characteristics of equity investment in microfinance · 2011. 10. 5. · characteristics of equity...

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Characteristics of Equity Investment in Microfinance

James Kaddaras with Elisabeth Rhyne ACCION International

April 2004

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Table of Contents Page

Acknowledgments 4

I. Executive Summary 5

II. Introduction 7

III. Equity Investments in MFIs: A Global Look 8

IV. MFI Ownership Structure and Board Composition 15

V. Current Corporate Governance Practices 19

VI. Issues and Recommendations for the Future 27 Annex 1: Detailed Information of MFIs by Region 31 Annex 2: Toward Guidelines for Corporate Governance for MFIs 37

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Acknowledgments

This study was funded by Calmeadow and ACCION International. Thanks are due to Edward Soffer, a bank analyst who undertook much of the initial research and data collection on which this study is based, and to Angela Reese of ACCION International, who spent considerable time in updating and verifying the study’s data and producing the tables and charts for this study. Maria Otero deserves much credit for defining the conceptual framework of this study and ensuring that the key issues of equity investment and corporate governance have been presented in it. Our gratitude to the MFIs that participated in this study, particularly to the Chairs of Boards and General Managers who shared their experiences during the interviews. Special thanks to Council members who reviewed this document and provided important feedback and contributions. Finally, we are grateful to Calmeadow for providing partial funding for this report.

Characteristics of Equity Investment in Microfinance: A Study of the Council of Microfinance Equity Funds

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I. Executive Summary In microfinance today, the shareholder-owned, regulated and specialized microfinance institution (MFI) is an increasingly important vehicle for reaching the poor with financial services. The number of such specialized MFIs is growing every year, as a result of both non-governmental organization (NGO) transformations and start-ups of regulated, for-profit entities. This phenomenon has attracted the attention of policymakers throughout the microfinance community, particularly funders. In recent months, public and private investors with a social orientation have created several new funds dedicated to investing in such for-profit MFIs, thereby increasing the pool of equity capital available to such organizations. This study examines the phenomenon of shareholder-owned MFIs at a global level, with a focus on two issues central to the success of this model: ownership structure and corporate governance. It addresses questions such as the following: Who owns these institutions? Are the current models of ownership conducive to the growth and sustainability of the institutions? Are these institutions following good practice in corporate governance? What improvements would make this model more robust? The study was sponsored by the Council of Microfinance Equity Funds, a group of private equity funds that invest in MFIs, which has come together to examine the practice of private equity investment in microfinance. This paper sets out observations on the current and future equity ownership of MFIs, and makes specific recommendations regarding best practices in corporate governance. The Council intends the present study to inform and initiate discussion among prospective investors in microfinance, MFI boards and managers, and the broader microfinance community. While not all observations or recommendations will be applicable to all MFIs, it is hoped that the observations offered here will lead to the development of new equity investment strategies and to the delivery of strong, effective corporate governance for microfinance institutions everywhere. Scale. As a first step, this study attempts to gain insight into the scale of the phenomenon of shareholder-owned MFIs. It identifies specialized, regulated, for-profit MFIs in the developing world and reports on their assets, outstanding loans, equity capital, and customer base. The study has identified a total of 124 MFIs, of which 115 fall under this study’s definition of MFI.1 Of these, it has been able to obtain information on 92 MFIs, which are the basis of this study. These 92 MFIs have total assets of $2.49 billion2 and gross loans outstanding of at least $1.54 billion. These MFIs have 2.9 million active borrowers. Shareholders equity was available for 75 of these 92 MFIs and totals $362 million. While this database is a first cut at identifying for-profit MFIs, it provides enough information to demonstrate that these institutions are present in all major regions of the developing world. The data also provide an initial insight into the amount of equity capital that is likely to be required as these institutions grow during the next several years. Ownership. The second and perhaps more consequential portion of this study is an examination of the ownership structure, board composition and corporate governance practices of 21 MFIs in which Council members hold equity, and which completed extensive questionnaires on these issues. These institutions, while perhaps not entirely representative of all MFIs identified in the database, come from all four regions – nine from Latin America and the Caribbean, four from

1 The study also collected data on some of the largest government microfinance institutions, including Bank Rakyat Indonesia (BRI), Banco do Nordeste in Brazil, the Cajas Municipales in Peru and the National Commercial Bank in Tanzania, but has not included their data in the study because of its focus on equity. Because of the size of these institutions, particularly BRI’s, their inclusion would change these numbers very significantly and not serve the objectives of the study. This study also excludes data on MFI cooperatives, which are owned by their members and not by third party investors. 2 All currencies are in U.S. dollars unless otherwise noted.


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Africa, three from Asia and five from Eastern Europe and the NIS – and nonetheless provide important insights into the current state of investment in and governance of MFIs today. The point of commonality among all the surveyed institutions is the presence of investment by international private equity funds, all of which can be considered under the general heading of social investor. In fact, social investors, defined as investors seeking a combination of social and financial returns, hold an overwhelming majority of the shares in the MFIs surveyed. Other major categories of social investors include originating local NGOs (in the case of NGO transformations) and international public investors, such as multilateral investment banks. Local investment enters the picture primarily as 1) original NGOs (for transformed MFIs); 2) commercial banks (for bank subsidiaries); 3) employee stock ownership programs (ESOPs); and 4) groups of large numbers of small individual and business investors. Two-thirds of the responding MFIs are entirely privately held; however, much of the investment capital of many “private” investors originally comes from public sources, and public money still plays a larger role in MFI equity today than a cursory review of investors might suggest. As yet, purely private commercial capital still plays a relatively minor role in overall equity funding for these MFIs. The question of how to attract new private capital into MFIs is key for the future of MFI share ownership. In interviews with general managers of leading MFIs in all four developing regions, few offered a clear indication of how (or when) their current investors would exit their companies and new investors would take their place. Some have recently completed additional fundraising from existing investors, both public and private. Others plan to satisfy growing capital needs through retained earnings. The need to expand and diversify the world of investors in MFI equity looms large as successful institutions grow their franchises, and initial investors seek to exit their investments. Corporate Governance. Corporate governance practice has achieved a degree of competence. In interviews, board chairs and chief executives express the mixture of confidence and desire for improvement that one would expect from people bearing the enormous responsibility of ensuring that these institutions mature and prosper. The interviews reflect the ongoing challenges of achieving the appropriate balance in corporate governance: between board and management; among board members; and among shareholders. The top concern cited by the general managers was attaining the right balance between social and financial goals. A number of specific items in corporate governance practice are identified as areas for improvement. For example, few institutions have independent directors, and the use of board committees is limited in most cases; as these MFIs grow and become more sophisticated, their corporate governance structures will need to expand along functional lines. Few institutions have conflicts of interest policies for board members, and none has in place any mechanism by which to evaluate, much less sanction, directors. The board’s role in the evaluation, supervision and remuneration of the general manager needs greater development generally. While most MFIs have job descriptions for their managers, few have performance goals separate and apart from those for the institution itself, or a mechanism in place for evaluating the manager’s performance. About half of the institutions surveyed use a variable compensation scheme to compensate their general managers, but in few cases is compensation systematically linked to the attainment of performance goals or a formal evaluation of performance. Emerging out of all interviews is the clear need for the board chair and the general manager to have a mutually agreed understanding of their respective roles in corporate governance. Equally important is the active participation of all board members and senior management in adopting corporate governance policies and implementing them throughout the institution.


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II. Introduction The Council of Microfinance Equity Funds commissioned this study of the characteristics of equity capital in microfinance institutions (MFIs), along with their corporate governance practices. The Council’s members see this topic as timely and useful for the microfinance industry for a number of reasons. The commercial approach to microfinance has been playing an increasingly important role in the overall development of microfinance in all developing regions of the world. The existence of commercially oriented, for-profit MFIs is a quite recent development: such institutions did not even exist at the beginning of the last decade. After a dozen years of rapid MFI growth and expansion, now is an appropriate time for existing MFI equity investors to identify key lessons learned, to flag recurring unresolved concerns, and to begin the process of developing guidelines for equity investors in microfinance For-profit MFIs have followed three major models—as institutions transformed from or out of nonprofit predecessors, as de novo financial institutions, and as special-purpose subsidiaries of commercial banks—and the three possess different, unique ownership traits. The building and maintenance of a strong equity base for these institutions is a key component of their financial health and their prospects for future success. An understanding of the various capital structures of these MFIs requires an analysis of their ownership and the identity and motivations of their shareholders. The mission of MFIs requires that these institutions pursue a double bottom line objective of achieving both social and financial returns. The goal of attaining profitability, daunting enough in the unstable macro-economic and political environments of developing countries, becomes harder still when placed alongside important social goals that may preclude the adoption of certain business strategies. The role of corporate governance in MFIs, then, is doubly important because the governance practices of these institutions must prove effective in the attainment of both financial and social objectives. Ultimately, most supporters of the commercialization model would like to see MFIs develop ownership and governance structures that enable them to grow, withstand crises and take their places among the well-run businesses in their countries’ financial systems, even as they continue to serve their low-income clientele. Through analyzing ownership issues and corporate governance practices, this study can help lead the way towards these goals. Study Methodology. The first phase of the study, construction of a database of for-profit MFIs, relied on publicly available sources of information. Special mention is due to the Microfinance Information Exchange, or MIX, which proved to be by far the single most valuable source. In addition, the Council of Microfinance Equity Funds sought from its members a list of all MFIs in which those members hold equity investments, which amount to about a third of all MFIs identified. For the second part of the study, comprehensive questionnaires were sent to 36 of these MFIs to obtain information on their capital structure, shareholder identity, board composition, and the relationship between their board of directors and general manager. The Council received 21 responses, the great majority of which were answered completely. In addition, the study team interviewed by telephone (or, in the case of one Asian institution, by e-mail) the general managers and/or board chairs of 10 institutions, chosen from among the leading MFIs in all four developing regions. Eight general managers and seven board chairs provided the team with insightful information on the corporate governance philosophy and practices of their institutions, and also indicated their MFIs likely future capital needs and shareholding structures. The study analyzed all this information, which is presented here without attribution to particular institutions or individuals. All reported currencies are in U.S. dollars unless otherwise noted.


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About the Council. The Council of Microfinance Equity Funds is a membership organization of private entities that make equity investments in MFIs in the developing world. Council members seek both social and financial returns from their investments in these MFIs. The Council’s purpose is three-fold: 1) to articulate and disseminate the knowledge and expertise of the Council’s members among themselves and to other MFI stakeholders; 2) to present guidelines and principles for effective investment in MFIs; and 3) to conceive a future strategy for the role of investment capital in microfinance. The Council was conceived in 2002 and officially launched in 2003. ACCION International serves as coordinator of the Council’s activities. The Council’s members currently include ACCION International, AfriCap, Andromeda Fund, Calvert Foundation, Citigroup, Desjardins, Deutsche Bank, Oikocredit, Open Society Institute, Opportunity International, ProFund International, SARONA/MEDA, ShoreBank, SIDI and Triodos Bank. Council members have shared a keen interest in researching and analyzing the issues presented in this study, which, to the Council’s knowledge, is the first of its kind to be undertaken globally. It is the Council’s hope that this study will prove useful not only to its own members, but to all parties interested in microfinance as a means to improving the financial well-being of low-income workers throughout the developing world. III. Equity Investments in MFIs: A Global Look

The Lay of the Land. Before undertaking an analysis of equity investment in regulated MFIs, it would benefit the reader to have a sense of perspective regarding the origins and current trajectories of these institutions. It is not even a dozen years ago that the first private regulated entity solely devoted to microfinance came into being with the creation of Banco Solidario (BancoSol) in Bolivia in 1992. Since that time, scores of institutions throughout the developing world have been transformed into for-profit entities out of nonprofit origins, or established as brand new, specialized MFIs. These institutions have created markets providing financial services to the self-employed poor and other low-income individuals where none previously existed in their countries. While still small in absolute terms, regulated MFIs form an increasingly significant and growing part of the financial landscape in developing countries and have joined banks and other traditional institutions as full-fledged members of the formal financial sector. Many of these institutions have experienced rapid growth and can see the day when the demand for financing from their customers will outstrip their current capital base. The ability of regulated MFIs to attract additional capital, above all from the private sector, will in large part determine the long-term success of their efforts. For the purposes of this study, “MFI” means a private financial institution with share capital that is primarily dedicated to the provision of loans, deposits and other financial services to self-employed microentrepreneurs and other low-income workers in the developing world. A number of institutions currently provide financial services to over 100,000 clients. In some countries, microfinance has become one of the most profitable lines of business in the financial sector. Indeed, on numerous occasions, leading MFIs have emerged as the most profitable regulated financial institutions in their countries, as measured by both return on assets and return on equity. As a result, commercial banks, which often ignored the microenterprise market, are now dedicating ever-greater resources to it and providing new, somewhat unexpected competition to regulated MFIs. The achievement of attractive financial returns is all the more remarkable because regulated MFIs have a doubly difficult task before them: to operate profitable, healthy financial institutions while at the same time adhering to their social mission of providing financial services to the poor. This section of the study will report on the number and size of institutions


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that the Council’s research has identified as MFIs, both globally and by regions. The accompanying charts provide statistics and financial data on all those institutions. Several caveats should be made about the data. As one can readily observe, the data contain significant gaps in the various categories set out in the tables. These gaps reflect the difficulty in gathering information on institutions with which the Council of Microfinance Equity Funds has no direct connection, or which do not make relevant data readily accessible to the public. In addition, there is in reality, no common base date for the data. While most of the financial data is from December 31, 2002 for all institutions included in the tables, in certain cases the most recent data available were for 2001, 2000, or even 1999. In other cases, by contrast, we could obtain only 2003 data. The result is a less than level playing field for comparing the size and financial strength of MFIs to each other. At the same time, on balance, the benefit of disseminating the data obtained for this study outweighs the shortcomings. The study therefore presents all the relevant information available at the time of writing this report. The Size and Reach of MFIs Today. Of the 124 MFIs identified in the study, 115 MFIs in four developing regions have share capital and are often referred to as “regulated MFIs.” These appear in Annex 1 to this study. Of these, 92 MFIs provide enough information on gross loans and clients to be included in this study, but figures for equity appear on only 75 of these 92. As the annex shows, the study identified but did not include in this analysis government owned institutions, since these lack equity investors. In addition, the study has excluded data on MFI cooperatives, which are owned by their members and not by third party investors. Together, the 92 institutions in the study have about 2.9 million active borrowers and a combined portfolio of $1.54 billion. Total equity, available for 75 of these institutions is $362 million. Table 1 provides a breakdown of these MFIs into four developing regions: Latin America and the Caribbean, Eastern Europe and the former Soviet Union, Asia, and Africa and the Middle East, showing the number of institutions identified in the study, as well as the number on which information was obtained. Assets, gross loans and clients, as the charts show, are based on 92 MFIs, while equity includes 75 MFIs. Table 1: Summary of MFIs by Region

Regions No. of Identified

Institutions

No. of MFIs with

Information*

Total Assets* Gross Loans* Number of

Clients*

Total Equity*

Latin America & Caribbean

47 35 1,032,399,932 826,730,866 965,668 159,481,782

Eastern Europe & NIS

25 21 874,489,423 377,255,918 145,988 82,653,706

Asia 24 17 248,724,849 130,247,564 1,077,808 47,763,618 Africa & the Middle East

28 19 335,900,147 214,400,581 706,839 72,692,713

TOTAL 124 92 $ 2,490,847,547 $ 1,548,634,929 2,896,303 $ 362,591,819 *Figures do not include Government Controlled Institutions (GCIs).


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Microfinance Institutions – Summary Information per Region

Several broad regional differences are worth noting. More than half of the portfolio (gross loans) in this study is in Latin America and the Caribbean, where the study also identified a considerably larger number of MFIs than in the other regions, or 38 percent of the total number of institutions. However, 33 percent of the total clients are in Latin America. The composite of Asia is very different: it has 19 percent of the institutions in the study, which serves 38 percent of the clients with 9 percent of the total portfolio. On the other end of the spectrum we find Eastern Europe and NIS institutions, which constitute 22 percent of the total institutions in the study, which serve

Total Portfolio Breakdown By RegionIn US Dollars (93 Institutions - Dec. 2002)

Eastern Europe & NIS - 21 MFIs

24%

Asia - 17 MFIs

9%

Africa & the Middle East -

19 MFIs14%

Latin America & the Caribbean - 35 MFIs

53%

Total Clients Breakdown by Region (92 Institutions - Dec. 2002)

Asia:17 MFIs - 38%

Eastern Europe & NIS:

21 MFIs - 5%

Latin America & the Caribbean:

35 MFIs - 33%

Africa & the Middle East:19 MFIs - 24%

Total Equity in Microfinance Institutionsin US Dollars (75 Institutions - Dec. 2002)

Eastern Europe & NIS:

20 MFIs - 25%

Africa & the Middle East 15 MFIs - 19%

Latin America & the Caribbean:25 MFIs - 42%

Asia:

15 MFIs - 14%


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only five percent of the clients in the study with 24 percent of the portfolio. Africa and the Middle East institutions constitute 20 percent of the total MFIs, and serve 24 percent of the clients in the study. Although the data on equity is available for a smaller number (75) of MFIs, the relationships among regions still hold. Latin American and the Caribbean institutions hold over 40 percent of the equity, while Asia and Africa together hold less than 35 percent of the total equity. Further review of the data shows that average loan size by region and within region also varies greatly. The highest, in Eastern Europe and NIS stands at $2,584, followed by Latin America with $856, Africa at $303 and Asia with $121. While this average loan size is partly determined by the relative value of money in each region and the poverty level of borrowers reached, it is also determined by the length of time institutions have been extending loans to borrowers, and the range of market segments reached within region. For example, institutions that have been operating for years tend to extend larger loans to long-term borrowers and thereby show larger average loan sizes. The variety of market segments reached can show organizations in the same region with average loans ranging from:

• $487 to $6,010 in Eastern Europe and NIS • $132 to $3,000 in Latin America and the Caribbean • $ 53 to $2,391 in Asia • $ 26 to $1,582 in Africa and the Middle East

Regional Comparison. The data also permitted an analysis by size of institutions, measured by size of portfolio and number of clients. This information provides a broad view of the size of the majority of MFIs in each region, both in number of clients and portfolio size. The charts below provide a comparative view per region of the 92 institutions, and of 75 MFIs for equity. Portfolio Size: Only two institutions in the study have portfolios larger than $100 million, one in Latin America (Peru) and the other in Eastern Europe and the NIS (Russia). Regional portfolio comparisons of all the institutions show that Latin America has the majority of MFIs with portfolios above $10 million. Eastern Europe and NIS, with the largest average loan size, also has a significant number of institutions – eight of 21 – with portfolios above $10 million. In Africa and Asia, most MFIs cluster in portfolios below $5 million, with only eight MFIs in Africa and five in Asia with portfolios exceeding $5 million. While this significantly different size of portfolios is dictated by the smaller average loan size, the regional differences also display different degrees of evolution of regulated MFIs.


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Distribution of Portfolio per Region

Equity: Differences in equity are particularly telling of the size of MFIs and the overall development of microfinance in each region. The highest variation appears in Latin America and the Caribbean, which has six MFIs with equity capital larger than $10 million, but also a similar number of MFIs with less than $2 million in equity. Eastern Europe and the NIS shows much less variation, with the majority registering in the $5 million to $9 million range. With the exception of a few larger institutions, most of them with less than $10 million in equity, the majority of MFIs in Africa and Asia have equity below $4 million.

Microfinance Institutions in Latin America by Portfolio Size in US Dollars (35 Institutions - Dec. 2002)

5 MFIs$ 50 MM - $99 MM

1 MFI> $100 MM

9 MFIs < $5 MM 5 MFIs

$25 MM - $49 MM

9 MFIs$10 MM - $24 MM

6 MFIs$9 MM - $5 MM

Microfinance Institutions in Africa by Portfolio Size in US Dollars (19 institutions - Dec. 2002)

11 MFIs< $5 MM 3 MFIs

$5 MM - $9 MM

1 MFI> $100 MM

0 MFIs$ 50 MM - $99 MM 1 MFI

$25 MM - $49 MM

3 MFIs$10 MM - $24 MM

Microfinance Institutions in Eastern Europe by Portfolio Size in US Dollars (21 Institutions - Dec. 2002)

4 MFIs$5 MM - $9 MM

9 MFIs < $5 MM

1 MFI> $100 MM 0 MFI

$ 50 MM - $99 MM3 MFIs

$25 MM - $49 MM

4 MFIs$10 MM - $24 MM

Microfinance Institutions in Asia by Portfolio Size in US Dollars (18 institutions - Dec. 2002)

1 MFIs$ 50 MM - $99 MM 1 MFIs

$25 MM - $49 MM

3 MFIs$5 MM - $9 MM

0 MFI$10 MM - $24 MM

0 MFI> $100 MM

13 MFIs< $5 MM


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Distribution of Equity per Region

Microfinance Institutions in Latin America by Total Equity25 Institutions - Dec. 2002

3 MFIs$10 MM - $14.9

MM

3 MFIs$5 MM - $9.9 MM

10 MFIs$2 MM - $4.9 MM

6 MFIs< $2 MM

2 MFIs$15 MM - $ 19.9

MM

1 MFI> $20 MM

Microfinance Institutions in Eastern Europe by Total Equity

20 Institutions - Dec. 2002

8 MFIs$2 MM - $4.9 MM

7 MFIs< $2 MM

0 MFIs$15 MM - $ 19.9

MM2 MFIs

$10 MM - $14.9 MM

5 MFIs$5 MM - $9.9 MM

0 MFIs> $20 MM

Microfinance Institutions in Africa by Total Equity15 Institutions - Dec. 2002

1 MFI> $20 MM

2 MFIs$5 MM - $9.9 MM

0 MFIs$15 MM - $ 19.9

MM0 MFIs

$10 MM - $14.9 MM

6 MFIs$2 MM - $4.9 MM

6 MFIs< $2 MM

Microfinance Institutions in Asia by Total Equity15 Institutions - Dec. 2002

8 MFIs< $2 MM

5 MFIs$2 MM - $4.9 MM

2 MFIs$5 MM - $9.9 MM

0 MFIs$10 MM - $14.9 MM

1 MFI$15 MM - $ 19.9 MM0 MFIs

> $20 MM


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Clients. Asia shows the largest outreach with the smallest portfolio, with six MFIs that have more than 50,000 clients. At the same time, nearly half of the 18 MFIs in Asia have small outreach, with fewer than 15,000 clients. In Africa, almost half of the MFIs have fewer than 5,000 clients and the majority has not surpassed 15,000 clients. Latin America and the Caribbean have a broader distribution with six institutions serving more than 50,000 clients and an additional 10 MFIs with more than 15,000 clients. About 40 percent of the MFIs in Latin America and the Caribbean, however, have fewer than 15,000 clients. Eastern Europe and NIS is markedly different from the other regions, with most of them – 18 of 21 – reaching fewer than 15,000 clients.

Distribution of Clients Per Region

Microfinance Institutions in Latin America by Total Clients (Dec. 2002)

10 MFIs15,000 - 24,999

5 MFIs25,000 - 49,999

5 MFIs50,000 - 99,999

1 MFI> 100,0007 MFIs

< 4,999

7 MFIs5,000 - 14,999

Microfinance Institutions in Africa by Total Clients (Dec. 2002)

4 MFIs5,000 - 14,999

0 MFI15,000 - 24,999

5 MFIs25,000 - 49,999

0 MFI50,000 - 99,999

2 MFIs> 100,000

8 MFIs< 4,999

Microfinance Institutions in Eastern Europe by Total Clients (Dec. 2002)

12 MFIs < 4,999

6 MFIs5,000 - 14,999

2 MFIs15,000 - 24,999

0 MFIs> 100,000

1 MFIs25,000 - 49,999

0 MFIs50,000 - 99,999

Microfinance Institutions in Asia by Total Clients (Dec. 2002)

4 MFIs5,000 - 14,999

1 MFI15,000 - 24,999

3 MFIs25,000 - 49,999

4 MFIs50,000 - 99,999

2 MFIs> 100,000 4 MFIs

< 4,999


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IV. MFI Ownership Structure and Board Composition The ownership structure and governance characteristics of regulated MFIs are the two attributes that differentiate them most from their nonprofit predecessors. A significant number of nonprofit microfinance institutions have become regulated, formal MFIs. They have ceded their vaguely defined ownership structure to investors who acquire a shareholding position and govern the institution through the board of directors. Investment capital seeking both social and financial returns comprises the bulk of capital in microfinance, channeled through specialized funds, which are growing in number and constitute the majority of Council members. While these are managed privately, the funds’ underlying investors are multilateral, bilateral, or nonprofit organizations as well as private investors seeking to use their resources in a commercially driven manner. Currently, “purely” private investors, local or international, who invest directly in microfinance institutions comprise a very small percentage of the ownership structure of MFIs. Additional players in ownership structures of MFIs include management, staff (through a variety of ESOP structures) and clients (in certain Asian institutions not represented in this study,) Board composition and governance responsibilities also differ significantly between regulated MFIs and nonprofits. In both cases, the primary duty of directors is to the institution on whose board they serve. In the case of regulated MFIs, however, directors must also be answerable to the shareholders who own the institution and elect them. The directors of a nonprofit organization in the developing world, by contrast, often operate without a well-developed legal and regulatory framework that would serve as a substitute for the ownership structure of for-profit entities. Directors of nonprofit organizations, then, may ultimately be accountable to no one in such a context. In the case of regulated MFIs, they are directly accountable not only to shareholders, but also to regulators, who must ensure the safety and soundness of institutions that now form a part of the formal banking system, and perhaps most importantly of all, to depositors who entrust their savings to these institutions. This section reports on the results of questionnaires completed by 21 MFIs from around the world, all institutions in which Council members hold investments. Ownership Structure The composition of ownership is of utmost importance for the healthy functioning of an MFI. Ownership structure has a direct bearing on the locus of control over the entity and hence decision-making. As such, ownership profoundly influences mission and direction. It also has significant effects on stability and continuity over time, access to funding in crisis or for growth, and public confidence in the entity.


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Table 2: Ownership Structure of 18 MFIs

* Includes one or more executives of the MFI ** Includes a mixture of NGOs, private and public organizations The ownership structures of the institutions that responded to the survey are reported (anonymously) in Table 2. At first glance, the range of ownership patterns appears quite mixed, with the number of shareholders ranging from three to 112, and the types of shareholders including a wide variety of players, both local and international: NGOs, private social and commercial investors, public sector investors, individuals, and staff members of the organizations. Some investors are specialized in microfinance, while for others their investment is their sole foray into the field. In part because of the origins of the information (i.e., because of the Council’s makeup), international private social investors are the most frequent type of investor, present in all but three of the institutions. International public sector investors (IFC, FMO, etc.), which often cooperate closely with private equity funds, are the next most prevalent, in 10 cases. In a number of cases, there is a lead investor that owns between 30 and 49 percent of the institution. This lead investor was generally the prime motivator in the MFI’s formation and commands a corresponding importance in the affairs of the institution. International and Local Ownership. One of the most important dimensions of ownership involves the relative roles of local and international players. The development community entered microfinance with a presumption in favor of local ownership, for a combination of philosophical and practical reasons. Nevertheless, there are strong arguments that international investors can bring important assets (beyond the strictly financial) to these institutions. Most of the institutions surveyed here engage a mix of local and international investors, but the relative roles vary substantially. Of the respondent group of 21 MFIs, eleven reported that international investors held a majority of their shares, and 10 had majority local ownership. Only a few institutions were either entirely local (one) or entirely or nearly entirely international (four). Early conceptions of how microfinance ownership would evolve saw local commercial capital playing an increasing role and eventually supplanting much of the international capital that was brought in at company formation. This kind of evolution has not taken place in the institutions in

Original NGO

Local NGO Internat’l Pvt/Social

Internat’l Pvt/Com’l

Internat’l Public

Local Private

Local Individ.

Local Public

ESOP/ Staff

Not Known

Total Number Of Investors

1 1 (43%) 1 (12%) 4 (45%) 6 2 3 (18%) 2 (14%) 2 (16%) 1 (52%) 8 3 1 (1%) 1 (20%) 1 (79%) 3 4 1 (37%) 2 (22) 1 (10) 16 (31%)* 22 5 2 (74%) 1 (14%) 1 (12%) 4 6 4 (45%) 23

(13%) 29 (3%) 1 (39%) 57

7 1 (45%) 1 (19%) 1 (3%) 1 (33%) 4 8 2 (39%) 2 (61%) 4 9 1 (29%) 2 (24%) 3 (37%) 1 (10%) 7 10 2 (40%) 2 (20%) 1 (40) 5 11 2 (12%) 3 (35%) 1 (54%) 6 12 2 (39%) 1 (13%) 1 (30%) 1 (5%) 1 (13%) 6 13 2 (53%) 2 (45%) 1 (3%) 5 14 (100%) Unknown 15 2 (40%) 1 (60%) 3 16 2 (26%) 5 (32%) 1 (2%) 20 ** 84 * 112 17 1 (99%) (1%) 18 1 (23%) 33 (77%)


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the survey. Rather, there are essentially four pathways to significant local ownership: NGO retention of shares upon transformation, private banks establishing a majority-owned subsidiary, groups of small investors assembled through the efforts of the main institutional promoters, and staff ESOPs. The first two sources of capital tend to take a leading role in the institution, while the latter two sources tend to be smaller, more passive players. Private commercial capital is notably lacking, except in the case of bank subsidiaries. At this stage in the development of commercial microfinance, the challenge of local ownership remains partially unresolved, but the results of this survey suggest that future growth in local investment will continue to come from unconventional sources, such as those just cited, rather than primarily from large private commercial investors. The relative lack of appropriate local sources of investment highlights one of the main rationales for international investment in microfinance: the need for significant amounts of capital, especially capital that respects the nature of the microfinance business. As a result, there are an increasing number of international players, but only in a few instances (three in the survey) are these private commercial investors. All the other international investors are either public sector entities, mainly multilateral and bilateral development banks, or private social investors, such as the organizations represented on the Council. The last group may in turn be divided between those who play primarily an investor role and those who are microfinance specialists, bringing technical know-how to their participation as owners. The investor-only group includes Triodos, Doen Foundation, Oikocredit, while the technical specialty group includes IPC, ACCION, ProFund, Desjardins, Opportunity International, and others. For the most part, the private social investors have been capitalized by public sector sources. Many of the same international public sector investors, which appear in the table as direct investors, have also capitalized the private social funds. Therefore, the role of international public sector capital in microfinance institution equity is substantially greater than the table of shareholding would indicate. The private social investors are, however, able to accomplish a number of important tasks that the public investors cannot: attracting private commercial and socially-oriented capital; making the relatively small investments needed by MFIs; bringing microfinance expertise to the governance role; and providing dedicated oversight to their investors.3 Models of Ownership. A major challenge in designing MFI ownership structures is to assure that the ownership group works effectively together. For many investors, this boils down to the question, “Who is in control?” Some players are only comfortable with majority ownership in the hands of one investor, as in the case of five of the study’s respondents. A more prevalent model is a group of investors, each holding a substantial minority of shares. In these cases, control is often asserted through blocs of like-minded institutions who act together. Special provisions in bylaws or shareholder agreements may also be employed to secure control even without majority ownership or voting blocs. The approach to control is reflected in the overall mix of investors, or what may be termed an ownership model. Among the responding institutions, four emerging models of ownership can be identified. The first, involving six of the institutions shown here, includes MFIs that transformed from NGOs. In these cases the original NGO remains a significant shareholder in the resulting MFI, generally holding a substantial minority, but in one case nearly all, of the shares. It appears that the local NGOs retain very significant control in most of the cases of transformation shown here, sometimes through other closely allied investors. In three instances, transformed MFIs have established ESOPs, which in addition to providing incentives to staff for good performance, assist

3 A full discussion of the rationale for private equity funds, while interesting and important, is beyond the scope of this paper.


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the original founders/sponsors in maintaining greater control over the organization. In one case, the NGO and ESOP together own over three-quarters of the shares of the institution. In another, the ESOP owns over 40 percent of the institution by itself. Another model includes institutions with a small group of mainly international shareholders working together, a model particularly associated with the German microfinance organization IMI/IPC. In these cases, numbering eight in our sample (not all IPC-related), ownership is fairly evenly distributed among the handful of investors, and local investors play a relatively minor role. In two instances, there are no local investors and in one, the sole local investor holds an insignificant share (three percent). A third model includes three institutions that are majority-owned subsidiaries of local private banks. In these cases, the bank has generally selected a few (two or three) additional shareholders, who bring specific skills or perspectives into the ownership group. It is important to note that these institutions are the only ones in the sample with significant private commercial capital, and it is especially significant that this is local capital. A final model – or perhaps in this case, equity-raising device – involves four institutions with a relatively large number of local shareholders, both organizations and individuals. These cases feature a large number of small investors, presumably brought in through an equity-raising effort by the original sponsors. In two of these institutions, several senior executives of the institution are among the small shareholders – with shares totaling less than five percent. Together, these small shareholders typically constitute a significant minority stake in the institution. More investigation would be needed to determine whether and how these small investors assert their voice in decision-making. While definitions can differ, and the Council members themselves state that they are pursuing both social and financial returns, it appears that social investors hold the overwhelming majority of shares in the reporting MFIs. In slightly under half the cases, social investors hold 90 percent or more of the shares of the MFIs. In all but five cases, social investors hold the majority of the shares of the MFIs. In two of those five cases, there is a large number of small individual shareholders who make up an important percentage of the shareholdings of the institutions, some (or all) of whom may well consider themselves social investors. In another two, the MFIs are subsidiaries of local commercial banks. In the fifth case, a unique situation, an international commercial investor and a local commercial investor have joined forces to take a controlling majority of the shares of the MFI. For the purposes of this study, all Council members whose portfolio companies responded to the questionnaire are considered to be international social investors. While one cannot extrapolate the results of this survey to the entire world of regulated MFIs with precision, it does appear at this juncture that social investors, mostly international but partly local, currently provide the overwhelming majority of the share capital of the institutions surveyed and probably others. Board Composition and Structure In contrast to shareholder structure, board composition shows relative uniformity among institutions. Of the 21 respondents, 18 had boards comprising between five and eight directors. Directors representing shareholders outnumbered independent directors in all cases, often by a wide margin. In 14 of the 21 MFIs, there were no independent directors at all. In only one case did independent directors represent more than 20 percent of the board’s membership.


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There is greater variation with respect to the existence and types of board committees among the respondent MFIs, however. Fifteen of the 21 MFIs have audit committees (although six therefore do not). Only four of the institutions have executive committees, and an equal number have asset and liability committees (ALCOs), although other institutions have management-level ALCOs. Four institutions also have risk committees. Two institutions have credit committees at the board level, and two have compensation committees to determine executive-level compensation. Of the 21 respondents, four reported they have no board committees at all. In two of these cases, the MFIs are majority-owned subsidiaries of local commercial banks. Six of the 21 MFIs have monthly board meetings. All of these institutions are in Latin America or the Caribbean. Nine institutions hold quarterly meetings of their boards, with the rest ranging from two to six meetings per year. Board committees tend to meet less frequently than the entire board does in most MFIs, although in some cases committee meetings are just as frequent as board meetings. For MFIs that have executive committees, those committees tend to meet as frequently as (and sometimes more frequently than) the full board of directors. In general, the formation of board committees, their relative importance vis-à-vis the board of directors, and the frequency of their meetings appear influenced by a combination of the origins of the MFI, the size and sophistication of the institution, and above all, the legal framework and banking culture of the host country. V. Current Corporate Governance Practices The establishment and implementation of good governance practices is a key issue for corporations generally, but is essential to the well-being and long-term prospects of MFIs in particular. Often these institutions operate within legal and regulatory frameworks that provide little guidance to boards of directors on appropriate corporate governance policies. The lack of generally accepted governance standards, coupled with the sheer newness of the institutions, means that MFIs must pay particular attention to governance. In addition, MFIs need to build institutional cultures that will allow for the development of local professionals not only to staff and manage their institutions, but also to govern and ultimately own them. In many cases, this objective is a long-term task because of a lack of qualified local professionals, a financial inability to compete effectively for top local talent, or local patterns of ownership that do not value good corporate governance. In other cases, there is already in place a local ownership structure and a predominance of local directors on MFI boards. By establishing good governance policies and procedures, MFIs can not only enhance their ability to carry out their social mission, but also improve their financial prospects by making themselves more attractive to potential investors. Findings of the Study The 21 respondents to the Council’s questionnaire provided information on the workings of their board of directors and the relationship of the board to management, discussed below. In addition, the Council selected a smaller “core group” of institutions, representing many of the leading MFIs in the four regions surveyed, for further research. Nine institutions responded to the Council’s request for telephone interviews with their general managers, board chairmen, or both, and at a tenth institution both the board chair and the general manager provided answers to the Council’s questions in writing. Unfortunately, in two of these 10 cases, the Council never received completed questionnaires from the MFIs concerned. The insights provided by these senior executives are also presented in this section.


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Board of Directors The length of board terms showed considerable variation among the 21 respondents. Eight MFIs elect directors for a one-year term of office. Five MFIs have two-year terms, five three-year terms, one a four-year term, another a six- year term, while the answer of one respondent was unclear. One MFI has instituted a system whereby staggered terms ensure that no more than one-third of the board is up for re-election in any given year, in order to strengthen continuity of corporate governance. In addition, that MFI has special rules for founding directors of the institution (who need not rotate off the board) and for its managing director (who serves a three- to five-year term). Interestingly, only one MFI surveyed has established a policy of term limits for its board of directors; in this case directors may be elected to serve only two consecutive four-year terms. In addition, few MFIs have internal policies relating to the service of their board members on other boards of directors. Five MFIs reported that their directors may not serve on the boards of other financial institutions, but all responses indicated that this restriction was a matter of local law and not of corporate policy. One of these MFIs also reported an internal policy that no director may serve on the board of another MFI. In contrast, another MFI reported that it had directors serving on multiple MFI boards, and that these persons needed to keep separate the issues of one institution from another, so as not to have a conflict of interest. Otherwise, sixteen of the 21 MFIs reported that they have no policies regarding directors serving on other corporate boards generally or on other MFI boards in particular. Only seven of the 21 MFI respondents reported policies in place to remunerate directors for their board service; in two of these cases, the remuneration was described as nominal. Two of the seven MFIs pay their chairperson a greater remuneration than that paid to other board members; in one of these two cases, the difference is considerable. Another of the seven pays directors on an hourly basis, with a two-hour minimum per board meeting. Still another of the seven has a policy of paying independent directors only, and not those directors representing shareholders or management. Finally, only two MFIs of this group of seven have a policy of paying additional remuneration to board members for their work on board committees. While not all MFIs provided information on this point in their responses, a number of institutions reported that they reimburse their directors for travel, meal and lodging expenses. For international social investors represented on the boards of their portfolio companies, these expenses are of course significant and generally exceed the amount of remuneration reporting institutions pay to their directors by a wide margin. In another important area of corporate governance, very few of the responding MFIs reported the existence of conflicts of interest policies. Only five of the 21 MFIs surveyed have such policies in place, and it is unclear to what extent these are developed and articulated. One MFI reported having a “weak” conflicts policy in place; another said it has a self-reporting policy for directors. On this same theme, a third stated that its directors must make an annual “declaration of interest” to the board and remove themselves from discussions and votes on matters in which they are “interested”. Three MFIs reported that their charters prohibited their institutions from making loans to their directors, but only one of these characterized such a provision as a conflicts policy.


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Sixteen of the 21 reporting MFIs therefore have no articulated conflicts of interest policies in place. On another relevant and related corporate governance issue, none of the 21 responding MFIs reported having policies in place by which to evaluate, much less discipline, members of their board of directors. Some MFIs reported that only shareholders may remove directors in accordance with the provisions of their respective shareholders agreements. Other MFIs reported that relevant provisions of law provided for the removal of directors in certain circumstances. Still, in all cases, the board of directors of the 21 reporting MFIs was effectively without remedy or recourse to address problems of directors who were not performing at the desired level, or whose performance was actually causing harm to the institution. As will be seen below, however, one general manager interviewed by telephone has recognized the need for a system to evaluate the performance of board members as integral to good corporate governance practices. Relationship of the Board of Directors to Management The Council’s questionnaire asked a number of questions about the flow of communications between the board of directors and management. Many responding MFIs described in great detail the packets of materials prepared for board members in connection with meetings of the board of directors. These responses were thoughtful and comprehensive. On the issue of contact between the board of directors and staff members other than the general manager/managing director, most MFIs reported that senior management and individual board members were able to deal directly with each other, without having to go through the head of the organization. Fully sixteen of the 21 reporting institutions indicated that one or more senior managers other than the general manager have direct contact with the board. In one case, it was reported that the board can contact senior staff if necessary (but not vice-versa), and in another the general manager’s permission is needed before senior staff can contact the board. In a third case, only the general manager has contact with the board of directors, while two responding MFIs did not provide answers to this particular question. In a similar vein, the great majority of responding MFIs, fifteen out of 21, reported that the audit committee of the board of directors has direct contact with the external auditors of the MFI. Of these, two MFIs stated that their external auditors regularly attend board of directors meetings. Four MFIs reported here that they do not have audit committees, and the remaining two did not answer this question. Regarding the relationship of the board of directors to the general manager of the MFI, the questionnaire posed a number of questions regarding his or her evaluation and compensation. Sixteen of the 21 responding institutions reported that there exists a job description for the general manager/managing director, although in three of those cases, the MFIs stated the description is contained in the charter or bylaws of the company. Three MFIs reported that there is no job description for the head of the organization, and two MFIs did not answer this question. Performance goals for the general manager exist in at least seventeen of the 21 reporting MFIs, although in many cases the respondents stated that these goals are contained in the business plan, strategic plan, or annual budget of the organization. It is unclear how many of the responding MFIs actually set out explicit performance goals for the general manager apart from the overall process of business and financial planning. Only three MFIs explicitly state that there are annual performance goals for the general manager.


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As with performance goals, the board of directors bases its evaluation of the general manager’s performance on the budget or business plan for the MFI in at least eight cases. Only four MFIs report that there is a formal evaluation of the performance of the general manager. In two of these cases, there is a board committee that conducts that evaluation; in a third, the entire board conducts the evaluation; and in the fourth, the board chairman alone evaluates the general manager. A number of answers suggest that the board of directors conducts informal, ongoing evaluations of the manager’s performance as part of its discussions of the overall performance of the institution, but it is difficult to assess the thoroughness or effectiveness of this approach. With respect to the compensation of the general manager, it appears that a slight majority of the 21 respondents use a variable compensation scheme. Eleven of the 21 institutions report that the general manager has a base salary plus a bonus based on the performance of the MFI. In three cases, it is stated that incentive compensation is limited to 50 percent of base pay (in one case, by law). Eight of the MFIs reported that the general manager receives a fixed salary only. Two did not respond to this question. None of the 21 MFIs reported having had to discipline or remove a general manager, although in one case the Council was referred to the board of directors of the institution for an answer to that question. In six cases, the board has had to conduct, or is presently conducting, a job search for a general manager; in three of those cases, the board identified internal candidates to fill the position. In another case, the board put forth its own candidate to head the organization. In one completed search, the board used both its own contacts and mass media to conduct the search; the successful candidate came to the institution through a personal contact. Finally, in a search to be conducted shortly, the board plans to use personal contacts initially, then newspaper advertising, and failing that, a headhunter to fill the position. The View from the Board Chair’s Seat The Council was able to conduct telephone interviews with six board chairs and to pose to them six questions relating to their duties as chair, their relations with their fellow board members and the general manager, and the corporate governance challenges facing their institution. In addition, the Council received written responses to its questions from a seventh board chair. Six of the seven chairs described their roles in broadly substantive terms, with one person describing his role as more limited (until recently, that chair’s institution had a single person serving as its chairman and CEO). Several board chairs mentioned the primacy of their role in ensuring good corporate governance practices. A number emphasized adherence to the mission of the institution and their role as guardian of its vision. Other common denominators were the roles of the chair in representing the shareholders, and as serving as a facilitator between the shareholders and the board of directors, or between the board of directors and senior management. Finally, two board chairs described their roles vis-à-vis the external environment: ensuring that the MFI was keeping up with trends in the financial sector of the country, and representing the institution in political, economic or social arenas of public life. Regarding their duties as board chair, all respondents reported spending considerable time in preparing for and leading board, and in some cases shareholder, meetings, and in following up on the action items resulting from them. Six of the seven board chairs reported serving on various board committees, including executive, audit, planning, compliance and finance, and one board chair with relevant professional qualifications has been specifically charged with taking the lead on risk management issues for her institution. Other tasks included drafting a statement of rules


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and expectations for members of the board, attending representational events, and attending to various administrative matters and signing documents. All seven chairs described close and strong working relationships with the general managers/managing directors of their institutions. All stressed the frequency of communication between the chair and the manager; in one case, that communication is daily. One described the relationship as a strategic partnership, another as that of a coach and player, and two more as that of advisor to the manager. Several described an iterative process of discussing issues and ideas and reaching decisions for the institution collaboratively. The relationship with other board members mostly occurs in the context of the board of directors meetings. In the case of board members traveling from abroad, there is often a working lunch or dinner before or after the board meeting. Otherwise, because directors are often from (or in) different countries, communication with them is largely by e-mail and, to a lesser extent, by telephone. One board chair mentioned sitting on the boards of other MFIs with the same persons serving on her board. That fact has allowed this group of social investor board representatives to form closer professional and personal bonds than would otherwise be the case. Another chair described the important role of consensus builder he plays among the board members as a central part of the relationship. When asked what their personal concept of corporate governance is, the various board chairs often stressed different aspects of their jobs. Two emphasized that corporate governance is a team effort, requiring the active collaboration of shareholders, the board of directors and senior management; it follows from this that the board chair must keep firmly in mind the interests of all stakeholders in the organization’s work. One of those two also noted the importance of building an appropriate board by bringing onto it persons with independent views and complementary skills to those of management. Another stressed the building of an information-reporting structure and culture, so that the management and staff of the MFI will understand what the board of directors needs to know in order to do its job. On a similar note, yet another stressed the importance of the board’s close involvement with senior management, in order to ensure effective and productive roles for each set of actors. One defined corporate governance as ensuring that the board is well informed and has full access to the books and records of the institution. Finally, one board chair noted the importance of establishing and maintaining good governance practices, and of ensuring that these are disseminated widely throughout the organization. When asked what the greatest challenges facing their institutions are, the board chairs’ answers often reflected the particular circumstances of their MFIs’ founding, as well as those of their countries. One chair, in fact, stated that the greatest corporate governance challenge facing his MFI is the political and economic situation of the MFI’s country. Another said the challenges are to get all directors to have an equal say (and to pull an equal share of the weight), thereby achieving greater balance, as well as to incorporate more independent directors, a practice that is not in keeping with the corporate culture of the country. Similarly, another board chair stressed the need for greater balance on a board that historically has been dominated by its lead shareholders, while also noting that competition poses an increasing challenge to the corporate governance of the institution. Another board chair also cited competition as a key challenge (including customer and staff retention), in addition to achieving a commonality of interests among shareholders and between shareholders and management. As a variation on the theme of balance, one board chair said the challenge is to create more professional distance between the board of directors and management (in order to empower management further). Similarly, one chair stated the challenge as establishing a clear division of responsibility between the board and management and ensuring that directors act objectively. Finally, in a unique case, one board chair


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said that the MFI’s greatest challenge in corporate governance will be to understand how to operate after its current majority shareholder ceases to hold a majority of the institution’s shares. The View from the Front Office The Council also was able to interview or receive written responses from eight general managers/managing directors of leading MFIs, including five whose board chairs were also available for interviews. The Council posed six (different) questions to these managers regarding their relationship with the members of their board of directors (including the chair), corporate governance issues and challenges, and the future shape of the shareholding and board composition of their institutions. All eight general managers described strong, close working relationships with the board chairs of their respective institutions. Contact between the two is regular and frequent. Two of the general managers described the relationship as a strategic partnership. Another two have the benefit of having known and worked with their board chairs for many years and report strong professional and personal relationships, deeply supportive of the general manager’s efforts. In cases where the board chair lives outside the country where the MFI is located, there is frequent communication by e-mail and telephone. In one case where the board chair is in-country, contact with the general manager is almost daily. In a number of cases, the board chairman serves on a board committee with the general manager, thereby creating additional opportunities to strengthen the relationship between the two. Regarding the relationship with other members of the board of directors, most general managers reported good working and personal relationships as well, while indicating that interaction is somewhat less frequent than it is with the board chair. In the case of the numerous board members who travel from abroad to attend board meetings, personal contact is normally limited to those meetings and to meals before or after them; otherwise communication is normally via e-mail and by telephone. One general manager, however, whose board members serve on a number of boards with each other, reports having strategic, “big picture” discussions with those directors, who take a long-term view of the institution’s trajectory and are active in formulating its strategy. General managers define corporate governance in varying ways. One manager describes it in terms of maintaining a heterogeneous balance on the board of directors, so that many persons are together making decisions for the company—this is in contrast to the tradition of family-owned firms in the MFI’s country. Another describes it in terms of the stewardship of public funds, and using those funds wisely. Strong corporate governance practices, in this manager’s view, also mean a clear delineation of duties between the board and management: the board fixes the mission and direction of the institution, but it is the role of management to run it. Another manager echoes this view, adding transparency, accountability to shareholders, and staff participation in policymaking to the mix. A fourth defines corporate governance as the essential, top-level part of the management of an institution, requiring a participatory approach from directors and senior managers alike, plus the incorporation of internal and external factors, in order to lead the institution to the next level of activities and accomplishments. Another general manager made this same point in a different way: board members and senior managers can differ on details, but all must share the same long-term vision of the institution. Others spoke of the importance of establishing board and management processes, and of disseminating these throughout the organization in order to bring everyone along on the institution’s development path. Making a similar point, one general manager emphasized the need to develop the future leadership of the institution in such a way as to ensure continuity in management and adherence to the corporate culture of the institution. Another defined good corporate governance as


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achieving 100 percent transparency, and achieving clarity in the resolution of the institution’s problems; this manager believes the institution needs a single leader recognized by all as such, otherwise lines of authority cross each other and are lost. Finally, one general manager gave very specific and concrete definitions of what good corporate governance means: a rotating chairmanship, held by someone other than the CEO; at least 20 percent of board members being independent directors; having independent directors chair the audit and compensation committees of the board; maintaining at least 75 percent attendance of directors at all board meetings; having in place a system for evaluating the performance of board members; and ensuring that directors representing shareholders bring skills to the board that the institution actually needs. When asked what the greatest challenges facing their institutions are, several general managers mentioned the difficulty of maintaining a balance between the MFI’s social and financial objectives. This challenge is made all the more difficult in countries where there is a well-developed microfinance sector and strong competition among institutions. Several also mentioned challenges posed by the current composition of their board of directors. In one case where board members are representatives of institutional investors, there are frequent changes in personnel, affecting institutional continuity. In addition, these institutional representatives sometimes act like portfolio managers, and not like directors primarily looking out for the interests of the institution. In other cases, managers spoke of the challenge of getting value added out of board members, including commitment to the work of the organization (particularly board committee work), to transparency, and to raising the quality of corporate governance generally. In one of these cases, the manager was concerned that some directors still do not fully understand the values of the institution, some of which have been in place since the MFI was operating as an NGO before converting to a regulated entity. One general manager stressed the need to achieve a clear delineation of duties between the general manager and the board chair: it is management’s job to manage, and the board’s role should be non-executive. Two of the general managers mentioned the challenge of finding local professionals to take over various aspects of the institution’s work. One MFI has tried without success to find a local investor who would take a long-term view of the institution; “short-termism” is described as a cultural issue in this MFI’s country. This same MFI has had trouble recruiting good local managers, both because there is competition from commercial banks, which can pay better salaries, and because there is a more generalized brain drain of talented people out of the country. When asked to describe the equity capital needs of their institution over the medium term of three to five years, most general managers reported that their MFIs are well positioned for future growth already. Fully seven of the eight say they have no need for additional equity capital over this time period. Three of the eight have just completed or are about to complete a round of fundraising, while others report having capital well in excess of the regulatory minimum, or generating profits that will allow capital to grow through retained earnings and meet capital adequacy requirements. One manager is seeking to grow the deposit base, rather than the equity capital base, in order to fund the growth of the loan portfolio. Another reports having adequate capital and generating adequate profits currently, but the institution, now a finance company, is contemplating converting to a fully licensed bank, in which case its capital would need to triple. Only one of the eight general managers reported the need for a significant increase in capital over the medium term; in order to meet that need, the MFI will seek a strategic investor who will purchase a significant portion of the company’s shares.


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Regarding what the shareholder and board composition of their MFIs might look like in the future, the general managers gave a variety of interesting answers. One expressed concern that the majority of its existing investors would sell out their positions in the foreseeable future and move on, with only one truly long-term investor remaining behind. The manager expressed hope that selling shareholders would identify suitable buyers who understand and support the mission of the organization. Two managers did not expect much change in its investors or board composition over the medium term; over the long term, their institutions expect to be the first publicly listed and traded MFI in their respective countries and see new private investors coming to the institution through the financial marketplace. One of these two managers does not see a private trade sale as likely to take place. The other and a third manager, on the other hand, believe that either their current investors could sell privately or the institutions could go public. The latter believes that current investors are transitional investors, and that it will take 10 to15 years to bring in “real” investors to replace them; these new investors will be international (initially), regional and national in some combination. One general manager believes a strategic investor will be found within the next two years. The overarching qualification of this investor is that it must subscribe fully to the mission of the institution: current investors agree on this point unanimously. Another manager, by contrast, believes the question of future ownership of his institution is too speculative to be answered at present: this new MFI is not yet profitable in hard currency terms, and until it is, is unlikely to be attractive to other investors. In the meantime, the manager foresees the development of an increasingly sophisticated board of directors and the establishment of additional board committees to meet the growing corporate governance needs of the organization. The manager of one profitable MFI, interestingly, sees no new investors coming into the institution for the foreseeable future. Rather, this manager believes that existing shareholders are ready to buy up any shares that a selling shareholder may offer. In addition, this manager wishes to expand employee ownership of the institution through an ESOP and to increase incentives to senior managers through the awarding of stock options as part of their compensation scheme. By contrast, the manager of another MFI states that an initial premise of the MFI was a broadly “democratic” shareholder structure, with many shareholders owning a small percentage of the institution. Currently the largest shareholder of that MFI owns about 20 percent of its shares, and there are about 100 shareholders in total. This manager sees an even broader diversification of shareholders taking place in the future; in the meantime, there is work to be done in developing the professionalism of the board of directors so that it may meet the increasingly sophisticated corporate governance needs of the institution.


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VI. Issues and Recommendations for the Future The question of how to assure that MFIs can develop strong equity bases and achieve good corporate governance is complex and multi-dimensional. The responses provided by the 21 institutions that participated in this study point toward issues that will become the focus of work during the coming years. This section lays out some of these issues for the future in the areas of ownership, board composition and governance practice. Investment and Ownership. As a generalization, the ownership of the MFIs in which Council members have invested can be characterized much as the Council members themselves:

• Social (with a double bottom line) more than purely commercial • Publicly-funded more than private • International more than local

Although there are several important exceptions to this generalization (e.g., local NGO ownership and the participation of private banks in majority-owned subsidiaries), it is a generally useful way of understanding the present status of the industry. Since the founding of BancoSol in 1992, advocates of microfinance commercialization have presumed that the high degree of participation by international social investors with public or charitable backing would help transition microfinance into the financial mainstream and that private capital would move in to replace social investors. However, the transition has so far proved more difficult than expected, and the transformation of equity sources has yet to occur on a large scale, as the study shows. On the one hand, social investors are wary of yielding ownership and control to investors who may not share their social objectives. On the other hand, purely private investors, particularly at the local level, have shown less interest than originally anticipated, due both to the particular nature of private investors and to the relative attractiveness of MFIs as investments. In fairness to the MFIs, macroeconomic conditions and political instability have deterred investment in developing countries generally in recent years, no matter how well-managed individual companies in these countries may be. In considering the evolution of MFI equity in the future, one can perhaps shift the focus of one’s inquiry from “How do we attract private investment into microfinance?” to “What ownership structures will best serve microfinance institutions – and their clients – in the long run?” The fixed time horizons under which most international social investors operate create an urgent need to begin answering this question. Existing investors, both public and private, who constitute the pioneering generation in MFI ownership, cannot remain as shareholders indefinitely. In the case of public investors, there are often internal rules, sometimes contained in their constitutional documents, which require them to exit their investments within a defined period of time. Most of the private equity funds, such as those represented on the Council, are also set up to exit within a defined time period. Clearly, limited-life funds such as ProFund or AfriCap, must exit before their term is up, but even companies of indefinite duration, such as ACCION Investments, face the need to anticipate exit options from the beginning in accordance with their investment strategies. Because the time horizons are not terribly far off (generally between five and 10 years), these investors find it necessary to negotiate possible exit scenarios at the time of investment, forcing the long run question to become immediate, (and often the only immediate answer being a put option issued by the MFI).


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That question is then, “Who should own these MFIs in the long run?” In many ways, this question breaks new ground, and the microfinance industry may be called upon to create new solutions. One can look to private sector models: for example, the ownership structures of other small financial institutions around the world may be relevant. Nevertheless, the social mission of microfinance remains a unique feature that must be taken into account. Among the possible means of ownership transformation that can be identified at the present juncture are the following:

• A trade sale to a local or international commercial bank, which may decide to buy expertise in microfinance rather than develop it from the beginning. In this scenario, pioneering MFIs would be fully mainstreamed into commercial banking. The potential advantages include financial depth, banking expertise, and an increased ability to achieve scale through widespread branch networks. The potential disadvantages include a possible loss of mission focus and lack of long-term commitment to microfinance on the part of the acquiring institution.

• A trade sale to another MFI, which may wish either to acquire its competitors and consolidate the local microfinance sector or to expand across national boundaries and become a regional institution. In this scenario, MFIs would take part in industry consolidation but remain part of specialized institutions. The potential advantages include greater economies of scale and greater profitability for the combined institutions. The potential disadvantages include a possible mismatch of corporate cultures and time-consuming difficulties in integrating policies, procedures and systems.

• A private placement to a group of eligible shareholders, who may wish to make and attract social investment with reasonable financial returns. The potential advantages include the likelihood of retaining a strong focus on the social mission of the MFI and the broadening of the base of like-minded investors who can replace the “first generation” of social investors. The potential disadvantages include the difficulty of mobilizing an entire new group of investors to take out the original investors, and the possible fragmentation of shareholding blocs as a result of a private placement.

• A public listing, or flotation, of the shares of the MFI on a local stock exchange, which could then provide liquidity to the owners of those shares. In this scenario, pioneering investors in MFIs would look to sell their shares to local investors following the development of a market for those shares on the local exchange. The potential advantages include market-created liquidity for MFI shares and the ability of initial investors to sell down their shares in lots. The potential disadvantages include the acquisition of shares by possibly unsuitable investors and possibly destabilizing swings in share prices. Related to the latter, a public listing could force MFI boards and management to focus more on short-term financial results than on long-term social goals, and make the attainment of both social and financial goals more difficult.

• A public listing of the shares of the private equity funds that hold MFI shares, which could then provide liquidity to the owners of the funds’ shares. In this scenario, existing investors in the equity funds would exit at the investment company level without necessarily triggering a sell-off at the portfolio company level. The potential advantages include stability of ownership for the MFIs and increased profit maximization for the


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equity funds. The potential disadvantages include the acquisition of equity fund shares by possibly unsuitable investors and a possible loss of control by fund management.

In all these cases, the current ownership model in which a small group of like-minded, socially responsible minority investors cooperate, would give way to ownership structures that would result in the exit of the initial group of pioneering investors. Several less conventional models are represented among the studied MFIs in incipient form – ownership by NGOs and related parties, by groups of individuals, or the launching of new MFIs as commercial bank subsidiaries. Among a few MFIs, particularly in Asia and not represented in this study, client ownership is seen as a solution. As one moves forward in this field, one must ask which of these arrangements would allow MFIs to flourish (and to serve their low-income clients well), as well as which would allow existing investors, in fact, to exit within the timeframes allotted. Where there are shortcomings in any given model, one can be creative in devising possibly unprecedented solutions. For example, perhaps the best way for international private capital to enter the microfinance field is by buying out the shares of public investors in equity funds, thus allowing private capital to be channeled through a socially oriented lens. One must also understand how to equip these institutions to survive the vicissitudes that accompany ownership evolution. Early experience suggests that ownership change can be a source of significant stress for a microfinance institution. Finally, one must continue to examine the prerequisites MFIs need to fulfill in order to become more attractive to outside investors. Among these prerequisites is strong corporate governance, as discussed below. Corporate Governance Corporate governance practice among the MFIs surveyed in the study varied widely. While the responses of several institutions indicated good practice, there is significant room for improvement in many cases. Frequently, governance practice reflects local standards of corporate governance, which vary from country to country. In the least developed countries and in countries emerging from economies featuring central planning, the tradition of strong corporate governance is still in its infancy. In other countries, governance practice reflects the norms of a particular legal tradition. For these reasons, international actors in microfinance, such as the Council, have an important role to play to ensure that members of MFI boards understand and apply best practices in corporate governance. Guidance is needed that supports known principles of good governance but that is tailored to the specific requirements of MFIs as regulated financial institutions with a social mission. The challenge of developing and promulgating detailed corporate governance guidance is one the Council may wish to take on. Annex 2 is offered as a starting point for further work in this area. Among the most specific practical recommendations are increasing the use of board committees and independent directors, more formal processes for hiring, evaluating and compensating the general manager, and the establishment of clear policies regarding conflicts of interest and director accountability.

Annex 1: Detailed Information of MFIs by Region

ALL MFIs BY REGIONAll figures are in actual USD

CountryNo. of Identified

InstitutionsNo. of MFIs with

Information Total Assets* Gross Loans* Number of Clients* Total Equity* % of Equity

1 Latin Am & the Caribbean 43 35 814,225,377 824,556,480 808,432 143,689,924 46.9%

2 Eastern Europe & NIS 25 21 270,139,095 337,524,515 63,802 46,105,760 15.1%

3 Asia 21 17 87,727,303 130,247,564 534,084 52,085,071 17.0%

4 Africa & The Middle East 26 19 291,689,825 198,073,047 668,977 64,469,583 21.0%

Total 115 92 1,463,781,600$ 1,490,401,606$ 2,075,295$ 306,350,338$ 100%

* Figures do not include Government Controlled Institutions (GCI)

Equity Breakdown By Region

Eastern Europe & NIS15%

Asia17%

Africa & The Middle East21%

Latin Am & the Caribbean47%

LATIN AMERICA & THE CARIBBEAN- All figures are in actual USD and are from 2002 unless otherwise noted

MFI Coding (1) MFI Name Country Establishment Year Total Assets (2) Gross Loans (2) Number of Borrowers Avg. o/s Loan Size Total Equity (2) Equity/Assets

1 S Compartamos Mexico 2000 55,309,000 42,067,000 144,991 290 18,551,000 44.1%2 S Mibanco Peru 1997 108,290,000 92,481,000 99,121 931 23,834,000 22.0%3 S Independencia Mexico 1993 45,209,713*** 12,533,501 94,951 132 11,258,569 24.9%4 S Banco Solidario Ecuador 1991 158,163,103 113,530,000 65,339 1,350 12,960,818 8.2%5 S Caja los Andes Bolivia 1995 58,563,457** 54,912,371 58,919 932**** 6,572,157** 11.2%6 S Financiera Calpia El Salvador n/a 57,408,000 44,189,000 42,562 1,038 9,015,000 n/a7 S BancoSol Bolivia 1993 104,340,000 80,900,000 42,290 1,913 14,800,000 14.2%8 S FIE Bolivia 1985 38,800,000 36,185,971 28,773 1,258 4,894,037 12.6%9 S Eco Futuro Bolivia 1999 12,516,112*** 11,402,733 27,528** 655*** 2,651,249*** 21.2%10 S EDYFICAR Peru 1997 24,567,000 22,285,000 23,688 941 5,492,000 22.4%11 S PRODEM Bolivia 1986 30,642,975*** 23,642,859 22,811** 782*** 4,668,452*** 15.2%12 CB Banefe Chile 1992 42,500,000 42,500,000 20,000 2,125 - n/a13 S Finamerica Colombia 1994 21,388,175 15,964,708 18,202 877 3,786,556 17.7%14 S Confia Nicaragua 2000 15,080,000 15,080,000 17,378 868 2,285,000 n/a15 CB Banco del Desarrollo Chile 1989 19,017,517 19,017,517 16,600 762 - n/a16 CB Credife/Banco de Pichincha Ecuador 2001 9,858,881 9,393,937 16,438 571 863,848 8.8%17 CB Banco ADEMI Dominican Republic 1983 63,499,690*** 50,670,147 16,409^ 3,088 16,000,943 25.2%18 S Apoyo Integral El Salvador 1999 14,933,000 10,319,000 16,319 609 2,859,000 n/a19 S Cooperativa San Luis Bolivia 1960s 6,000,000*** 6,000,000 15,000 400 - n/a20 S Finsol Honduras 1997 7,142,943 6,440,048 11,051 583 3,744,862 52.4%21 S FINCOMUN Mexico 1994 5,729,000 5,729,000 9,340 613 1,054,000 18.4%22 S Findesa Nicaragua n/a 13,356,000 10,568,000 8,545 1,237 3,221,000 n/a23 S PROEMPRESA Peru 1986 8,668,000 6,001,000 6,793 883 1,618,000 18.7%24 ACB Sogesol / Sogebank Haiti 2000 3,822,969 2,842,398 6,364 447 340,291 8.9%25 S Bangente Venezuela 1999 5,751,101 2,925,365 6,314 463 2,053,000 35.7%26 S Comercio Financiera Paraguay 1978 1,553,592** 1,553,592 5,032 309 - n/a27 S EDPYME Confianza Peru 1998 4,228,000 2,735,000 3,802 719 958,000 n/a28 S Financiera Ecuatorial (SFE) Ecuador 2001 6,321,000 6,321,000 3,727^ 1696**** - n/a29 S Micro Credito Nacional Haiti n/a 4,253,000 4,253,000 3,091^ 1,376 1,900,000*** n/a30 S INDES Chile 1997 5,383,710 2,004,386**** 870(a) 2,304 - n/a31 CU Consolidar Colombia n/a 284,978 170,000** 400** 425** - n/a32 ACB Real Micro - ABN AMRO Brazil 2002 133,333* 133,333 320 417 - n/a33 S Solución Financiera de Credito Peru 1996 50,000,000 50,000,000 80,000^ 625 - n/a34 S JN Small Business Loans Ldta. Jamaica 2000 1,080,000 1,080,000 2,400^ - - n/a35 S Visión de Finanzas Paraguay 1992 28,550,000 20,900,000 30,300 - 4,100,000 14.4%36 S Caribbean Microfinance Ltda- GRD Grenada 2002 - - - - - n/a37 S Caribbean Microfinance Ltda - CML Saint Lucia 2002 - - - - - n/a38 S Microfin - DFL Trinidad & Tobago n/a - - - - - n/a39 Caja Rural de Ahorro Peru 1994 - - - - - n/a40 S Interfisa Paraguay 1996 54,600** 54,600 - - - n/a41 CB Banrural Guatemala 1998 1083*** 1,083 - - - n/a42 CB Worker's Bank Jamaica n/a - - - - - n/a43 CB Banque Union Haitienne Haiti n/a - - - - - n/a44 GCI / DB CMAC - Arequipa Peru 1986 96,157,000 69,429,000 63,543 1,093 14,698,000 15.3%45 GCI / DB CMAC - Sullana Peru 1986 38,872,318 28,050,933 42,695 657 6,210,362 16.0%46 GCI / DB CMAC - Maynas Peru 1987 9,652,074** 7,182,898 22,803 315 2,120,034 21.9%47 GCI / DB Banco do Nordeste Brazil 1998 - 24,600,000^ 121,692 206 - n/a

Total 814,225,377$ 824,556,480$ 808,432$ 143,689,924$

(2) Year Codes (if used in 1st columns, applies to entire row)(1) MFI Codes * 2003 Figures ^Estimated figure

S = Specialized MFI ** 2001 FiguresACB / CB = Affiliates of Commercial Banks or Commercial Bank ***2000 FiguresGCI / DB = Government Controlled Institutions / Development Bank ****1999 Figures

(a)2002 figures

EASTERN EUROPE / FORMER SOVIET UNION - NIS- All figures are in actual USD and are from 2002 unless otherwise noted


1 S Microfinance Bank of Georgia Georgia 1999 38,846,000 38,846,000 ^37,825 1,027 4,500,000*** n/a2 S KMB Bank Russia 1998 172,000,000** 132,039,000 21,696 6,086 12,000,000 7.0%3 S FEFAD Albania 1999 76,240,584 35,628,000* 15,000* 6,050(a) - n/a4 S EKI Bosnia and Herzegovina 1996 12,835,343 11,735,467 9,292 1,263 1,870,171 14.6%5 S PRIZMA Bosnia and Herzegovina 1997 5,242,724 3,881,581 8,112 487** 3,512,798 67.0%6 S Microfinance Bank Ukraine 2001 23,791,000 23,791,000 ^7,570 3,143 9,500,000*** n/a7 S Partner Bosnia and Herzegovina 1997 10,458,009 9,594,678 7,139 886** 3,540,626 33.9%8 S MIKROFIN Bosnia and Herzegovina 1997 9,954,337 9,560,502 5,633 910** 3,495,378 35.1%9 S Micro Enterprise Bank Bosnia and Herzegovina 1997 43,111,000 32,640,000 ^5,431 6,010 6,650,000*** n/a10 S MI-BSPO Bosnia and Herzegovina 1996 3,281,543** 2,639,497 4,459 592 830,654 25.3%11 S Pro Credit Bank Bulgaria 2001 23,676,000 23,676,000 ^4,315 5,487 6,650,000*** n/a12 S MIKRA Bosnia and Herzegovina 1998 3,728,398 2,951,028 4,145 470** 2,518,677 67.6%13 S Microenterprise Bank Kosovo 1999 422,942,000** 22,411,000 ^4,076 5,498 6,650,000*** n/a14 S Micro Enterprise Credit Moldova 2000 4,253,000 4,253,000 ^2,622 1,622 4,750,000*** n/a15 S Tbiluniversalbank (TUB) Georgia 1995 8,900,000 8,900,000 2,160* - 2,600,000 n/a16 S PSHM Albania 1999 3,034,700 2,330,808 1,807 2,525 1,400,846*** 46.2%17 S Microenterprise Credit Romania (MIRO) Romania 1999 6,068,000 6,068,000 ^1,357 4,470 8,550,000*** n/a18 S Stedonica Serbia n/a 2,017,480* 1,449,879 1,249 1,161 2,013,141 n/a19 S The Asian Credit Fund (ACF) Kazakhstan 1997 988,340** 950,000(a) 1,210(a) 785 (a) 332,957 n/a20 Mikrofond Bulgaria 1999 2,321,684** 3,153,403(a) 620(a) 2,558** 553,235 23.8%21 Agency for Finance (AFK) Kosovo 1999 799,281** 757,075 270 2,804 735,22322 S Microfinance Bank Yugoslavia n/a 79,503,400 42,524,000 - - 12,102,900 n/a23 ACB / CB Procredit Bank Serbia 2001 28,273,000 28,273,000 - - - n/a24 Mercy Corps (NEDP) Azerbaijan n/a - - - - 238,621*** n/a25 TISE Poland 1991 - - - - - n/a

Total 270,139,095$ 337,524,515$ 63,802$ 46,105,760$

(2) Year Codes (if used in 1st columns, applies to entire row)(1) MFI Codes * 2003 Figures

S = Specialized MFI ** 2001 Figures ACB / CB = Affiliates of Commercial Banks or Commercial Bank ***2000 Figures ^Estimated figuresGCI / DB = Government Controlled Institutions / Development Banks ****1999 Figures

(a) 2002 Figures

*All MFIs listed are regulated and for-profit. Analysis also includes cooperatives.

ASIAAll figures are in actual USD and are from 2002 unless otherwise noted


1 CB Bank Dagang Bali Indonesia 1970 143,050,767*** 53,310,051 ^400,827** 133*** 6,197,012 43.3%2 CB SEEDs Sri Lanka 1987 11,279,115** 6,782,374 234,143 150 3,242,673 n/a3 S Share Microfin Limited India 1999 5,800,000 5,800,000 85,644 92 1,139,432 n/a4 S EMT Cambodia 1991 4,957,624 4,481,589 84,558 53*** 2,839,640 57.3%5 S ACLEDA Cambodia 1993 30,970,095 26,846,703 82,975*** 332*** 17,355,251 56.0%6 Cooperative Bank SEWA India 1974 2,274,866 2,274,866 50,000** 528(a) - n/a7 ACB/CB Nirdham Nepal 1993 4,766,000 2,824,678 35,388 95 106,087 2.2%8 Rural Bank CARD Bank Philippines 1997 4,781,697** 4,266,013 31,368 136 768,106 16.0%9 S BASIX India 1996 8,366,189 4,562,109 26,630 174 4,340,308 51.9%10 S XacBank Mongolia 1998 10,256,494 4,910,098 14,024 444 2,644,683 25.8%11 CB Sambali Philippines 1984 3,380,263 2,203,389 8,107**** 272(a) 1,113,606 32.9%12 Rural Bank Mallig Plains Rural Bank Philippines n/a 718,098**** 718,098 6,678 108 - n/a13 S Hattha Kaksekar Ltd. Cambodia 1996 1,666,222 1,363,365 6,648 191** 1,023,299 75.1%14 S NLCL Pakistan 1995 14,944,760 9,009,455 3,768 2,391 5,093,521 15 Unclear BES India n/a 57,118** 50,361 2,846 103 - n/a16 Rural Bank New Rural Bank of Lianga Philippines n/a 499,625**** 499,625 2,389 209 - n/a17 CB Microenterprise Dev. Bank Philippines n/a 344,790 344,790 ^1,815 190 1,900,000 n/a18 CB MIDAS Bangladesh n/a - - - - 4,314,953 n/a19 Rural Bank People's Bank of Caraga Philippines 1972 611,126**** 611,126 15,485 39 6,500 n/a20 CB Producers Bank Philippines n/a - - 12,500 - - n/a21 CB Standard (Charter?) Bank Philippines n/a - - - - - n/a22 GCI Bank Rakyat Indonesia Indonesia 1895 3,185,792,888 1,344,006,170 ^3,000,000 339** 196,930,124 6.2%23 GCI Government Savings Bank Thailand 1995 1,185,887** 1,185,887 447,709 - - n/a24 GCI (Privatized in 1993) Nat. Development Bank Sri Lanka 1979 36,818,000 - - - - n/a

Total (2) 87,727,303$ 130,247,564$ 534,084$ 52,085,071$

(1) MFI Codes (2) Excludes BRI.S = Specialized MFI (2) Year Codes (if used in 1st columns, applies to entire row) ACB/CB = Affiliates of Commercial Banks or Commercial Banks * 2003 FiguresGCI / DB = Government Controlled Institutions / Development Banks ** 2001 Figures

***2000 Figures ^estimated figures ****1999 Figures(a) 2002 Figures

AFRICAIncludes North Africa & The Middle EastAll figures are in actual USD and are from 2002 unless otherwise noted


1 CB ACSI Ethiopia 1996 27,909,481 19,887,530 328,960 60 3,256,416 2 CB TEBA South Africa 2000 128,553,785 108,032,361 152,158 710 33,001,530 25.7%3 Equity Building Society Kenya 1984 33,507,402 15,472,683 35,501 471 4,344,112 13.0%4 S Centenary Bank Uganda 1993 69,233,859 26,043,556 31,004 840 8,915,972 12.9%5 S Citi Savings and Loans Ghana 1992 1,700,000** 1,700,000 29,000 59 - n/a6 S K-Rep Kenya 1997 20,693,460** 15,491,992(a) 28,426(a) 545** 7,528,347** 36.3%7 S Finadev Benin 1998 6,175,281 5,512,586 12,775 432 2,002,223 n/a8 CB Microking Zimbabwe 2001 235,824 123,975 8,700 26 24,651 10.5%9 S MFW Jordan 1994 2,881,812 2,044,872 8,656 245** 2,484,106 86.2%10 S Socremo Mozambique 1999 583,000** 583,000 5,485(a) 106** - n/a11 Otiv Sambava Madagascar 1998 2,102,312*** 381,044 4,860 786 246,178 11.7%12 Other ADEFI Madagascar 1995 2,645,360** 2,039,302 4,776 427 1,953,785 73.8%13 Rural Bank CCA Cameroon 1997 4,371,269 2,176,572 4,068 535 119,420 2.7%14 S Akiba Commercial Bank Tanzania 1997 12,210,140 5,727,000 3,620 1,582 2,064,160 16.9%15 S Novo Banco Mozambique 2000 1,486,190** 802,309 3,171 253 1,120,138 75.3%16 Sikaman Ghana 2002 229,860 229,860 ^2915 789 - n/a17 Other FATEN Palestine 1995 5,459,887 549,397 1,728 318 4,936,892 90.4%18 S SIPEM Madagascar 1990 921,225 835,542** 1,036** 807** 694,783** 75.4%19 Kenya Coop. Bank Kenya n/a 28,949,438 - - - 2,599,715 n/a20 Al Tadamun Egypt 1996 - - - - - n/a21 S Cofinest Cameroon 1996 15,000,000 6,767,000 40,000 169 - n/a22 S First Trust Ghana n/a - - - - - n/a23 CB Dar es Salam Community Bank Tanzania n/a - - - - - n/a24 S Commercial Microfinance Ltd. Uganda 2000 - - - - - n/a25 Nossobanco Angola n/a - - - - - n/a26 S Credit Indemnity South Africa n/a - - 27 GCI Nat. Microfinance Bank Tanzania n/a 235,808,090*** - - - - n/a28 GCI Post Office Savings Bank Kenya 1910 8,974,000 8,974,000 - - - n/a

Total 291,689,825$ 198,073,047$ 668,977$ 64,469,583$

(1) MFI Codes (2) Year Codes (if used in 1st columns, applies to entire row)S = Specialized MFI * 2003 FiguresACB / CB = Affiliates of Commercial Banks or Commercial Bank ** 2001 FiguresGCI / DB = Government Controlled Institutions / Development Banks ***2000 Figures ^Estimated figures

****1999 Figures(a) 2002 Figures

ANNEX 2 Toward Guidelines for Corporate Governance for MFIs

The following discussion provides a beginning for the important task of developing a greater consensus and awareness about corporate governance practice among MFIs and the entities that invest in them. It responds to the issues identified through the interviews with MFI board members and general managers. Board Composition and Structure Board Committees. As MFIs grow and become more sophisticated, it will be extremely valuable for their boards to carry out more of their work through committees that can focus attention on important areas. A board committee structure can begin simply, for example, with an audit committee, and add committees over time in response to need. Most mature MFIs would be expected to operate through most of the committees noted here. 1. Audit Committee. For those MFIs that do have lending operations and produce audited financial statements, the existence of an audit committee allows a board to ensure it has directors specifically tasked with following important legal, accounting and tax issues on behalf of the institution, and that policies are put in place for compliance with applicable laws and regulations. In addition, by having direct contact with the external auditors of the MFI, the audit committee can maintain an independent perspective of the MFI’s financial operations, thus safeguarding against the possibility of irregular management practices. In order to enhance the integrity of the audit committee itself, MFIs should consider the appointment of independent directors to head them. Independent directors are the best able of all directors to maintain their duty of loyalty to the institution, because their relationship to it is single-faceted. 2. Executive Committee. For larger, more complex MFIs, an executive committee can serve the important purpose of bringing senior board members, the chief executive officer and, where needed, other senior management together on a frequent basis to make decisions on matters requiring board input between board meetings. Frequently the executive committee is comprised of board officers and the heads of board committees. While physical meetings are most desirable, the executive committee, like other committees, can function with some members participating by telephone or video-conferencing. 3. ALCOs and Risk Committees. These committees allow for board oversight of significant business and financial operations. Equally important, these committees provide a valuable opportunity for board members to work with senior management holding responsibility for these areas, and thus to coordinate the direction of the institution with the execution of policies. 4. Compensation Committee. Particularly for larger or rapidly growing institutions, the compensation committee allows the board to determine compensation for the chief executive officer and other senior staff, as well as to craft incentive schemes designed to attract and retain top management talent. The compensation committee also provides a forum for objective evaluation of management performance, a sensitive task that sometimes may be awkward in a full board setting. 5. Nominating Committee. Nominating committees are tasked with transforming the institution’s mandate to develop the board into the production of actual candidates for board membership. This process can also be a sensitive one, and the existence of a committee implementing objective standards to bring on new board members can be useful.

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6. Governance Committee. There is no more sensitive task that a board can undertake than to evaluate and, if necessary, to sanction its own members. A governance committee is the vehicle through which the board can perform these important tasks, using objective criteria. More generally, the governance committee can be used to establish corporate governance and related policies (including conflict of interest policies) affecting the functioning of the board, and to implement those policies throughout the institution. Depending on the size of the institution, the functions of the nominating committee may be subsumed into those of the governance committee. Independent Directors. The practice of using independent directors has not yet permeated the microfinance world. However, recent corporate scandals in the United States and elsewhere have highlighted the need for independent directors to play a part in corporate governance. Independent directors, that is, those directors who do not come from the ranks of either shareholders or management, can play an important role in safeguarding the institution’s best interests, because their sole duty of loyalty is to the institution. Independent directors can also be tasked with sensitive issues, such as determining executive compensation or identifying board candidates, which could otherwise prove awkward. In addition, independent directors can lend a credible voice to the institution when it speaks or acts publicly. While board composition differs considerably among the institutions surveyed, the introduction of independent directors can lend a new voice and bring fresh perspectives to an institution as it charts its own development path. Board Member Rotation. The question of board terms can prove to be a tricky balancing act between the competing needs for continuity in corporate governance and flexibility in replenishing the board. The use of staggered board terms can allow institutions to achieve both purposes. For example, if the terms of current board members are structured so as to expire over a two- or three-year period, then only one-half or one-third of the board, respectively, will need to be re-elected each year thereafter. This question becomes more important as an institution brings more independent directors onto its board. Term limits can be another useful tool for replenishing the board of directors through objective criteria. As MFI boards evolve away from domination by major shareholders, a term limit policy can take on increasing importance to the governance of an institution as well. Remuneration of Board Members. The remuneration of directors for board and committee work can be an important tool for encouraging active, informed participation by board members in the governance work of the institution. While currently many MFI directors represent the institutional shareholders that employ them, over time their presence on MFI boards may well be less dominant. As institutions grow and their governance becomes more complex, an increasing portion of the board’s work is conducted through its committee structure. In order to ensure that board members take their committee assignments seriously, MFIs may wish to consider remuneration for committee work, even if no remuneration is paid at the board level. Within committees, there can be additional remuneration paid to committee chairs for their leadership role; by the same principle, the board chair may receive greater compensation than do other board members. Conflict of Interest Policies. The establishment of clear and comprehensive conflict of interest policies is a vital part of good corporate governance. Such policies include rules on board members’ own financial dealings with the institution; on how directors must act in situations where they have a conflict with the institution; and on whether, and under what circumstances, they can serve on the boards of other institutions. More generally, conflict of interest policies are also required for the institution’s management and staff. The board of directors, acting through its

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governance committee or otherwise, can establish and oversee the implementation of such policies at all levels of the institution. Relationship of the Board of Directors to Management. Information for the Board. The question of what information the board needs to receive from management on an ongoing basis has no single answer, and the needs of the board in this regard change over time. The board’s role in developing its own information packets should be an active one, so that it can both understand its own informational needs and articulate those needs to the management and staff of the institution. Developing Appropriate Board-Management Relationships. Through the work of board committees, members of the board of directors can work with and know better the senior management of their institution. The development of these relationships is important to the healthy operation of the institution, so that the board can obtain a broad view of the issues facing the MFI, and senior managers other than the general manager can develop an informed view of the board’s perspective. While the principal interface with the board of directors is rightfully through the general manager/managing director, well-informed corporate governance requires direct access on the part of board members to the chief financial officer, chief operating officer, and other senior managers. By expanding information flow between the board and senior management, the board can help ensure that it is performing its oversight functions in a thoughtful and informed manner. In a similar vein, by establishing direct working relationships between the audit committee of the board and the MFI’s external auditors, the board can attain a more comprehensive perspective of the institution’s business and financial operations than would otherwise be the case. Hiring and Evaluating the General Manager. Among the most important and sensitive jobs undertaken by the board of directors is that of the hiring, evaluation and, where necessary, replacement of the general manager/managing director of the institution. In order to perform this function fairly and effectively, the board needs to work collaboratively with the general manager to develop and articulate a clear understanding of the manager’s role, to establish performance goals for the position, and to evaluate performance based on objective criteria. Most MFIs surveyed reported that they have in place a job description for the general manager, although some answers seemed to indicate that a description of the president or CEO’s duties contained in the MFI’s bylaws was serving as such. All MFIs should have in place a stand-alone job description for the general manager. The job description should reflect both the vision of the board in the role of its chief executive and the knowledge of the CEO of what the job entails. From the job description, the board and general manager should develop detailed performance goals annually. The performance goals of the general manager do not equate with those of the MFI itself, because there is more to the manager’s job than attaining the business and financial objectives of the institution: an MFI’s ability to attract and retain high quality management and staff is in no small part a function of its leader’s “people management” skills. An important part of the general manager’s job, therefore, is not only to motivate direct reports and other staff to turn in an excellent performance, but also to create job satisfaction for them. This task often does not figure in either the job description or the performance goals of the manager, but the long-term success of the institution is highly dependent upon its successful accomplishment. In evaluating the performance of the general manager, therefore, the board, or relevant board committee, should not only assess the manager’s achievement of the various business and

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financial objectives of the institution, but should also assign an important weighting to the manager’s effectiveness in dealing with direct reports and other staff. Such a system of quantitative and qualitative assessment, in fact, should exist at all levels of the institution’s management. Rewards for good performance should take into account both of these aspects of management. Following the end of each financial year, the general manager should receive a written performance review, based on the performance goals agreed to for that year. The performance review should be the principal basis upon which the general manager’s compensation is determined for the following year. In this regard, a board’s compensation committee is the logical forum for assessing the general manager’s performance and ascribing a monetary value to it. Failing that, an ad hoc committee headed by the board chair or, if small in size, the entire board may reasonably perform this assessment. For reasons of accountability, it is inadvisable to leave this delicate and important task in the hands of a single board member, even those of the board chair. General Manager Compensation. Compensating the general manager based on his or her performance is a generally accepted market practice for financial institutions the world over, and one that MFIs are encouraged to adopt. At the same time, an institution serving low-income clients must align top management compensation with the overall cost structure of the organization. Given the twin social and financial objectives of MFIs, it may be prudent to limit performance compensation to a percentage of the manager’s base pay. Alternatively, awards of company stock, or options to acquire company stock at attractive valuations, can closely align the general manager’s financial interests with those of the institution’s shareholders. Whatever the form of incentive compensation chosen, the board should provide financial incentives to the MFI’s chief executive that are based upon an objective evaluation of agreed on performance goals and in keeping with the MFI’s dual mission. Role of the Board Chair. The role of the board chair is a multi-faceted one, and considerable time and effort are required to develop all aspects of this position effectively. Along with the general manager/managing director, the board chair has important internal and external constituencies whose different and often competing needs and interests must be managed effectively. As with all members of the board of directors, the board chair’s primary duty lies with the institution whose board he or she heads. Therefore the needs of that institution are paramount in the conduct of the board chair’s work. The successful board chair clearly must be able to understand, articulate and safeguard the mission and the vision of the institution. In the world of specialized MFIs, this task is particularly important in order for the institution to achieve and maintain a balance between its financial and social goals. Within the context of the institution’s mission and vision, the board chair has primary responsibility for developing and overseeing the implementation of good corporate governance policies. This task, of course, requires the active cooperation of all board members, the general manager and other senior management, but the board chair must take a leadership role in the establishment of appropriate board committees, the tasking out of committee work, and the implementation of committees’ work product. It should be expected that the board chair would serve on one or more of these committees, although, with the exception of the executive committee, it is not necessary that he or she chair them. The board chair also has primary responsibility for understanding the interests of shareholders and for ensuring that those interests are fairly represented through the work of the board,

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consistent with the chair’s primary duty of loyalty to the institution itself. The board chair can also play an important role in “translating” the interests of shareholders to the general manager and other senior managers and staff of the institution; this role is similar to the role that the general manager plays in ensuring that the interests and needs of the board are fully disseminated throughout, and understood by, the staff of the institution. Parallel to these internal responsibilities, the board chair plays an important role in representing the institution before external constituencies, be they public or private. By devoting time to this representational role, the board chair can raise the institutions’ public profile and shape public opinion towards it. The chair can also lend important support to the general manager, where appropriate, before governmental bodies and in a variety of public and private fora. There is no more important relationship in an MFI than that between the board chair and the general manager. While in a sense, the board chair is the supervisor of the general manager, both (usually) are directors of the institution and a successful relationship between the two more likely will take the form of a strategic partnership. Each party has defined roles, but the effectiveness of one is highly dependent on the willingness of the other to work collaboratively on the agreed goals and objectives of the institution. The development of a successful working relationship between the board chair and the general manager requires a considerable investment of time and effort from both, and constant communication is required between the two. Each can help the other succeed at his respective tasks. Together they can define and achieve an overall commonality of interests among the shareholders, directors, management and staff and ensure that the institution’s direction is established and its work carried out in an informed and coordinated way. Finally, the board chair has a leading role to play in ensuring that the board of directors has the skills it needs to provide effective governance to the institution. The chair must help identify those needs as well as suitable candidates for board membership who can enhance the overall capabilities of the institution. Once an appropriate board is in place, the chair must keep its members actively engaged in the work of the institution and encourage regular contact among board members. By setting an example of dedication, effort, and time, the board chair can help foster a corporate culture where all directors understand their responsibilities and each director makes an important and unique contribution to the governance of the institution. The General Manager’s Role in Corporate Governance. The general manager also plays a vital and multi-faceted role in the corporate governance of the institution he or she leads. The general manager is usually a member of the board of directors itself and as such is responsible for carrying out all the same duties and responsibilities that all other board members have. In board discussions and deliberations, the general manager, in his or her capacity as a director, therefore has an equal voice and vote with all other directors (except in matters where the manager has a personal interest and cannot participate). The manager’s role in the formulation of the corporate governance policies, then, is carried out principally as a director of the institution. Nonetheless it is in the implementation of the MFI’s corporate governance policies that the general manager plays his most central and essential governance role. The general manager must translate the policies formulated at the board level into clear and effective action at the working levels of the institution. This work requires close coordination with both the board chair and the senior management of the institution. Together with the board chair, the general manager can help the institution define and create a “division of labor” between the board of directors and the MFI’s management. While some duties

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might easily be assigned to one camp or the other, the reality of corporate governance includes a significant gray area where consultation and collaboration between the direction and management are required in order to produce effective results. By developing a close working relationship with the board chair, the general manager can help the institution achieve clarity in determining which issues lie within the province of the board of directors, which lie with management, and which ones require significant input from and coordination between both bodies. In implementing governance policies, it is the general manager who is best positioned to instill a corporate culture in the staff that reflects the broad decisions taken at the board level on the institution’s values and goals. To do so effectively, the manager needs to involve other key senior MFI officials in the implementation of governance policies. Better still, the general manager can improve the chances of success by bringing senior managers into the policy formulation process, so that these managers in turn can better understand and articulate the board’s decisions on corporate governance to their own staff. By doing so, the general manager can develop the present and future leadership of the institution in a way that ensures adherence to the MFI’s agreed corporate culture. Like the board chair, the general manager has multi-directional relationships in corporate governance, including “vertical” relationships with the shareholders, board of directors, management and staff of the institution and “horizontal” relationships with outside actors. Within the former, there is in effect a division of power between the chair and the manager, with the chair having primary responsibility at the shareholder and board levels, and the manager playing that lead role with management and staff. Still, each retains important influence in the other’s principal areas. With the latter, it falls primarily to the general manager, working with other senior officials, to develop and manage relations with external authorities, such as finance ministries, regulatory agencies and other government offices. The board of directors, and particularly the board chair, can assist in the development of these relationships. Nonetheless, it lies within the province of management to implement the MFI’s policies and procedures that ensure compliance with all legal and regulatory requirements applicable to the institution, and to develop appropriate regulatory reporting for submission to relevant authorities. The general manager, assisted by the chief financial officer, in turn must keep the board and audit committee fully informed about key legal and regulatory issues, so that these latter can perform their oversight functions properly. A Final Comment. As can be seen in these observations on corporate governance, there are a multiplicity of roles, relationships and structures that must interplay with each other in order for the corporate governance of MFIs to be successful and effective. Often key individuals play leading, but not exclusive, roles in areas critical to the institution’s well-being, yet their success is ultimately dependent upon the work of other individuals in other areas. One general manager whom the Council interviewed captured this complex reality well when defining corporate governance as the essential, top-level part of the management of an institution, requiring a participatory approach from directors and senior managers alike, and incorporating other internal and external factors, in order to lead the institution to its next level of development. While the observations contained here may not be equally applicable to all MFIs, a participatory approach to governance most likely is. Through careful delineation of roles and responsibilities, and the establishment of appropriate structures, MFIs can develop and implement strong corporate governance policies and procedures. By taking an inclusive approach to developing and implementing those policies and procedures, MFIs will give themselves the greatest chance of success in realizing their corporate governance objectives.

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characteristics of equity investment in microfinance · 2011. 10. 5. · characteristics of equity...

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