SMARTLESSONS — MAY 2010 1

ABOUT THE AUTHOR

TOR JANSSONa Principal Investment Officer in IFC’s Global Financial Markets Department, has been responsible for microfinance investment activities in Sub-Saharan Africa since 2006. Prior to that (2003–06), he was responsible for IFC’s microfi-nance investment activities in Latin America. Before joining IFC, Tor was Microfinance Specialist with the Micro, Small and Medium Enterprise Division at the Inter-American Development Bank (IDB) for seven years.

APPROVING MANAGERDolika Banda, Manager, Global Financial Markets, Sub-Saharan Africa.

Success Factors in Microfinance Greenfielding

The creation of new microfinance institutions (greenfielding) is a key IFC intervention to increase access to finance in countries where there are few institutions serving micro and small businesses. IFC uses this approach extensively in Africa and in postconflict countries, and has supported the creation of 12 microfinance banks in Sub-Saharan Africa1 over the past four years. Another five are in the pipeline. Before 2006, IFC had made a grand total of only four microfinance investments in the region ever. So this program represents an extraordinary expansion of IFC’s microfinance activities in the region. The program’s focus on greenfielding has enabled the Africa microfinance team to identify some key success factors that can be applied to future projects in Africa and elsewhere.

Background

In 2006, the Consultative Group to Assist the Poor (CGAP) showed that there were only 181 microfinance institutions (MFIs) in all of Sub-Saharan Africa, representing less than 2 percent of the approximately 10,000 MFIs worldwide. Of the 181 total, only 22 institutions had a loan portfolio greater than $10 million equivalent; 103 had portfolios smaller than $1 million equivalent.

In response to the relative dearth of sizable and commercially oriented local entities, IFC put in place a strategy centered on greenfield projects, supported by specialized staff in the region. Under this strategy, IFC partners with experienced microfinance operators (sometimes called network partners), such as ProCredit, Accion, Advans, MicroCred, and Access, to set up new microfinance banks in many of the region’s most challenging markets.2 Some of these sponsors have related 1 The term “microfinance bank” is used in a broad sense and may also include entities that are licensed as finance companies or savings and loan companies. The exact licensing form depends on what’s available under the local framework. Most of IFC’s greenfield clients in Sub-Saharan Africa are licensed as commercial banks.2 Many of these organizations aim to create regional or global networks of microfinance banks. IFC’s collaboration with network partners has expanded in three phases: first with Procredit/IPC (1996 and beyond), then with Access/LFS, Advans/Horus,

consultant companies (service providers) that supply the technical and management expertise to the greenfield projects (for example, IPC for ProCredit, LFS for Access, and Horus for Advans).

MicroCred and Accion (2005 and beyond) and then with Aga Kahn Agency for Microfinance, Swiss Microfinance Holding/Fides, and CHF International (2008 and beyond).

IFC Greenfield Projects in Sub-Saharan Africa

MAY 2010

Pub

lic D

iscl

osur

e A

utho

rized

Pub

lic D

iscl

osur

e A

utho

rized

Pub

lic D

iscl

osur

e A

utho

rized

Pub

lic D

iscl

osur

e A

utho

rized

Pub

lic D

iscl

osur

e A

utho

rized

Pub

lic D

iscl

osur

e A

utho

rized

Pub

lic D

iscl

osur

e A

utho

rized

Pub

lic D

iscl

osur

e A

utho

rized

2 SMARTLESSONS — MAY 2010

Greenfield microfinance banks are meant to operate according to global best practices in corporate governance, credit methodology, product design, anti–money laundering standards, and social and environmental standards. Operational and managerial capacity in the new microfinance banks are built from the ground up, and over time local staff are trained to take over virtually all functions of the new banks. Breakeven on a monthly basis should be reached within 18–36 months of operation, depending on the specific characteristics of the market (greenfield projects in Africa tend to take a minimum of 24 months).

IFC typically provides both equity financing and advisory services (AS) funding to greenfield projects (and occasionally also debt financing), so the preparation normally involves extensive discussions/negotiations regarding shareholder provisions and capacity building activities. The advisory services program—with a typical budget of $3 million to $4 million—usually lasts for 42–54 months (6 months pre-operational preparation, plus 36–48 months of operational support). Based on our experience with 17 projects (12 committed and 5 in the pipeline), a number of key lessons have emerged—including being alert to things that can go wrong (see box).

Lessons for Increasing the Chances of Success

1) Don’t assume they know what they are doing.

The sponsor claims to have worked in microfinance for 30 years and supported the growth of some 15 microfinance institutions, some of which have evolved into industry best practice examples. So you can assume they know what they are doing, right? Wrong.

Starting a new microfinance bank is not the same as supporting an existing, functioning one. Many firms and organizations have experience in providing specific consultancy services to MFIs, but few have the necessary expertise and capacity to create, manage, and build them. The Africa experience shows that a focus on greenfielding is a prerequisite for capacity. Such focus will compel sponsors to make the long-term internal adjustments and investments

necessary for building and projecting expertise and capacity in key areas: preferred IT platform, internal control and

Common Pitfalls

Dozens of things can go wrong in microfinance greenfield projects. Here are some of the most common mistakes and problems we have seen in Africa:

• The sponsor goes ahead with the project without sufficient AS funding, assuming that additional amounts can be raised once the microfinance bank is up and running. Given the amounts involved in these projects, this is a high-stakes gamble and should not be accepted. Nevertheless, if IFC has provided an implicit commitment to participate in the project—or is simply in the middle of processing its participation—it could be difficult to pull out or suspend preparation, since that would surely tip the project into failure. We have struggled with this in two projects, and been faced with a milder form of it in a third project.

• The pre-operational phase takes longer and costs more than anticipated. The pre-operational phase is a complex undertaking that, among other things, includes interacting with regulatory authorities, renovating branches, training staff, preparing policies and procedures, and configuring the information technology (IT) platform. If cost overruns occur due to poor planning or execution, suddenly less AS funding is available for the operational phase. We have had this problem in five projects.

• The CEO or other key staff departs prematurely, either due to difficult living conditions, family reasons, or disagreements with the board or the sponsor/service provider. Sometimes the problem is exacerbated by attrition of critical frontline staff such as loan officers. We have seen six CEOs depart prematurely.

• The bank undertakes aggressive expansion—driven by the sponsor or management—in an effort to quickly reach critical loan-portfolio mass and breakeven. This invariably leads to high nonperforming loans. Sometimes this mistake simply involves making too many loans too quickly, but sometimes it involves poorly managed or premature transition into SME (small and medium enterprise) lending before having built basic internal expertise. Sometimes it also involves establishing too many branches too quickly, which can further weigh on profitability. We have faced this problem in three projects.

• Unexpected market demand. Often, large discrepancies exist between projected and actual demand, particularly regarding deposit mobilization. Sometimes deposit growth takes off immediately; sometimes it lingers at low levels for 15–20 months before taking on the expected trajectory. Rarely does it follow a smooth curve in line with loan-portfolio growth. Clearly, a situation of slower than anticipated deposit mobilization can create a major bottleneck with regard to funding. We have seen significant deviations—defined as those requiring a change in funding strategy by the microfinance bank—in five projects.

Table 1: Greenfield Projects in IFC’s Africa Microfinance Program

Dec. 2006

Dec. 2007

Dec. 2008

Dec. 2009

# greenfield MFIs 1 6 10 12

# loans outstanding (thousand) 12 20 36 76

$ loan portfolio (million) 16 27 43 97

# deposit accounts (thousand) 22 52 132 286

$ deposit volume (million) 15 53 103 139

% NPL > 30 days 1.8 1.2 3.6 2.4

# MFIs achieved monthly breakeven

0 1 1 5

Source: IFC Africa Microfinance Program.

SMARTLESSONS — MAY 2010 3

audit, and core operational functions such as product development and credit origination/collection. With such focus, they also are more likely to have a cadre of tried and tested “managers” that they can deploy to the projects. Sponsors that are not focused on greenfielding are much more likely to have an ad hoc approach that relies on improvised solutions and recently contracted staff—resulting in an environment in which lessons are not learned, knowledge is not effectively shared, and expertise is not built.

In the Africa microfinance program we have seen a clear correlation between sponsor specialization and the quality of project preparation. Projects led by sponsors that are not specialized in greenfielding tend to suffer from poorer coordination of activities, longer delays, and greater cost overruns. They also tend to experience greater turnover in key staff.

Analyzing and understanding the capacity of the sponsor to effectively create, manage, and support the new microfinance bank are probably the most important aspect of preparing a greenfield project. However, you can likely save yourself some headaches by working with a specialized sponsor that has a couple of projects under its belt.

2) Negotiate inputs; monitor outcomes.

If you think the sponsor and service provider know what they are doing, make sure they feel responsible for the project. Review, critique, and negotiate the design, but once that’s done, allow them the flexibility and authority to implement the project without being continually second-guessed by IFC. This policy can be reinforced by a performance-based approach to the advisory services program, linking some AS payments to agreed outcome targets (rather than inputs), such as the bank’s loan and deposit accounts, net income, and nonperforming loans. The Africa microfinance program incorporates a substantial performance-based component in every greenfield project.

To avoid the scenario of insufficient AS funding, it needs to be clear to the sponsor early—before preparations start—

what level of AS funding IFC expects for the project to go ahead. Also, it makes sense for the microfinance bank to shoulder part of the cost of the AS program, since this will ensure that the investors in the bank pay attention to the AS program. Another critical aspect of keeping the budget under control is to not allow the sponsor to put people in the field until there is a reasonable certainty that the bank’s operating license will be granted by the relevant authorities. The Africa microfinance program requires that at least two-thirds of the AS budget is raised from external sources (the responsibility of the sponsor), that the bank (investors) pays 15–33 percent of AS costs, and that no preparation activities start in the field until there is a high degree of certainty that the operating license will be granted.

3) Respect the speed limit.

If the sponsor tells you that the project will reach a portfolio of 75,000 loans in three years— well, don’t believe it. Greenfield projects have an upper speed limit for the first several years—defined in large part by the nature of the microenterprise lending methodology, infrastructure considerations, and the availability of skilled human resources. In addition, market demand may impose further limitations by its size and composition. Trying to exceed this natural speed limit (for example, by relying on credit scoring or establishing half a dozen branches the first year) is wishful thinking and could invite disaster. Different countries and regions have different speed limits, but you need to be realistic. In Africa it is difficult to establish in a sustainable fashion more than two or three branches per year, and to aim for a portfolio of more than15,000 loans at the end of the third year.

4) Profits before impact.

We support microfinance greenfield projects because of their long-term development impact in improving the reach and quality of financial services to underserved populations. However, since these projects are significantly loss-making during their first two or three years, it is critical that they reach financial sustainability as quickly as possible. The first three years is not the time to perfect poverty-targeting approaches or develop products with long payback periods. Rather, the path to commercial viability is fairly narrow and requires strong focus, disciplined execution, and attention to costs. The project has to find the trajectory that effectively balances expansion with operational control. Only if operational and financial sustainability is reached can the bank start meeting its long-run development targets. Preferably, monthly breakeven should be reached no later than 30 months into the project. In Africa, the monthly breakeven is typically reached with a loan portfolio of $10 million and 10,000 clients.

5) It’s under the hood.

If the project performs poorly once it is under way, don’t let the sponsor or the bank’s management tell you that external factors are to blame. Greenfield projects are overwhelmingly driven by internal factors, practices, and decisions. The operations of greenfield microfinance

MicroCred Madagascar.

SMARTLESSONS — MAY 2010 4

banks are fairly shielded from events affecting the economy and the financial sector at large. On the asset side, microfinance banks target a client segment that is not as exposed to major economic events3 as larger companies are. On the liability side, microfinance banks rely heavily on equity and deposits, which are less vulnerable than borrowings to deteriorating market conditions. This does not eliminate the influence of external factors, but it means that the source of the problem can usually be found inside the bank.4 A clear sense of responsibility and accountability by the sponsor and management is key to identifying, admitting, and addressing such problems.

6) You are one team.

Microfinance greenfield projects are exceptionally integrated with regard to investment and advisory services. Multiple links and mutual dependencies exist between the two components (for example, the funding schedule on the advisory side may impact the funding needs of the bank), so

3 An exception to this general observation would be negative changes in trade conditions (for example, the closure of borders), which can hit microenterprises hard, since many of them rely on trade to sustain their activities.4 An exception may be the rate of deposit mobilization, which, despite internal levers, appears difficult to predict and fully control.

DISCLAIMERIFC SmartLessons is an awards program to share lessons learned in development-oriented advisory services and investment operations. The findings, interpretations, and conclusions expressed in this paper are those of the author(s) and do not necessarily reflect the views of IFC or its partner organizations, the Executive Directors of The World Bank or the governments they represent. IFC does not assume any responsibility for the completeness or accuracy of the information contained in this document. Please see the terms and conditions at www.ifc.org/smartlessons or contact the program at smartlessons@ifc.org.

they cannot be prepared and negotiated in isolation from each other. Also, the internal processing of these components must keep pace with each other. This means that the IFC advisory and investment staff really must be one team. In the Africa microfinance program, the need for investment and advisory to work closely together—as equal partners—is emphasized from the beginning of every project.

Conclusion

Microfinance greenfield projects are by their nature complex and unpredictable. To minimize the many problems that can occur, it is absolutely critical to carefully design, negotiate, and address issues ranging from sponsor capacity to AS funding to market approach. There is no shortcut to the hard work and effort involved, but you can help yourself by keeping an eye on the most common problems and pitfalls. Successfully addressing these issues requires an extensive engagement between IFC staff and the sponsor/service provider, as well as among IFC staff themselves.