by Ryan Benson - Latin America & Caribbean, Regulation, Trends/Challenges -

PAPER WRAP-UP: Transitions To Private Capital – Case Studies From The Liability Side Of The Balance Sheet, by Marc de Sousa-Shields & Caroline Esther Averch

Produced for review by the United States Agency for International Development (USAID), released July 2007, written by Marc de Sousa-Shields of Enterprising Solutions and Caroline Esther Averch of Chemonics International, 26 pages, available at: http://www.microfinancegateway.org/content/article/detail/49344

Once it became evident that microfinance could be a financially sustainable enterprise, many microfinance institutions (MFIs) operating as non-governmental organizations (NGOs) sought to change their legal status to a commercial MFI. As private entities, these MFIs would not only be able to turn a profit, they would also gain access to private investors offering the debt-capital necessary to expand operations.

“Transitions To Private Capital” reviews the funding strategies employed by three Latin American MFIs following their establishment as for-profit MFIs. Below is a summary of each case, highlighting the key changes in funding, and an accompanying rationale behind each funding decision.

Mibanco

Since its inception in 1987, Peruvian NGO ACP (Accion Comunitaria del Peru) had steadily grown to serve 20,000 clients with a gross loan portfolio of USD $7 million by 1998. To maintain its high growth trajectory, ACP sought additional funding to expand operations, but found difficulties because it NGO’s status prevented it from tapping private sources of capital. This restriction prompted the ACP to apply to become a regulated, private financial institution. Upon government approval, nonprofit ACP became a majority stakeholder in nascent, for-profit “Mibanco”.

With the bulk of its debt resting in government creditors, Mibanco saw that the best way to diversify its liabilities was to create a large number of private creditors. Toward this end, Mibanco established retail banking operations offering savings accounts to individual clients. Then, in a second wave of diversification, Mibanco supplemented its retail banking by offering term deposit services for institutional investors, including mutual funds, pension funds and private banks. To ensure it maintained a high number of institutional investors, Mibanco limited the deposit amount to three million. By limiting the deposit sizes of creditors, Mibanco was able to diversify this source of debt capital, thereby minimizing its risk.

In addition to deposits, a second element of Mibanco’s strategy was the commercial bond market. Management felt that a bond offering would dramatically increase the number of Mibanco’s institutional investors, which would help improve Mibanco’s credibility and expand its network of potential future investors. In addition, the relatively low administrative cost of issuing bonds would offset the high administrative costs of running Mibanco’s deposit services.

EDYFICAR

Peruvian EDYFICAR (Entities of Development for the Small and Micro Business) charted a similar course to private capital. Created by NGO parent CARE International, 74 percent of EDYFICAR’s non-equity liabilities came from domestic government sources. EDYFICAR’s strategy, like Mibanco’s, was aimed at reducing its dependence on public funds and accessing private capital to expand its services.

EDYFICAR’s first round of private debt-capital took the form of large loans from international creditors, including a USD $3 million credit line from Blue Orchard Microfinance, a USD $1.5 million loan from the Belgian Investment Company for Developing Countries (BIO), and another USD $3 million from IFC (senior debt). EDYFICAR saw this as a way to quickly procure a large amount of capital and expand its network of international contacts.

After this influx of investment, a substantial portion of liabilities were now prone to the volatility of currency exchange rates. As a hedge against this, EDYFICAR’s management considered domestic funding from two arenas: lines of credit from private banks or a bond offering in the capital markets. EDYFICAR settled on a bond offering, as management felt that this would produce a much larger, more diverse set of creditors than a set of credit lines from a few commercial banks. As an emerging microfinance institution, a top priority for EDYFICAR was to quickly build a network of investors that they could approach in the future. This objective could not be accomplished with lines of credit from a small set of banks. In addition to networking concerns, EDYFICAR chose bonds over credit lines for their lower cost. Lines of credit to an emerging MFI such as EDYFICAR would certainly contain exorbitant risk premiums tacked on to a base interest rate.

Compartamos

Mexican Compartamos was founded in 1990 by a small group of students working in social development in Mexico, to provide credit to microenterprise in the states of Oaxaca and Chiapas. By 1997 the NGO was self-sufficient. Its founders, along with a group of investors including ACCION International, applied and received government authorization to operate as a regulated financial institution.

As with Mibanco and EDYFICAR, Compartamos felt a need to diversify its liabilities away from heavy government support and toward a larger number of private investors. Compartamos achieved this through a bond offering. Similar to EDYFICAR, Compartamos’ management held the belief that a bond offering would be the quickest way to establish a reputation among a large number of lenders that could be later approached for additional rounds of investments. In addition, Compartamos reasoned that building a solid reputation in the bond market would enable them to secure a line of credit that did not contain risk premiums.

Common Concerns:

USAID’s report demonstrates that nascent commercial MFIs share a common set of concerns when transitioning to private debt capital. While multiple avenues of funding exist, these early stage MFIs share a set of concerns that render some funding sources more attractive than others. The commercial bond market may be more attractive than credit lines from banks, because of the exorbitant premiums that banks charge borrowers whom they have deemed to be a risky investment. Bonds also offer the promise of expanding an MFI’s network of investors. Finally, MFIs can seek international funding for large loans, but these carry the risk of fluctuating exchange rates.

By Ryan Benson, Research Assistant

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