and quickly
spread to other countries in Europe and North America and eventually supported by the
cooperative movement in developed countries and donors and also to developing
countries. In the early 1900”s various adoptions of these models began to appear in parts
of rural Latin America. While the goal of such rural finance intentions was usually
defined in terms of modernizing the agricultural sector, they usually had two specific
objectives: first, Increase the commercialization of the rural sector and second, Increase
the investment through credit. It is against such background and the second objective that
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7. this study sought to investigate the impact of micro financing on performance of SMEs’
in Kisumu.
The micro finance industry in Kenya has experienced rapid growth over the years in an
attempt to meet the large demand from the estimated 38 percent of Kenyans lacking
access to financial services (www.kenyabureauofstatistics.com).The demand for micro-
finance service in Kenya is high yet the industry is only able to meet about 20 percent of
their demand because of lack of financial resources and the capacity to assess risk process
and monitor loans.
SMEs’ are dynamic entities where some grow into larger enterprises, some stabilize
without changing the scale of operation, while others disappear (Bhalla A.S, 1992).
Micro financial sectors in Kenya have rapidly expanded as a source of credit for small
scale businesses. An example in Kenya is Faulu Kenya which is one of the largest MFI
in Kenya. Initially Faulu Kenya focused on micro enterprise lending in Mathare slums of
Nairobi. However, over the last 17 years, as lending methodologies and systems were
improved, Faulu Kenya grew to become a company with 31 branches and a presence in
most districts of Kenya
The objective of this Institution is to support SMEs’ in Kenya as it transforms from a
credit only institution to a regulated deposit taking institution. This transformation is
characterized both by the development of a broader product offering as well as by the
formalization of the shareholding structure and regulatory framework the institution
adheres to. The addition of liability products will provides secure savings to SMEs’ as
well as more control over funding and asset liability management for them , this thus
improves the performance of SMEs’ by making them to expand their businesses from
saving and also acquiring huge loans.
1.2 STATEMENT OF THE PROBLEM
Small and medium enterprises (SMEs’) face challenges in obtaining funds from large
and formal financial institutions thus opt for loans from micro-financial institutions to
fund their business projects. This Research sought to explore the impact of micro
financing on performance of SMEs’ in Kisumu West district.
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8. 1.3 THIS STUDY SOUGHT TO ANSWER THE FOLLOWING QUESTIONS;
1) Have the existing SMEs’ been financed by the MFI’s?
2) Have the financed SMEs’ been able to repay their loans as per the terms and
conditions of the MFI’s?
3) Do financed SMEs’ realize growth on acquisition of loans from the MFI’s?
1.4 OBJECTIVES OF THE STUDY
1.4.1 General Objective
The general objective of this research was to determine the impact of microfinancing on
growth of SMES’ within Kisumu central business district.
1.4.2 Specific objectives
1) To establish whether the SMEs’ have been financed by Microfinance institutions.
2) To determine if the financed SMEs’ have managed to repay their loans according to
terms and conditions of the microfinance institutions .
3) To determine if the financed SMEs’ have realized business growth since acquisition
of credit from the microfinance institutions .
4) To formulate policy recommendations that would enhance micro financing for
positive performance of SMEs’.
1.5 SIGNIFICANCE OF THE STUDY
The study was geared towards the recognition of the importance of micro financing on
the growth of SMEs’. SMEs’ have benefited from microfinance institutions through the
provision of equity/capital for start ups, moreover, micro finance institutions also offer
Business support to the SMEs’ before start up by developing a business proposal of their
choice and helping them in developing a savings scheme.
Micro finance institutions can benefit from this study by determining how fast they can
provide funds and motivate the business owners towards spreading their ability in
funding the SMEs’ thereby justifying their essentiality.
When analyzed well this study broadens our level of thinking in sourcing equity/capital
through financial institutions and develop saving scheme skills for our businesses thereby
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9. broadening our scope and ability to fund our own businesses. It will thereafter raise our
living standard by enabling us develop business that may be of an increment to our
normal income.
Since the government is the backbone of the economy, microfinance institutions will
enable the government to establish the tax rates to levy on the SMEs’ thus generating
income which they can deploy to other sectors of the economy and check the economic
growth level e.g. by checking the lending rates of micro finance institutions. It is also
relevant to the government for the formulation of regulatory policies regarding MFIs’.
Besides, commercial banks also get motivated in considering funding of SMEs’ through
the collection of various statistics on their performance.
Also the awareness that is created on the challenges facing MFIs’ would help create a
good saving culture in Kenya thus leading to the creation of a strong capital base which
can be invested in profitable ventures creating employment opportunities and uplifting
the living standard of SMEs’.
1.6 SCOPE AND LIMITATIONS OF THE STUDY
This research study targeted SMEs’ in CBD of Kisumu town .The scope of the study
was to research on the impact of micro financing on performance of SMEs’ for the past
5 years.
Limitations of the study
Due to lack of time and access to resources e.g. bus fare to cater for the transport around
Kisumu west district, access to information in Kisumu west district concerning the
impact of micro finance on performance of SMEs’ proved difficult. To curb this
limitation we got the information relevant to our study from the Kenya national bureau
of statistics (KNBS) thus easening our work. It was also difficult to access information
from the MFI’s thus we managed to get detailed information through questionnaires to
the SMEs’. We also experienced hostile weather condition and this made us to carry out
our survey in the morning hours and in the evening.
CHAPTER TWO
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10. LITERATURE REVIEW
2. 1 Introduction
This chapter discusses literature related to micro financing and SMEs’ growth. It focuses
on two substantive literature aspects. First, theoretical reviews of the conceptual theories
so far advanced in the field of microfinance and SMEs’ and second, the empirical review
for evidences about micro financing and SMEs’ performance in various parts of the
world.
2.2 Theoretical Review
2.2.1 Micro credit theory
The psychological component of the micro credit theory - known as social
consciousness-Driven capitalism - has been advanced by the most ardent promoter of
micro finance, Muhammad Yunus (1998). His theory argues that a species of profit-
making private venture that cares about the welfare of its customers can be conceived. In
other words, it is possible to develop capitalist enterprises that maximize private profits
subject to the fair interests of their customers. (Journal of political and military
sociology, summer by Elahi, Khandakar Q, Danopoulos, Constantine P- 2004
edition)
The rationale of the theory is straightforward. Although altruism is not totally absent,
Capitalism is founded mainly on the premise that human beings are selfish by nature.
Accordingly, individuals interested in businesses are naturally motivated by the principle
of profit-maximization, with little consideration for the interests of their clients. This
premise is too limited to be a general model for capitalism, however, because it excludes
individuals who are concerned about the welfare of their fellow human beings. A more
generalized principle would assume that an entrepreneur maximizes a bundle consisting
of financial return or profit and social return. This assumption creates three groups of
entrepreneurs (Elahi, 2002). The first group consists of traditional capitalists who mainly
maximize financial returns or profits. The second group consists of philanthropic
organizations (like traditional micro credit NGOs) and public credit agencies that mainly
maximize social returns. The third group consists of entrepreneurs who combine both
rates in making their investment decisions under the additional constraint that financial
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11. return cannot be negative. This group includes the microfinance enterprisers who are to
be treated as socially concerned people, and microfinance, which is to be treated as a
social consciousness-driven capitalistic enterprise. Microfinance theoreticians have
advanced two theories regarding their aims-an economic and a psychological. The
economic theory treats microfinance institutions (MFIs) as infant industries, while the
psychological theory differentiates microfinance entrepreneurs from traditional money
lenders by portraying them as "social consciousness driven people." According to
Remenyi (2000:65), the gist of the economic argument is that success in any business
venture, including MFIs, is determined by the entrepreneurs' ability to deliver appropriate
services and profitably. However, studies conducted in different parts of the TW show
that there are no successful MFIs by this definition. At best, some MFIs cover their
operating costs while some of the better known among them are able to cover in part the
subsidized cost of capital employed. This situation suggests that the MFIs will not
become financially viable in the long run. One solution to this problem is to treat MFIs as
infant industries, so that micro-lending businesses can be subsidized during their initial
stages of operation. This subsidization would be beneficial to both the economy and
society because this will help micro lenders realize economies of scale and the
productivity fillip that comes with profitability. The logic goes as follows: Over time, as
clients of MFIs, micro entrepreneurs will establish their economic contracts with banks,
retailers, government employees, and suppliers of production inputs, which will improve
their skills dealing with money management, contractual obligations, and resource
management. These skills should reduce the cost of transaction, disseminate information,
and increase the micro entrepreneurs' ability to assess effectively available information to
make sound business decisions. In this respect, society benefits from what is, in effect, a
productive process leading to the creation of public goods as spin-offs from the growth of
microfinance. To the extent that these public goods have value, they are a legitimate basis
on which to provide subsidies to MFIs while the transition to widespread outreach to poor
households is ongoing (Remenyi, 2000: 46).The Wealth of Nation says little about the
psychological aspect of the theory. Smith articulates the psychological components in his
other book, The Theory of Moral Sentiments. Published seventeen years before his
Wealth of Nations, this book deals with moral theory. Smith advances the maxim that
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12. human self-interest acts as a prime mover of the capitalist development. Moral
Sentiments is an inquiry into moral psychology, for which the main concern is the nature
of moral judgment (Raphael, 1985; Sprague, 1967).
Smith finds the original source of moral judgment in the conception of sympathy, which
he makes sufficiently clear in the first paragraph of the book: How selfish so ever, man
may be supposed, there are evidently some principles in his nature, which interest him in
the fortune of others, and render their happiness necessary to him, though he derives
nothing from it except the pleasure of seeing it. Of this kind is pity or compassion, the
emotion, which we feel for the misery of others, when we either see it, or are made to
conceive it in a very lively manner. That we often derive sorrow from the sorrow of
others is a matter of fact too obvious to require any instances to prove it; for this
sentiment, like all other original passions of human nature, is by no means confined to be
virtuous and humane, though they perhaps may feel it with the most exquisite sensibility.
The greatest ruffian, the most hardened violators of the laws of society, is not all together
without it. (Smith, 1976:9)
This opening paragraph is both an attack on the ethical theories of Thomas Hobbes and
Bernard Mandeville and an indication of the central idea of his work on moral philosophy
(Weinstein, 2001). In The Leviathan, Hobbes, a die-heart materialist in his methods of
philosophical investigation, paints a very negative picture of human nature. His
materialistic conception of human nature may be understood from his interpretation of
human life. He sees human life simply as motion of limbs. The human heart is simply a
spring; nerves are nothing but a complex system of strings; and joints are just wheels
which give motion to the whole body (Hobbes, 1960). In other words, Hobbes conceives
human beings as nothing more than living machines.
National development is the fundamental objective of trade policy. Accordingly,
international trade theory and policy are basically founded on a normative criterion that
seeks to improve the economic health of society. Trade policies either facilitate or impede
the flows of voluntary exchanges of goods and services between nations undertaken by
private nationals. The generic term, free trade policy, is used to describe government
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13. measures that facilitate these exchanges. Government measures aiming to do the opposite
go by the generic term "protectionism". It follows that discourses in international trade
theory and policy revolve around two thematic ideas-free trade and protectionism-both of
which seek the same objective, national development.
Historically, protectionism is regarded as a conservative economic idea that precedes the
liberal economic idea of free trade. Protectionism is often traced to the 16th century,
while the history of free trade definitely begins in the 18th century (Ellsworth, 1950). The
original protectionist argument is mercantilism, while the French Physiocrats are the
original authors of free trade that received its fuller exposition in the able hands of Adam
Smith. The infant-industry argument was developed later to accommodate mercantilist
sentiments within the framework of Smith's liberal economic theory. Since the infant-
industry argument has been invoked to justify the establishment of the microfinance
industry in the TW, the following brief discussion of the theory of mercantilism is in
order.
Mercantilism is associated with five leading features (Alien, 1987; Blaug, 1978). First,
bullion and treasure are the essence of wealth of nations. Second, foreign trade should be
regulated to produce an inflow of specie. Third, domestic industries are to be promoted
by inducing cheap raw-material imports. Fourth, the importation of manufactured goods
is to be discouraged through custom duties, while the exportation of domestic
manufactured goods is to be encouraged by exempting them from such duties. Finally,
population growth is to be encouraged to keep wages low. These features suggest that the
core doctrine of this trade theory is the favorable balance of trade as desirable and
essential for national prosperity. This theory, however, clearly involves a dual policy
regime of taking advantages from trading partners. This is the reason mercantilism is
popularly described in economic literature as the "beggar thy neighbors" policy.
Mercantilism is without a doubt a very unfair trade policy regime; it might, and it did,
trigger trade wars. In addition to its negative political implications, the theory is
economically unsound as a policy for national development. Adam Smith was the first to
expose this weakness. He argued that "mercantilism is nothing but a tissue of
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14. protectionist fallacies foisted upon a venal Parliament by our merchant and
manufacturers, grounded upon the popular notion that wealth consists in money. Like an
individual, a country must spend less than its income if its wealth is to increase. What
tangible form does this surplus over consumption take? The mercantilist authors
identified it with the acquisition of hard money or treasure. Money was falsely equated
with capital and the favorable balance of trade with the annual balance of income over
consumption” (Blaug, 1978: 10-11).
The publication of The Wealth of Nations was a severe blow to the mercantilist idea of
improving national economic welfare through protection. Yet, this idea soon reappeared
under different designations, the most influential of which is the infant-industry
argument. Modern writers (Chacholides, 1978; Ellswoth, 1950) credit John Stuart Mill
with the clearest articulation of this influential protectionist trade policy argument, which
can be summarized as follows: "temporary" protective duties may be justified in cases
where foreign suppliers' comparative advantages lie mainly in starting the production of
these items sooner. This suggests that the present superiority is due to acquired skill and
experience. Under certain conditions, a protecting duty might be the least inconvenient
method for national development. However, Mill warns very emphatically about the use
and abuse of his theory. He states that "it is essential that the protection should be
confined to cases in which there is good ground of assurance that the industry which it
fosters will after a time be able to dispense with it; nor should the domestic producer ever
be allowed to expect that it will be continued even beyond the time necessary for a fair
trial of what they are capable of accomplishing" (Mill, 1961: 922).
In Kenya like in many other countries, approaches to the regulation of MFI are
complicated by the fact many institutions are involved in providing MF services under
different legal structures. The present a challenge in identifying an appropriate regulating
approach, which is conducive to the development of the sector while providing adequate
facility to the MFI activities. The tiered approach recommended for Kenya recognizes the
inappropriateness of the existing banking legalization for the regulation of specialized
activities of MFI and the diversity of the institutions engaged in the less regulated sector.
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15. However MFI operating as banking institutions, SACCOs and Kenya Post Office Saving
Bank are already regulated by the act of parliament that specifies their different
supervisory authority
2.2.2 Realities of microfinance
Apart from subsidies the poor need access to credit. Absence of formal employment
make them non `bankable'. This forces them to borrow from local money lenders at
exorbitant interest rates. Many innovative institutional mechanisms have been developed
across the world to enhance credit to poor even in the absence of formal mortgage. The
present paper discusses conceptual framework of a microfinance institutions in India,
Bangladesh and Indonesia.
2.3 Empirical Reviews
2.3.1 Formal banking in India
Traditionally, the formal sector Banking Institutions in India have been serving only the
needs of the commercial sector and providing loans for middle and upper income groups.
Similarly, for housing, the HFI’s have generally not evolved a lending product to serve
the needs of the Very LIG primarily because of the perceived risks of lending to this
sector. The following risks are generally perceived by the formal sector financial
institutions: Credit Risk, High transaction and service cost, Absence of land tenure for
financing housing, irregular flow of income due to seasonality, Lack of tangible proof for
assessment of income and Unacceptable collaterals such as crops, utensils and jewellery
As far as the formal financial institutions are concerned, there are Commercial Banks,
Housing Finance Institutions (HFIs), NABARD, Rural Development Banks (RDBs),
Land Development Banks and Co-operative Banks (CBs).
As regards the Co-operative Structures, the Urban Co-op Banks (UCB) or Urban Credit
Co-op Societies (UCCS) are the two primary co-operative financial institutions operating
in the urban areas. There are about 1400 UCBs with over 3400 branches in India having
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16. 14 million members, their total lending outstanding in 1990-91 has been reported at over
Rs 80 billion with deposits worth Rs 101 billion.
Similarly there exist about 32000 credit co-op societies with over 15 million members
with their total outstanding lending in 1990-91 being Rs 20 billion with deposits of Rs 12
billion. Few of the UCCS also have external borrowings from the District Central Co-op
Banks (DCCBs) at 18-19%. The loans given by the UCBs or the UCCS are for short term
and unsecured except for few which are secured by personal guarantees. The most
effective security being the group or the peer pressure.
The Government has taken several initiatives to strengthen the institutional rural credit
system. The rural branch network of commercial banks have been expanded and certain
policy prescriptions imposed in order to ensure greater flow of credit to agriculture and
other preferred sectors. The commercial banks are required to ensure that 40% of total
credit is provided to the priority sectors out of which 18% in the form of direct finance to
agriculture and 25% to priority sector in favour of weaker sections besides maintaining a
credit deposit ratio of 60% in rural and semi-urban branches. Further the IRDP
introduced in 1979 ensures supply of credit and subsidies to weaker section beneficiaries.
Although these measures have helped in widening the access of rural households to
institutional credit, vast majority of the poor rural have still not been covered. Also, such
lending done under the poverty alleviation schemes suffered high repayment defaults and
left little sustainable impact on the economic condition of the beneficiaries.
2.3.2 The Grameen Bank in Bangladesh
The concept is the brainchild of Dr Muhammad Yunus of Chittagong University who felt
concern at the pittance earned by landless women after a long arduous day's work
laboring for other people. He reasoned that if these women could work for themselves
instead of working for others they could retain much of the surplus generated by their
labor, currently enjoyed by others.
Established in 1976, the Grameen Bank (GB) has over 1000 branches (a branch covers
25-30 villages, around 240 groups and 1200 borrowers) in every province of Bangladesh,
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17. borrowing groups in 28,000 villages with over 90% being women. It has an annual
growth rate of 20% in terms of its borrowers. The most important feature is the recovery
rate of loans, which is as high as 98%. A still more interesting feature is the ingenious
manner of advancing credit without any "collateral security".
The Grameen Bank lending system is simple but effective. To obtain loans, potential
borrowers must form a group of five, gather once a week for loan repayment meetings,
and to start with, learn the bond rules and "16 Decisions" which they chant at the start of
their weekly session. These decisions incorporate a code of conduct that members are
encouraged to follow in their daily life e.g. production of fruits and vegetables in kitchen
gardens, investment for improvement of housing and education for children, use of
latrines and safe drinking water for better health, rejection of dowry in marriages etc.
Physical training and parades are held at weekly meetings for both men and women and
the "16 Decisions" are chanted as slogans. Though according to the Grameen Bank
management, observance of these decisions is not mandatory, in actual practice it has
become a requirement for receiving a loan.
Numbers of groups in the same village are federated into a Centre. The organization of
members in groups and centers serves a number of purposes. It gives individuals a
measure of personal security and confidence to take risks and launch new initiatives.
The formation of the groups - the key unit in the credit programmes - is the first
necessary step to receive credit. Loans are initially made to two individuals in the group,
who are then under pressure from the rest of the members to repay in good time. If the
borrowers default, the other members of the group may forfeit their chance of a loan. The
loan repayment is in weekly installments spread over a year and simple interest of 20% is
charged once at the year end.
The groups perform as an institution to ensure mutual accountability. The individual
borrowing member is kept in line by considerable pressure from other group members.
Credibility of the entire group and future benefits in terms of new loans are in jeopardy if
any one of the group members defaults on repayment.
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18. There have been occasions when the group has decided to fine or expel a member who
has failed to attend weekly meetings or willfully defaulted on repayment of a loan. The
members are free to leave the group before the loan is fully repaid; however, the
responsibility to pay the balance falls on the remaining group members. In the event of
default by the entire group, the responsibility for repayment falls on the centre.
The Grameen Bank has provided an inbuilt incentive for prompt and timely repayment by
the borrower i.e. gradual increase in the borrowing eligibility of subsequent loans.
2.3.3 Linking Banks with Self-Help Groups: A Pilot Project from Indonesia.
In Indonesia, financial liberalization since 1988, disenchantment with traditional
subsidized credit programs and an openness to innovative approaches led the Central
Bank to support a pilot project in which 13 participating banks, with the assistance of 12
NGOs, have lent to about 420 self-help groups (SHGs) in the first phase, to be on Lent to
their members.
Some of the principles underlying the project and the guidelines that were issued to the
implementing groups are listed below:
• The SHGs are to use part of their funds (almost 60%) for lending to their
members and the rest for depositing in a bank to serve as the basis for refinancing
from the bank.
• Savings are to come first: no credit will be granted by the SHG without savings
by the individual members of the SHG. These savings are to serve as partial
collateral for their loans.
• The joint and several liabilities of the members are to serve as a substitute for
physical collateral for that part of loans to members in excess of their savings
deposits.
• Credit decisions for on lending to members are to be taken by the group
collectively.
• Central Bank refinance is to be at an interest rate equal to the interest rate at
which the savings are mobilized.
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19. • All the intermediaries (the Central Bank, banks, NGOs and SHGs) will charge an
interest margin to cover their costs.
• Interest rates on savings and credit for members are to be market rates to be
determined locally by the participating institutions.
• Instead of penalties for arrears, the banks may impose an extra incentive charge to
be refunded in the case of timely repayments.
• The ratio of credit to savings will be contingent upon the creditworthiness of the
group and the viability of the projects to be implemented, and is to increase over
time with repayment performance.
• SHGs may levy an extra charge on the interest rate for internal fund generation
(which would be self-imposed forced savings).
Within the first ten months of the implementation period, by March 1990, 7 private banks
and 11 branches of government banks had made 229 group loans to SHGs, which had
retailed them to about 3500 members. Loans totaling about $0.4 million had been
disbursed, on an average of about $2000 per group and $118 per member. SHG savings
deposits with the bank amounted to about $400 per group, giving a credit to savings ratio
of about 5. NGOs have received loans from the banks at 22 to 24 per cent which is only
slightly higher than the refinancing rate of large to small banks. Rates to end users have
been between 30 to 44 per cent after the NGOs and SHGs have added their margins to
cover costs and build funds to cover joint and several liability. Only one of the
participating banks had sought a guarantee under the scheme from the Central Bank.
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20. 2.4 CONCEPTUAL FRAMEWORK
Figure 1
MFI
 loans
 Repayment
period.
 Capital
 Security
ENVIRONMENT
Micro-loan  Political Advisory
 Economic services
 Social economic
 Legal
SMALL SCALE
BUSINESS
 sales
 business expansion
 profits
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21. In developing this proposal, we came up with the above conceptual framework which
shows the environment in which the SME’s and micro financial institutions are set up.
The credibility of the SME’s can be determined by their sales volumes, profits realized
and their expansion. Achievement of these factors depicts a favorable performance.
In advancing the loans to SME’s, the micro finance institutions require securities for the
business like title deed, Business registration certificates, certificate of life insurance
policy etc.
In return, the microfinance institutions will offer advisory services to business such as
viable projects to invest in. From funds acquired by SME’s they may opt to expand the
business or to invest in new line of business. This will result into higher sales to increase
in demand and expansion from the economies of scale. This will results into increased
profits resulting to higher level of performance of the business and hence contribute to
the economic development.
In the set up between MFIs’ and SMEs’ there exists a number of factors that arise from
the operating environment. The components of the operating environment include
Political, legal, economic and social factors. These factors may favour or hinder the
performance of the SMEs’

22. CHAPTER THREE
RESEARCH METHODOLOGY
3.1 INTRODUCTION
This chapter presents a detailed descriptions of the methodology used in the study. It includes
research design, description of the study area, target population, sample population, sampling
procedure, data collection methods and data analysis methods.
3.2 RESEARCH DESIGN
The research was carried out in form of a cross section survey of SMEs’ that have accessed loans
from microfinance institutions.
3.3 RESEARCH AREA
The research was conducted in the central business district kisumu town, the CBD covers an area
of about 300 sq meters the research focused on SMEs’ at lake market within the CBD.
3.4 TARGET POPULATION
The target area of this research was small and medium enterprises in kisumu CBD Lake market
that receive credit from the microfinance institutions. Lake market has about 110 SMES’ and the
target population of the research are 80 SMEs’ consisting of 20, 40 and 20 salons, Electronics
and hotels respectively. The research targeted 80 SMEs’ who have actively been in their areas of
business for the last 5 years.
3.5 SAMPLE AND SAMPLING TECHNIQUES

23. For convenience, the target population was clustered into groups of similar SMES’, i.e. salons,
electronics and hotel enterprises; this is because of limited time and resources.
The table below shows the target population and the sample size .for each target population the
research focused on the SME who have managed to get a loan from the MFI this year.
Table
SME (members of population) Population Sample size
Salons 20 10
Electronics 40 15
Hotels(food joints) 20 8
Totals 80 33
x
Chart view
40
35
30
25
salon
20
electronics
15
hotels
10
5
0
population sample size

24. There are a total of 80 SMES’ targeted, and the survey aims at investigating 33 of these.
3.6 DATA COLLECTION TECHNIQUES
3.6.1 QUESTIONAIRE AND INTERVIEW SCHEDULE TOOLS
The researchers used the questionnaire and the schedule in form of questions in a set form to
draw information from respondents. The questionnaire was self administered while the schedule
was administered by trained interviewers to the respondents.
3.6.2 INTERVIEW METHOD
The researcher used interviews to obtain required information orally or face to face. It was easy
to apply since it would only require a notepad, a sound tape recorder and the part of researchers
the skill to hold a conversation. The researcher applied individual interview by meeting face to
face with the respondents. Also group interview may be used, in particular the focused group
interview that involved all stakeholders.
3.6.3 OBSERVATION METHODS
This involved the researchers to draw direct evidence of the eye by witnessing events first hand.
Information was sought by way of direct observation without asking the respondents.
3.6.4 DOCUMENTARY REVIEWS
The researcher used data from records, reports, printed forms, letters, autobiography, diaries,
compositions, periodicals, bulletins, court decisions, and academic works such as books and
journals and other reliable sources.
3.7 DATA ANALYSIS AND PRESENTATION
Both descriptive and inferential methods were used this included; measures of central tendency
(mean, median, mode), measures of dispersion (range, variance, standard deviation,), measures
of relative position and measures of relations and associations, correlation and regression.

25. Data analyzed is presented in form of graphs, charts and tables, a PowerPoint presentation will
be designed for final presentation.
CHAPTER FOUR
DATA ANALYSIS AND PRESENTATION
4.1 INTRODUCTION
This chapter presents the findings of the study and the analysis of the data collected from
questionnaire which was distributed to the small and medium entrepreneurs. The
questionnaire was distributed to 33 SMEs’ out of which all were fully completed with few
difficulties experienced here and there and collected by the researcher for data analysis. This
gives a response rate of 95%.
4.2 BUSINESS MANAGEMENT
Figure 4. 1: Respondents relation to the Business
The respondents were asked to state their relation with the business in existence. It was found
that 33 per cent of the respondents were employees while 67 per cent were owner of the
business. This is presented in the figure below.
Category f (frequency) % (percentage)
Employee 11 33
Owner 22 67
Total 33 100
70
60
50
40
30 Employee
20 owner
10
0
f (frequency) %
(percentage)

26. From the graphical representation above, the higher number of owner respondents vis-a-vis the
employees respondents can be attributed to the fact that owners prefer to run the businesses
themselves.
Figure 4. 2: Business Formation
The study also found out that 33 per cent of the respondent’s are partnerships while 50 per cent
are sole proprietorship. Only 17 per cent of the respondent’s are in form of joint venture. This is
presented in the figure below.
Type of business f.(%) Hotels f (%) Electronic f (%) Salons f (%)
Joint venture 7. (17) 0.(0) 0.(0) 0.(0)
Sole proprietorship 17. (50) 30. (91) 32. (97) 28. (85)
Partnership 9. (33) 3.(9) 1.(3) 5.(15)
Total 33 (100%) 33.(100) 33. (100) 33.(100)
7
6
5
4
sole proprietorship,
3
6
2 partnership, 4
1 joint venture, 2
0
joint venture sole proprietorship partnership
The study found out that respondents preferred sole proprietorship because the legal
requirements and fast decision making.

27. Figure 4. 3: Line of business of the respondents
The researcher also sought to know the line of operation of the business. From the analysis, it
was found that 37% of the respondents’ dealt with electronic kind of business, 36% indulged in
hair dressing whereas 27% operated hotel businesses. The analysis of the line of business of
respondent’s can be observed from the figure below.
9%
36% 55%
electronic hair dressing hotel
The study found out that the highest number of respondents were in the line of electronics. This
was attributed to the technological advancement and the respondents life styles and culture
Table 4. 1: source of capital
The researcher sought to find out the source of capital for their business before the start or
operation of the business. Statistically in the perception of the respondent’s, 75%, said that the
business obtained its capital from micro-financial institutions while 25% from other financial
institutions that were stated. The results are shown in the table below.

28. Response Frequency Percent (%)
Micro-financial institution 20 75%
Other financial institution 13 25%
Total 33 100%
The study found out many people preferred seeking loans from MFIs’ as opposed to other
financial institutions because of the red tape involved in acquiring loans from other financial
institutions.
Table 4. 2: Loan repayment period as per the conditions of MFI’s
Loan Repayment Period Frequency Percent (%)
2 – 5 years 8 25%
6 months – 1 year 13 62.5%
Above 5 years 4 12.5%
Total 25 100%
Table 4. 3: challenges as loan beneficiaries
The researcher also sought to investigate whether the respondents have ever benefited from the
services of micro-financial institutions and those who had obtained their capital from MFI had
some reasons, major ones being the offer of cheap loans and financial services advices.
As to what measures would you like the MFI’s to implement so that loans repayment can be
favorable to all SMEs’’, the study found out from the respondents’ opinions that MFI’s should a
little flexible towards the members who do not meet the MFI’s deadline of loan repayment and
this they should do by lengthening their repayment periods. It was also proposed that they should
also adjust their loan interest charges, relaxing their security requirements and offer proper
training to the illiterate citizens to be acquainted with their terms and conditions.
25 respondents’ who said that they have benefited from the services of the micro-financial
institutions as to obtaining loans claimed to have experienced a favorably shorter loan repayment
period as per the conditions of the MFI’s. This is illustrated in the table below whereby, 25%
were subjected to 2-5 years, and 62.5% were subjected to 6 months-1 year, while 12.5% were
subjected to 5 years and above.

29. Response
Frequency Percent (%)
Yes 20 83.3%
No 5 16.7%
Total 25 100%
As evident from the table above, 83.3% of the respondents claimed that although they have
benefited from MFI’s, they also faced some challenges as loan beneficiaries, majority with the
reason being long periods of waiting for the loan processing, while the remaining 16.7% were of
the suggestion of having experienced no challenges as loan beneficiaries.
Table 4. 4: Rate of performance of the business
Answer
Frequency Percent (%)
High 3 10%
Moderate 28 85%
Low 2 5%
Total 33 100%
The findings presented in the table above are based on the question, “rate the performance of
your business operation?” 85% of the respondents’ answered average, 10% answered high, while
5% answered that their business performance was yet to regain its stands after facing stiff
competition thus rated their performance to be low.
Table 4. 5: Impact of political environment on the company
As evident from the table below, 66.6% of the respondents’ said to be making savings in their
business operation through realization of profits when extracting their business balance sheets
and profit and loss account, while the remaining 33.7% are yet to realize profits thus no savings
since they are fresh in the business field.
Response
Frequency Percent (%)
Yes 25 66.6
No 8 33.7

30. Total 33 100.0
Table 4. 6: Other Business outlets
58.3% of the interviewed clients claimed to be having an external business outlet apart from
their business thus attaining business diversity and expansion through the realized savings, while
the remaining 41.7% had no any business outlet apart from the one in existence. This was
attributed to additional finances they get from the MFIs’.This is presented in the table below.
Response
Frequency Percent (%)
Yes 15 58.3%
No 18 41.7%
Total 12 100%
Table 4. 7:
The findings on the table below are based on the question, “How do you rate the loan services
from the MFI’s?” 8% of the respondents answered excellent, 25% of the respondents answered
very good, 55% of the respondents’ answered good while 12% answered poor. All these were
based on the terms and conditions laid upon before accessing loan by the MFI’s.
Response
Frequency Percent (%)
Excellent 5 8
Very good 10 25
Good 14 55
Poor 4 12
Total 33 100%

31. Table 4.9: Perception on the type of strategy adopted by the company
The findings below are based on the question, “What would you wish the MFI’s to do so as to
improve your business performance?” 45.5%of the respondents’ opted for MFI’s in offering
training, while 54.5%of the respondents’ opted for MFI’s in increasing their lending rate.
Response
Frequency Percent (%)
Increase lending rate 18 54.5%
Offer training 15 45.5%
Total 33 100.0%

32. CHAPTER FIVE
CONCLUSIONS AND RECOMMENDATION
5.1 Summary of the Findings
This study was designed with three main objectives. One, to establish whether the SMEs’ have
been financed by MFI’s, two, to determine if the financed SMEs’ have managed to repay their
loans according to the terms and conditions of MFI’s and three to determine if the financed
SMEs’ have realized business growth since acquisition of credit from MFI. The general objective
formulated was to find out the impact of MFI’s on the performance of SMEs’.
From the study, the researcher found out that most SMEs’ financed by the MFIs’ are for
individuals who are experiencing financial difficulty in getting capital to run their business and
its also notable that SMEs’ that repay their loans according to terms and conditions of the MFIs’
are likely to be favored next time they want access to loans from the MFIs’.
Most SMEs’ are not comfortable with the terms and conditions that have been put in place by the
MFIs’ to access loans, this is because they find it difficult to have security for the loans and also
the ability to repay the loans before their businesses experience growth, the owners of the SMEs’
are therefore proposing that loans be repaid according to the line of business and also the
operating environment this is because some SMEs’ experience a high growth rate than others.
From this research it has also been established that the owners of the SMEs’ prefer to run the
businesses themselves and then employ others to run it when the business has picked up,
according to respondents this is practiced in order to make the business be inline so that loan
repayment can be done easily, due to high returns on investment.
5.2 Conclusion
Some valuable lessons can be drawn from the experience of successful Microfinance
operation. First of all, the poor repay their loans and are willing to pay for higher interest rates
than commercial banks provided that access to credit is provided. The solidarity group pressure
and sequential lending provide strong repayment motivation and produce extremely low default
rates. Secondly, the poor save and hence microfinance should provide both savings and loan

33. facilities. These two findings imply that banking on the poor can be a profitable business.
However, attaining financial viability and sustainability is the major institutional challenge.
Deposit mobilization is the major means for microfinance institutions to expand outreach by
leveraging equity (Sacay et al 1996). In order to be sustainable, microfinance lending should be
grounded on market principles because large scale lending cannot be accomplished through
subsidies
A main conclusion of this paper is that microfinance can contribute to solving the problem of
inadequate housing and urban services as an integral part of poverty alleviation programmes. The
challenge lies in finding the level of flexibility in the credit instrument that could make it match
the multiple credit requirements of the low income borrowers without imposing unbearably high
cost of monitoring its end-use upon the lenders. A promising solution is to provide multi-purpose
loans or composite credit for income generation, housing improvement and consumption
support. Consumption loan is found to be especially important during the gestation period
between commencing a new economic activity and deriving positive income. Careful research on
demand for financing and savings behavior of the potential borrowers and their participation in
determining the mix of multi-purpose loans are essential in making the concept work (tall 1996).
5.3 Recommendations
For MFI’s to succeed in the global sector, it should loosen their terms and conditions for SMEs’
to easily access loans and also create awareness to the people through civic education on the
services offered by them.
5.4 Suggestions for further research
The research proposes that a similar research be undertaken focusing on strategies adopted by
MFI’s in bringing their services to the rural population .Further, the research proposes a study
on the impact of MFI’s on savings.

34. REFERENCES
Barry, N.(1995), "The Missing Links: Financial System that Works for the Majority,"
Women's World Banking, New York.
Barry, Nancy, Armacost, Nicola and Kawas Celina (1996) "Putting Poor people's
Economics at the Center of Urban Strategies," Women's World Banking, New York.
Chriseten, R.Peck Rhyne, Elisabeth and Vogel, Robert C (1994) "Maximizing the Outreach
of Microenterprise Finance: The Emerging Lessons of Successful Programs,"
September IMCC, Arlington, Virginia.
Churchill, C.F. (1996)," An Introduction to Key Issues in Microfinance: Supervision and
Regulation, Financing Sources, Expansion of Microfinance Institutions,"
Microfinance Network, Washington, D.C. February
Grameen Trust (1995) Grameen Dialogue No.24, Dhaka, October.
Otero, M. and Rhyne, E.(1994) The New World of Micro-enterprise Finance -Building
Healthy Financial Institutions for the Poor, Kumarian Press, West Harford,
Connecticut.
Phelps, P.(1995) "Building Linkages Between the Microenterprise and Shelter Sectors:
An Issues Paper," GEMINI, Betuesda, Maryland.
Women's World Banking (1994) "United Nations Expert Group on Women and
Finance," New York.

35. APPENDIX ONE
QUESTIONAIRE
LETTER OF TRANSMITTAL
We the students of Maseno University would like to appeal to the respondents of this
questionnaire to participate fully and your cooperation will be highly appreciated, this
questionnaire aims at collecting data required for the study entitled: IMPACT OF MICRO
FINANCE ON THE PERFORMANCE OF SMES’ IN KISUMU CBD LAKE MARKET
The data collected would be strictly for academic purposes and any correspondence given be
treated as confidential. Respondents are requested to give any information that is necessary for
the topic. The interviewer is in any case not allowed to force any respondent to give information.
Thanks
This questionnaire is aimed at collecting data required for the study entitled: IMPACT OF
MICRO FINANCE ON THE PERFORMANCE OF SMES’ IN KISUMU CBD LAKE
MARKET.
Name of the interviewer…………………………………………………

36. Please give the following details
1) Name of business…………………………………………….
2) Ownership
a. Employee
b. Owner
3) Year of establishment………………………
4) Type of Business
a. Joint venture
b. Sole proprietorship
c. Partnership
Others state……………………………………………………………….
5) State your line of business……………………..
SECTION 1
1) Select sources of capital to your business (tick any appropriate)
a. Micro financial institutions
b. Other financial institutions
If none of the above state……………………………………
2) Do you benefit from micro financial institutions?
a. Yes
b. No
If Yes, how
……………………………………………………………..
3) If you obtain loan from MFI’s what made you to seek financial assistance from the MFI’s
a. Easy loan repayment
b. Good services
Others state……………………………………
What is the loan repayment period as per the conditions of MFI?
a. 6 months-1 year
b. - 5 yrs
c. Above 5 yrs
SECTION 2

37. 4) How loan has it taken you to repay the amount awarded to you by the MFI’s (tick one)
a) 1-3yrs
b) 4 – 10 yrs
5) How do you rate the loan services from the MFI’S? (Tick one)
a. Poor
b. Good
c. Very good
d. Excellent
6) Do you face any challenges as a loan beneficiary from the MFI’s? (tick one)
a) Yes
b) No
If yes state………………………………………..
SECTION 3
7) How many employees did the business employ at the start of its’ operation?
a) 1-10
b) Above 10
8) How many employees are there currently?
……………………………………………………..
9) Do you have any other business outlet (branch) that is part of this business?
a) Yes
b) No
If yes (tick one)
a) 1 -5
b) 6-10
c) Above 10
10) Do you make any savings from your business?
a) YES
b) NO
If no, what could be the reasons?
……………………………………………………………………
11) How do you rate the performance of your business?

38. a) High
b) Low
c) Average
SECTION 4
12) What would you wish the MFI’s to do so as improve your business performance? (Tick one)
a. Increase lending rates
b. Offer training
Others specify………………………………………………………..
13) What do you think should be done so that the MFI’s can easily award loans to any SME
equally? .............................................................................................
14) What challenges do you face when trying to access loans from the MFI’s?(tick )
a) Lack of security
b) Lack of proper knowledge
c) Conditions on repayment
Others state………………………………………………………
End*************End************* End ************* End
Thank you very much for participating!!!!