Looking at Microfinance IPO Controversies (SKS and Bank Compartamos)

This is the second part of a two-post series on IPOs in microfinance.

Coming to the next point, two recent articles published by The Economic Times accuse SKS of gross mismanagement and low levels of transparency. The claims of these articles, entitled ”Top 3 microfinance companies used poor as puppets” and “ How top 3 Microfinance cos raised funds in the name of poor?”, were refuted by Vikram Akula, but that did little to change the newspaper’s stance.

The case of Bank Compartamos was documented in detail as well in terms of shady management practices. There were rumours about public aid money, intended for running the microfinance institution, going into the pockets of shareholders. However, CGAP released a case study about the IPO in which the authors say:

“Our view is that the public aid money given to Compartamos has not been inappropriately diverted to private pockets.”

Many people are of the view that there is nothing wrong with helping the poor and making profits at the same time, as long as one remembers that microfinance must first create social value. Huge market potential as been realized in the bottom of the pyramid and as a result, microfinance should be no different.

A moral debate lingers nonetheless.

A detailed account of how the initial shareholders of Compartamos made a rate of return of around 300% over 6 years will shock many. Similarly, the fact that Vikram Akula and 60 other SKS staff employees became millionaires after the IPO [4] by virtue of their stock options, was not warmly welcomed either.

As previously mentioned, Bank Compartamos and SKS started out as NGOs, attracting massive amounts of donor funds, so the transformation into for-profit public entities was a little hard to digest, even though it was completely legal.

Let us also remind ourselves that Indian regulators left SKS with little choice when it came to generating money on a large scale. This was because as a non-banking finance company (NBFC), SKS was not permitted to utilize public deposits for growth, like Grameen Bank did. In other words, Indian regulations prevented SKS from going down the well-trodden path of offering micro-savings to expand their lending portfolio, and so the organization had few alternatives for spearheading growth.

Professor Yunus is quick to point out that SKS could have encouraged policy makers to favourably change regulations, but that is not easy.

The positive result of both IPOs was that it proved microfinance is a good investment opportunity for both public and private investors. Bringing microfinance to mainstream financial markets ultimately helps the poor. Concerns over profit-maximization at the cost of client welfare abound, but shareholders in any successful company know customers come first. Almost four years after the Bank Compartamos IPO, we haven’t seen our fears come true – interest rates were lowered, client protection principles were adopted and lending portfolios were increased. Despite this, it is still too early to say how favourable or harmful these events were, and all our assessments are merely educated guesses.

From an investor’s point of view, these firms have weathered the storm and are still doing well – their stock prices have fallen slightly and settled over time (they were previously said to be over-valued owing to the unrealistic hype about returns). This can be interpreted in several ways – some may say the bubble has burst, while others may feel that it proves microfinance is a resilient model after all.

Technology Important For Development Through Human and Financial Capital

This blog has previously defined the need for good information systems in the microfinance model and detailed the various roles technology can play in this regard, such as improving functional performance, managing credit risk and improving outreach through different tools, to name a few. This was followed by an article that explained why Cloud Computing, which includes the Software as a Service (SaaS) model, is an appropriate medium for the delivery of such an information system to microfinance institutions, as opposed to propriety and off-the-shelf software solutions. Following the same drift, this article explores the benefits cloud computing can offer to the development sector in general, and to the Millennium Development Goals, in particular.

There has been plenty of excitement over the role information and communication technology can play in the development sector – that it can reduce poverty by overcoming the digital divide. It may take several years before the benefits and drawbacks of this theory are tested, but the idea seems promising, despite the unreasonably high expectations. Technology can corroborate any efforts in the area of poverty eradication along the lines of the UN’s Millennium Development Goals (MDGs) and Amartya Sen’s five ‘capacities’ that can make a difference between poverty and welfare: human capital, social capital, physical capital, financial capital, and natural capital. These capacities, which loosely cover the MDGs, are assessed against current and potential technological contributions.

Human Capital for Development and Information Technology

(Includes hints of physical capital)

This includes education, skills, health and other such capacities can help achieve Millennium Development Goals related to universal education, child health, maternal health and HIV/AIDS. A few notable efforts in this area have recently emerged as the ubiquitous power of mobile phones became eminent. The safest way of achieving universal primary education is through capacity building of the education system (teachers, curriculum, school facilities, etc.) and here, information technology can deliver gains in the areas of training sessions for teachers in remote locations across the worlds, and enriching the course curriculum by creating knowledge-sharing hubs that offer access to quality educational resources related to academic and vocational education. The One Laptop Per Child (OLPC) program is also relevant here.

Mobile phone penetration has shot up in many developing countries during the last decade, such as India, Kenya, Brazil and Pakistan, and software developers are keen to explore the development potential of mobile phone applications. Mobile Health, commonly referred to as mHealth, is the practice of managing health service through the use of mobile phones. This field is gaining popularity in Sub-Saharan Africa, where a few mobile phone applications have been developed by different software vendors with a vision to help the masses.

These applications can send out text messages to villagers in remote areas to share information about medicine dosage and timings, medical appointments, HIV/AIDS, and offer basic health advice for common problems, such as headaches. If the symptoms get worse, patients are given directions to the nearest medical clinic. One mHealth application goes a step further by combining mobile banking elements into the service by helping customers save money for the desired delivery plan. The service has been successfully tested in Uganda with the help of MTN (the chosen cellular network provider). These applications not only improve patient monitoring over large distances, but can also implicitly train rural health workers by giving them access to a global knowledge base about specialized medical services, rare diagnosis and breakthrough medical practices.

The above ideas about improving human capital in developing countries also implicated physical capital, which covers equipments and technologies, such as software and hardware. Such services would require seamless integration between the software developers (to create these applications), cellular carrier (to transmit information via text message), cloud computing providers (to deliver relevant information to the masses), and third party players (such as hospitals and clinics).

Financial Capital for Development and Information Technology

Financial capital includes financial services such as savings, loans, insurance, and the list can go on. Even though formal financial services are scarce in developing countries, the poor have numerous financial needs that are covered by informal money lenders (ROSCAs, Susu collectors, etc.), which may offer convenience, but are fraught with risk of fraud and mismanagement. Microfinance helped establish the link financial services to economic and social development, which incidentally covers the Millennium Development Goal of eradicating extreme poverty and hunger. The significance of technology in microfinance has already been highlighted on this blog through a variety of articles, which you can read by clicking on the various links.

Leaving aside microfinance, information technology can assist other development programs aimed at tackling hunger and poverty by reducing transaction costs faced by individual low-income traders (consider use of mobile banking and informational mobile applications that reduce information asymmetry in markets for farmers in rural areas).

Cloud Computing (Saas) in Microfinance – Benefits, Challenges and The Future

Last week’s article covered a comparison of cloud computing solution for microfinance institutions, with off-the-shelf software and propriety software. The article went on to discuss three benefits of cloud computing in the context of microfinance, and this post continues under the same topic.

4. Improved Internal Control Through Cloud Computing

Once automated procedures and real time reporting are in place, the microfinance institution can exercise better control over its operations across all its branches. Specific benefits of such a step can be:

• Reduced default rate through the administration of sound credit underwriting procedures – these procedures can be created to minimize default risk and loan officers will be obliged to adhere to these steps while approving loan applications.
• Better customer service through instant data availability – any queries from clients about the status of their loans can be immediately answered and any alarming behaviour on the part of clients can be promptly identified through real time data availability. Additionally, loan officers will have more time on their hands to deal with clients because paperwork will be minimized.
• Greater accuracy of internal and external reports – microfinance institutions need to give a detailed account of their activities to investors and creditors, as well as donors, which is a tedious and time consuming task, susceptible to deliberate and accidental inaccuracies. Automated reporting procedures eliminate this risk and provide instantaneous reports to multiple stakeholders.

5. Greater Data Security

Data security and protection is vital in every type of business and microfinance is no exception; however, microfinance institutions often setup numerous branches in far off areas, each collecting their own sets of client data, which makes back-up a hassle. Cloud computing software providers take care of data security themselves, regularly backing up all information and protecting servers against viruses as well.

Some Challenges of Cloud Computing For Microfinance

Cloud computing, like any other software solution for microfinance providers, is not without its risks, the biggest one of which is related to regulatory hurdles. Microfinance institutions are bound by different laws about reporting and information management across different countries and software solutions need to abide to those laws too. For instance, sometimes the main server must be hosted locally to ‘prevent discontinuation of operations during an internet blackout, and to keep a copy of all customer data locally’. For this reason, several information system hubs may be setup in different countries to cater specifically to local microfinance institutions.

Secondly, microfinance institutions with other forms of information system may face trouble adopting the new cloud computing solution, because employees must be retrained, data must be shifted to the new database, etc.

Thirdly, a large gap will be left behind by cloud computing vendors that go out of business, even though that is an unlikely scenario. Microfinance institutions must chalk out what happens to the data in such an event, before signing any agreements, and may further avoid this risk by selecting vendors with previous experience in this area.

The Future of Cloud Computing and Microfinance

Cloud computing has a lot of potential in the context of microfinance, as explained previously. The future will see greater penetration of this software solution as the microfinance sector transforms into an industry. Some notable cloud computing developers are setting up information system hubs in microfinance hotspots around the world, such as India, Kenya, and Brazil. These hubs will have the capacity to serve multiple MFIs simultaneously, drawing the benefit of scale economies to further drive down costs and improve outreach as well as product development.

The strategic implications of setting up microfinance information hubs around the world have been mentioned by Ashta and Patel (2010):

It would strengthen knowledge sharing across the region (and) increase opportunities for pricing discounts from vendors…regional coordination would enables sharing of IT staffing costs, which in turn offers opportunity to lower IT costs at the affiliate / partner level and can further lower their operating costs.

The dream is to enable high transferability of microfinance clients, whether it is from one MFI to another, from one mobile banking carrier to another, or even from an MFI to a commercial bank, if need arises. Of course, all this is only useful if costs are well under control, which is something cloud computing promises to offer.

Importance of Third Party Technology Players in Microfinance

One may appreciate that despite numerous challenges, the microfinance sector at the global level, over the last three decades, has experienced a sustained growth. However, the original objectives of microfinance and the business models adopted by a number of market players did not complement each other as some microfinance institutions saw this as an opportunity to maximize the return on their investment, instead of optimizing it. In support for this approach, some stakeholders may seek refuge in higher risks associated with microfinance lending as well as higher operational costs for doing the business; however, a number of risk mitigation options are now available to such MFIs.

Since the microfinance sector has been a seller’s market and consumers with no alternative were receptive to any financing options offered to them at the seller’s (microfinance institution’s) conditions. The microfinance sector is still largely an unexplored world with tremendous potential and it was eventually realized that microfinance clients need to be served in new ways, with new tools and products.

Initially, a number of microfinance institutions, some with a view to make quick money and others willing to make a positive difference, entered the field with great ease and aplomb but little or no tactical tools to assure and sustain their growth. These players having suffered from a lack of efficiencies and without operational controls or risk discipline indulged in wayward financing that not only harmed themselves, but also their clients.

However these experiences underscored that the latest challenges for the microfinance business world were:

• Risk management,
• Ever-increasing operational expenses,
• Outreach to far-off areas
• Difficulties in repayment process, and
• Loan recovery processes.

Therefore, issues like business efficiency, reduction in operational costs, software development and communications are becoming increasingly relevant to the success of microfinance.

There are two ways to overcome these challenges:

• Invest substantially in relevant business areas which, at the end of the day, would affect return on investments (ROI), or
• Engage third party players that offer specialized services related to overcoming these challenges.

Whichever path is taken, it can be safely assumed that today, for the success of any microfinance business model, the role of third parties is becoming increasingly important.

Similar to commercial banking, the dynamics of microfinance needs better technical tools for almost every step of the model, be it evaluation of prospective borrower’s profile, monitoring of repayment schedules, anticipating impending threats and taking remedial measures.

Understandably, credit bureaus are well positioned to fill in this void as they have the infrastructure in place and by adding information regarding microfinance borrowers and other clients, credit bureaus can offer to significantly reduce credit risk for microfinance institutions. Real time integration between credit bureaus and MFIs is enabled through the telecommunications sector, which also have a role to play in enhancing service outreach while controlling transport and other costs. Mobile banking can significantly lower the cost of delivering these services, as stated in a recent CGAP report.

In today’s business, manual or semi-computerized environments in microfinance institutions is a recipe for disaster. Only sound office management policies and operational controls can ensure effective risk management and reduction in administrative expenses. However, improving business efficiency often requires investment in software development and communications and that is where the real obstacle lies, because capital cost of such inputs is beyond the capacity of most microfinance institutions.

In such a scenario, specialized third party solution providers (be they manufacturers of off-the-shelf solutions or software hosted in the cloud) emerge as viable alternatives. These outfits have in-depth knowledge about microfinance as well as ability to service numerous customers under bilateral fee based agreements without compromising the information security of the constituents.

Such an arrangement, on one side, enables microfinance institutions to avoid related capital cost for technological implements and on the other, improves capacity building processes within the organization, and allows them to focus on their core business.

While operational efficiency and telecom related solutions are easy to handle, presently the concept of cloud computing is likely to face two major obstacles:

• local regulations for microfinance institutions vary from country to country,
• under the existing mind-set, microfinance institutions prefer to have physical control over their database.

Naturally, the first challenge is far easier to overcome than the second.

People are normally resistant to change so it would entail a long continuous awareness campaign on part of stakeholders (technology firms, microfinance investors, etc.) to change the psyche of microfinance practitioners engaged and to convince them that the emerging role of specialized third party players is going to change the dynamics of microfinance in favour of the MFIs.

Cloud Computing (Saas) in Microfinance – Risks and Benefits

Microfinance is witnessing a revolution on the front end, as microfinance institutions engage in product innovation and market exploration to serve diverse needs that venture beyond the financial realm. Naturally, this front-end revolution has driven a back-end revolution, that of the microfinance sector infrastructure, where cloud computing is the next big thing.

Cloud computing is also known as ‘Computing as a Service’ (CaaS), which includes the famous ‘Software as a Service’ (SaaS) model that is quickly gaining acceptance among microfinance institutions who wish to streamline their growing operations while keeping costs under control. SaaS models involve the provision of a complete suite of software applications through the internet to microfinance institutions (clients), who only access the software as and when needed, i.e. the software is provided on demand. Cloud computing goes a notch above SaaS because it covers the provision of on-demand software and hardware.

Before we go any further, one may stop and wonder why it is important for microfinance institutions (MFIs) to shift from manual processing to automated processing in the first place, considering MFIs have been relying on manual systems for years. This topic has been previously discussed through a blog post series about the role and importance of technology in microfinance. Once we determine the high-tech way is the right way for quickly growing microfinance institutions, the question arises as to why cloud computing is a good idea in the microfinance context, and the answer lies in the multiple benefits cloud computing has to offer MFIs.

The benefits of cloud computing are immense, but there are two sides to every story. This article discusses the advantages cloud computing promises to deliver to the microfinance sector and mentions a few problems associated with this model, accompanied by their solutions.

Benefits of Cloud Computing for Microfinance

The following benefits directly apply to microfinance institutions and indirectly impact microfinance clients and the microfinance sector.

1. Ease in Setup and Administration

The importance of a technology-based information system for microfinance institutions has already been established, and the next step is to determine which type of software is most suitable. A basic comparison of the three choices available to microfinance institutions in this regard explains why it is easiest to select cloud computing:

Comparison of Technology Solutions for Microfinance Institutions (Limited to Setup and Administration)
Technology Solution	Pros	Cons
Off-the-shelf software solution	Costs less (investment in plenty of hardware, such as servers, PCs, air conditioners, administrators, etc.)	Mew features May not cater to unique needs of MFI Need to train employees to use the software, Need to contact software developers for troubleshooting and support Regular maintenance required
Propriety software solution	Feature savvy	Costs more (investment in plenty of hardware and software programming fees) Need to train employees to use the software Need to contact software developers for troubleshooting Regular maintenance required
Hybrid between the two options, i.e. a software hosted in the cloud (cloud computing)	Costs are moderate (reduced hardware cost, no software programming fee, usage fee applies) Feature savvy Cloud computing service provider takes care of maintenance, support and software up-gradation	Employees need to be trained in the front-end area only (i.e. software usage) Internet connectivity is a must Cost of data migration

2. Cloud Computing and New Microfinance Services/Facilities

The cloud computing SaaS solution helps microfinance institutions introduce new services with relative ease, because the software developers handle all technical elements while the MFI can focus on product details (as well as serving their clients and maintain good repayment rates). For instance, together with a telecom firm, the CaaS team can setup a single mobile banking application on their platform that can be accessed by a variety of MFIs as they begin to roll out the service to their clients. In this instance, all that is needed is to integrate the microfinance provider’s information system with the mobile banking solution and they are ready to go.

Similarly, any decisions to rely on ATM networks and Point of Sale devices for remittances or loan disbursement can be quickly implemented throughout the microfinance sector if a centralized cloud computing hub integrates these applications. These hubs enable the easy portability of various financial and non-financial applications that are relevant to microfinance today, as mentioned in the following excerpt:

The network of partners in the hub permits interface with payment networks, remittance networks, credit bureaus, proprietary applications, ATM Networks/ switches, Mobile devices and national banking networks.(Jimenez 2008b).

3. Cloud Computing and Cost Control for Microfinance Institutions

The cloud computing SaaS solution uses an affordable pricing policy where microfinance institutions pay in accordance to the software usage (a fee is typically charged on a per-user basis), apart from a subscription fee. As a result, a small MFI can get away with using the information system for a small fee as a limited number of employees use the system to communicate details about a limited number of clients. The biggest benefit is that small microfinance providers can can enjoy the benefits of economies of scale despite their size.

On the other end of the spectrum, large MFIs pay discounted user-fees owing to the sheer size of their users (the aggregate fee is obviously more but the pricing is constructed in a manner that makes it economical compared to proprietary software). As their scale grows, the comparison between stand-alone solutions and cloud computing may shift in favour of the former, but as far as small and medium sized MFIs are concerned, the balance is in favour of the former.

This infrastructure-sharing mechanism along with the lower system development and maintenance cost enable microfinance institutions to control their operational expense in the long run, which will theoretically lower the high interest rates charged on microloans.

Next week’s article mentions a few other benefits of cloud computing in microfinance as well as a few risks.

Reference:
Jimenez, Alberto. 2008b. Microfinance Processing Hub: Latin America, Presentation at Asia Microfinance Forum, August 26 – 29, Hanoi, Vietnam.

Importance of Credit Bureaus in Microfinance – Part 2

Four Types of Benefits of Credit Scoring for Microfinance Institutions…cont.

3. Marketing Benefits

Credit bureaus help differentiate promising borrowers from risky ones, and create micro-segments in accordance with the delinquency rates of prospective clients. Marketers in microfinance institutions can devise financial services to cater to each risk profile (such as micro-insurance for high-risk farmer, or micro-savings for medium-risk craftsman) and develop strategies to improve the collection rate as well.

4. Other managerial implications

Formal credit scoring systems are generally more accurate compared to manual risk assessment tools because they rely on explicit risk variables and employ the collective wisdom of all partner microfinance institutions. This helps promote prompt, standardized and reliable decisions, reduces the chance of fraudulent activities and quickly indentifies any negative trends in the portfolio quality, which may be rectified immediately.

To sum it up, here is what Dellien and Schreiner (2005) have to say:

Scoring for microfinance reduces arrears and conserves loan officers’ time, increasing profits and improving outreach. scoring can both increase portfolio size and reduce arrears. With many of the worst loans avoided, portfolio-at-risk (defined as the balance of any loan in arrears) also decreases. (For evidence, read their paper).

Benefits at Macro Level

Following the logic used earlier, if microfinance institutions benefit, the entire financial sector prospers. As mentioned in the Microfinance Hub Blog, credit bureaus encourage MFIs to collaborate through information sharing, instead of competing, and in the long run, the sector can limit default rates, check multiple borrowing and meet its social and financial objectives while ensuring institutional sustainability.

Data mining of credit bureaus not only helps supervise the microfinance sector’s performance but also facilitates economic research geared towards policy improvement. For instance, the pro-active discovery of negative trends, such as the accumulation of bad debt in a particular region, can alert policy makers and microfinance networks/associations and the problem can be address before it becomes a crisis. This was one of the lessons learned from the microfinance crisis in India and Morocco.

One of the reasons large financial institutions avoid lending to microfinance clients is because profiling clients based on personal information is difficult. However, credit bureaus eliminate this problem to a great extent and the entry barriers faced by large banks are lowered.

The result of all this, is a reduction in poverty.

Conclusion

Formal credit scoring processes can deliver numerous advantages, as explained in this article but credit bureaus may never fully replace the traditional loan approval process. This is because individuals characteristics of clients can make a big difference in the high-touch microfinance model. Nevertheless, credit bureaus do alter the traditional model and shift it towards the high-tech approach to consumer loans used by conventional financial institutions (Dellien and Schreiner, 2005).

Next week’s post talks about exactly that – technological elements, processes and key success factors of successful credit scoring systems in microfinance.

Further Reading and References:

Lenisa, F. (2007). The Importance of Credit Information & Credit Scoring for Micro Lending & Microfinance Institutions. Available: http://siteresources.worldbank.org/FSLP/Resources/FrankLenisa_CreditInformation.pdf. Last accessed 30th Oct 2010.

Dutheil, M. (2006). Microfinance Bureaus : Balancing Vision and Pragmatic Solutions. Available: info.worldbank.org/etools/library/latestversion.asp?235943. Last accessed 2, April, 2010.

Dellien, H and Schreiner, M. (2005). Credit Scoring, Banks, and Microfinance: Balancing High-Tech with High-Touch. Available: http://www.microfinance.com/English/Papers/Scoring_High_Tech_High_Touch.pdf. Last accessed 30th Oct 2010.

Importance of Credit Bureaus in Microfinance – Part 1

Credit Information Bureaus (CIBs) are a somewhat new agenda in microfinance, even though they have been an integral part of traditional finance for decades. Quantitative data (income sources, cash flow repayment rate, number of outstanding loans, etc.) used for credit risk scoring of microfinance clients is vital considering the growth rate of the sector as well as the booming competition within. Obstacles related to credit reporting in this high-touch model must be swiftly overcome in order to leverage the huge benefits credit scoring has to offer in the microfinance context.

Four Benefits of Credit Scoring for Microfinance Clients

Microfinance clients stand to gain a lot through the installation of credit rating systems. Here are four benefits:

1. Quick service

Credit bureaus can efficiently provide access to information needed to sort out high-risk clients from low-risk clients. Automation of the loan approval process significantly reduces the time taken to evaluate loan applications, thereby saving the client’s time, which may be better invested in the actual business. The quicker the loan is approved, the quicker the client may start his/her business project.

2. Better financial discipline

Credit scoring mechanisms penalize microfinance (high-risk) clients with poor repayment histories and reward microfinance clients with good credit discipline. Default-prone clients are subjected to unfavourable loan conditions (smaller size, higher interest rate, frequent repayment schedule, etc.), while low-risk clients are eligible to avail favourable pricing structures and better customer service. In other words, credit scoring helps encourage microfinance clients to adopt prudent financial management practices (such as prompt repayment, avoidance of over-indebtedness, reduce chance of personal bankruptcies, etc.) which improve their credit report.

3. Access to more options

Credit bureaus centrally store information about all microfinance clients in a country and this data can be universally accessed by different microfinance institutions. As a result, clients can easily apply for microcredit in different towns or cities and this ‘frictionless transferability of borrowers’ increases the range of MFIs clients can approach (which also encourages MFIs to be more competitive).

4. Fair selection process

There is always a possibility that loan officers manipulate client information in order to favour certain customers, or that loan officers mistakenly refuse credit to valid applicants. This possibility of nepotism and false negatives is greatly reduced if quantitative, non-subjective data is systematically analysed to arrive at a credit score.

Four Types of Benefits of Credit Scoring for Microfinance Institutions

It goes without saying that microfinance institutions benefit if their clients benefit; however, apart from that indirect advantage, credit bureaus benefit MFIs in four areas.

1. Financial benefits

Credit bureaus impact financial statements in three ways: firstly, owing to the theory of economies of scale, credit bureaus reduce the transaction cost of credit risk assessment; secondly, because of efficient loan processing and universal access to client information, microfinance institutions can advance more loans to clients, thereby increasing sales; and thirdly, the microcredit pricing structure is optimized as per client risk (i.e. interest rates and provisioning for bad debts can easily be varied according to the client’s credit score).

2. Risk Management

Credit scoring systems essentially help microfinance institutions manage credit risk, whether the end result is risk mitigation or avoidance. Keeping in view in-depth knowledge of client’s credit histories, high-risk clients may be accepted and put through certain processes to reduce risk exposure.

For instance, client with high outstanding balances can be asked to submit their repayments more regularly, may be monitored more frequently, or may be accepted for small loan sizes only. Greater analysis of a high-risk profile may reveal certain low-risk characteristics (such as promising business plan, expected bumper crop in the next season) that balance out the overall profile and make the client eligible for favourable terms.

As mentioned earlier, the quantitative analysis of risk reduces the chance of mistakes, and this automated risk assessment is carried out at comparatively lower costs.

…cont.

The next post talks about two other benefits MFIs stand to gain through credit scoring systems, as well as the macro-level advantages of microfinance credit bureaus.

ATMs in Microfinance – Part 2

Getting the ATM Solution Right…Cont.

• Usage Barriers – new technology itself can be slightly intimidating, especially for those who are unfamiliar with the English language, which is commonly used in gadgets such as cell phones and ATMs. The rural population in many developing economies may find is easy to operate ATMs through pictorial instructions, or instructions written in their local languages.

• Communication line – ATMs need to send transaction details over a reliable wireless network to the relevant database in order to record debit and credit entries in user accounts, whether they are bank accounts of mobile wallet accounts. A good and cost-effective internet connection is required to instantaneously process data online (an OLAP database may be used). In order to keep internet costs under control, transaction details may be sent to the database for processing in batches, perhaps twice a day (an OLTP database may be used).

• Security and trust – since ATM machines are a modified version of bank branches, they are exposed to criminal theft and misuse in a variety of ways. ATM machines may be tampered to steal ATM cards, funds may be given to the wrong person if the pin-code is misplaced by a user, or currency notes may be stolen altogether. While there are many ways to address these concerns, one not-so-obvious solution is to use biometrics, instead of pin-codes to correctly identify people. Mass usage will only entail once customers trust the technology, and good security arrangements facilitate the development of trust.

Benefits and drawbacks of ATM Machines in Microfinance

ATM networks offer plenty of benefits to microfinance institutions and fulfil the vision of financial inclusion in three ways:

• Cash float management – supply chain management is slightly complicated in mobile banking because of cash-float issues. Mobile banking agents need to keep plenty of cash in hand in order to service cash-out requests from customers, the frequency of which are difficult to predict. As a result, these agents must travel to the nearest bank, which could be several miles away, or be inaccessible in the evening or at night. ATM networks can solve this problem based on their ubiquitous nature.

• 24/7 availability – The day-and-night availability of ATMs offers three benefits:
  • Customers enjoy a great deal of freedom in paying back their loan instalments as they need not leave their jobs/businesses to attend weekly or monthly group meetings.
  • Customers based in regions far and wide can easily access low-cost financial services.
  • These machines replace loan officers to a certain degree (customers can deposit their money on their own) which leaves them with more time to focus on customer acquisition and personalized interactions that have a lot of value.
• Easy distribution of government support funds for the poor, such as social security payments or post-disaster relief assistance.

• Customer empowerment – customers grow accustomed to using an array of services offered through ATM networks, which improves their financial independence, as highlighted in the following excerpt from a CGAP report:

For Prodem FFP, the primary benefit of the ATM network was greater convenience for customers and increased deposit mobilization. Customers used the ATMs for many transactions that previously required staff attention, and were able to conduct business in many locations. In turn, this makes it more convenient for clients to save, which increased the volume of deposit funds available to the institution.

• Safety – Low-income groups usually rely on unsafe means of storing money, such as underneath their mattress, or by investing it in livestock, which may be sold at a later date when cash is needed. ATMs are a safe way to store this money and the service is offered free of cost.

Lastly, here is a video of an ATM prototype that is ideal for the developing world.

Technology and Microfinance Services Part II: International Remittance

Migrant worker sent over $550 billion in remittances to their home countries in 2008, which is almost 20 times the total US budget for international aid. No doubt, international remittance services offer a lucrative opportunity for microfinance institutions (MFIs) and mobile banking operators because most workers rely on informal methods to send money home since they lack access to banks.

To offer international fund transfer services to clients, MFIs and mobile banking operators must leverage linkages with money transfer operators (MTOs) within migrant-sending countries (Pakistan, India, Philippines, Bangladesh, Mexico, Poland, etc.) as well as within migrant-receiving countries (Saudi Arabia, USA, Australia, Russia, Germany, among others; see map). Since this post series is about the role of technology in microfinance services, this particular article limits itself to international remittances. (Part 1, which looked at the different technological elements of mobile banking, is a supporting post.)

Basic Requirements of Information Systems That Handle Remittances

Any effective remittance system must possess the following capabilities (Hastings, 2006):

Managing large volumes of low value transactions at low costs

Ensure speedy delivery of funds across the globe

Ensure safety and privacy of transaction orders (encrypted files are sent through different servers to communicate details about credit card numbers, bank account numbers, remittance amount, subscriber’s mobile phone number, etc.)

Interlinking with different MTOs (microfinance bank, exchange firms and money service bureaus, such as Western Union, Dollar East, MoneyGram, etc.) and clearance houses in numerous countries.

Getting Money From Customers

Customers can send remittances in a variety of ways, some of which are:

Visit MFI in person and hand over funds that are to be remitted,

Use their mobile wallets to transfer funds internationally (see previous article on mechanics of mobile banking), and

Deposit cash through specialized kiosks or extensive ATM networks electronically integrated with a variety of MFIs (details in next week’s article).

Processing in Banking Hub

Transaction details are conveyed to the information system so they may be processed along the following dimensions.

Service pricing: Each MTO has a unique service charge for different countries, and an MTO’s information platform must select the most economical option for each transaction. The World Bank has published a list of remittance prices across the world for various MTOs, which individuals as well as MFIs can leverage.

Exchange rate handling: banking systems (of the remittance-sending bank) must also determine the most favourable daily exchange rate, which varies from MTO to MTO by a few decimal points. (These decimal points make a big impact when the aggregate transaction size is large.) Exchange rates also come into play when MFIs deposit funds as floats in their bank accounts with various banks in the remittance-receiving countries.

Communicating transaction details: payment instructions and details (credit card number, account number, amount, receiver’s mobile phone numbers, etc.) are sent via the internet to the partner MTO’s system. If the remittance-sending MTO relies on its own processing system, a bridging interface may be used to connect the two portals, or the sending partner’s interface may suffice on its own.

Account settlement: the final account is settled by the core banking system (through an auxiliary application system, in the case of mobile banking – read more) behind the scene as the individual draws money out of the system. There are two ways this transaction is finalized:

Pull transaction: sometimes, a remittance-sender may not specify a bank from which his/her family can collect the money. In that case, the MTO stores transaction details and instruction in cloud computing system which can be accessed by various banks in the remittance-receiving country (provided the MTO owns bank accounts into those institutions). All transactions are pooled in the cloud and ‘pulled’ individually by banks as needed.

Push transaction: when remittance-senders specify the receiving bank, MTOs simply push the transaction instructions to that bank.

Compliance: lastly, information systems ensure compliance with regulatory standards related to customer authentication, documentation, reporting, fraud prevention, etc.

Giving Money to Customers

Three basic options allow the remitted funds to come under the possession of family members back home:

Place money in the relevant bank account at the microfinance institution

Deliver cash directly to individual, or

Deposit the funds in the relevant mobile wallet account, where it can be used for various purposes (read more).

This concludes the second article in the post-series about the role of technology in microfinance services. Part 1 looked at the various technological elements of mobile banking. Next week’s post will discuss how technology enables the setup of ATM networks and POS terminals in microfinance.

Reference:

Hastings, A. (2006). Entry of MFIs into the Remittance Market: Opportunities and Challenges. Available: http://www.google.com/url?sa=t&source=web&cd=1&ved=0CBQQFjAA&url=http%3A%2F%2Fwww.microcreditsummit.org%2Fpapers%2FWorkshops%2F23_Hastings.pdf&ei=G2-STM6YNc6XceeSxLUG&usg=AFQjCNED_bGYoqf7J0NvrtI-4NrIO. Last accessed 10th Sept

Technology and Microfinance Services Part I: Mobile Banking

Over the last decade, microfinance has quickly evolved into a complex sector with a lot of third-party service providers participating in the overall supply chain. Telecom operators, credit information bureaus, ATM and POS network providers, and specialized information system developers are some of the new entrants in the sector, each offering a unique benefit to microfinance institutes (MFIs). This post-series looks at how technology has shaped the dynamics of the microfinance sector, making it more resilient and expansive.

Mobile banking has taken certain economies in the developing world by storm, in some cases acting as a link between the microfinance mission and the poor (even though the reach of mobile banking solutions is far beyond this market segment). Made possible by specialized technology platforms that enable the delivery of financial services through mobile phones, mobile banking is now accessible to anyone with a cell phone and mobile reception. This article specifically looks at how technology enables the provision of the mobile banking service.

Interoperability of Mobile Banking Technology Solutions

The type of mobile banking technology solution depends on where it is hosted and who interacts with it, (as depicted in the Figure 1; credit: Gauravonomics.com), which is sometimes determined by the mobile banking model being followed (bank-focused, bank-led and non-bank-led models). For instance, a bank may operate its own mobile virtual network (MVN) in a bank-focused model, while a mobile operator hosted mobile banking platform is more appropriate for a non-bank-led model (which are run primarily by telecom firms, e.g. Kenya’s M-Pesa and Philippine’s Smart Money).

Any solution hosted with selected banks or mobile operators will limit branchless banking’s progress in the long run as new entrants must evaluate the capital requirements of self-hosting or the ramifications of collaborating with old players in the market. The diagram shows a third alternative, ‘third party hosted mobile banking platform with bank and mobile operator interoperability’ (labelled ’8′), or in other words, cloud computing (which is particularly suited to add value to the developing world). As a number of participants (telecom firms, banks, credit bureaus, network agents, retailers, utility firms, etc.) connect to one another through a single interface, they can gain certain efficiencies that can lower costs and drive growth.

Functions Performed by Mobile Banking Technology Solutions

The range of services supported by advances mobile banking technology platforms is impressive by all means, as it includes:

Airtime purchase / balance recharge

Funds deposit and withdrawal

Fund transfer from one client to another

Mobile wallet functionality

Microloan distribution and collection

Foreign remittance handling, and

Interbank funds transfers.

Different functions are performed to process these transactions in a safe, accurate and timely manner, as explained next.

Sending Data Over the Wireless Carrier

Text messages sent by clients reach the bank’s database instantaneously and securely thanks to advances in technology. Data travels in the form of Short Message Service (SMS) through a wireless carrier network (MNO’s network) and reaches a Short Message Service Centre (SMSC), which acts as an intermediary between the MNO and bank. Once these instructions are converted into a format that can be sent over the internet (HTTP or SMPP), the SMSC interacts with the bank’s specialized mobile banking application, which deals with the bank’s core financial technology solution. (See a detailed diagram). Data is sent back the same way.

These SMSCs have the capability of instantaneously processing messages in bulk so the mobile banking experience is as smooth as possible for client.

Types of Mobile Banking Applications in the SMSC

Each type of mobile banking transaction needs a different application. For instance, the process explained above starts from the customer’s end as s/he requests specific information from the bank’s database, hence a ‘Pull’ application is used to receive customer requests and forward them to the bank’s technology platform.

Alternatively, the bank could initiate the communication through an ‘E-mail to Mobile’ (E2M) application which converts promotional/informational e-mails received from banks into an SMS that can be forwarded to multiple users. The third type of mobile banking application is called ‘Database to Mobile’ (D2M) where any changes made to the client’s account (use of credit card, money deposit, etc.) are automatically conveyed to the client’s cellphone.

Data Security in Mobile Banking

Mobile banking offers no value if transactions are not secure. In order to avoid spam and theft of personal/financial information, all text messages are encrypted, passed through a firewall and verified through digital signatures.

Next week’s post will focus on the role technology plays in transactions related to international remittances services (published).

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