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MICROFINANCE TERM PAPER

PERFORMANCE OF MICROFINANCE PROGRAMMES BY INSTITUTIONS TYPE: A


CONSIDERATION OF EFFICIENCY AND PRODUCTIVITY AMONG FINANCIAL NGOS AND
SAVINGS AND LOANS COMPANIES

Table of Contents
1.0 Introduction......................................................................................................................................................... 2
1.1 Objectives .......................................................................................................................................................... 5
2.0 Review of Literature ......................................................................................................................................... 6
2.1 Drivers of sustainability ................................................................................................................................ 9
2.2 Productivity and Efficiency ....................................................................................................................... 10
2.3 Performance Benchmarks ......................................................................................................................... 12
2.4 Hypothesis ..................................................................................................................................................... 12
3.0 Analysis of GHAMFIN Report ...................................................................................................................... 13
3.1 Methodology ................................................................................................................................................. 13
3.2 Data ................................................................................................................................................................. 13
3.3 Variables........................................................................................................................................................ 14
3.4 Sampling........................................................................................................................................................ 14
3.5 Critique of the GHAMFIN study (Performance and sustainability)................................................ 14
3.6 Limitations .................................................................................................................................................... 15
3.7 Empirical Results ......................................................................................................................................... 16
3.8 Productivity................................................................................................................................................... 16
3.8 Efficiency ........................................................................................................................................................ 17
3.9 Test of the relationship between Productivity, Efficiency and Sustainability ............................. 17
4.0 Conclusions ....................................................................................................................................................... 18
References ................................................................................................................................................................ 19

Tables

Table 1 Productivity and Efficiency Ratios ………………………………………………………....11

Table 2 Institution Type and Characteristic ………………………………………………………...13

Table 3 Productivity and Efficiency indicators by type of institution ………………………………15

Figures

Figure 1 Exploring Performance of Microfinance Programmes ……………………………………..9

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1.0 Introduction
Microfinance programmes have had mixed outcomes over the last two decades since

the sector intensified as a result of the new thinking towards the reduction of poverty

in development circles. The sector has grown from primarily credit-giving institutions

to a variety of institutions providing financial services across different income groups.

The growth in volume, types and quality of microfinance programmes over the period

have mixed in terms results.

Microfinance has been seen as a powerful tool for enhancing development and reducing

poverty since unlike some of the other tools; it is flexible and directly empowers

beneficiaries and pay back when they become sustainable (CGAP,2002; GHAMFIN,

2006). A well targeted microfinance programme has the potential of improving the

livelihoods for beneficiaries and one of the best measurable and verifiable ways of

eradicating poverty (Yogendra and Uma, 2006).

Microfinance has been defined as system that enhances access to financial services to

poor people in a sustainable way to reduce poverty and improve livelihood.

Microfinance gives opportunity for poor people to increase their sources of income as

well as protect them from vulnerable events (CGAP, 2002). Improved access to financial

services has increased the range of choices of financial products that can transform the

livelihood outcomes of the poor by rolling back financial exclusion. Microfinance

products are delivered through programmes run by institutions such as Rural and

Community Banks (RCBs), Credit Unions, Financial NGOs, Savings and Loans Companies

and Susu (GHAMFIN, 2004; Steel and Andah, 2003).Since MFIs are different from

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traditional financial institutions, they have innovated various means to manage risk and

achieve sustainability. Such innovations include group methodology, small frequent

payments and in some cases train the clients in micro enterprise management and

financial literacy (Murduch, 2000, Woller, 2000).

In the early days of microfinance there was a real bias towards outreach to the poor as

most of the microfinance institutions concentrated on the extension of credit poor

households (CGAP,2002, SEEP, 2009; Murdoch, 2000; Makama and Murinda, 2005).

Historically the institutions that run these programmes were invariable NGO who

integrated the giving of micro loans into their operations as one of the tools for

eradicating poverty. This approach has been variously referred to as the welfarist

approach (Murdoch, 2000). The outreach and poverty reduction missions of these

programmes took prominence of place above other considerations (Murdoch, 2000;

Tchakoute-Tchuigoua, 2010). Microfinance has also emerged from a solely granting

credit to poor households to the offer of many financial products to low income clients,

especially entrepreneurial poor engaged in activities that has frequent turnover.

As the microfinance industry evolved and expanded other dynamic views emerged as it

was realised that MF programmes dependence on subsidies and donors was in the long

run unsustainable (Christen 2000; Murdoch, 2000; Woller, 2000). This realisation

shifted attention from just outreach towards more benchmarks that measures

sustainability, profitability and performance. Also Microfinance emerged as a substitute

for informal credit and an effective and powerful instrument for poverty reduction

among people who are economically active but financially constrained and vulnerable in

various countries. In effect microfinance products were extended to clients that run

micro enterprises. This brought into the industry many privately owned commercial

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microfinance institutions which saw the sectors as a sector with growth prospects and

significant returns (Conning, 1999; Schreiner, 1996).

The Microfinance scene in Ghana has gone through similar evolution against the

background of long existing informal microfinance institutions which have existed over

many decades. This scenario created some different MFI institutions with varied core

objectives serving different kinds of households. Currently there hundreds of

microfinance programme across the country run by any of the different kinds of

institutions including Rural and Community bank, Financial NGOs, Credit Unions ,

Saving and Loans Companies and Susu groups. These different groups employ different

methodologies to reach their clients (Steel and Andah, 2003).

It is quite clear that the extension of these microfinance services to many households

has brought into focus the issue of ensuring the sustainability of such programme and

sustains them while fulfilling other objectives. The nature and peculiar characteristic of

MFIs makes it very difficult to achieve sustainability. These peculiar factors include

small loan sizes, small scales of programmes, large operating cost etc (CGAP,2002).

This study tries to examine the benchmarks of Productivity among FNGO programmes

and Savings and loans companies and explore their influence on sustainability of these

institutions in fulfilling their goals. To be sustainable microfinance institutions must be

able cover their operating expenses, cost of funds and make profits. Some of the critical

indicators of good performance include Productivity and Efficiency (Tor et al,2003). The

purpose of this paper is to explore these two critical indicators of FNGOs and Savings

and Loans companies among MFIs in Ghana. These two types of MFIs have been

selected for comparison because of the apparent difference in their basic bottom lines;

the Savings & Loans main goals of profitability and growth while FNGOs goals of

outreach and reduction in poverty. These benchmarks are critical for the long run

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viability of these MFI programmes in Ghana even among subsidised and donor

supported FNGO (GHAMFIN, 2004). Higher productivity and efficiency will make them

more sustainable and be able to serve the poor better. For profit and growth oriented

Savings & loans companies, these indicators are so critical to their very survival

(Tchakoute-Tchuigoua, 2010). This is because the Microfinance sector in Ghana is

becoming very competitive and less productive and efficient institutions will be out-

competed from the market.

The microfinance movement has rightly addressed this concerns and developed

benchmarks and technical specifications for measuring performance and improve

reporting within the industry. These standards are global in nature and afford

institutions the opportunity to measures their performance against these standards

(SEEP, 2005).

The evolving and dynamic nature of the microfinance industry means that institutions

must be innovative and adopt new technology in reaching their institutional goal and

broader societal goals. However these goals could not be achieved if the fundamental

drivers of sustainability and performance are neglected. Going forward, greater

attention needs to be paid to these critical benchmarks.

1.1 Objectives
This study is aimed at using the performance benchmarks to evaluate the relationship

that exist between specific indicators and sustainability of microfinance programmes in

the GHAMFIN study. The performance indicators that will be used are Productivity and

Efficiency and will be applied to FNGOs and Savings &Loan Companies. This I hope will

bring out nuanced findings that will throw more light on the implications of these two

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indicators on the sustainability of these two types of MFIs. Specific objective of the

study

 Define the concepts of Productivity and Efficiency and their relevance in

assessing Sustainability of microfinance programmes

 Comparative analysis of performance of FNGO and Savings &Loans companies

 Employ the Benchmark of Productivity and Efficiency to Evaluate the

Performance variation between FNGOs and Savings & Loans

 Examine the relationship between the indicators(Productivity and Efficiency)

and sustainability of the FNGOs and Savings & Loans

2.0 Review of Literature


The history of microfinance is often seen from the perspective of the rise of NGOs

providing micro credit services to the poor and the development of financial services

that improve the choice of financial products. There is an intense debate on whether

MFIs should continue to be donor supported and subsidise their microfinance products

or MF should generate enough revenue to cover their own costs since donors funds are

unpredictable and unsustainable in the long run (Schreiner, 1996). There is one school

of thought which say MF should can be sustainable with donor funds and the others say

the MF should generate enough revenue to cover their own costs as donors funds are

unpredictable (Murdoch, 2000;Basu and Woller, 2004).

From the early days of the debate on sustainability of MFIs, the debate was couched as a

straight choice between sustainability and outreach (Schreiner, 1996 and Christen,

2001). This choice between reaching the poor and ensuring profitability was seen as a

conflict between sticking to the basic bottom-line of MFI. It became to be referred to as

“mission drift” (Murdoch, 2000; Woller, 2000). Various research works were specifically

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undertaken to verify this so called mission drift; whether sustainability of MF

programmes and outreach are mutually exclusive. Makama and Murinda (2005)

analysed the sustainability and outreach trade-off using data from 33 MFIs in East

Africa and find a strong relationship between outreach and sustainability in contrast to

the expected results of a dichotomy between the two. Also a review of data from 2600

MFIs in South East Asia in 2004 revealed that there seemed to be no conflict between

sustainability and outreach (Gonzalez and Rosenbuerg, 2006).

It has been argued that the intrinsic nature of the population served by MFIs makes is

costly to extend financial services to the poor. This has made it difficult for MFIs to be

sustainable. According to Murdoch (2000) it is estimated that only 1% of MFIs are

financially viable worldwide only 5% will ever be.

Standards began to emerge as calls for stronger financial management of microfinance

providers grew in the face of the fast moving evolution of the sector. At the same time

MFIs developed stronger monitoring techniques for their programmes as more varied

institutions like Savings and Loans companies which where purely for profit institutions

began to participate in the sector (CGAP, 2002) .

This variability in MFIs size, type, number, and complexity has accounted for more

emphasis on financial accountability, management, and viability. The industry

recognized this deficiency and agreed that developing standard definitions of financial

terms and the most common indicators was an important next step in its development.

Different MFI types have different structures, agency problems, and expectation from

their stakeholders. Development oriented MFI institutions typified by FNGOs are

expected to have different fundamental bottom lines while commercial MFI institutions

typified by Savings and Loans Companies are expected to have objectives dichotomous

from FNGO (Gonzales and Rosenberg 2006, Woller,2000).

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Savings and Loans are expected to be solely interested in profitability and returns on

investment for their shareholders (Tchakoute-Tchuigoua,2010). For commercial MFI ,

their primary aim is to make profits and returns for their shareholders. Commercial

MFIS are characterized by shareholders who have rights of ownership and privileges

that can be transferred. The owners are responsible for the control of management

decisions. Profitability and sustainability are the main concerns of these institutions and

are therefore expected to score well on the measures of sustainability (Woller, 2000,

Tchakoute-Tchuigoua,2010).

FNGOs are normally institutions which have poverty reduction and livelihood

improvement as their core activities and normally employ microfinance as on of the

tools for achieving their core goals. One of the main objectives of FNGOs is to seek

different outcomes which can be evaluated in terms of quality of service provided by the

organizations and thus adopt different operational approaches. They are therefore

expected to pay more attention to other performance indicators other than

sustainability (Tchakoute-Tchuigoua, 2010)

Microfinance sustainability has been deemed to have been achieved when a

microfinance institution when the operating income from its activities is sufficient to

cover all the operating costs of microfinance programmes. (Woller, 2001). Financial

sustainability means that the MFI is able to cover all its present costs and the costs

incurred in growth, if it expands operations. It would mean that the MFI is able to meet

its operating costs and financial costs without relying on subsidies (CGAP,2000)

.Sustainability determines whether MFI products can be delivered at a cost that is

affordable to clients whilst ensuring that the institution remain viable.

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2.1 Drivers of sustainability
To measures sustainability, some ratios have been developed to provide analytical

framework for tracking the performance of MFIs.The framework is based on standards

developed by a coalition of efforts among many institutions such as CGAP and SEEP, MIX

and MBB. The ratios have been categorised into four main categories. These standard

ratios are useful for measuring performance across different MFI institutions and across

countries.

 Portfolio Quality

 Asset and Liability Management,

 Efficiency and Productivity

 Profitability and Sustainability

This study will be concentrating on the productivity and efficiency ratios of FNGOs and

Savings & Loans. All the ratios are derived from the financial statements of the various

MFIs . The framework provides a multidimensional perspective on the financial health

of the lending and savings operations of the institution involved.

Conceptual Framework

Fig 1 Exploring Performance of Microfinance Programmes


(Commercial and Donor -funded programmes)

Performance of MFI

Commercial /Private MFI Donor Funded and


e.g. S&L subsidised MFI e.g.

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Sustainability

Financial Performance
measured by the
following Social performance
Portfolio Quality measures by
Asset and Liability indicators such as:
Management, Outreach
Efficiency and
Depth of outreach
Productivity
Service Quality
Profitability and
Sustainability Average size of
loans

Source: Own drawings based on literature

2.2 Productivity and Efficiency


These twin indicators are very important in measuring the performance of microfinance

programmes. They point to the operational performance of the microfinance

institutions based on the managerial cultures of these institutions and shows how well

MFIs uses its resources (CGAP, 2001). Productivity and efficiency are important drivers

of performance and profitability and are solely dependent on the internal organisational

mechanism. FNGOs are governed differently and the managerial practices are different

from commercial MFIs. Based on the assumption that FNGOs reach lower income clients

than Savings and Loans they will be expected to perform less well in these ratios. MFI

that perform well on these indicators can be sustainable and will be able to lower

interest rates. This is especially important for FNGO which desires to serve the very

poor.

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Efficiency of Microfinance programmes measures the ability of MFI to generate returns

from their loan portfolio. Efficiency points to how much MFI spends to serve active

clients and points to how much it must earn from active clients to be viable. Table 1

shows the ratios that make up the efficiency indicator.

Productivity measure the work and productivity of personnel especially loan officers. It

shows the caseload of individual loan officers. Higher caseloads for loan officers are

desirable only up to their maximum at which point the number must be limited. This

optimum level of caseloads is crucial since it could affect the quality of service if officers

are swamped with higher number of burrowers.

The ratios that constitute the productivity indicator is summarised in Table 1

Table 1 Productivity and Efficiency Ratios

Category ratio Formula Explanation

Efficiency Operating Operating Expense Shows the personnel and


Expense Ratio Average Gross Loan Portfolio administrative expenses
relative to the loan portfolio

Cost per Active Operating Expense Provides a meaningful


Client Average Number of Active measure of efficiency for an
Clients MFI, allowing it to determine
the average cost of
maintaining an active client.

Average Loan Value of Loans Disbursed Measures the average value


Disbursed Number of Loans Disbursed and size of
each loan disbursed

Average Gross Loan Portfolio Measures the average


Outstanding Number of Loans Outstanding outstanding loan balance per
Loan Size borrower

Productivity Borrowers per Number of Active Borrowers Measures average number of


Loan Officer Number of Loan Officers borrowers managed by each
loan officer

Number of Active Clients The overall productivity of the


Personnel Allocation Ratio Total Number of Personnel MFI’s personnel in terms of
Productivity managing clients,

Source: Adapted from SEEP, 2003

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2.3 Performance Benchmarks
Benchmarking is the process of comparing a single institution’s performance to that of

its peers. The reliability of benchmarking depends on the availability and quality of

comparative data (CGAP, 2001). The GHAMFIN report gives comprehensive data on

performance and this can be compared to data on peers from the West African and

African region (MIX, 2009). The comparative data on MFI performance by charter type

is provided by MIX and it is updated yearly. Benchmarks promote a common set of

performance indicators for measurement and comparison, uniform methodology for

calculating the selected indicators and indicators leading to standard (MIX, 2009).

2.4 Hypothesis
From the literature, it is clear that sustainability is dependant on performance

indicators which include productivity and efficiency. However because of the higher

cost associated with the operation of FNGOs they are expected to perform less than

commercial MFIs because of the different bottom lines and profile of clients they

predominantly serve

Hypothesis 1

With profitability as their prime bottom line Savings and Loans Companies will perform

better than FNGOs in productivity and Efficiency indicators.

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Hypothesis 2

MFIs that perform better operationally (Efficiency and Productivity) are financially self

sufficient which is the most important measure of sustainability.

3.0 Analysis of GHAMFIN Report

3.1 Methodology
The framework used to analyse the performance of FNGO and Savings and loans consist

of data drawn from the GHAMFIN study. GHAMFIN is a network of microfinance

institutions in Ghana which advocates and conducts research on the microfinance

industry in Ghana. GHAMFIM in 2004 conducted a research into the three bottom lines

of Impact, outreach and sustainability of microfinance programmes. Data to be used

comes from this study.

3.2 Data
To explore the performance of microfinance programmes, data was drawn from the

GHAMFIN study conducted in 2004. The data is a cross sectional data capturing the

characteristics, impact, outreach and performance of Microfinance programmes Ghana

(GHAMFIN,2004). For this study relevant data on performance of MFIs which was

derived from the audited financial statements of sampled financial institutions was

used. I made use of the MIX datasets reported in Micro Banking Bulletin for the

benchmarking and comparison with peers (MIX, 2009).

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3.3 Variables
The variables to be used for this study include Productivity, Efficiency profitability and

Sustainability. Productivity and Efficiency constitute the core variable to be considered

while Profitability and Sustainability are co-opted to help test the hypothesis.

3.4 Sampling
From the GHAMFIN reports data the MFIs were categorised into five peer groups from

which samples were taken across the country divided into three ecological zones. In all

25 institutions were sampled fro the study in the first and second phases. For this study

the Savings and Loans and FNGO peer groups were selected as the unit of analysis.

Table 2 Institution Type and Characteristic

Institution Active Savers Active Average loan


Burrowers size(in Millions of
Cedis)
FNGOs (Large and Medium) 1,767 49,777 0.61
Savings and Loans 39,248 3,169 16.40
Total 41,015 52,946 17.01
Source: Adapted from GHAMFIN Study,2004

3.5 Critique of the GHAMFIN study (Performance and sustainability)


The GHAMFIN study was conducted in the context of the rapid developments in the

microfinance sector and an attempt to understand its impact on poverty the depth of

outreach and how the microfinance institutions’ performance can sustain the

programmes.

As an empirical research this work is really strong on data and analysis with various

sustainability themes such as Efficiency Analysis, Productivity Analysis and Portfolio

Quality covered in details. The result throws a lot of light on how sustainable various

microfinance programmes across the three zones are based on the five peer categories

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of institutions (Rural and Community Banks, Savings and Loans Companies, Credit

Unions Financial NGOs and Susu collectors).

Further research areas that could benefit from such a study of such nature include the

impact of adoption of technological innovations on the performance of microfinance

programmes especially in the areas of productivity and efficiency. Also and assessment

of the performance of microfinance institutions based on the methodology used would

throw more light on how these methodologies influence performance.

The division of the country into Coastal Zone, Middle Zone and Northern Zone seems

arbitrary and not based on any criteria and there is no explanation in the paper to

thrown any light on it.

It appears that the financial data of the institutions sampled are not adjusted for

inflation and subsidies. Adjusting financial statements makes comparison across

different types of institutions logically and financially sound.

3.6 Limitations

There are several limitations to this study. Some them include the following

The reliance on reported table for the a analysis leaves little room for more varied

analysis

The use of simple descriptive statistics does not adequately help answer the research

questions and test the hypothesis.

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3.7 Empirical Results
Based on the data from the GHAMFIN report this section will present results of

performance indicators considers namely productivity and Efficiency. Also the analysis

will attempt to use the results to test the two hypothesis using statistical tools while

attempting to fulfil the objectives of the study.

Table 3 Productivity and Efficiency indicators by type of institution

Institution Productivity Operational Efficiency

Number of Personnel Operational Adjusted Cost


Clients per Allocation Ratio Efficiency per Burrower
Loan officer
FNGO 494 49 34% 322,120.00

Savings and 80 17 55% 11,478,061


Loans

Source Adapted from GHAMFIN Report, 2004

3.8 Productivity
For this study two ratios are used to assess the productivity of the institutions namely:

number of clients per loan officer and proportion of staff devoted to servicing loans as

discussed in the literature.

From FNGOs appear to be more productive than savings and loans contrary to the

literature and hypothesis 1. While FNGOs have loan officer caseload of 494, Savings and

loans have a very low caseload of 80. This means that for every loan officer on the

payroll of an FNGO, they are responsible for about six times the clients handled by

Savings and loans. The implication is that FNGOs are more likely to be sustainable based

on this indicator.

Overall FNGOs are more productive than savings and loans as shown by the significantly

lower proportion of the staff allocated to burrowing clients. Since loan portfolio is the

primary source of incomes for MFIs, FNGOs are more likely to be profitable and

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consequently sustainable than savings and loans. However it could be likely that that

Savings and Loans MFIs devote more of their staff to savings mobilization thus

accounting for their low productivity ratios.

It is however significant to note that a productivity benchmark of 350 is recommended

according to MIX to ensure optimal caseload. From the table it is clear that FNGO loan

officers handle 70% more clients than is optimal. This could lead to lower quality of

service and defaults.

3.8 Efficiency

Efficiency measures the ability of microfinance institutions to generate incomes from its

portfolio by using the least cost methods. Efficiency is determined by ratios such as Operating

Expense/ Loan Portfolio, Cost per Borrower, Cost per Loan, and Cost per Borrower.

From table FNGOs perform better in this indicator than Savings and loans companies.

Efficiency score for FNGOs is 34% while Savings and loans scored 55%. The benchmark

performance for this indicators recommended for MFIs to be sustainable is a range of

20-40%. This result again contradict hypothesis 1 and follows the trend of the

productivity indicator.

Efficiency is influenced methodology and size of loans and this may explain the fact that

Savings and Loans are inefficient compared to Savings and Loans. FNGOs are more

likely to adopt a group methodology which is quite efficient.

3.9 Test of the relationship between Productivity, Efficiency and Sustainability


Hypothesis 2 attempts to find a correspondence between productivity and the critical

indicators of financial profitability and sustainability.

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Operational sustainability occurs when an MFI is able to cover its cost of operation

through its earnings without depending on donor support. Financial sustainability on

the other hand refers to MFIs that are able to cover their cost of loanable funds without

donor support and subsidies. The benchmark for sustainability is fixed around 100%

meaning that institutions that perform below the benchmark are not sustainable.

Both FNGOs and Savings and Loans companies are sustainable, however savings and

loans companies perform better with a score of 122% with FNGOs scoring 101%.

This result conforms to the assumption that profit driven commercial MFIs are more

profitable than FNGOs with different bottom lines. However the peculiar point is that

sustainability does not correspond to productivity and efficiency scores as set out in

hypothesis 2. From the results above FNGOs are more efficient and productive than

Savings and Loans companies. This means that sustainability of the MFIs surveyed are

explained by others measures of performance other than productivity and efficiency.

It is possible that FNGOs high burrower per loan officer actually leads to delinquency

and default. Also it is possible FNGOs charge lower interest rates and do not earn many

non-interest incomes such as fees. On the other hand Savings and Loans may earn

others incomes and charge higher interest rates. Also their lower loan officer caseload

may point to higher repayment and possibly higher loan sizes.

4.0 Conclusions

Microfinance is often portrayed in the literature as a tool that allows individuals

excluded from the formal financial system to gain access to sources of finance. However

the peculiar nature of this industry makes it difficult to negotiate the tight tradeoff

between sustainability and other bottom lines such as outreach.

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Exploring some of the indicators of financial sustainability of MFIs was the main

objective of this article. The main indicators considered were productivity and

efficiency for two types of institutions (Savings and Loans and FNGOs) using data from

the GHAMFIN study.

The results contradicts the first hypothesis which asserts that privately owned

commercial MFIs will perform better than FNGOs base on the charter bottom lines .On

the contrary reported data indicated that FNGOs are more productive and efficient than

Savings and Loans companies.

In term of the influence of productivity and efficiency on sustainability the analysis

again contradicted the hypothesis 2 (higher productivity and efficiency positively

relates to sustainability) even though it confirmed the assumption in the literature.

Even though savings and loans are less efficient and productive than FNGOs they are

more operationally and financially sustainable.

These results show that other measures of performance of MFIs may be more significant

in explaining the sustainability of MFIs than productivity and efficiency. These indicators

include the other categories of performance measures Portfolio Quality, Asset and

Liability Management, Profitability and Sustainability.

The main limitation of the article is the use of descriptive statistical tools to test the

hypothesis.

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