FULL TITLE: Learning to Plan for Institutional Financial Self-Sufficiency While Reaching the Poorest Families ROOM: Shimba Hills FACILITATED BY: Beatrice Sabana, independent consultant

1. PLANNING FOR FINANCIAL SELF
SUFFICIENCY WHILE SERVING THE
POOREST CLIENTS
BY BEATRICE SABANA
CONSULTANT

2. COURSE OBJECTIVES
 OVERVIEW OF MICROFINANCE AND
POVERTY ALLIEVATION
 FINANCIAL SELF-SUFFICIENCY VS
REACHING THE POOREST
 FSS RATIO ANALYSIS
 STRATEGIES FOR ATTAINING FSS
 CASE STUDIES

3. Microfinance as a tool for poverty
alleviation:
‘The Millennium Development Goal of halving world poverty by
2015 sets a big challenge for MFIs. MFIs have demonstrated
that microfinance can reach the very poor and facilitate
improvements in the welfare of the poor and their families.
However, despite the growing microfinance sector, a majority of
the poor and poorest have not been reached by MFIs- only
around 10% of the estimated 500 million or more poor people
worldwide who have a demand for financial services are
currently being reached (about 55 million). On a regional basis,
the coverage remains very low. In Asia, among 157.8 million
poorest families1 (ie.those living under one dollar a day PPP),
only 14% are being reached. In Africa and Latin America, only
12.9% of all poorest families have access to financial
services’

4. Microfinance as a tool for poverty
alleviation
 Microfinance is defined as the provision of financial services,
primarily savings and credit, to poor households which do not
have access to formal financial institutions.
 It is generally accepted that that access and efficient provision
of microcredit can enable the poor to smooth their consumption,
better manage their risks better, gradually build their assets,
develop their micro enterprises, enhance their income earning
capacity, and enjoy an improved quality of life. Microfinance
services can also contribute to the improvement of resource
allocation, promotion of markets, and adoption of better
technology; thus, microfinance helps to promote economic
growth and development.
 Inherent in this definition is the fact that microfinance must keep
a focus on its poverty alleviation goal.

5. Financial Self-Sufficiency vs. Reaching the Poorest
 There is an emerging divide in the microfinance industry concerning
possible trade-offs between reaching institutional financial self-
sufficiency (IFS) and working with the poorest people.
 As Elisabeth Rhyne noted, everyone in the microfinance industry
wants to “provide credit and savings services to thousands or millions
of poor people in a sustainable way.” (Rhyne 1998, 6)
 it is generally recognized that reaching financial self-sufficiency is an
important goal in the quest to provide financial services to the poor.
The Microcredit Summit in 1997 set a nine-year fulfillment campaign of
reaching 100 million poorest families with credit by 2005 – and
estimate the cost of this endeavor to be about $21.6 billion. Little more
than half of this amount is expected to come from donor funds.
(Declaration and Plan of Action 1997. Self-sufficient institutions will
play a crucial role in reaching this goal as microfinance institutions
(MFIs) scale up their operations to reach greater numbers of poor
people.

6. Is there a trade off?
 The debate on a possible trade off between financial self sufficiency and serving poor
clients is often based on the fear that focus on financial self-sufficiency will divert MFIs‟
attention and resources away from their core objective of poverty alleviation and away from
their core poor market. This fear is based on several factors. The poor tend to be
concentrated in harder-to-reach rural areas characterized by weak and fragmented markets
for goods and services, dispersed populations, limited non-farm activities, and
underdeveloped infrastructures. These factors imply both relatively high costs per dollar
lent and relatively greater risk. Other factors implying relatively high administrative costs
are the difficulties inherent in identifying and reaching poor persons and the heavy
delegation and monitoring costs resulting from the lack of physical collateral. The lack of
physical collateral in turn implies higher credit risk. In short, delivering financial services to
the poor is comparatively costly and difficult, and is fraught with risk, none of which bodes
well for long-term financial self-sufficiency. Hence the belief (or fear) that financial self-
sufficiency and depth of outreach are inherently dichotomous.
 The debate on FSS and poverty alleviation was ignited by a book that had case studies of
12 MFIs in Asia, Africa, and Latin America argued that MFIs working with the poorest would
experience a trade-off with IFS. Specifically, it concluded that, “at a given point in time
[MFIs] can either go for growth and put their resources into underpinning the success of
established and rapidly growing institutions, or go for poverty impact…and put their
resources into poverty-focused operations with a higher risk of failure and a lower expected
return”(Hulme & Mosley, Published in CGAP Focus noe. 5 ).

7. Is there a trade off
 However, this argument was disapproved by (Christen, 1997; Christen and
others, 1995; and Gulli, 1998, p. 28). A study of 11 successful microfinance
programs in three continents found that, “Among high-performing programs
no clear trade-off exists between reaching the very poor and reaching large
numbers of people”. They concluded that their results showed that, “…full self-
sufficiency can be achieved by institutions serving the very poor….” . Thus it is
not the clientele served that determines an MFI’s potential for IFS10, but the
degree to which its financial services program is well-designed and managed.
 Another study by Gary Woller for the SEEP Network found that that financial
self-sufficiency and depth of outreach were not are not inherently
dichotomous. Rather, they have a complex, multidimensional relationship that
depends on several factors, both direct and indirect. He argued that financial
self-sufficiency is driven by factors that may or may not facilitate deep
outreach. The exact relationship between financial self-sufficiency and depth of
outreach in a given situation will depend on the way in which all these factors
interact with each other.

8. Is there a trade off
 In a paper written to show how microfinance programs can be
financially self-sufficientwhile positively impacting the lives of
the poorest, Anton Simanowitz showed that participants in both
CRECER in Bolivia and SHARE in India had significant
changes in terms of income sources as well as consumption
smoothing. 76% of SHARE‟s clients (which total more than
100,000 people) had significantly reduced their poverty and
one-third of them are no longer poor.At CRECER, 66% of
clients had increased income and 41% of clients had increased
asset ownership, particularly in the purchase of animals.
(Simanowitz 2002, 22-25)

9. FSS Data
 Evidence from the microfinance field shows that that
there are MFIs which have attained financial self
sufficiency while serving the poorest of the poor.
 Marketing Mix Bulletin 2009 showed that many MFIs
have not achieved FSS
 African MFIs had FSS of 96% compared to Asian
MFIs with 108%.
 More MFIs have attained OSS than FSS


10. FINANCIAL SELF SUFFICIENCY
 FSS is defined as the ability of an MFI to cover all actual operating expenses, as well as
adjustments for inflation and subsidies, with adjusted income generated through its
financial operations.
 Inflation adjustments are twofold: (i) to account for the negative impact, or “cost” of inflation,
on the value of your equity* and (ii) to account for the positive impact of the re-valuation of
non-financial assets* and liabilities* for the effects of inflation. Similarly, there are two
types of subsidies which must be adjusted for: (i) explicit subsidies to properly account for
direct donations* received by your MFI to cover operating expenses and (ii) implicit
subsidies to account for loans received by your MFI at a below market rates and in-kind
donations such as rent-free facilities, staff paid by third-parties, technical assistance, and
the use of a third party infrastructure (e.g., communication facilities, etc.).
 Such adjustments are necessary as MFIs often operate in highly inflationary environments
and/or receive significant “support” from third parties – such as government or donors – in
the form of implicit subsidies. The adjustments take this “support” into account and allow an
MFI to understand the potential commercial viability of its financial services operations.
This is done by comparing adjusted operating income to adjusted operating expenses. If
the figure is greater than 1.0, then an MFI has reached IFS. If IFS has not been achieved,
the withdrawal of such “support” could ultimately result in the failure of an MFI, with
potentially disastrous effects for the poor clients being served

11. Financial Self sufficiency
FORMULA
Adjusted Financial Revenue/Adjusted
(Financial Expense + Impairment Losses on
Loans + Operating Expense)

12. Why is FSS Important for MFIs
 „As MFIs begin to wean themselves away from their
dependence on subsidies and start to adopt the practices of
good banking they will be forced to further innovate and lower
costs. Not only may this ultimately mean better service for poor
borrowers, but more importantly, it is argued that as MF[I]s
become profitable they will be able to increasing[ly tap into the
vast ocean of private capital funding. If this happens the
microfinance sector as a whole will soon be greatly leveraging
the limited pool of donor funds and massively increasing the
scale of outreach in ways that it is hoped could begin to make a
truly significant dent on world poverty.5 (Conning, 1998‟)

13. Is there a trade off?
 The debate on a possible trade off between financial self sufficiency and serving poor
clients is often based on the fear that focus on financial self-sufficiency will divert MFIs‟
attention and resources away from their core objective of poverty alleviation and away from
their core poor market. This fear is based on several factors. The poor tend to be
concentrated in harder-to-reach rural areas characterized by weak and fragmented markets
for goods and services, dispersed populations, limited non-farm activities, and
underdeveloped infrastructures.These factors imply both relatively high costs per dollar lent
and relatively greater risk. Other factors implying relatively high administrative costs are
the difficulties inherent in identifying and reaching poor persons and the heavy delegation
and monitoring costs resulting from the lack of physical collateral. The lack of physical
collateral in turn implies higher credit risk. In short, delivering financial services to the poor
is comparatively costly and difficult, and is fraught with risk, none of which bodes well for
long-term financial self-sufficiency. Hence the belief (or fear) that financial self-sufficiency
and depth of outreach are inherently dichotomous.
 The debate on FSS and poverty alleviation was ignited by a book that had case studies of
12 MFIs in Asia, Africa, and Latin America argued that MFIs working with the poorest would
experience a trade-off with IFS. Specifically, it concluded that, “at a given point in time
[MFIs] can either go for growth and put their resources into underpinning the success of
established and rapidly growing institutions, or go for poverty impact…and put their
resources into poverty-focused operations with a higher risk of failure and a lower expected
return”(Hulme & Mosley, Published in CGAP Focus noe. 5 ).

14. Is there a trade off
 However, this argument was disapproved by (Christen, 1997; Christen and
others, 1995; and Gulli, 1998, p. 28). A study of 11 successful microfinance
programs in three continents found that, “Among high-performing programs
no clear trade-off exists between reaching the very poor and reaching large
numbers of people”. They concluded that their results showed that, “…full self-
sufficiency can be achieved by institutions serving the very poor….” . Thus it is
not the clientele served that determines an MFI’s potential for IFS10, but the
degree to which its financial services program is well-designed and managed.
 Another study by Gary Woller for the SEEP Network found that that financial
self-sufficiency and depth of outreach were not are not inherently
dichotomous. Rather, they have a complex, multidimensional relationship that
depends on several factors, both direct and indirect. He argued that financial
self-sufficiency is driven by factors that may or may not facilitate deep
outreach. The exact relationship between financial self-sufficiency and depth of
outreach in a given situation will depend on the way in which all these factors
interact with each other.

15.  In a paper written to show how microfinance programs can be
financially self-sufficientwhile positively impacting the lives of
the poorest, Anton Simanowitz showed that participants in both
CRECER in Bolivia and SHARE in India had significant
changes in terms of income sources as well as consumption
smoothing. 76% of SHARE‟s clients (which total more than
100,000 people) had significantly reduced their poverty and
one-third of them are no longer poor.At CRECER, 66% of
clients had increased income and 41% of clients had increased
asset ownership, particularly in the purchase of animals.
(Simanowitz 2002, 22-25)

16. FSS Data
 Evidence from the microfinance field shows that that
there are MFIs which have attained financial self
sufficiency while serving the poorest of the poor.
 Marketing Mix Bulletin 2009 showed that many MFIs
have not achieved FSS
 African MFIs had FSS of 96% compared to Asian
MFIs with 108%.
 More MFIs have attained OSS


17. FINANCIAL SELF SUFFICIENCY
 FSS is defined as the ability of an MFI to cover all actual operating expenses, as well as adjustments for
inflation and subsidies, with adjusted income generated through its financial operations.
 Inflation adjustments are twofold: (i) to account for the negative impact, or “cost” of inflation, on the value
of your equity* and (ii) to account for the positive impact of the re-valuation of non-financial assets* and
liabilities* for the effects of inflation. Similarly, there are two types of subsidies which must be adjusted for:
(i) explicit subsidies to properly account for direct donations* received by your MFI to cover operating
expenses and (ii) implicit subsidies to account for loans received by your MFI at a below market rates and
in-kind donations such as rent-free facilities, staff paid by third-parties, technical assistance, and the use of
a third party infrastructure (e.g., communication
 facilities, etc.).6 In analyzing your MFI‟s performance, such adjustments are necessary as MFIs often
operate in highly inflationary environments and/or receive significant “support” from third parties – such as
government or donors – in the form of implicit subsidies. The adjustments take this “support” into account
and allow an MFI to understand the potential commercial viability of its financial services operations. This
is done by comparing adjusted operating income to adjusted operating expenses. If the figure is greater
than 1.0, we say an MFI has reached IFS. If IFS has not been achieved, the withdrawal of such “support”
could ultimately result in the failure of
 an MFI, with potentially disastrous effects for the poor clients being served

18. Financial Self sufficiency
FORMULA
Adjusted Financial Revenue/Adjusted
(Financial Expense + Impairment Losses on
Loans + Operating Expense)

19. FA1-O3
Sustainability Is:
coverage of: Financial Expenses
(incl. cost of funds + inflation) +Loan
Loss+Operating Expenses (incl.
personnel and administrative
expenses)
+
Capitalization for Growth
from Financial Revenue

20. FA10-O1b
Sustainability Equation
$
Capitalization
for
Growth
Adjustments:
Subsidies
Inflation
PAR
Impairment
Losses on
Loans
Operating
Costs
Cost of Funds
Sufficiency Operating > Costs

21. FA10-O2
An MFI is PROFITABLE when
FINANCIAL is
REVENUE
greater
ADJUSTED
than
FINANCIAL AND
OPERATING
EXPENSE

22. FA10-O6b
Sustainability and Profitability Ratios and
Formulas (continued)
RATIO FORMULA
Return on Net Operating Income − Taxes
Equity
(ROE) Average Equity
Adjusted
Return on Adjusted Net Operating Income − Taxes
Equity Average Adjusted Equity
(AROE)

23. FA10-O7a
GROW
Sustainability and Profitability Ratios
Ref. DESCRIPTION 2002 2003 2004
R1 Operational Self-Sufficiency Ratio
a Financial Revenue 4,719 6,342 10,082
b Financial Expense 371 292 823
c Impairment Losses on Loans 145 262 430
d Operating Expense 2,760 3,264 4,562
e b+c+d 3,276 3,818 5,815
R1 Operational Self-Sufficiency Ratio = a/e 144.05 166.11 173.38
% % %
Adj Financial Self-Sufficiency Ratio
R1
a Financial Revenue 4,719 6,342 10,082
b Adjusted Financial Expense 4,286 5,876 9,349
c Adjusted Impairment Losses on Loans 186 262 507
d Adjusted Operating Expense 2,808 3,312 4,610
e b+c+d 7,280 9,450 14,466
Adj Financial Self-Sufficiency Ratio = a/e

24. FA10-O7b
GROW Sustainability and Profitability Ratios
(continued)
Ref. DESCRIPTION 2002 2003 2004
R2 Return on Assets (ROA) Ratio
a Net Operating Income 1,443 2,524 4,267
b Taxes – 20 31
c a−b 1,443 2,504 4,236
d Average Assets 17,283 23,824 37,718
R2 Return on Assets (ROA) Ratio = a/d
8.35% 10.51% 11.23%
Adj Adjusted ROA (AROA) Ratio
R2
a Adjusted Net Operating Income (2,561) (3,108) (4,384)
b Taxes – 20 31
c a−b (2,561) (3,128) (4,415)
d Adjusted Average Assets 17,301 23,974 38,032
Adj Adjusted ROA (AROA) Ratio = a/d
R2 −14.80 −13.05 −11.61
% % %

25. FA10-O7c
GROW Sustainability and Profitability Ratios
(continued)
Ref. DESCRIPTION 2002 2003 2004
R2 Return on Equity (ROE) Ratio
a Net Operating Income 1,443 2,524 4,267
b Taxes – 20 31
c a−b 1,443 2,504 4,236
d Average Equity 6,937 9,653 14,378
R2 Return on Equity (ROE) Ratio = a/d
20.80% 25.94% 29.46%
Adj Adjusted ROE (AROE) Ratio
R2
a Adjusted Net Operating Income (2,561) (3,108) (4,384)
b Taxes – 20 31
c a−b (2,561) (3,128) (4,415)
d Adjusted Average Equity 6,955 9,803 14,691
Adj Adjusted ROE (AROE) Ratio = a/d
R2 −36.83 −31.91 −30.05
% % %

26. STRATEGIES FOR ENHANCING FSS
CASE STUDIES