practice what you preach - benchmarking microfinance institutions with heterogeneous preferences
DESCRIPTION
Does the focus on financial versus social performance affect the efficiency of double bottom line firms? The case of microfinance institutions. Unlike purely profit oriented firms, double bottom line firms care about both financial and social performance. Some firms prioritize profits, while other give higher importance to social and environmental impact. Depending on their preferences, double-bottom line firms will choose different output mixes, inputs and production methods. Nevertheless some of these choices might be suboptimal and create inefficiencies. In this ECCE Webinar, researcher Matteo Millone discusses how focusing on financial versus social performance affects the efficiency of microfinance institutions. More efficient institutions will be able to lend more and therefore will have larger financial and social impact. We will show whether microfinance institutions that focus on richer more profitable borrowers are indeed more efficient or whether it is possible to efficiently lend to the poor. Our analysis offers a tool for microfinance investors to screen microfinance institutions and maximize the impact of their investment.TRANSCRIPT
IntroductionBenchmarking
ResultsConclusions
Practice What You PreachBenchmarking Microfinance Institutions with Heterogeneous
Preferences
Jaap Bos, Maastricht UniversityMatteo Millone, Maastricht University
ECCE Webinar, 17 April, 2013
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
Motivation and ContributionResearch QuestionsFindings
What we do
Benchmark the efficiency of microfinance institutions, while takinginto account differences in business models.
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
Motivation and ContributionResearch QuestionsFindings
”No longer can microfinance investment be viewed as anexclusively do-good, low-risk, relative safe haven. [...] equityinvestors are reassessing the social and financial performanceof the asset class.” J. P. Morgan, Global MicrofinanceValuation Survey 2011
”Everyone involved in microfinance shares a basic goal: toprovide credit and savings services to thousands or millions ofpoor people in a sustainable way ... a problem of dualmaximisation” Rhyne, The Microbanking Bulletin
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
Motivation and ContributionResearch QuestionsFindings
”No longer can microfinance investment be viewed as anexclusively do-good, low-risk, relative safe haven. [...] equityinvestors are reassessing the social and financial performanceof the asset class.” J. P. Morgan, Global MicrofinanceValuation Survey 2011
”Everyone involved in microfinance shares a basic goal: toprovide credit and savings services to thousands or millions ofpoor people in a sustainable way ... a problem of dualmaximisation” Rhyne, The Microbanking Bulletin
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
Motivation and ContributionResearch QuestionsFindings
Investing in microfinance
More than one criterium guides the decision to invest inmicrofinance:
1 Financial risk and return
2 Outreach and impact (social and political risk)
Large variation across microfinance institutions (MFIs)
Relative weight of criteria depends on preferences of investor
Unclear relationship between two sets of criteria
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
Motivation and ContributionResearch QuestionsFindings
Investing in microfinance
More than one criterium guides the decision to invest inmicrofinance:
1 Financial risk and return
2 Outreach and impact (social and political risk)
Large variation across microfinance institutions (MFIs)
Relative weight of criteria depends on preferences of investor
Unclear relationship between two sets of criteria
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
Motivation and ContributionResearch QuestionsFindings
Investing in microfinance
More than one criterium guides the decision to invest inmicrofinance:
1 Financial risk and return
2 Outreach and impact (social and political risk)
Large variation across microfinance institutions (MFIs)
Relative weight of criteria depends on preferences of investor
Unclear relationship between two sets of criteria
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
Motivation and ContributionResearch QuestionsFindings
Investing in microfinance
More than one criterium guides the decision to invest inmicrofinance:
1 Financial risk and return
2 Outreach and impact (social and political risk)
Large variation across microfinance institutions (MFIs)
Relative weight of criteria depends on preferences of investor
Unclear relationship between two sets of criteria
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
Motivation and ContributionResearch QuestionsFindings
Benchmarking Paradox
Benchmarking makes sense only if we compare apples to apples
Focus on efficiency
Relevant for microfinance, given scarcity of inputs!
Calculate efficiency by taking into account differentdimensions of output
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
Motivation and ContributionResearch QuestionsFindings
Benchmarking Paradox
Benchmarking makes sense only if we compare apples to apples
Focus on efficiency
Relevant for microfinance, given scarcity of inputs!
Calculate efficiency by taking into account differentdimensions of output
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
Motivation and ContributionResearch QuestionsFindings
Research questions
Are MFIs really that different?
Is there a trade-off between number of clients served, missiondrift and price of the loans?
Are MFIs that lend to richer borrowers more efficient?
Is it possible to offer small and affordable loans?
Is there such a thing as an excessive focus on womenborrowers?
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
Motivation and ContributionResearch QuestionsFindings
Benchmarking and Engaging
Our methodology provides a useful tool to:
Benchmark Pick the most efficient institutions compared to apeer group.Advantage:Ranking valid across output measures.Target:Passive investors with predefined preferences,looking at investing in the best practice MFIs
Engage Identifies common traits of under performing MFIs.Advantage:Indicates size and direction of possibleefficiency gain.Target:Investors looking at opportunities to generatesocial impact through engagement.
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
Motivation and ContributionResearch QuestionsFindings
Benchmarking and Engaging
Our methodology provides a useful tool to:
Benchmark Pick the most efficient institutions compared to apeer group.Advantage:Ranking valid across output measures.Target:Passive investors with predefined preferences,looking at investing in the best practice MFIs
Engage Identifies common traits of under performing MFIs.Advantage:Indicates size and direction of possibleefficiency gain.Target:Investors looking at opportunities to generatesocial impact through engagement.
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
Motivation and ContributionResearch QuestionsFindings
Preview of the results
MFIs differ strongly given differences in their legal status
There is indeed a non-linear trade off between missiondrift and number of clients served
Targeting richer borrowers reduces efficiency
Lending to the very poor is efficient, but not affordable(for the clients): MFIs with higher outreach charge higherinterest rates
Lending exclusively to women reduces efficiency
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
ApproachMeasuring preferencesTheoryAdvantages
Benchmarking firms with heterogeneous preferences
Population of MFIs
Non-for profit Microfinance Institutions (MFIs) with highoutreach and dependent on subsidies
Profitable MFIs with lower outreach, high interest rate andprivate funding
... and a whole lot in between
How can we compare the performance of institutions with differentobjectives and incentives?
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
ApproachMeasuring preferencesTheoryAdvantages
Measuring preferences
MFIs have heterogenous preferences (goals), that need to be takeninto account when assessing performance.
Decompose output into 3 measures:
Yield - Price of the Loans
Average Loan Size - Mission Drift(Depth of Outreach)
Number of Loans - Outreach(Breadth of Outreach)
Value Added of Gross Loan Portfolio (Total Output) =Yield x Average Loan Size x Number of Loans
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
ApproachMeasuring preferencesTheoryAdvantages
Accounting for multiple dimensions
Given the same inputs:
The cost per dollar lent of a small loan will always be largerthan for a bigger loans...
...MFIs that serve the very poor will have higher costs andpoorer financial performance...
... which will lead to a lower added value of gross loanportfolio in the future.
Find a measure of performance that does not depend onpreferences:
Efficiency
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
ApproachMeasuring preferencesTheoryAdvantages
Accounting for multiple dimensions
Given the same inputs:
The cost per dollar lent of a small loan will always be largerthan for a bigger loans...
...MFIs that serve the very poor will have higher costs andpoorer financial performance...
... which will lead to a lower added value of gross loanportfolio in the future.
Find a measure of performance that does not depend onpreferences:
Efficiency
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
ApproachMeasuring preferencesTheoryAdvantages
Average Loan Size
Num
ber
of
loans o
uts
tandin
g
C
A
B
D
Gross loan portfolioE
"Poorest of the poor" type MFI
"Mission drift" type MFI
Ineffi
cien
cy
Inefficiency
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
ApproachMeasuring preferencesTheoryAdvantages
Only one measure: Efficiency
The position on the curve (preferences) does not matter, onlyrelevant factor is the distance from the curve
Intuitive interpretation
80% efficiency: given inputs output can be increased by 20%
Circumvents limitations of rating agencies (CGAP, 2010):
Diversity of products and lack of clarityDuality between assessment for the MFI and service for theinvestorEmphasis placed by MFIs on professional and interpersonalrelationships with rating agencies may jeopardize neutrality ofagencies
Cheap, fast, standardized
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
DataHeterogeneity of MFIsOutput trade-offEfficiency and Mission DriftExogenous Determinants of Efficiency
Microfinance Information Exchange market (MIX)
Widely used in the literature
Self reported balance sheet information
Unbalanced panel data
1,146 MFIs
2003-2010
3,890 total observations
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
DataHeterogeneity of MFIsOutput trade-offEfficiency and Mission DriftExogenous Determinants of Efficiency
MFIs differ strongly depending on legal status
Bank NGO
Ou
tpu
ts
Average Loan Size 1627.5 650.4
Number of Loans 78132 45154
Yield 0.24 0.28
Yield(n) 0.33 0.35
GLP (millions) 88.5 12.9
Co
sts
Costs per loan 283.9 115.1
Cost per dollar 0.23 0.26
Oth
er
Portfolio at risk 30 0.05 0.05
% women borrowers 53.0 74.4
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
DataHeterogeneity of MFIsOutput trade-offEfficiency and Mission DriftExogenous Determinants of Efficiency
Implications of MFI heterogeneity
Depending on legal status MFIs have very different businessmodels
Size of loans, cost per loan and % of women show largestvariation
Difficult to identify ”better” institutions
Warrants the use of a multi output performance tool
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
DataHeterogeneity of MFIsOutput trade-offEfficiency and Mission DriftExogenous Determinants of Efficiency
Output trade-off
Mean Elasticityof Average Loan Size
Elasticity to number of loans -0.68***Elasticity to yield on gross loan portfolio -0.18***
Total input price elasticity 0.94***
How to read the coefficients
Negative elasticity implies a negative relationship (trade-off)
The larger the elasticity the stronger the trade-off
Total input elasticity <1 implies no economies of scale
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
DataHeterogeneity of MFIsOutput trade-offEfficiency and Mission DriftExogenous Determinants of Efficiency
Implication of output trade-off
Breadth and depth of outreach are positively correlated
Offering larger loans (mission drift) does not help to increasethe number of clients
Smaller loans are more expensive
Increasing the size of the institutions does not lead toeconomies of scale
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
DataHeterogeneity of MFIsOutput trade-offEfficiency and Mission DriftExogenous Determinants of Efficiency
Is the trade off constant?
.2
.4
.6
.8
1
− E
lasticity o
f A
LS
to N
um
ber
of Loans
0 5000 10000 15000 20000
Average Loan Size
−.2
0
.2
.4
.6
− E
lasticity o
f A
LS
to Y
ield
0 5000 10000 15000 20000
Average Loan Size
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
DataHeterogeneity of MFIsOutput trade-offEfficiency and Mission DriftExogenous Determinants of Efficiency
Implications of non-linear trade-off
Increasing strength of elasticity to loan size
Number of loans and size of the loan are always negativelycorrelatedLarger loans are more expensive in terms of depth of outreach
No evidence that mission drift increases breadth ofoutreach
Decreasing strength of elasticity to yield on gross portfolio
As average loans size increases the negative relationship withyield tends to disappearFor a number of MFIs there is no need to charge higherinterest rates for smaller loans
No evidence that mission drift is always correlated witha reduction in interest rates
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
DataHeterogeneity of MFIsOutput trade-offEfficiency and Mission DriftExogenous Determinants of Efficiency
Does mission drift increase efficiency?
.2
.4
.6
.8
1
Technic
al E
ffic
iency
Small Loans Large Loans
Correlation between average loans size and efficiency = -0.20***
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
DataHeterogeneity of MFIsOutput trade-offEfficiency and Mission DriftExogenous Determinants of Efficiency
Implications of mission drift and efficiency
No evidence of MFIs offering larger loans being more efficient
Mission drift does not lead to better use of resourcesSmaller loans are more efficient
Challenges of moving upmarket
Lower quality of residual borrowersDifferent managerial skill setIncreased competition with banks
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
DataHeterogeneity of MFIsOutput trade-offEfficiency and Mission DriftExogenous Determinants of Efficiency
Can the poor be served efficiently?
.65
.7
.75
.8
Eff
icie
ncy
Cheap Loans Expensive Loans
Small Large Small Large Small Large Small Large
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
DataHeterogeneity of MFIsOutput trade-offEfficiency and Mission DriftExogenous Determinants of Efficiency
Implications of price and size of loans
Average efficiency is higher for MFIs that offer more expensiveloans
Easy way to cover costs... but requires low price elasticity of borrowersPositive effect on efficiency erased by large loan size
The poor could be served cheaply
The most efficient MFIs offer small expensive loans... but MFIs that offer relatively small and cheap loan can stilloperate above average efficiency
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
DataHeterogeneity of MFIsOutput trade-offEfficiency and Mission DriftExogenous Determinants of Efficiency
How can efficiency be improved without changingpreferences?
Variables Effect
PAR30 · GrossLoanPortfolio -
%Women · Borrowers -***
Loans/Borrowers -***
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
DataHeterogeneity of MFIsOutput trade-offEfficiency and Mission DriftExogenous Determinants of Efficiency
Implications of exogenous determinants of efficiency
Benefits of screening and monitoring do not outweigh thecosts in terms of efficiency
Focus on women, reduces efficiency as MFIs need to deviatefrom equilibrium
... but has positive social impact
Multiple loans should be avoided
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
Main FindingsDiscussion
Main Findings
Which MFI can make the most out of its limited resources?
Mission drift decreases both breadth and depth of outreach
Serving richer borrowers does not increase efficiency
Cheap small loans are not common, but are possible (andefficient!)
Lending to women and over lending reduce efficiency
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
Main FindingsDiscussion
Main Findings
Which MFI can make the most out of its limited resources?
Mission drift decreases both breadth and depth of outreach
Serving richer borrowers does not increase efficiency
Cheap small loans are not common, but are possible (andefficient!)
Lending to women and over lending reduce efficiency
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
Main FindingsDiscussion
Discussion
MFIs are efficient when they stick to what they know best
Mission drift (loan size creep) does not increase efficiency:
Insufficient economies of scaleLack of managerial skillsLoss of subsidesIncreased competition
Jaap Bos & Matteo Millone Practice What You Preach
IntroductionBenchmarking
ResultsConclusions
Main FindingsDiscussion
Limitations
Imperfect measure of prices
Take into account only lending
Possible applications to other industries with mixed social andfinancial returns
Jaap Bos & Matteo Millone Practice What You Preach