researcher muhammad ahmed mazher supervisor & examiner · researcher muhammad ahmed mazher...

Researcher

Muhammad Ahmed Mazher

Supervisor & Examiner

Dr. Hortense Ross-Innerarity

INTERNATIONAL OPEN UNIVERSITY, CALIFORNIA, USA

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Acknowledgement 4

Abstract 5

1) Introduction 6

a) Background of the Study 6

b) Research Question 7

c) Aim of Research 7

2) Methodological Approach 8

a) Research Strategy 8

i. Purpose of Study 8

ii. Unit of analysis 8

iii. Mode of Observation 8

iv. Sampling Design 8

3) Literature Review & Theoretical Framework 10

a) What is Microfinance? 10

b) Goals and Key Principles of microfinance 12

c) Challenges facing microfinance industry in Pakistan 15

d) Difference between commercial banks & MFI‘s economic activity 16

e) What is Microcredit? 17

f) Difference between Microfinance & Microcredit 20

g) 10 tips to help improve in lending intelligence 20

h) Principles for sustainable microlending 22

i) Poverty alleviation, microcredit and its impact in Pakistan 23

j) Introduction of microlending methodologies 24

k) Steps to becoming loaner 24

l) Common Microcredit methods 25

m) Comparative study of lending methodologies special in Pakistan 30

i. Grameen Model 30

ii. Banco-sol Progressive Model 32

Final Thesis: Doctor of Business Administration (DBA)/PhD Researcher: Muhammad Ahmed Mazher

E-mail: [email protected] , [email protected]

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iii. Grameen La Riba Model 32

iv. Islamic Lending Model 36

v. Akhuwat Lending Model 46

vi. NYMT Lending Methodology 49

vii. Farz Methodology 53

n) What is poverty? And who are poor? 55

o) Difference between productive and non-productive loans 57

p) What are millennium development goals? 58

4) Productive and No-Productive Loans in Pakistan 62

a) Is there any need to check the loans utilization? 62

b) Why do deprived persons tale multiple credits? How it can be holdup? 63

c) Importance of productive loans in poor lives 63

d) Bad impacts of non-productive loans in MFI‘s 65

e) Conventional MFI‘s increase liabilities whereas Islamic MFI‘s increase Assets 67

f) Horrible effects of non-productive loans in deprived people 68

5) Data Analysis & Interpretation 71

a) Are microfinance loans productive as per MDG‘s in Pakistan? 71

i. Staff behavior of MFI‘s 72

ii. Offering any extra / additional facilities by MFI‘s 73

iii. Improvement of business after getting loans 74

iv. Preference of loan type (Cash based loans or Asset based loans) 75

v. Improvement in the lives of destitute after getting loans 76

vi. Are microfinance loans utilizing in business or personal practices? 77

6) Conclusion 79

References 86

mailto:[email protected]


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“….Verily never wills Allah change the condition of a people

until they change it themselves (with their own souls)…..‖

-Al-Quran, 13.11

“A man’s work ends upon his death except for the three things:

(a) contribution to knowledge (b) on-going charity and (c) faithful child‖

“Al Hadith”

“Money, says the proverb, makes money. When you have got a little, it is often easy to get

(Adam Smith) more. The great difficulty is to get that little”.

“Let us be clear: micro finance is not the charity. It is the way to extend the

same rights and resources to low income households that are available to

everyone else. It is recognition that poor people are the solution, not the

problem. It is way to build their ideas, energy and vision. It is a way to grow

productive enterprise and to allow communities to prosper” (Kofi Annan)



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“This thesis is dedicated to my parents, spouse, family members and my friends, who always

encouraged me in every footstep to accomplish this study”.

The realization and completion of this study involved a number of people. First and foremost, I

remain grateful to God Almighty who through His infinite mercies made it possible for me to

finish the work in order to conclude my DBA/PhD programme.

It is a great honor for me to work on the allocated subject and i feel eager to accomplish my

mission. Along with my sincerity and curiosity, there are few people, who really facilitated me

to make this endeavor to be an effective one.

At first, I would like to pass recognitions to my honorable Supervisor, Dr. Hortense Ross-

Innerarity (PhD) for their support and assistance to complete this thesis.

I would like to thank Mr. Farhat Abbas Shah, CEO (Farz Foundation) and his team for

cooperation and providing me with all important and essential information.

I also concede great help from the Microfinance Experts, Especially Mr. Amer Yousaf, Manager of

NYMT Islamic Microfinance Programme, Mr. Aftab Hussain, Manager Operations - Akhuwat

Pakistan. I thank them for reserving his valuable time and effort to answer my questions.

I am very much grateful to my links and supports, who also contributed a lot in finalizing this

piece of work to be an efficacious one. Especially, some of friends who helped me to complete

my field research work from different MFI‘s in which Kashf MF, Tameer, CSC, Asasah,

Khushhali Bank, First MF bank, Farz foundation, NYMT Islamic MF and Akhuwat included.

Muhammad Ahmed Mazher

3rd June, 2010

Pakistan



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Title: Non-Productivity of Microfinance Loans in Pakistan

Author: Muhammad Ahmed Mazher

Supervisor: Dr. Hortense Ross-Innerarity (PhD)

Key Words: Non-Productivity of Microfinance Loans

Doubt, microfinance is very powerful apparatus to alleviate the poverty and

empowerment to women and poor populations. There are numerous NGO‘s,

MFI‘s, MFB‘s and other welfare trusts that are operational for the poverty

alleviation and they are annoying to attain their goals and assignments. State

Bank of Pakistan (SBP), Pakistan Microfinance Network (PMN), Pakistan Poverty Alleviation

Fund (PPAF) and other frames are also working for attaining the Millennium Development

Goals (MDG‘s) and contributing for the economic development of the nation.

The intention of any loan invention should be to empower the poor and make them capable to

earn money for their family essentials. But unfortunately, it has perceived that most of the

people grabbed loans from various MFI‘s and expended this money in their individual desires

and never utilize these loan facilities for any business productivity or income generation

approach. It is very risky for all MFI‘s which are engaged in cash loan business (conventional

MFI‘s) activities, because of them, poverty is not alleviating but the liability of loans cumulative

gradually on the deprived communities. To eliminate this issue of non-productivity of MF

loans, there is need to modification the lending methodologies and need to adopt the assets

base lending (non-conventional MF) except cash base lending (conventional MF). Now there is

demand of non-conventional MFI‘s (Interest Free MFI‘s – Islamic Approach) in Pakistani

potential markets and this is only the way to alleviating the poverty, accomplishing MDG‘s and

getting economic growth with interest free option.

The study has reviewed the success of Islamic Microfinance lending methodology (Farz

Methodology) as compared to conventional lending methodologies in Pakistan and also

analysis of different conventional MFI‘s, Islamic MFI‘s in regards of millennium development

goals IMDG‘s).

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a) Background of the Study

Microfinance in Pakistan is at its preliminary or initial stage. The poverty level in Pakistan is

about 33% to 35%. It means one third of the population of 150 Million people of Pakistan is

below the poverty line. These statistics shows situation of the society is very adverse. The

government of Pakistan and some other organizations like Kashf Foundation and Kashf

Microfinance Bank, Tameer Microfinance bank, Akhuwat, First Microfinance Bank, Khushhali Bank

etc. doing their efforts to increase their outreach but there are a large numbers of challenges in

the way in which the one of I will discuss in this thesis that is “Non-Productivity of Microfinance

Loans in Pakistan” that barrier the outreach as a whole.

It is surveyed that people dig up the money from the microcredit organizations or banks for the

purpose of business expansion, but they mistreatment this money for their individual life needs

like children educational fees or expenses, medicals, home necessaries, house building, children

marriages etc.

Recently, Farz Foundation (The First Islamic Microfinance Organization) has completed its two-year

pilot project in the area of Shalimar Lahore in two phases. The organization has done the

comparative analysis of currency disbursement and the Farz Methodology (asset delivery method )

in which the asset based microfinance shows 80% positive and productive results while the

popular practice of microfinance, which is based on credit in the shape of currency depicted

80 % negative and non-productive results. The study confirms the reports are already being

published in the international journals about the very low impact of currency deals in

microfinance. Although the efforts made by the CGAP and other agencies at the international

level and Pakistan Poverty Alleviation Fund (PPAF) at the national level cannot be ignored but the

speed of the inflation and poverty increase ratio demands more sincerer and creative efforts.

So, in this regard, there is need to analysis that, Are microfinance loans productive or non-

productive?



http://www.microfinancefocus.com/news/tag/islamic-microfinance/

http://www.microfinancefocus.com/news/tag/pakistan-poverty-alleviation-fund/

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b) Research Question

Is microfinance loans are showing optimistic impact or productivity in Pakistan regarding of

individuals lives improvement and poverty alleviation as microfinance assure and or as per

Millennium Development Goals (MDG)?

c) Aim of Research

The main or objective of this research is

“To analysis about the Non-productivity of microfinance in Pakistan”.



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Research Strategy

Research design involves a series of rational decision making of choices among different tools

of data collection and data analysis. This will describe procedures and steps that will be

adopted and conduct this research. Research design concludes: Purpose of the study, Unit of

analysis, Mode of observation, Sampling design, and Field data collection.

Purpose of the study

The purpose of the study is to find out that weather Microfinance loans are productive or non-

productive in Pakistan?

Unit of analysis

I will gather data from microfinance organization and microfinance banks staff and through

filed work directly from foundations and banks clients. At individual level that means

collecting data from individual loans clients, so the unit of analysis is the individual. As banks

/ foundation staff officials and direct clients are the information provider. I will compare

responses from each bank / foundation officials, clients and made processing in analysis phase.

Mode of observation

The research technique used is survey which comes under quantitative research. I will use

questionnaire as the mode of observation. I will use two questionnaires; in first questionnaire

(for Banks / Foundations/ Organizations officials or staff members) I have twenty three (23)

questions, while in second questionnaire (for clients of Banks/Foundations/Organizations) I

have twenty five (25) questions.

Logic for using questionnaire as data collection tool is less cost and less time consuming

technique, providing easy accessibility to respondents in which standardized questions are

asked to all respondents.

Sampling design

I will conduct the interviews from higher, middle and lower management officers from

different foundations/organizations/banks (minimum 15 officers from well-known each

institutions) and through randomly screening I will select twenty (20) loans clients of each

institution and will deliver 150 questionnaires among foundations/banks officers and 200



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questionnaires among different organizations clients randomly, using nonprobability sampling

technique.

(i) Sampling Technique

In my research report I will use non-probability sampling as I assume that our population is

divided into different groups like educated and non-educated that belong to different income

groups & life standard (Rural & Urban). Under this head I will adopt method of ―convenience

sampling‖.

(ii) Population

Our population consisted of men and women within the age group as per standard loan

eligibility declared by state bank of Pakistan. Field data collection Research will base on self-

administered questionnaire technique. Questionnaire will be distributed, fill out and receive

on the same day. During the process of filing the questionnaire researcher kept staying there in

order to overcome any difficulty face by respondents so that quality of research could be

maintained.



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a) What is Microfinance?

"Microfinance can be broadly defined as:

“The provision of small-scale financial services such as savings, credit and other basic financial services to

poor and low-income people”.

According to United Nation (UN)

The term "microfinance institutions (MFI‟s)" now, refers to a wide range of organizations dedicated to

providing these services and includes non-governmental organizations, credit unions, cooperatives, private

commercial banks, non-bank financial institutions and parts of State-owned banks.”

Poor people are not able to access loans from commercial banks normally because of lack in

guarantee and collateral. But there are many other reasons also involved for which commercial

banks were not willing to finance poor. These reasons are included that poor have less

education, no proper experience and training, high expenses on transactions of small loans and

lower rate of profit. Therefore limited option to access loan leads to push poor people in more

poverty. This situation resulted in emerging the idea of micro lending and microfinance.

Microfinance, therefore, a way to finance people, those have no collateral or any property for

guarantee. Microfinance is a way of financing to poor for their business, to alleviate their

poverty, empowering them, giving social benefits on sustainable way. According to Agion &

Morduch, due to microfinance, there are many possibilities have emerged including extending

markets, reducing poverty and fostering social change. But there is wide spread confusion that

microfinance is just lending loan to poor but as we mentioned that microfinance is no more

only loans but covering the issues of poverty alleviation, putting social impact on poor and

educating poor to savings. Therefore, MFIs, today, not only NGOs but serving as a complete

banking system. This discussion lead to us that microfinance is a form of financial services for

poor to help them for their business activities by giving micro credit.

Microfinance is the term of a broad range of financial services such as deposits, loans, payment

services, money transfers, and insurance to deprived and low-income households and, their

microenterprises.

Microfinance services are provided by three (3) types of sources:

(i) Formal institutions, such as rural banks and cooperatives



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(ii) Semi-formal institutions, such as (NGO‟s) nongovernment organizations

(iii) Informal sources such as money lenders and shopkeepers

Institutional microfinance is defined to include microfinance services provided by both formal

and semiformal institutions. Microfinance institutions are defined as institutions whose major

business is the provision of microfinance services. (Asian Development Bank)

The concept of microfinance can be best described by the title of F.A.J. Bouman's 1990 book,

"Small, Short and Unsecured";

“Microfinance is the provision of very small loans that are re-paid within short periods of time, and is

essentially used by low income individuals and households who have few assets that can be used as

collateral.”

“Microfinance is the provision of a broad range of financial services such as deposits, loans, payment

services, money transfers, and insurance to poor and low-income households and, their microenterprises”.

Microfinance is the supply of loans, savings, and other basic financial services to the poor.

People living in poverty, like everyone else, need a diverse range of financial instruments to

run their businesses, build assets, stabilize consumption, and shield themselves against risks.

Financial services needed by the poor include working capital loans, consumer credit, and

savings, pensions, insurance, and money transfer services.

Providers of financial services to the poor include donor-supported, non-profit non-

government organizations (NGOs), cooperatives; community-based development

institutions like self-help groups (SHG‘s) and credit unions; commercial and state banks;

insurance and credit card companies; post offices; and other points of sale.

Financial services for the poor have proved to be a powerful instrument for poverty reduction

that enables the poor to build assets, increase incomes, and reduce their vulnerability to

economic stress. (Pakistan Microfinance Network)

"Microfinance is the supply of loans, savings, and other basic financial services to the poor."

Consultative Group to Assist the Poor (CGAP)

As the financial services of microfinance usually involve small amounts of money – small loans, small

savings etc. – the term "microfinance" helps to differentiate these services from those which formal banks

provide. (www.kiva.org)

http://en.wikipedia.org/wiki/Consultative_Group_to_Assist_the_Poor_(CGAP)



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“Microfinance is the provision of financial services such as loans, savings, insurance, and training to

people living in poverty”. (Opportunity International)

“Microfinance may be defined as the financial services needs including credit, savings, insurance and

payment transfers etc., of the poor households and their micro enterprises.” (State Bank of Pakistan)

In the simple and short words, I can define the microfinance in the following words;

“Microfinance is the way to alleviate of poverty by providing the micro services (credit, insurance, saving,

health etc.) to the poor or unbanked people.”

Economic activities base upon sellers and buyer and their capacity. Sellers, before market their

product, look at buyer intention and capacity. On the other hand, banking activities depend

on both sellers and buyers. Lenders (MFI‘s) finance both sellers and buyers for their activities.

Commercial Banks invested in projects at large scale while with this, banks invested in

consumer finance also. While MFI‘s usually don‘t invest in consumer finance, but give finance

only for micro enterprise. MFI‘s encourage people to lift up their standards by doing businesses

and earning from them and this is a consistent and sustainable way.

b) Goals and Key Principles of Microfinance

Key Goals of Microfinance

Microfinance, a type of banking service that is provided to unemployed or low-income

individuals or groups who would otherwise have no other means of gaining any financial

services. Ultimately, the goal of microfinance is to give low income people an opportunity to

become self-sufficient by providing a means of saving money, borrowing money and insurance.

The goals of MF banks are the following:

To provide diversified, trustworthy and timely financial services to the economically active

poor.

To mobilize savings for financial intermediation.

To create employment opportunities.

To provide real avenues for the administration of the micro-credit program of government

and high net worth individuals.



http://www.opportunity.org/Page.aspx?pid=772




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To provide payment services such as salaries, gratuities and pensions on behalf of various

tiers of government.

To engage the poor in the socio-economic development of the country

Key Principles of Microfinance

The poor need a variety of financial services, not just loans

Each one needs a wide range of financial services that should be elastic, suitable and

realistically priced. Poor not always insist only cash loans they also need medical insurance,

saving and cash transfer etc.

Microfinance is a powerful instrument against poverty

It is necessary to provide the access of financial services to deprived people for increasing their

income, building assets and reduced their liabilities and need to empowering against the

poverty.

Microfinance means building financial systems that serve the poor

Poor people constitute the vast majority of the population in most developing countries. Yet,

an overwhelming number of the poor continue to lack access to basic financial services. In

many countries, microfinance continues to be seen as a marginal sector and primarily a

development concern for donors, governments, and socially-responsible investors. In order to

achieve its full potential of reaching a large number of the poor, microfinance should become

an integral part of the financial sector.

Financial sustainability is necessary to reach significant numbers of poor people

Most poor people are not able to access financial services because of the lack of strong Retail

financial intermediaries. Building financially sustainable institutions is not an end in itself. It

is the only way to reach significant scale and impact far beyond what donor agencies can fund.

Sustainability is the ability of a microfinance provider to cover all of its costs. It allows the

continued operation of the microfinance provider and the ongoing provision of financial

services to the poor. Achieving financial sustainability means reducing transaction costs,

offering better products and services that meet client needs, and finding new ways to reach the

unbanked poor.

Microfinance is about building permanent local financial institutions



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Building financial systems for the poor means building sound domestic financial

intermediaries that can provide financial services to poor people on a permanent basis. Such

institutions should be able to mobilize and recycle domestic savings, extend credit, and

provide a range of services. Dependence on funding from donors and governments—including

government-financed development banks—will gradually diminish as local financial

institutions and private capital markets mature.

Microcredit is not always the answer

Microcredit is not appropriate for everyone or every situation. The destitute and hungry that

have no income or means of repayment need other forms of support before they can make use

of loans. In many cases, small grants, infrastructure improvements, employment and training

programs, and other non-financial services may be more appropriate tools for poverty

alleviation. Wherever possible, such non-financial services should be coupled with building

savings.

Interest rate ceilings can damage poor people’s access to financial services

It costs much more to make many small loans than a few large loans. Unless micro lenders can

charge interest rates that are well above average bank loan rates, they cannot cover their costs,

and their growth and sustainability will be limited by the scarce and uncertain supply of

subsidized funding. When governments regulate interest rates, they usually set them at levels

too low to permit sustainable microcredit. At the same time, microlenders should not pass on

operational inefficiencies to clients in the form of prices (interest rates and other fees) that are

far higher than they need to be.

The government’s role is as an enabler, not as a direct provider of financial services

National governments play an important role in setting a supportive policy environment that

stimulates the development of financial services while protecting poor people‘s savings. The

key things that a government can do for microfinance are to maintain macroeconomic

stability, avoid interest-rate caps, and refrain from distorting the market with unsustainable

subsidized, high-delinquency loan programs. Governments can also support financial services

for the poor by improving the business environment for entrepreneurs, clamping down on

corruption, and improving access to markets and infrastructure. In special situations,

government funding for sound and independent microfinance institutions may be warranted

when other funds are lacking.

Donor subsidies should complement, not compete with private sector capital



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Donors should use appropriate grant, loan, and equity instruments on a temporary basis to

build the institutional capacity of financial providers, develop supporting infrastructure (like

rating agencies, credit bureaus, audit capacity, etc.), and support experimental services and

products. In some cases, longer-term donor subsidies may be required to reach sparsely

populated and otherwise difficult-to-reach populations. To be effective, donor funding must

seek to integrate financial services for the poor into local financial markets; apply specialist

expertise to the design and implementation of projects; require that financial institutions and

other partners meet minimum performance standards as a condition for continued support;

and plan for exit from the outset.

The lack of institutional and human capacity is the key constraint

Microfinance is a specialized field that combines banking with social goals, and capacity needs

to be built at all levels, from financial institutions through the regulatory and supervisory

bodies and information systems, to government development entities and donor agencies.

Most investments in the sector, both public and private, should focus on this capacity

building.

The importance of financial and outreach transparency

Accurate, standardized, and comparable information on the financial and social performance

of financial institutions providing services to the poor is imperative. Bank supervisors and

regulators, donors, investors, and more importantly, the poor who are clients of microfinance

need this information to adequately assess risk and returns. ( ) www.cgap.org

c) Challenges facing microfinance industry in Pakistan

There are several challenges which are fronting by MF industry in Pakistan in which few but

significant are discussing in the following;

First of all, need to be observe and clear that in the whole world and especially in

Pakistan that, Is this industry based on NGO‘s / Non-commercial institutions or

commercial institutions?

Mostly NGO‘s are serving in MF industry and providing the financial services under

the umbrella of social welfare or development to deprived people. These NGO‘s / Non-

commercial institutions sell out the financial services with the message of poverty

alleviation but results are adverse and reason of creating negativity for MFI industry.

http://www.cgap.org/



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According to recent survey conducted in Pakistan by ―Asasah‖ (MFI), „Not a single MFI

has even a countable numbers of loyal clients‟.

Due to role of activist, MFI‘s are facing helplessness in the field of client management

relationship.

Important challenge in MFI‘s is delinquency and recovery. Poor people never willing to

accept microfinance as tool of poverty alleviation due to vicious and cruel attitude of

loans officers / recovery officers.

The political disaster is also a big challenge for this industry.

According to an international microfinance expert from ILO (International Labor

Organization), this is international phenomena with this industry, even the donors are unhappy.

The adaptation of MFI‘s to Microfinance banks (MB) is also agenda but sustainability

and human resources are main barriers to make it flourish.

Many MFI‘s are dealing in financial matters without having any legal authority. It is

need of the time that State Bank (SB) takes the serious action against these illegal

institutions. PMN has taken so many steps to align this system, also emphasizing on the

partnership of MFI‘s and commercial banks.

PMN needs to make IT system for combine the MFI‘s client data.

PMN has hope to achieve the target of three millions (3000K) active borrowers till 2010.

(Farhat Abbas Shah)

d) Difference between Commercial Banks & MFI’s Economic Activity

According to Ledgerwood, there are many activities and characteristics are including in

microfinance in which some are:



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Small & Short Term loans.

Social collateral rather than financial collateral.

Access to larger amount of loan if repayment performance is positive.

Search and access the real poor and their business demand.

Continuous business monitoring.

Loan on higher interest rates due to expensive financial transactions and risks factors.

Easy way to access finance, therefore not too much paper work and easy short

procedures.

Offering saving services even for smallest amount.

Offer training services to borrower‘s business development.

Literacy training to borrowers so that they can come up with competence to daily

business problems and its solutions.

Health care, social services and other skill training services to provide borrower a

sustainable base for their business development.

(Akhuwat)

e) What is Microcredit?

“Microcredit programmes extend small loans to very poor people for self-employment projects that generate

income, allowing them to care for themselves and their families”.

Microcredit is also known as Microlending. This generally refers to the process of extending

small loans to less wealth people, usually in other countries. These loans are primarily intended

to support people in starting their own businesses or expanding an existing one. This practice

began in Bangladesh in 1970s. Now it is mostly done in countries outside of the U.S, but the

prospect is expanding.

Technically speaking micro-lending is a scheme of installment credit with fixed payments for

the purpose of creating self-employment and micro-enterprises. Different from ordinary

installment credit, which is mostly used for consumption purposes, microcredit is extended to

people who have no security and no adequate credit history to show that they are able to repay

the loan. The sole security is the expectation of future income through the use of the borrowed

capital. This is why the lender is typically also involved in the investment process of the

borrower, helping to make the business viable through advice, information, opportunities and

links to the business world. Unlike banks, microlenders save on acquisition costs by using very



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simplistic methods of credit scoring but invest time and money into the phases after credit has

been extended.

“Micro-lending can be either a core activity as a form of banking or a subsidiary activity to education,

welfare spending, urban development and capital allocation”.

"Micro-credit" has: A financial aspect in which banking services on a small scale are extended to people

with moderate means and little to no material security in order to recover the cost of lending as well as of

refinancing the extended amount.

A labor market aspect in which the goal of creating self-employment through credit

extension in intended to reduce unemployment and poverty.

A community development aspect by channeling capital into underserved and deprived

communities or countries seeking to boost the local economy.

A social welfare aspect in which subsidies, normally granted by welfare and labor

administrations in the developed world or through development agencies in developing

countries, should either be replaced by at least partly recoverable credit or made

redundant through the creation of own income, thus reducing cost to the donors, making

use of the subsidies more responsible and its effects more sustainable.

(Micro-Lending by Prof. Dr. Udo Reifner)

Microlending allows poor, unemployed or otherwise incapable people to engage in self-employment and

business projects.

Microcredit programs have brought the vibrancy of the market economy to the poorest villages and the

poorest people of the world. This business approach to the alleviation of poverty has allowed millions of

individuals to work their way out of poverty with dignity. James D. Wolfensohn, President of World Bank (1996)

Traditional banking sector cannot reach millions of poor for whom small loans could make

huge differences. There are several reasons for this. Most of the poor are rural, and they are

much dispersed. They have low education levels, if at all. As a result, administrative cost of

supplying loans to the poor population is extremely high. Another issue that makes it difficult

to serve these customers through traditional banking is that the poor does not have any assets

to use as collateral. As a result, the poor had access to loans only through local money-lenders

at exorbitantly high interest rates. Micro-credit financing starts with the assumption that the

poor is willing to pay high interest rates to have access to finance.



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In general, the system uses the social trust as the collateral. Although there are different micro-

credit financing models, the borrowers in the pioneering models are usually members of small

groups. Loans are given to individuals, but an entire group is responsible for the repayment.

Hence, the borrower who does not fulfil his commitment to repay back will lose his/her social

capital. Micro-credit institutions report that their repayment rates are above the commercial

repayment rates, sometimes as high as 97%. Today, there are millions of poor people around

the world who turn to be entrepreneurs through the micro-credit sector.

(“Micro-Credit Financing and Poverty Alleviation in OIC Member States” 9-11 June 2007, Istanbul, Turkey)

This industry serves to be a secret goldmine for those wishing to generate extra income while

also helping to stimulate the economy and assist the poor. It is one of the few ways to help

others while you. These people are also able to generate their own income and to be

independent, possibly improving their financial situation. Most of these people also have

families and overdue bills to take care of. When they are able to pay their own bills and

establish a disposable income, the economy reaches a growth spurt or surge.

Their standard of living also improves dramatically. A recent study of this industry revealed

that there are about 10,000 microlending companies in the USA. The study also reveals that

poverty of the customers doesn‘t determine profitability. The key is to develop loan portfolios

which are designed to keep default rates at a minimum or, hopefully, nonexistent level. The

report forces consolidation of these micro lending institutions as well as downscaling of large

lending institutions.

One of the most prominent microlenders is ‗Muhammad Yunus‘. Yunus has received the

Nobel Peace Prize for his successful and altruistic enterprise, the Grameen bank (GB) investing

only $27 too many women in Bangladesh, Yunus have helped to save women from high

interest rates. These women have been able to use these microloans to jump-start their business

and help support their families. The Grameen Bank has 98% repayment rate. The bank is now

worth over 2.5 billion dollars. Yunus is a prime example of the opportunities available by

giving small loans to poor and allowing them to help themselves.

“Microcredit is the extension of very small loans to unemployed, poor entrepreneurs and others living in

poverty that are not bankable. These individuals lack collateral, steady employment and a verifiable credit



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history and therefore cannot meet even the most minimum qualifications to gain access to traditional

credit”.

The UN Millennium Project identifies micro-credit as

―One of the development strategies … that should be implemented and supported to attain the bold

ambition of reducing world poverty by half.‖

A powerful endorsement of the importance of the micro-finance has come from the United

Nations with the designation of 2005 as the International Year of Micro-credit.

Microcredit is the practice of extending small amounts of credit to the working poor, most

often for the purpose income generating employment. A micro credit loan is quite literally

small loan, from $50 to $150, depending on the geographical location. 2005 was designated by

the General Assembly of the United Nations as the international year of Micro credit.

Micro Credit is defined as provision of thrift, credit and other financial services and products of very small

amount to the poor in rural, semi-urban and urban areas for enabling them to raise their income levels and

improve living standards. Micro Credit Institutions are those which provide these facilities.

f) Difference between “Microfinance” and “Microcredit”

Although the terms Microcredit and Microfinance are often used interchangeably, it is

important to recognize the distinction between the two.

Microcredit refers to the act of providing the loan. Microfinance, on the other hand, is the act of

providing these same borrowers with financial services, such as savings institutions and insurance policies.

In short, microfinance encompasses the field of microcredit.

{The Microfinance Revolution: An Overview Rajdeep Sengupta and Craig P. Aubuchon}

`

g) 10 Tips to help improve in lending intelligence

Lesson from Microcredit Pioneer

Considering lending out your hard-earned money via a Microlending site like Prosper? If it all

seems a bit new, you're not alone. "We are all learners," says Greg Bequette, one of Proper‘s

largest lenders. "We only have being doing this for a year. (But) our collective intelligence is improving."

Jane Boon, who has lent around $125,000 to over 800 people on Prosper, offers 10 tips to help

you improve your own lending intelligence.



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1. It‘s OK to be first

Many lenders search for loans that are close to being filled. But don't be afraid to be among

the first bidders/buyer. "If you don't bid, the listing may wind up being overlooked, despite its

merits," says Boon.

2. Focus on the Numbers

"Don't get sucked into storytelling," says Boon. "You will see very interesting things, but

ultimately you will have to make rational choices based on the numbers."

3. Go Beyond Credit Reports

Ask for relevant information if it's not already in the borrower's profile. For example, if

someone has an eBay store, and wants capital to buy more Xbox 360s, ask for their eBay ID

and check their seller rating.

4. Good Intentions Don't Count for Much

"The best intentioned people can face financial difficulties," says Boon, and you shouldn't

necessarily loan money to them. "Some of my disappointing loans, I sent the person e-mails. I felt

really confident they were authentic and well-intentioned, but that didn't necessary mean that they

could pay."

5. Review, Assess, Repeat

"I review my successes and failures month to month," says Boon. "Then I explore to see if I have

common experiences." As a result of these monthly reviews, Boon curtailed making loans to

borrowers with lower credit rating (HR or E-level) -- loans which had performed poorly for

her.

6. Know Your Comfort Level

"If you will freak out if somebody defaults on $200, then only lend $100 amounts," says Boon. Just

like in Vegas, know your limits, otherwise emotion will get the better of reason.



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7. Network With Other Lenders

"We send each other tips," says Boon. "We trade ideas on lending strategies." She was reassured to

find a large number of financial whizzes on the website, many of whom were happy to help

her.

8. Let It Go

Once you've made a loan, let it be. Proper‘s rules forbid lenders from independently

pressuring borrowers who are not paying. Prosper hires professional collection agencies to

do this, so let them do their job.

9. Group Loans Don't Eliminate Risk

Groups of borrowers can spread out the risk, helping to ensure that you get your money

back, but they don't eliminate risk. Groups, like individuals, vary. Look into groups just as

closely as you'd examine individual loans.

10. Use Filters and Third-Party Sites

What would the payoff look like if you loaned to people with a B-grade credit but only one

delinquency? Use Proper's filters to help determine your tactics and test out different

scenarios. There's also an impressive list of third-party sites that use proper‘s API to do even

more sophisticated slicing and dicing of the data. (Chaddus Bruce 05.09.07)

h) Principles for Sustainable Microlending

There are following principles for sustainable microlending.

1. Offer services that fit the preferences of low-income entrepreneurs

Give short-term loans

Give small loans

Give repeat loans

Allow relatively unrestricted use

Be customer friendly



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2. Streamline (Make simple or most efficient) operations to reduce cost

Highly streamline operations

Standardize the lending process

Decentralize loan approval

Maintain inexpensive offices

Select staff from local communities

3. Motivate Clients to Repay Loans

Do not require formal collateral

Use character references or group lending with joint liability to motivate repayments

Use incentives for prompt repayment

Develop a public image that signals seriousness about loan collection

4. Charge Full-Cost Interest Rates and Fees

Recover the costs of the loan. Small loan sizes and personalized service result in costs

per loan that require interest rates significantly higher than commercial banks

(although significantly lower that informal sector rates).

Expect repayment. Low income entrepreneurs have shown a willingness and ability to

pay interest rates higher than commercial banks for services that fit their needs.

{Source: AMIR Programme - Sustainable Microfinance Initiative}

i) Poverty alleviation, microcredit and its impact in Pakistan

“Money, says the proverb, makes money. When you have got a little, it is often easy to get more. The great

difficulty is to get that little” (Adam Smith)

Micro finance is recognized as an effective tool to fight poverty by providing financial services

to those who do not have access to or are neglected by the commercial banks and financial

institutions. Financial services provided by Micro Finance institutions (MFIs) generally include

savings and credit. According to an estimate, currently 67.61 million people around the world



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have access to micro financing. This number is expected to grow steadily in the future since the

target is to reach 100 million poor people with credit by the end of the year 2005.

The influence of microcredit on the destitute people lives in rural, semi urban & urban area of

Pakistan perceived during the research study period. It has been approved through several

researches that microcredit is very significant tool for poverty alleviation. No doubt,

microcredit is an instrument that is fruitful source giving employment to unemployed, very

operative tool to meet the immediate needs that may be children school fee, medicines etc., it

is time to implement this weapon against the struggle of poverty alleviation. There are some key

factors that validate about poverty decreasing. These aspects (Training & education, housing,

income, saving, food, clean or mineral water etc.) are challenges of the MDG‘s in which

microcredit plays dynamic role.

j) Introduction of Microlending Methodologies

The practice of Microlending is not new. Credit cooperatives and charities making loans to

young entrepreneurs have been documented from 18th century in Europe. A notable example is

the fund created by 18th century novelist Jonathan Swift. Swift donated £500 of his own wealth

for lending to “poor industrious tradesmen in small sums of five, and ten pounds, to be repaid weekly, at

two or four shillings, without interest.”

Another interesting historical example of microlending is the Irish Reproductive Loan Fund

Institution, which came into existence following the scarcity in 1822. This fund, which received

donations from charities in London, was established to make small loans (under £10) to

individuals in small towns for “relief of the distressed Irish”.

Microfinance institutions offer their clients loans using specific lending technologies, or

methodologies. These processes by which loans are delivered, aim to increase the value of the

product to the client, while simultaneously decreasing the risk and the costs to the institution.

MFIs have accumulated strong experience in various methodologies, and there are as many

methodologies and adaptations as microcredit operations.

k) Steps to Becoming Loaner

There are five (5) most important steps to become the loaner.

i. Decide the amount you will be able to loan

ii. Establish missed repayment policy



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iii. Establish a competitive interest rate

iv. Make sure that interest and loan amount paid back

v. Collect money and make profit

l) Common Microcredit methods

Over the past decade, the determinants of the success of microfinance credit methodologies

have received extensive attention from both practitioners and academics. The resulting

literature reflects consensus on the principles for the successful provision of micro financial

services that address the two central problems of all financial markets: imperfect information

and contract enforcement difficulties. Microfinance technologies attempt to overcome these

problems by developing non-traditional mechanisms to screen applicants, monitor the actions

of borrowers, and create incentives to repay.

Many elements of these technologies impose costs on clients that they would prefer not to pay,

or may result in services that are less than ideal. For example, some customers would prefer not

to co-guarantee loans or participate in group meetings, which are ingredients of group lending

methodologies; for other clients, the initial loan size required by sequential lending may be too

small for the needs of their enterprise. These features have evolved in order to minimize the

risk associated with providing financial services to disadvantaged communities.

Having successfully controlled the credit risk, microfinance methodologies are now entering a

new evolutionary phase as they become more responsive to the demands of the customers. This

change in approach reflects the evolving needs of micro entrepreneurs, the maturation of the

institutions, and changes in the markets in which the microfinance institutions (MFIs) operate.

In this new phase, MFIs are struggling to balance three potentially competing objectives: 1) to

reduce the costs of microfinance for both borrower and lender; 2) to widen the range of

microfinance products available to the clients; and 3) to accomplish objectives 1 & 2 without

increasing the credit risk. These three desired objectives are not independent of each other,

and may require trade-offs.

An understanding of this evolutionary process informs the future of microfinance

methodologies. This framework for analysis, summarized in the box below, outlines three



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important questions about the evolution of microfinance technologies: why do they change;

how do they change; what do they change into.

Currently, different banks / foundations/ organizations are exercise microcredit in the world

with different typologies of strategic management, payment of the credit and financial services.

Some are based on group credit (solidarity), others on associated credit and still others on

individual credit.

A specific microlending methodology is chosen to fit the needs of the target client group,

conditions in the local environment (economic, social, political, and legal), and goals of the

program. As a result, there are no two completely identical approaches to microlending.

However, nearly all microlending programs can be classified as belonging to one of a limited

number of microlending models. The purpose of this section is to introduce the reader to the

methodological variation that exists in the field.

All microlending programs can be divided into two general categories: individual lending

programs and group (or peer) lending programs.

(i) Associations

This is where the target community forms an 'association' through which various microfinance

(and other) activities are initiated. Such activities may include savings. Associations or groups

can be composed of youth, or women; they can form around political/religious/cultural issues;

can create support structures for microenterprises and other work-based issues.

In some countries, an 'association' can be a legal body that has certain advantages such as

collection of fees, insurance, tax breaks and other protective measures. Distinction is made

between associations, community groups, peoples organizations, etc. on one hand (which are

mass, community based) and NGOs, etc. which are essentially external organizations.

(ii) Bank Guarantees

As the name suggests, a bank guarantee is used to obtain a loan from a commercial bank. This

guarantee may be arranged externally (through a donor/donation, government agency etc.) or

internally (using member savings). Loans obtained may be given directly to an individual, or

they may be given to a self-formed group.

Bank Guarantee is a form of capital guarantee scheme. Guaranteed funds may be used for

various purposes, including loan recovery and insurance claims. Several international and UN



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organizations have been creating international guarantee funds that banks and NGOs can

subscribe to, to on lender start microcredit programmes.

(iii) Community Banking

The Community Banking model essentially treats the whole community as one unit, and

establishes semi-formal or formal institutions through which microfinance is dispensed. Such

institutions are usually formed by extensive help from NGOs and other organizations, who also

train the community members in various financial activities of the community bank. These

institutions may have savings components and other income-generating projects included in

their structure. In many cases, community banks are also part of larger community

development programmes which use finance as an inducement for action.

(iv) Cooperatives

A co-operative is an autonomous association of persons united voluntarily to meet their

common economic, social, and cultural needs and aspirations through a jointly-owned and

democratically-controlled enterprise. Some cooperatives include member-financing and savings

activities in their mandate.

(v) Credit Unions

A credit union is a unique member-driven, self-help financial institution. It is organized by and

comprised of members of a particular group or organization, who agree to save their money

together and to make loans to each other at reasonable rates of interest.

The members are people of some common bond: working for the same employer; belonging to

the same church, labor union, social fraternity, etc.; or living/working in the same community.

A credit union's membership is open to all who belong to the group, regardless of race,

religion, color or creed.

A credit union is a democratic, not-for-profit financial cooperative. Each is owned and

governed by its members, with members having a vote in the election of directors and

committee representatives.

(vi) Grameen

The Grameen model emerged from the poor-focused grassroots institution, Grameen Bank,

started by Prof. Mohammed Yunus in Bangladesh. It essentially adopts the following

methodology:

A bank unit is set up with a Field Manager and a number of bank workers, covering an area of

about 15 to 22 villages. The manager and workers start by visiting villages to familiarize



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themselves with the local milieu in which they will be operating and identify prospective

clientele, as well as explain the purpose, functions, and mode of operation of the bank to the

local population. Groups of five prospective borrowers are formed; in the first stage, only two

of them are eligible for, and receive, a loan. The group is observed for a month to see if the

members are conforming to rules of the bank. Only if the first two borrowers repay the

principal plus interest over a period of fifty weeks do other members of the group become

eligible themselves for a loan. Because of these restrictions, there is substantial group pressure

to keep individual records clear. In this sense, collective responsibility of the group serves as

collateral on the loan.

(vii) Group

The Group Model's basic philosophy lies in the fact that shortcomings and weaknesses at the

individual level are overcome by the collective responsibility and security afforded by the

formation of a group of such individuals. The collective coming together of individual

members is used for a number of purposes: educating and awareness building, collective

bargaining power, peer pressure etc.

(viii) Individual

This is a straight forward credit lending model where micro loans are given directly to the

borrower. It does not include the formation of groups, or generating peer pressures to ensure

repayment. The individual model is, in many cases, a part of a larger 'credit plus' programme,

where other socio-economic services such as skill development, education, and other outreach

services are provided.

(ix) Intermediatories

Intermediary model of credit lending position is a 'go-between' organization between the

lenders and borrowers. The intermediary plays a critical role of generating credit awareness and

education among the borrowers (including, in some cases, starting savings programmes. These

activities are geared towards raising the 'credit worthiness' of the borrowers to a level sufficient

enough to make them attractive to the lenders.

The links developed by the intermediaries could cover funding, programme links, training and

education, and research. Such activities can take place at various levels from international and

national to regional, local and individual levels.



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Intermediaries could be individual lenders, NGOs, microenterprise/microcredit programmes,

and commercial banks (for government financed programmes). Lenders could be government

agencies, commercial banks, international donors, etc.

(x) Non-Governmental Organizations (NGOs)

NGOs have emerged as a key player in the field of microcredit. They have played the role of

intermediary in various dimensions. NGOs have been active in starting and participating in

microcredit programmes. This includes creating awareness of the importance of microcredit

within the community, as well as various national and international donor agencies. They have

developed resources and tools for communities and microcredit organizations to monitor

progress and identify good practices. They have also created opportunities to learn about the

principles and practice of microcredit. This includes publications, workshops and seminars,

and training programmes.

(xi) Peer Pressure

Peer pressure uses moral and other linkages between borrowers and project participants to

ensure participation and repayment in microcredit programmes. Peers could be other members

in a borrowers group (where, unless the initial borrowers in a group repay, the other members

do not receive loans. Hence pressure is put on the initial members to repay); community

leaders (usually identified, nurtured and trained by external NGOs); NGOs themselves and

their field officers; banks etc. The 'pressure' applied can be in the form of frequent visits to the

defaulter, community meetings where they are identified and requested to comply etc.

(xii) Rotating Savings and Credit Associations

Rotating Savings and Credit Associations (ROSCAs) are essentially a group of individuals who

come together and make regular cyclical contributions to a common fund, which is then given

as a lump sum to one member in each cycle. For example, a group of 12 persons may

contribute Rs. 100 (US$33) per month for 12 months. The Rs. 1,200 collected each month is

given to one member. Thus, a member will 'lend' money to other members through his regular

monthly contributions. After having received the lump sum amount when it is his turn (i.e.

'borrow' from the group), he then pays back the amount in regular/further monthly

contributions. Deciding who receives the lump sum is done by consensus, by lottery, by

bidding or other agreed methods.

(xiii) Small Business



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The prevailing vision of the 'informal sector' is one of survival, low productivity and very little

value added. But this has been changing, as more and more importance is placed on small and

medium enterprises (SMEs) - for generating employment, for increasing income and providing

services which are lacking.

Policies have generally focused on direct interventions in the form of supporting systems such

as training, technical advice, management principles etc.; and indirect interventions in the

form of an enabling policy and market environment.

A key component that is always incorporated as a sort of common denominator has been

finance, specifically microcredit - in different forms and for different uses. Microcredit has been

provided to SMEs directly, or as a part of a larger enterprise development programme, along

with other inputs.

(xiv) Village Banking

Village banks are community-based credit and savings associations. They typically consist of 25

to 50 low-income individuals who are seeking to improve their lives through self-employment

activities. Initial loan capital for the village bank may come from an external source, but the

members themselves run the bank: they choose their members, elect their own officers,

establish their own by-laws, distribute loans to individuals, and collect payments and savings.

Their loans are backed, not by goods or property, but by moral collateral: the promise that the

group stands behind each individual loan. (Grameen Bank)

m) Comparative study of lending methodologies special in Pakistan

(i) Grameen Model

A Grameen Bank branch was comprised of members, groups, and centers. Five members

comprised a group; and four to eight groups comprised a center. All the members of a center

met weekly to repay loans, deposit savings, and propose loans. Centers saved and built a center

house, a simple building that served as their meeting place for center meetings and other

events. At a weekly center meeting, women lined up in their groups of five, with the group with

longest tenure seated in the front. When the center manager (a Grameen Bank employee)

arrived by bicycle, the center members greeted him and gave a salute. The center chief (selected

by her peers) brought the meeting to order by leading the group in exercises and slogans. She

reported that all were present and accounted for. Funds were brought forward to the center



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manager one group at a time, and he recorded each deposit in his ledger. Once funds were

collected, new loan proposals were brought before the center, and any member could support

or object to an individual loan. If the venture seemed a risky investment, the center debated

the issue and came to a decision. Then the center chief gave the loan proposals to the center

manager. Later that day, the loans proposed and accepted at that meeting were disbursed at the

branch office.

Grameen Bank borrowers had no collateral. In fact, the opposite was required: a candidate

must have sufficiently few assets to be admitted for membership in the bank. A person who was

interested in joining the bank must first find four other people with whom to form a group.

That Group should be comprised of people who knew and lived near each other, were of the

same gender (97% of borrowers are women), and were not of the same family. Group members

were collectively responsible for each other‘s loans; if one defaulted, the others were required

to repay her portion. The group of five underwent a training program, where they were taught

the rules and regulations of Grameen Bank.

The candidates met several times a week for five to six weeks, learning about loan types,

compulsory and optional savings plans, interest rates, center norms, and Grameen Bank‘s

social slogans, called the Sixteen Decisions. Bank members were expected to be able to recite or

perform the Sixteen (16) Decisions at any time. Candidates attended center meetings and

witnessed the transactions of their peers, making sure that they were interested in the

responsibility and benefits of bank membership. Illiterate candidates learned to sign their name

on their loan documents. Once the branch manager considered a group prepared to be tested,

he called for an area manager to visit with the group. The area manager asked them various

questions about their training, quizzed them on the interest rate for savings, etc. Once satisfied

he visited each candidate‘s home to verify that her assets were sufficiently few and that

husbands would support their wives in their borrowing and saving efforts.

Successful candidate groups were admitted to the bank and to their center in a ceremony. After

the next center meeting, they came to the branch office to receive their first loan, usually

totaling around $100. Borrowers began loan repayment the following week by paying the first

of fifty even installments of principal plus 10% interest. Very soon after a loan was repaid, the

borrower proposed a new loan to her group and center at the center meeting. Once approved,

a new loan was disbursed immediately. Loan amounts tended to increase by 10% to 30% each

year. An established borrower could also qualify for a seasonal loan or a home loan.



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(ii) Banco-sol Progressive Model

Grameen model of microfinance emphasize on lending to villagers and keep loan lending on in

smaller amount. The other core concept of model is formation of groups and these groups are

eligible to take loan, no option of loan for individuals. Idea of progressive lending

(Agion&Morduch, 2005, pp.119) introduced to lend loan to individuals with group lending.

Amount of loan will increase after completion of every repayment schedule. But other

characteristics of Grameen model (Group lending) are included in this method, like targeting

to poor, women, group formation, and public payment. No doubt, progressive lending is an

extension of group lending (Grameen Model) but now many MFIs are adopting this approach.

In this model of ―Progressive lending‖, microlenders are flexible about collateral and lend loan

to group with individuals also. This method is very helpful in areas with low population

densities or highly diverse population where group forming is not so easy due to different ratio

of safe and risky borrowers. This model is adopted by Banco Sol in Bolivia. In Bolivia, there

was different situation when populist regime left government and there were high ratio of

unemployment in urban areas. To come to fulfill the need of time, Banco Sol started

operations in microfinance with progressive lending. Therefore we can say that microfinance

approaches are evolved due to different political, ideological and social conditions. According

to Weiss Montgomery (2004, pp.3) ―Microfinance in Latin America developed under quite

different conditions. In Bolivia, a collapsing populist regime led to widespread unemployment.

Banco Sol, a pioneering microfinance institution in the region, developed to address the

problem of urban unemployment and provide credit to the cash-strapped informal sector. The

notion of commercial profitability was embraced relatively early in this approach.‖

(iii) Grameen La Riba Model

The Grameen Bank in Bangladesh and other MFIs throughout the world have found the

human portfolio approach (an innovative application of the portfolio theory of finance) or

group lending methodology to be very effective in ensuring high repayment rates, that allow

MFIs to charge lower interest rates and still become profitable (Feroz, 2007).

In a group lending strategy, an MFI will provide loans to groups of five borrowers together and

each member shares joint responsibility (risks) with all of the other group members. This

human portfolio approach is used, in part, because poor borrowers (clients) do not typically



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have physical collateral to guarantee their own loans, and hence joint group responsibility

(essentially, a pooling of risky „clients‟ instead of pooling risky debt „securities‟ as it is practiced

in corporate finance) allows them to use „social collateral‟ instead as their guarantee. If a

member of the group is not able to make payments, the other members of the group are not

eligible for additional funding until all members of the group are current on their repayments.

Members can either repay the late payments of the delinquent member who is not current or

apply social pressure to the member who is lagging behind on repayments.

In addition to group lending, Armendariz de Aghion and Morduch (2005) find that dynamic

incentives (e.g., making future loan eligibility contingent upon current loan repayment on-

time), frequent repayment installations, and public repayment lead to higher repayment rates.

These incentive mechanisms are included in our model to ensure higher probability that the

pilot study planned for in Sri Lanka will be successful.

Our financing model is based on the Murabahah (Cost-plus resale with deferred repayment) and

Musharakah (Profit and Loss Sharing Equity Financing) contracts frequently used by Islamic

banks. In the former, the MFI purchases goods requested by the client from vendors and resells

them to the client with a pre-agreed upon markup and receives payments spread over an agreed-

upon time (usually 52 weeks or less). In the latter, the MFI and client sign an agreement

specifying the business conducted by the client, the profit-sharing ratios, and the buy-out

schedule. Upon signing, the MFI provides the client with money to expand the client’s

business and they share profits and losses until the agreement ends with the client gradually

buying the MFI‘s share of the business. The group structure and financing products will be

discussed in greater detail in the following section.

Group Lending Methodology

In microfinance environments relying on groups, the group size typically ranges from five to

fifteen {5 - 15}. The Grameen Bank and other MFIs use groups of five (5) women each, which is

what we will use as well. The success of the microfinance program, measured by repayment

rates and number of participants able to expand their businesses, will be dependent upon the

ability of group members to effectively sanction the members who „strategically default‟ and

support those that run into financial difficulty if their business is temporarily struggling. One

important determinant of group success is whether the group members can accurately discern

which fellow borrowers will repay on time or whether they will claim hardship and strategically



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default to avoid the burden of repayment. In addition, group members will be less likely to

strategically default if the group is able to effectively discipline its members for late payments.

Most MFIs only work with self-selected groups on the assumption that group members will only

select fellow group members who they believe have the highest probability of success, will repay

on time and who they believe will respond to social sanctions if they are late in repayments.

Another factor not as frequently mentioned, but possibly an important factor for group

selection, is that members will be drawn to select members who are known to be generous. In

case a member falls behind on payments because their business is unsuccessful or they are hit

with a personal hardship, they would prefer to have fellow group members who will assist them

in making repayments on time.

Murabahah (Cost-plus resale with deferred repayment)

When borrowers form groups and approach the MFI for financing, they will not immediately

be eligible for profit-and-loss sharing Musharakah-based products, but will instead be offered a

Murabahah-based product that has fixed repayment amounts across the length of the financing.

This product is used with new groups to establish a business relationship between the MFI and

the clients. The Murabahah product will function much like it does in Islamic banks around the

world, with the only difference being that it will be distributed to only two members at first. If

repayment is made on time, then two other members will receive financing and, if repayments

continue to be made on-time, the final member of the group (who is also the group leader) will

receive financing.

The financing agreement for each group will operate as follows: the client will submit a request

for items needed to operate the microbusiness to the MFI who will then determine the cost of

the goods requested9. The MFI and the client will then agree upon the profit margin for the

resale of the goods to the client and the client will be presented with the cost of the requested

goods. The MFI and client will sign an agreement specifying:

Description and cost of goods requested.

Profit margin for the resale of goods from the MFI to the client.

Total repayment amount, frequency, number of repayments and repayments date and

amount.

Place where the goods will be delivered to the client.

If there is a late fee corresponding to the costs of collecting the repayments (e.g., additional

MFI staff time spent following up with the client), these would be included in the original



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agreement. However, for the pilot study we will be undertaking, a late fee will not be charged.

Instead, late repayments will subject the entire group to a cut-off from additional funding until

the late payments are made current. If we find that the costs from late payments are significant

and the denial of future credit does not provide enough incentive for on-time repayment, we

may institute a late payment fee.

When the goods are delivered to the client, the client will retain the right to reject goods that

are damaged or not agreed upon in the initial agreement without penalty. The client and MFI

will sign a document describing why the goods were rejected and the date and place where new

goods will be delivered and any changes to the cost of the goods requested.

After the goods are delivered to the client, there will be weekly group meetings where

repayments are made publicly, both to allow group members to observe whether their fellow

group members are current on their repayments, as well as to verify that the MFI staff member

collecting repayments reports to MFI honestly (and does not embezzle part or all of it). During

the meetings, clients will be able to ask MFI staff members for advice on running their

businesses and will be encouraged to discuss lessons learned in the previous week’s business

operations with other members of the group.

Our focus with the Murabahah financing will be to ensure that clients know that on-time

repayment is expected and to help the MFI collect knowledge about groups that it can use in

the future when considering whether to provide future financing, either using Murabahah or

Musharakah. The Murabahah financing is similar to a microloan, but has a few key differences

that provide an advantage to conventional microfinance. The first is that instead of providing a

loan of cash for repayment in the future with interest, the Murabahah product is based on a

purchase and resale where the markup (a profit on a sale) is agreed upon in advance and does

not depend upon the length of financing or on-time repayment10. The other difference is that

by providing goods instead of money, the MFI will know what is being financed, and will only

need to ensure that the goods are used for business purposes (e.g. by visiting the micro business

throughout the week) instead of consumption.

Musharakah (Profit and Loss Sharing Equity Financing)

If a group successfully finishes a cycle of business with Murabahah financing, then the MFI will

decide whether to offer additional financing and whether this could include Musharakah

financing. If a group becomes eligible for Musharakah financing, then the MFI will work with

the client to describe the types of business activity being undertaken by each member of the



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group. If the businesses are deemed to have a high likelihood of profitability in the future if an

additional investment is made, then the group will be provided with additional finance. The

agreement between the MFI and the group will specify the following:

Type of business being operated

Amount of investment

Profit and Loss sharing

Investment but out schedule

The restriction placed on the types of business are included to ensure that the MFI knows what

the micro entrepreneur is planning on doing with the investment and to ensure that the funds

are used for a business purpose and not for consumption11. The mix between business and

consumption loans in the extant microfinance industry has made it difficult, if not impossible,

to accurately gauge whether microfinance is meeting its promise to act as an effective tool for

poverty alleviation.

The investment buy-out component of our Musharakah contract is one of the most important

features for creating sustainability and allowing for its expansion. If we were using a typical

Musharakah product, the MFI would make an investment in the micro business and then

realize a stream of profits or losses in the future. The MFI would, however, continue to control

a sizable share of the business without any ability to recover the investment to use for other

worthy ventures. The MFI would instead be forced to use profits (if any) or seek additional

capital to expand its operations. The micro entrepreneurs also would likely avoid Musharakah if

it meant that they would be responsible for paying a share of their profits to the MFI each week

with no end date in sight. Our model provides a happy medium between the MFI recovering

its initial investment plus (or minus) the actual profit (loss) of the business, while freeing the

entrepreneur to receive a growing share of the micro business‟ profits as it buys out the MFI‟s

share of the business.

(iv) Islamic Lending Model

Programmes that provide credit and savings services have been promoted in recent years by

governments, international development organizations as well as local non-governmental

organizations (NGOs) and grassroots bodies as a key strategy for alleviating poverty in low-

income Countries (and increasingly also within poor communities in high income countries)

and helping to achieve the Millennium Development Goals (MDGs).



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The different Islamic financing methodologies are applicable according to the nature of

commodity/business and the period for which the project will be financed. Before detailing the

principal Islamic financing practices, however, we should remember that such methodologies

are founded on the core belief that money is not an earning asset in and of itself. There are

some general principles that are of particular importance for Islamic, or perhaps more precisely

termed ―Shariah compliant‖, finance and these include:

i. There must be some risk, whether funds are used in a commercial or productive venture.

ii. A financial transaction needs to have a ―material finality‖, that is, it should be directly or

indirectly linked to a real, tangible economic activity as opposed to financial speculation.

iii. The product or service that is bought or sold must be clear to both parties.

iv. There should be no funding of Haram or sinful activities such as the production of

alcoholic beverages or gambling, and funds should preferably finance socially productive

activity. In broad terms, Islam forbids all forms of economic activity, which are morally or

socially harmful.

v. Financial risk must lie solely with the lenders of the capital and not with the manager or

agents who work with the capital. Furthermore, a financial transaction should not lead to

the exploitation of any party in the transaction.

vi. Interest is forbidden in that it is a predetermined, fixed sum owed to the lender irrespective

of the outcome of the business venture in which the fund is used. This does not imply in

any way that capital is free of charge or that it should be made available without any cost or

that there should be absolutely no return on capital. Rather, a return on capital is allowed,

provided that capital participates in the productive process and is exposed to business risk.

vii. It is not permitted to sell what one does not own – therefore ―short-selling‖ (selling

something that one does not own in the hope that it can be bought cheaper at a later date)

is impermissible.

Basic Concepts of Islamic Banking:

i. Halal: Anything which is permitted by Islam and Shariah.

ii. Haram: Anything which is restricted by Islam and Shariah.

iii. Hadith: Custom, habit or way of life of the Prophet Muhammad (P.B.U.H) other than

the Holy Quran is known and Hadith.

iv. Hawallah: Literally, it means transfer; legally, it is an agreement by which a debtor is

freed from a debt by another becoming responsible for it or the transfer of a claim of a



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debt by shifting the responsibility from one person to another – contract of assignment

of debt. It also refers to the document by which the transfer takes place.

v. Hiba: Hiba means gift.

vi. Ijarah: Letting on lease. It refers to a contract of land at a fixed rent payable in cash and

also to a mode of financing adopted by Islamic banks.

vii. Mudarabah: A form of partnership where one party provides the funds and the other

party provides the expertise and excellence in the work that the other person wants to

start.

viii. Murabahah: Literally it means a sale on mutually agreed profit. Technically, it is a

contract of sale in which the seller declares his cost and the profit. This has been

adopted by Islamic banks as a mode of financing. As a financing technique, it can

involve a request by the client to the bank to

a. Purchase a certain item for him. The bank does that for a definite profit over

the cost which is stipulated in advance.

ix. Musharakah: Musharakah means a relationship established under a contract by mutual

consent of the parties for sharing of profit and losses in the joint business. It is an

agreement under which the Islamic bank provides funds which are mixed with the

funds of the business enterprise and others. All providers of capital are entitled to

participate in management, but not necessarily required to do so. The profit is

distributed among the partners in pre-agreed ratios, while the loss is borne by every

partner strictly in proportion to respective capital contributions.

x. Qarz: The literal meaning of Qarz is ‗to cut‘. It is so called because the property is

really cut off when it is given to the borrower. Legally, Qarz means to give anything

having value in the ownership of the other by way of virtue so that the latter could avail

of the same for his benefit with the condition that same or similar amount of that thing

would be paid back on demand or at the settled time. It is that loan which a person

gives to another as a help, charity or advance for a certain time. The repayment of loan

is obligatory. The Holy Prophet is reported to have said ―…..Every loan must be

paid……‖ But if a debtor is in difficulty, the creditor is expected to extend time or even

to voluntarily remit the whole or a part of the principal. Qarz is, in fact, a particular

kind of Salaf. Loans under Islamic law can be classified into Salaf and Qarz, the former

being loan for fixed time and the latter payable on demand.



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xi. Riba: An excess or increase. Technically, it means an increase over principal in a loan

transaction or in exchange for a commodity accrued to the owner (lender) without

giving an equivalent counter-value or recompense (‗iwad) in return to the other party;

every increase which is without an ‗iwad or equal counter-value.

a. Riba Al-fazl: Riba Al-Fadl (excess) is the quality premium in exchange of low

quality with better quality goods e.g. dates for dates, wheat for wheat, etc. – an

excess in the exchange of Ribawi goods within a single genus. The Concept of

Riba Al-Fadl refers to sale transactions while Riba Al-Nasiah refers to loan

transactions.

b. Riba Al-Nasiah: Riba Al-Nasiah or riba of delay is due to exchange not being

immediate with or without excess in one of the counter values. It is an

increment on principal of a loan or debt payable. It refers to the practice of

lending money for any length of time on the understanding that the borrower

would return to the lender at the end of the period the amount originally lent

together with an increase on it, in consideration of the lender having granted

him time to ay. Interest, in all modern banking transactions, falls under purview

of Riba Al-Nasiah. As money in present banking system is exchanged for money

with excess and delay, it falls, under the definition of riba. A general accord

reached among scholar about its prohibition.

xii. Salaf (Loan/Debt): The word Salaf literally means a loan which draws forth no profit

for the creditor. In wider sense, it includes loans for specified periods, i.e. short,

intermediate and long-term loans. Salaf is another name of Salam as well wherein price

of the commodity is paid in advance while the commodity or the counter value is

supplied in future; thus the contract creates a liability for the seller. Amount given as

Salaf cannot be called back, unlike Qarz, before it is due.

xiii. Shariah: The term Shariah refers to divine guidance as given by the Holy Qur‘an and

the Sunnah of the Prophet Muhammad (PBUH) and embodies all aspects of the

Islamic faith, including beliefs and practice.

xiv. Shirkah: A contract between two or more persons who launch a business or financial

enterprise to make profits. In the conventional books of Fiqh, the partnership business

has been discussed under the option of Shirkah that, broadly, may include both

Musharakah and Mudarabah.



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xv. Wakalah: A contract of agency in which one person appoints someone else to perform

a certain task on his behalf, usually against a certain fee.

Lending Methodology

Which method(s) is most applicable to extending microfinance? In attempting to answer this

question here I will discuss the lending methodologies adopted by Islamic Relief‘s microfinance

programmes in Pakistan. It complements explanations with specific examples of each type of

loan given. Individual microfinance programmes must decide which methodology or

combination of methodologies is most applicable in their own particular environment. This in

turn will depend upon factors such as the type of activities funded by loans, the proximity of

borrowers, etc.

Individual or group loans?

Before discussing loan methodologies, however, it is perhaps appropriate to begin with a word

of clarification between individual or group loans. Poor people often cannot offer traditional

collateral such as property as guarantees for their loans often simply because they have little or

no property to offer. Even when they do have property the cost of offering it as collateral for a

loan may be too expensive, Thus, in Bosnia & Herzegovina for example the presiding court

must assess the value of the property in cases where it is offered as collateral (as is frequently

the case with commercial banks) and charges around 250 Euros for the privilege of doing so. In

cases where the borrower is seeking a loan of just 500 Euros this is obviously unattractive. As a

response to poor people‘s inability to offer traditional collateral microfinance programmes have

increasingly focused on replacing the use of physical collateral for individual loans with group

responsibility. With group lending, instead of lending directly to individual borrowers, the

microfinance organization lends to groups of borrowers (commonly small groups of 4-5 people

often called solidarity groups) who are jointly liable for repayment.

Group lending has been widely adopted by many microfinance institutions throughout the

world. What explains the success of group lending? There are several reasons and each many

play a role of varying significance depending upon the context:

i. Peer Monitoring:

The ability of borrowers to monitor the investment behavior of one another during the

course of a loan, making sure that each borrower only undertakes safe investment

projects with the loan toll.

ii. Social Ties:



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The social unity that exists in some communities means that the sanctions that a

borrower would receive from the group for defaulting results in each member wanting

to repay faithfully.

iii. Group Pressure:

The pressure between borrowers to repay means that the group can expel non-paying

members if they default, thus excluding them from continued access to credit.

(Islamic Microfinance theory, policy and practice – Ajaz Ahmed Khan)

Main Rules of Islamic Finance

The rules lie in the principles of Islam's Shariah law, taken from the Qur'an and the Sunnah,

(the way) referring to the way in which the prophet Muhammad lived his life.

Central to Islamic finance is the fact that money itself has no intrinsic value; it is simply a

medium of exchange. Each unit is 100% equal in value to another unit of the same

denomination and you are not allowed to make a profit by exchanging cash with another

person. A Muslim is not allowed to benefit from lending money or receiving money from

someone.

This means that earning interest (Riba) is not allowed. To comply with these rules, interest is

not paid on Islamic savings or current accounts or applied to Islamic mortgages.

Now, summarizes the possible differences in characteristics and objectives between the

conventional and Islamic microfinance. Differences between Conventional and Islamic Microfinance (Source: [Ahmed 2002]

Item Conventional MFI Islamic MFI

Liabilities (source of fund) External Funds, Saving of client External Funds, Saving of

Clients, Islamic Charitable Sources

Asset (Mode of Financing) Interest based Islamic financial instruments

Financing the poorest Poorest are left out Poorest can be included by

integrating with microfinance

Fund Transfer Cash given Goods transferred

Deduction at Inception of Part of the Funds Deducted as No deduction at inception



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Contract Inception

Target Group Women Family

Objective of Targeting Women Empowerment of Women Ease of Availability

Liability of the Loan

(Which given to Women)

Recipient Recipient and Spouse

Work Incentive of Employees Monetary Monetary and Religious

Dealing with Default Group/Center pressure and

Threat

G r o u p / C e n t e r / S p o u s e

Guarantee, and Islamic Ethic

Social Development Program S e c u l a r ( n o n I s l a m i c )

behavioral, ethical, and social

development

Religious (includes behavior,

ethics and social)

Islamic Product

Islamic Modes of Microfinance

Partnership Based Mode

o Musharakah (Equity Participation)

o Mudarabah (Profit sharing)

Trade Based Mode

o Murabahah (Cost + Financing)

o Musawama

o Salam

o Istisna

Rental Based Mode

o Ijarah

o Diminishing Musharakah

Modes of Finance

There are two ideal modes which provide an alternative to interest banking and if implemented

on a national level will result in much fairer distribution of wealth in society

A. Musharakah - (Equity finance)



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―Musharakah‖ literally means sharing. ―Musharakah‖ is derived from ―Shirkah‖ which means

―Being a partner‖. Musharakah is ―a joint enterprise formed for conducting business in which

all partners share the profit according to an agreed ratio while the loss is shared according to

the ratio of investment‖. It is an ideal alternative for interest based financing with far reaching

effects on the economy.

B. Mudarabah - (Equity finance - sleeping partner)

a) Partnership wherein one partner provides the funds for another to invest in a

commercial enterprise.

b) The investment comes from the ―Rabb-ul-Maal‖ (Investor).

c) The management and work is an exclusive responsibility of the ―Mudharib‖ (Working

d) Partner).

e) The capital may be either cash or in kind and in the latter case must be valued.

f) Profit is shared as per agreed ratio of actual profit.

g) Loss of capital is borne by Rabb-ul-Maal [unless Mudharib is negligent], Mudharib loses

his efforts.

There are two not ideal as they replicate the effects of conventional banking but nevertheless are

tolerated in Shariah.

A. Ijarah - (leasing)

Literally, Ijarah means ―To give something on rent‖. The term ―Ijarah‖ is used in two

situations:

―To employ the services of a person on wages‖ e.g. ―A‖ hires a porter at the airport to carry

his luggage.

Another type of Ijarah relates to paying rent for use of an asset or property defined as

―Land‖ in Islamic economics.

B. Murabahah - (cost plus pricing)

Murabahah is a particular kind of sale and not a mode of financing in its origin.

Where the transaction is done on a ―cost plus profit‖ basis i.e. the seller discloses the cost

to the buyer and adds a certain profit to it to arrive at the final selling price.

The distinguishing feature of Murabahah from ordinary sale Musawama is:

The seller discloses the cost to the buyer. And a known profit is added.

Sale at cost price is Tawliyah and sale at a loss is Wadhee‗ah.

Payment of Murabahah price may be



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i. At spot,

ii. In installments

iii. In lump sum after a certain time.

Hence, Murabahah does not necessarily imply the concept of deferred payment.

Salam

Seller undertakes to supply specific goods to the buyer at a future date in exchange of an

advanced price fully paid at spot. Price is in cash but the supply of goods is deferred.

Purpose

To meet the need of small farmers who need money to grow their crops and to feed

their family up to the time of harvest.

To meet the need of traders for import and export business.

Istisna

Istisna is sale transaction where commodity is transacted before it comes into existence. It is an

order to producer to manufacture a specific commodity for the purchaser.

Instruments of Financing in Islamic Microfinance

Instrument Suitable For Cost of

Capital

Risk to

Borrower

Risk to

Institution

Remarks

Mudarabah/

Musharakah

Fixed assets,

working capital

(Declining

form suitable

for housing

and equipment

finance)

Very High Low Very high Costs of loan administration

and monitoring are high given

the complexity of the

repayment

schedule and lack of proper

accounting;

Perceived to be ideal but not

popular in practice

Ijarah Fixed Assets Moderate High Moderate Costs of loan administration

and monitoring are low given

simple repayment schedule

allowing for

flexibility and customization

based on client preferences;



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Popular among Islamic MFIs

and potential for easy

adaptation by conventional

MFIs

Murabahah Fixed

assets and

Working

Capital

Moderate High Moderate Costs of loan administration

and monitoring are low given

simple repayment schedule;

multiplicity

of transactions in working

capital financing can push up

costs; Highly popular in

practice notwithstanding

popular perception of it being a

close substitute of riba-based

lending

Qard All-purpose Very low Very low Moderate Charity-based usually combined

with voluntarism; low

overheads; Popular because

perceived to be

the purest form of financing

Salam Working

Capital

High High High Back-to-back nature creates risk

of lack of double coincidence;

Untried

Istisna Fixed

Assets

High High High Back-to-back nature creates risk

of lack of double coincidence;

Untried

Istijrar Working

Capital

Moderate Moderate Moderate Ideal for micro repetitive

transactions; Complexity not

easily understood by parties;

hence not a popular

mechanism

(Islamic MF Development – IDB, S.A)



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Benefits of Islamic Microfinance

Riba Free Operations

Shift of Focus to TRADING MODE

Better Internal Controls

Reduced Miss utilization of Money in Non-Productive Activities

Overall Benefits to Economic Environment

More Social Acceptability

(v) Akhuwat Lending Model

Akhuwat was established in 2001 with the objective of

providing interest free micro credit to the poor so as to enhance

their standard of living.

Akhuwat is dedicated to improving the lives of the poor;

those who are financially abused, abandoned

(neglected) and disregarded by society. As a registered

non-governmental organization (NGO), Akhuwat provides the poor with interest-free loans

(Islamic Loans) so that they may acquire a livelihood and the skills and support they need to

reach their full potential. To this end, Akhuwat raises its funds from Civil Society. It does not

depend on international funding; instead it uses the spirit of volunteerism and the tradition of

giving, a cardinal principle of all religions.

Akhuwat provides the economically poor with interest

free loans so that they may acquire a self-sustaining

livelihood. It also provides the skills and support they

need to actualize their full potential and abilities.

Akhuwat staff also provides technical training to its

clients. They make the latest knowledge and market

information available to the clients so that they become

more efficient. Clients who lack expertise are taught and trained in the vocations of their

interest. They may do ―intern-ships‖ with borrowers who are already running some specific

enterprises and are desirous of imparting skills to others. Akhuwat coordinates activities with



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other NGO‘s and Social Welfare Organizations so that social services can reach their own

clients. Akhuwat focuses especially on education and health because these are basic necessities

and the right of every individual and have benefits beyond the individual himself. Legal aid has

also been provided to the needy by a team of volunteer law students through one of the Board

member who is a lawyer and Principal at a local Law College.

Program Introduction

Individual loans are marketed through awareness campaign in poor localities, market places

and through previous borrowers. An introduction to the program is also given in nearby

mosque or church when people have congregated there for prayers. This has not only

tremendously saved the operational costs but has also opened the doors of the religious places

for socio-economic development. It also attaches a moral responsibility to return the loan on

time.

Individual Selection

The loan process starts with the submission of applications by persons interested in getting

financial assistance. The Unit Manager (Loan Officer) then evaluates that whether the

applicant deserves the loan or not i.e. lives below the poverty line, has a reliable social capital, is

not involved in any illegal business and possesses entrepreneurial abilities.

Preparation of Business Plans

Through the preparation of business plans the business idea of the intended loanee is

evaluated to see if it is viable and whether it can generate income beyond the household

expenses of the individual so that the loan could be repaid easily. The applicant‘s family is also

interviewed to make sure that they know about the loan and support the business idea.

Credit Appraisal

After initial appraisal by the Unit Manager, the

application is forwarded to Branch Manager who

appraises the technical section of the appraisal

process. Then the case is referred to Loan Approval



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Committee (LAC). The committee comprising of Unit, Branch and Area Mangers which

reviews the credit case. If the committee approves the case loan disbursement is done. The

whole process takes almost 3 weeks.

Guarantors of Loans

Every borrower also provides two individual guarantors who vouch for his/her credentials and

accept the responsibility of monitoring the borrower and give assurance to motivate the

borrower for timely payment of loan. One of the two guarantors may be from the same family.

Credit Disbursement/Capacity Building

Disbursement takes place 2-3 times a month and 100-150 loans are disbursed at one event

usually held at branch office/mosque or church. Every borrower has to be accompanied by one

of the guarantors. Other people present at the time of disbursement include community

members, Akhuwat staff, from the branch and Head Office (HO). Social Guidance events are

also held simultaneously in which the capacity of loanee is built to carry on their work more

efficiently and effectively. They are also apprised of social agenda that includes:

Emphasis on girl‘s education

Serving the community at large

Protection and improvement of environment

Importance of plantation

Observance of traffic rules and local laws

Following highest ethical values in business

Recovery/Follow up

Once the loan has been disbursed, the Unit Manager monitors the client with regular visits to

his residence and place of work. The loan repayment has to be submitted at the branch by the

7th of each month. If a payment is not in by the 10th, the Unit Manager visits the client to

remind and if repayment is still not done then the guarantors are contacted and asked to make

the payment.



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(vi) NYMT Lending Methodology

Naziran Yousaf Memorial Trust (NYMT) is a 1st ISO 9001 certified Islamic microfinance non-

government, non-profit, non-political organization in Pakistan working for the social and

economic uplift of deprived, neglected, oppressed communities in the urban & semi urban

areas of Lahore (Punjab) Pakistan above the caste, creed, religion and other group boundaries.

NYMT was established in 2004 and registered in 2005 by a group of volunteers. NYMT has

initiated number of programs/projects aimed at

the economic, social and political

empowerment on sustainable basis of the

disadvantaged sections of the society.

Under the umbrella of economic empowerment

program, NYMT initiated micro credit &

enterprise development program in district

Lahore. This program was leading to poverty

alleviation and empowering marginalized, deprived, oppressed and neglected communities

through Micro Finance.

In social sector development NYMT initiated women empowerment & development, health,

Islamic education and Islamic Silai (Stitching) School, with the strong process of social

mobilization. As an organization NYMT believes that empowerment and social change is only

possible with effective and efficient participation of marginalized communities of the society.

Vision

To create an environment where development opportunities are available to all the people of

the area without any distinction of gender, creed and religion.

Mission

Empowerment of low-income communities to improve their quality of life on sustainable basis.

Objectives of NYMT

To support initiatives for sustainable community based gender sensitive development with

particular focus on health, education and micro credit.



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To build and strengthen the technical and management capacity of development

organization (CBOs, NGOs, WOs, and line departments)

To provide micro credit facility with easy installments to such people doing their

enterprises.

Provide access to quality financial services to improve the household living standard.

To build the capacity of target communities in enterprise development, & vocational skills.

Enhanced the capacity of staff for effective service delivery

NYMT Current Programs

Micro Enterprise Development

Health care centers

Education stipends

Water Wells

Sewing Schools

Masjid & Markaz Darul Quran

Micro Credit Program’s Executing Methodology

As NYMT is a community oriented organization and working for the economic uplift of

marginalized communities in remote areas of district Lahore. Microfinance program

intervention also depends on an effective and efficient community social mobilization and

participatory approach.

Steps involved in Microfinance and enterprise development before the final disbursement is

as follows;

Area identification and area/poverty profile

Problem Identification through PRA

Contact meetings and identification of activists

Introduction of NYMT programs

Formation of Community Based Groups

Capacity building of CBGs (Community Based Groups)

Potential client identification

Loan group formation

Orientation training of loan groups on MF program

Client screening and Credit appraisal



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Counter check of credit appraisals

Approval by credit committee

Loan disbursement

Loan monitoring

Loan recovery

Impact Assessment

Medical Services

Basic health check-ups and the provision of general medicines

Injection courses to pregnant women and children.

Mother & Child Health care

Growth monitoring of children

Family Planning services

Counseling

Laboratory tests

Quality Education Program

NYMT initiated its Islamic education program in Walton Lahore with the name of NYMT

Islamic Silai School and NYMT Islamic Madrisa (School) (HIFZ, NAZRA). Total recurring

and running cost of that 2 schools is being born by WAJDA group & Yousaf Family.

NYMT Islamic Microfinance ModelNYMT Islamic Microfinance Model

18

HHF

17

M & E

16

Monthly

Recovery

15.

Follow up of Recovery

14

Loan

Utilization

13

Loan Dis.

12

Cc Meeting

& Approval11

S. Appraisal

By OM

10

Appraisal

by BM

9

Appraisal by CO

8

Application process & submission

7

3 days

Orientation

Training of centres/

Groups

6

centre

Formation

5

Orientation

of groups

4

Group

Formation

3

Community

Meeting

2

Poverty

Profile

1

Baseline

Survey

Target

Community/

Village



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To ensure quality education NYMT has established education committees to and mother

groups to see school performance and quality of education. NYMT has conducted various

teacher training workshops to capacitate the teaching staff.

Human and Institutional Development

NYMT is facilitating to build the capacity of the community leaders, CBGs and its staff because

NYMT believes that capacity building of an individual is very much important to positive

transformation in the society. Therefore NYMT is executing a capacity building

program/Exposure Visits in very organize manner where various sort of trainings conducted

for the capacity building of local community, entrepreneurship trainings, skill development

trainings and staff trainings etc.

HID offers capacity building programs in three significant areas essential for sustainable and

easy survival of organizations and communities:

Organizational development

Enterprise management & Skill development

Professional development

OthersHealthEducation

NYMT

Credit

CBGs

Loan GroupsSewing schools/Hifz,Nazra

Health Care CentersWater wells,Rehabilitations

Credit Education Health Others

NYMT Working Methodology with CBGs

Networking & Linkages

NYMT always concentrates to generate linkages & networking at the local and regional level for

better collaboration with other organization & institutions to learn, share and coordinate on



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issues of common concern. In order to meet the skill enhancement requirements of staff NYMT

arranges exposure visit of other development organizations to share the experiences for learning.

(With thanks of NYMT management)

(vii) Farz Methodology

Concept of Farz Methodology

Poverty certainly emerged as the single most problem that lies at the heart of modern day crisis.

It quite recently has assumed alarming proportions. Many efforts were made in the past but

they could not wholly succeed. Among significant tools, the microfinance was also used for

getting rid of poverty which quite recently plagued the whole world. There is always a room for

innovation to be introduced to already existing structures. Though microfinance made some

gains in alleviating it but with sufficient services the amount invested lie in the danger of being

spent on the items of daily use owing to extreme poverty.

What in fact is required is the provision of certain services that may enable the person

concerned to become self-earning unit. So the first and foremost thing in this regard is not to

simply extend credit. It is more advisable to do kind of asset sharing, along with provision of

services which could lead to an economic activity at an individual level.

Certain experiences in this regard bore good results. For instances a woman who was provided

with the necessary material and skill, is successfully running her business of making and selling

artificial flowers. What worked in this case was the fact the instead of extending credit, she was

provided the raw material along with the skill. What could further be added to it is the

provision of health and education facilities to the community so that each individual keeps on

learning during this process.

By adopting this method microfinance becomes a well-organized business as well as a

community services and incidence of default is reduced to the maximum level.

Now this issue of poverty is what upon which the future of political structures rests. It needs

more coordinated and scientific approach. Among the efforts made so far, this method of

empowerment through education and asset based loaning has borne good results. At a time

when world economies are shrinking and people at large losing their jobs worldwide, this



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method could be used to offset the impact of recession in the poorer world. We have seen that

the government agencies could not come up to the expectations and number of people falling

below the poverty line is growing. The supply side economics or trickle-down theory is being

looked at with suspicion. We need more non-governmental structures to fight this growing

menace.

Owing to shrinking world economy, the poor countries are also being hit hard. The

individuals‘ economies cannot sort this problem out as they have to cut their non-development

expenses. In such a critical period poverty needs to be fought at war footing.

Recently, Farz Foundation (The First Islamic Microfinance Organization) has completed its

two-year pilot project in the area of Shalimar Lahore in two phases. The organization has done

the comparative analysis of currency disbursement and the Farz Methodology (asset delivery

method) in which the asset based microfinance shows 80 percent positive and productive

results while the popular practice of microfinance, which is based on credit in the shape of

currency depicted 80 percent negative and non-productive results. The study confirms the

reports are already being published in the international journals about the very low impact of

currency deals in microfinance. Although the efforts made by the CGAP and other agencies at

the international level and Pakistan Poverty Alleviation Fund (PPAF) at the national level

cannot be ignored but the speed of the inflation and poverty increase ratio demands more

sincerer and creative efforts.

There is another challenge of exploring the new markets which still needs to be addressed

because the process of demand and supply matters even at the level of the micro

entrepreneurship. Home Based Women Entrepreneurs are still in the clutches of the middle

man, who is earning far more than the HBMEs.

Another important issue is trust-building. The development sector has successfully won the

hearts of the community but unfortunately the microfinance sector is losing the trust day by

day particularly in Pakistan and India. Although The SEWA in India and RSPs in Pakistan has

set the milestones remarkably, however, various MFIs have annoyed the poor community.

Though the poverty alleviation objective stipulates to support the innovative mechanisms like

Farz Methodology, even at the government level as well as at the institutional level; the



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microfinance donors are not encouraging the new and innovative players as per the need and

the requirement of the day. It will be lethal not only for the innovative human recourse of the

sector but also will reduce the impact of the endeavors already being made by the sector of

microfinance.

There is Chinese proverb that says we are living in very interesting times. Indeed we are. Old

economic patterns are directly flying in our face. The ongoing recession has defied most of our

beliefs. What triggered this, to put it brief, was the irresponsible ways of lending that almost

sunk the world economy.

Amid all this there is another effort through lending to alleviate poverty, known as

microfinance. It began with a justified fanfare and made certain gains as well but the overall

outcomes betrayed some imperfections. This right up would tend to elaborate the so-called Farz

Methodology, which, in fact, is another attempt to avoid certain negative outcomes. The

irresponsible ways of lending, which we mentioned earlier and which almost sunk the ship of

world economy, may also be one of the factors responsible for certain negative results in the

world of microfinance.

What could not work in the cold world of business could never have done better where the

borrower is a marginalized poor. Here comes the Farz Methodology which enshrines in its

philosophy the passage to the relative well-being of the person concerned through social as we

as economic empowerment.

Another technique that this methodology carries is that of not allowing the direct access to the

poor and the vulnerable to the hard cash. What is suggested instead is educating the poor

along with providing him with necessary tools such as the stuff he needs to initiate an

economic activity.

Our initial experience was also a clear testimony to the potential that this method carries. Our

success rate in our projects remained 80 per cent which also worked as a spur because we had a

long list of volunteers who were ready to work without compensation in the beginning

What made a clear difference was the realization that microfinance is not a mere business. It

rather needs a business like skill, understanding of the world in which the poor exist and

understanding of their limitations. We achieved this by looking at the world through the eyes

of the poor.



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Farz Methodology as an innovative economic mechanism ensures the long-term profitability of

microfinance. We need to help the borrower make his business successful. Recovery, of course,

cannot be had from a failed business. MFIs must make certain the recoveries from their profits,

instead of their losses. Recovering from losses defeat the very purpose of the whole exercise.

The micro trade cycle technique of Farz can ensure not only the sustainability of the sector but

the long term profitability as well.

There are many researches that demonstrate that funds spent and efforts made are being

wasted. What our methodology ensures is the maximum possible empowerment through basic

health and education. Because the human resource of external organization (Members or

clients) should also be capable of delivering things well regarding their businesses. A business

cannot be a successful with bad health, illiteracy and skills. As the organizations build the

capacity of their staff to get more and more output. Similarly microfinance sector will have to

train their clients to get more and more output. So the integrated approach of Farz Foundation

emphasizes on a skilled poor community to win the war against poverty to achieve the ultimate

vision of the sector.

Today even the first world is no more unscathed by this recession. But that still has the

advantage of a skilled labor. This fact alone would soon retrieve the falling economy in the rich

countries, may be sooner than later. But in countries like Pakistan we need to initiate this

activity on war footing.

The strategies of Pakistan Poverty Alleviation Fund (PPAF), studies of Pakistan Microfinance

Network, (PMN) efforts of Social Performance Management and Social Performance Task

Force focus on making loans productive through social performance is need of the hour.

Considering our collective past experience, we should not hesitate for a moment to implement

these strategies with collaboration of Farz Methodology because the purpose of the sections is

the same, however the Farz methodology will protect the expected gains. This would even help

retrieve even the failing projects.

The capacity building of clients like training in credit discipline, basic marketing skill, and

feasibility preparation are of paramount importance. This should be carried out the way we

train our staff.



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Another advantage of this strategy is that it would bridge conventional microfinance and

Islamic banking. That would also allow us in a huge market that still remains untapped.

At a time when Pakistan‘s economy is expected to grow by less than 2 per cent, we should

adopt this measure to enhance the growth. Government is facing many other challenges like

war on terror and perhaps cannot focus on economy as much as the civil society can. In the

ultimate analysis war on terror could only be won through economic and social empowerment

of the people. So the success of microfinance is the success of the forces struggling for peace

and betterment of the country.

The idea of decoupling that was being put forth in the beginning of this recession could only

be materialized by kick starting growth where the impact of the world recession is slightly less.

The task of course is gigantic. But of course the journey of thousands miles begins with one

step. Let‘s start restructuring existing MFIs methodologies and also begin establishing new

projects to steer out of these testing times.

Changing the economic environment always calls for more innovative response. We, of course,

are living in a time where hosts of events have crowded a comparatively short time span,

particularly in the world of finance. Despite an incorporated world economy, the tools and

methods needed in the so-called Third World would definitely be different from those of

implied in the developed world. For instances the ways to fight poverty in the countries like

Pakistan needs certain changes to suit a constantly aggravating economic situation.

The main emphasis in this approach is that by empowering an individual through services

other than finance, in fact, we secure the money lent and make it productive over a long time.

The most important task that today we face is not only to mitigate the impact of the recession

but also to offset it. The governments in the region are tied with the host of other challenges,

including war on terror. It makes it more important for the civil society to play its role in more

effective and intelligent way. By kick starting an economic activity through incorporating the

poor with provision of non-financial services as well as financial, we would bring them closer to

the institution of microfinance. They own this whole process which in turn is enhancing their

productivity and also inculcates a sense of responsibility among them.

The various research and evaluation projects have already unveiled the causes of the breakdown

of the financial services system. So it is imperative to sort out a method which could offer a



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viable solution to provide a long-term relief. Undoubtedly the microfinance can provide a

contingency plan in the right direction. Different studies suggest that the week impact of

different microfinance methodologies already in place demand an innovative microfinance

mechanism to be implemented at a large scale. The efforts made to link microfinance with

Small Medium Enterprise (SME) and SME to Medium Enterprise and then macro enterprise

are still in the process of achieving the goals to make any breakthrough. One reason behind not

achieving our goals has been undue compartmentalization and division of work. What is

needed, instead, is the integration. No business or credit or any financial system can be

sustained in isolation. This is the core philosophy of Farz Microfinance Methodology. What

goes without saying is the fact that consumption is the key to all types of production.

Dwindling consumption means a stalled or hampered productive process. Thriving need-based

local markets can become a gateway to micro productivity. At the micro enterprise level there

are a lot of things that need to be addressed like the role of middle man and the whole sellers.

Farz methodology emphasizes providing a just economic system for the productive poor

according to their needs and requirements. The productive poor will have to be facilitated as a

wheel for the international trade cycle. The role of currency should also be minimized and

would have to be replaced by income generating kinds like tools and assets, etc. The artificial

expansion of businesses or trade should be checked through asset providing mechanism. Farz

Methodology as Neo Microfinance has proved through positive outcome as the most effective

system in the given economic milieu. This inference has been made on the basis of results

achieved in the poor neighborhoods like, Chongee Amarsidhu and Meu Colony in Lahore.

Previously about eight MFIs targeted this area and six left by declaring them red (negative)

areas. Two reaming are grappling with their zero tolerance policy and late night recovery

problems. In the same area Farz Foundation has started its pilot to gauge the results and to

observe the effectiveness of Farz Methodology.

First time in Pakistan the microfinance is being customized according to cultural and religious

circumstances simultaneously unlikely the various previous practices. Farz Foundation has also

launched a saving scheme that requires each member to pool a specific amount on monthly

basis which is given to one member or the other on the basis of lucky draw. This is a practice

known as committee (community's rotating funds) which develops saving habits and also works

as a trust-building measure. What FF did was that it began, in accordance with Farz

Methodology by conducting free eye camps and also picked some of the poor families and took



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the responsibility of paying for their children's education. Through further penetration into the

area it was learnt that previously the borrowers were further lending the money at even a higher

rate of interest, which defeated the very purpose of the whole exercise. They, of course, were

bound to fail. All that Farz Foundation has dealt with so far does not lay bare the whole

panorama of opportunities. In the future FF intends to provide direct market linkages to

eliminate the role of middleman that will further increase the rate of profit of the home-based

women entrepreneurs.

As the first Islamic microfinance organization of Pakistan from its first day with a full fledge

Islamic vision of trade and business Farz Foundation has provided an Islamic solution of the

non-productivity of the micro loans, which not only can cater to a huge Muslim Market but the

general clientage as well. The main aim of this exercise is to kick start the demand at micro

level which will initiate an economic activity at the supply side. Even agricultural sectors lie

untapped and the efforts made so far did produce desired results. As mentioned earlier,

through adequate financing, the expectations assigned to the microfinance sector could easily

be fulfilled. At a later stage it won‘t even involve a great deal of finances as through market

linkages an economic activity would be initiated on the credit bases between the venders and

sellers all that would be required to monitor and guide it to more productive directions.

However currently it needs the support from the institutions which are working for the

promotion of Islamic or conventional microfinance as a poverty reduction tool.



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Farz Methodology (System)



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An Integrated Approach



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Client Graduation Strategy

Clients Graduation Strategy



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Identification of Area for Operation

To allocate the Area for Social Center (Branch) To allocate the Potential working areas for social center Product needs assessment.

o Potential businesses. o Cash flow of different businesses. o Size of micro trade.

Staff Hiring

Add for staff hiring in local Newspaper. Collection of CVs as per given date. Short listing of CVs and finalize prospective candidates for interview.

Sending calling letters to all selected interviewees.

Conduct 1st interview

Capacity Building of Staff

To deliver the orientation of FARZ FOUNDATION to final candidates for jobs. To deliver three days Step-in-Training to all Selected staff.(In house)

o Islamic banking & finance. Conventional microfinance

o Farz Methodology

o Basic Selection criteria of FARZ FOUNDATION



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o Area survey

o Effective Mobilization skills

o Clients appraisal training

o Cluster formation steps

o Conduct of community meetings

o Customer relationship management

o Social performance management

o Delinquency management

o Monitoring

Three days on the job training to the staff.

o Basic Selection criteria of FARZ FOUNDATION

o Area survey

o Effective Mobilization skills

o Clients appraisal training

o Cluster formation steps

o Conduct of community meetings

o Customer relationship management

o Social performance management

o Monitoring

o Islamic banking & finance. Conventional microfinance

o Farz Methodology

Interview and selection for one month internship Selection for 11 month on a contract. After 11 month, contract extension / permanent employee.

Social Center (Branch) Opening

Social Center Opening Ceremony Mobilization



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Kicking of Operation

Branch Structure

Community Cluster Structure

Social (Branch) Manager

Social Officer

Small Murabaha

Social Officer

Small Murabaha

Social Officer

Small Murabaha

Social Officer

Medium Murabaha

Accountant

Office Boy

Cluster Manager

Group Leader

Member

Member

Member

Member

Group Leader

Member

Member

Member

Member

Group Leader

Member

Member

Member

Member



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Delivery Process

Step-1 Mobilization Objective

To mobilize the target customer who is able, willing and independent

Purpose of Mobilization

To inform people about the objectives of the organization

To know about the needs of the people through question answer session

To introduce the facilities extended by the organization

Step-2 Community Meeting Conducted by Social Officer (SO)

Objective

To introduces Farz Foundation in detail To finalize the group leaders and cluster managers To inform about the existing and upcoming facilities of the foundation Detail of the duties of all participants To tell about the method of installment and meeting To tell about the documents

The Method of Community Meeting

After the mobilization, gather all the members at place, address their objections and after resolving them form groups consisting of five members and then let them choose their group leaders and afterwards their cluster manager.

Step 1 • MOBILIZATION

Step 2 • COMMUNITY MEETING CONDUCTED BY SOCIAL OFFICER (SO)

Step 3 • TO FINALIZE THE CLUSTER MANAGER AND GROUP LEADERS

Step 4 • HOME SCREENING

Step 5 • BUSINESS SCREENING

Step 6 • FINAL FORMATION MEETING

Step 7 • SALE AGREEMENT AND DELIVERY OF ASSET & STOCK



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Step-3 Community Meeting Conducted by Social (SM)

To finalize the cluster manager and group leaders

Step-4 Home Screening

Objective

To visit the final members‘ homes after community meeting

To fill the KYC and home screening forms at each members home

The Method of Home Screening

On visiting the potential members home for verification, home screening form is to be filled. To fill KYC form after the member fulfills the home screening criteria

Step-5 Business Screening

Objective

After the community meeting and home screening, to check the home and business of final members

To fill the business screening form at the place of business of the members The Method of business screening

The Method of Business Screening

At the place of the potential members business first of all business screening form is to be filled

The KYC form is to be filled after the potential member‘s place of business is verified

Note: The business details will only be obtained from the businessman.

Note: The 100 per cent screening of cluster will be done after or during the filling of KYC form

Direction for Filling the Form

Cluster SO will work according to the laid down method

The screening of cluster manager and filling of the form should be done in the presence of group leader

The screening of group leader and filling of the form should be done in the presence of cluster manager

The screening of the members and screening of the form should be done in the presence of the group leader

Forms are to be filled after question answer session.

Form and the copy of the original documents should be signed as ‗ original seen.

Home screening, business screening and KYC forms should be filled at the home of the members



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KYC form should also be filled along with them

Step-6 Final Formation Meeting

Objective:

To tell the cluster manager, group leader, members about the responsibility of the cluster

To verify the home visit by the cluster committee

The Method of Final Formation Meeting

If a member exit during the filling the form , new member should be introduced to the cluster

Cluster committee and members to be apprised of principles and agenda of the Farz Foundation

After the completion of all the five clusters all the members and their heads should be gathered in the social center to approve according to the agenda given bellow

Step-7 Sale Agreement and Delivery of Assets & Stock

Objective

To buy the required things to the members

To sign the agreement about the things agreed to verify all the things bought by the members

The Method of Sale Agreement

Method 1

FARZ FOUNDATION staff will go with the members to a selected vender to buy the stuff and sign the agreement at the time of delivery.

Method 2

To buy the stuff according to list and handover it to the member after signing the agreement.

Method 3

An agent with the confidence of the community to be sent to buy thing, to bring them to the branch to hand over after signing agreement.

Monitoring & Evaluation

Daily, weekly, monthly, quarterly and six monthly reports system. Field visits of bottom to top Management. Fortnightly Meetings with 100% Clients. Social Performance Management.



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Assets Building

Farz Committee: Rotatable community saving

Farz Foundation has developed a market driven, need based and innovative product having

deep cultural roots. The product is known as Committee (Rotating savings) in Pakistan. The

people usually build their assets by this rotating saving activity at a street or a market level

informally and without any proper bookkeeping. However, Farz Foundation has not only made

it formal but uses it as another source of income by providing the service of investment in

Murabahah as a partner. Farz Foundation in Pakistan proposes this partnership concept-based

approach to encourage community savings and profitability to sustain its clients. Members of

the committee have regular meetings in order to save and borrow from a community‘s pool of

money. Each member contributes equal amount of money to the pool and at each meeting,

one member takes the whole amount by a lucky draw. The idea is for transparency of the entire

saving, lending, borrowing, process and generating another source of income. The foundation‘s

role is that of a manager, monitor and trainer as well as a bookkeeper. Farz Foundation also

takes part in this Committee as a member by contributing its money to the pool and gets first

Committee. According to a cultural rule manager gets the privilege of taking the first Committee.

It is a triple edge financial service because of its participatory, saving and investing features.

Features of FARZ Committee

HEADS FEATURES

Committee Size Min= PKR:100 and Max=unlimited

Period of Committee Cycle 11 Month

Participants of Committee in Each Group 10 Members + 1 Farz Foundation=11

Number of Committee Groups under One Cluster

Min=1 and Max=3

Frequency of Committee Installment Fortnightly

Frequency of Committee Draw (lucky draw) Every Month

Health Care

The biggest reason for the low productivity according the WHO is the poor health all over the world. The Farz Foundation pays keen attention to this aspect and conducts health awareness workshops and health camps.



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Awareness Program

The greatest problem in the area we work is the water borne diseases and we teach them to boil water before drinking. The general principals of cleanliness for instances, washing hands before taking meals are emphasized during the training.

Eye Care

Farz Foundation has launched its eye care program by starting a free eye care camp for poor peoples of the branch area. In this camp Farz Foundation provide eye checkup facility and provide spectacles to the poor home based micro entrepreneurs with any cost.

Future Protection Program

This program deals with educating the clients to provide education to their children apart from picking the kids of the most vulnerable members and provide expenses for their education. This is done to ensure the better future of the community.

Entrepreneur Development Program

Clients Capacity Building Strategy

0

50

100

150

200

250

300

350

1stYear

2ndYear

3rdYear

4thYear

5thYear

6thYear

7thYear

8thYear

9thYear

346

235

160

109

74

50 34

23 16

58

150

177 172

151

127

102

80 62

Trained for Murabaha MediumTrained for Murabaha Larg



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Personal

• Lack of Health

• Lack of Business Education

• Lack of Skills

• Family & Business (Both sides Management)

• Families Restrictions

Internal

• Lack of Fund

• Lack of Research

• Lack of Market Linkages

• Lack of Networking

• Lack Product Demand Value

• Lack Business Management knowledge

• Problems of Mobility

• lack of Access to Market

• Client Satisfaction

External

• Delayed payments

• Distance to Wholesaler Market

• Exploitation by Middleman

• Lack Guarantee

• Low profit Margin

• Bad debts

• Unwilling Employees

HBMEs



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Personal

• Health Care Awareness

• Business Training

• Skill Development Training

• Takaful (Islamic Insurance)

Internal

• Murabaha

• Book keeping training

• Other Source of income

• Business Development Training

• Market Linkages

• Networking

External • Guarantee



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Future Plan

Scalable, Sustainable & Profitable

Farz SME Village Plan

(With special thanks of Farz Foundation authorities)

Long term Profitability of Micro

Finance Sector

Sustained Clients

Business Education

Financial Service

Health Care



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n) What is poverty? And who are poor?

Poverty is generally determined on the basis of income and consumption levels, but poverty has

many dimensions: Poverty means hunger, lack of medical treatment, and poor access to basic

services such as electricity and water supply. It means being unable to send children to school,

and often needing them to work instead. Poverty means a lack of assets – such as land and

savings – and thus extreme vulnerability to shocks due to economic downturns, family illness

or natural disasters.

We could also use the term bottom poor, extreme poor, chronic poor, and hard core poor.

An important feature to keep in mind is that one‘s poverty classification is not fixed, for

many people it is likely to change over time, for better or for worse.

People who are not among the poorest can easily fall within that category if they experience

a shock or economic stress.

For example, people may become bonded laborers or put their children in work because

they need money to pay for a health crisis or even to pay for wedding or religious ceremony.

It is necessary to understand the local factors that create poverty because you will want to

develop a safety net of sorts that will reduce the likelihood that people fall back into the

bottom poor.

A person or member is considered to have moved out of poverty if his/her family fulfills the

following criteria; {1.00 USD = 69.4500 BDT Approximately}

(i) The family lives in house worth at least {TK. 25,000} or a house with a tin roof, and

each member of the family is able to sleep on bed instead of on the floor.

(ii) Family members drink pure water of tube-wells or boiled water.

(iii) All children in the family over six years of age are going to school.

(iv) Minimum weekly loan installment of the borrower is TK. 200 or more.

(v) Family uses sanitary latrines

(vi) Family members have adequate clothing for everyday use (warm for winter etc.)

(vii) Family has sources of additional income, such as vegetable garden, fruit bearing trees

etc. so that they are able to fall back on these sources of income when need additional

money.



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(viii) The borrower maintains an average annual balance of TK. 5,000 in his/her saving

account.

(ix) Family experiences no difficulty in having three square meals a day throughout the year.

i.e., no member of the family goes hungry anytime of the year.

Family can take care of the health. If any member of the family falls ill, family can afford to

take all necessary steps to seek adequate healthcare. (Dr. Muhammad Yunus – Grameen Bank)

The definition of poverty needs to be clarified, as this has been one of the more controversial

issues in poverty studies. (Tennakoon, 2000:16) Poverty in this thesis is defined according to

the World Bank definition,

“Poverty is pronounced deprivation in well-being” (World Bank, 2005)

The character of poverty is not only the material aspect where the daily survival is a struggle,

but it also covers a wider dimension where the access to public goods and the vulnerability are

accounted for. These entire components are important, as they affect the individual‘s behavior

and the perceptions of their own situation. (World Bank, 2005) The general agreement on

poverty is

“A condition of relative deprivation of basic human needs, reflected in unacceptably low living standards,

chronic under-nutrition, persistent illiteracy, and low life expectancy” (Tennakoon, 2000:45)

The Department of Census and Statistics in Colombo defines poverty as any barrier to

prosperity and is a lack of resources and opportunities, feelings of being disenfranchised from

various support systems, and diminished feelings of empowerment to obtain these resources

and opportunities. (Department of Census and Statistics, 2002) This multidimensionality that

today is accepted raises the standards for more complete and complex strategies of poverty

reduction.

o) Difference between productive and non-productive loans

Non-Productive Loans

A loan that does not increase an economy‟s total output, but may increase the economy's total spending

power. One of the most common examples of a nonproductive loan is leveraged buyout. Nonproductive

loans are made by commercial banks. (Financial Dictionary)

A loan with securities pledged as collateral, but which is not to be used in securities trading or transactions

is called non-purpose loan.



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Type of commercial bank loan that increases the amount of spending power in the economy but does not

lead directly to increased output is called non-productive loans. (www.answers.com)

The loans amounts which are using for the purposes other than business growth or

development are called non-productive loans. It may be utilization in paying educational fees,

paying relatives/friends loans, private lender loans and/or marriages expanses of beloved sons

or daughters and any family member medical expanses etc.

Productive Loans

It is reciprocal of Non-productive loans.

A loan that boosts an economy‟s total output, but may decrease the economy‟s total spending power is

called productive loans.

What is Leveraged Buyout?

The acquisition of another company using a significant amount of borrowed money (bonds or loans) to

meet the cost of acquisition. Often, the assets of the company being acquired are used as collateral for the

loans in addition to the assets of the acquiring company. The purpose of leveraged buyout is to allow

companies to make large acquisitions without having to commit a lot of capital.

p) What are millennium development goals?

The Millennium Development Goals (MDGs) are eight goals to be achieved by 2015 that

respond to the world's main development challenges. The MDGs are drawn from the actions

and targets contained in the Millennium Declaration that was adopted by 189 nations-and signed

by 147 heads of state and governments during UN Millennium Summit in September 2000.

Goal 1: Eradicate extreme poverty and hunger

Goal 2: Achieve universal primary education

Goal 3: Promote gender equality and empower women

Goal 4: Reduce child mortality / death

Goal 5: Improve maternal health

Goal 6: Combat HIV/AIDS, malaria and other diseases

Goal 7: Ensure environmental sustainability

Goal 8: Develop a Global Partnership for Development



http://www.answers.com/

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Towards achieving the goals the United Nations General Assembly adopted 2005 as the

International Year of Microcredit to ―address the constraints that exclude people from full

participation in the financial sector.‖ At the World Summit at the United Nations in

September 2005, Heads of State and Government recognized ―the need for access to financial

services, in particular for the poor, including through microfinance and microcredit.‖ The

Monterrey Consensus that Heads of State and Government adopted at the International

Conference on Financing for Development in 2002 explicitly recognized that ―microfinance

and credit for micro, small and medium enterprises…as well as national savings schemes are

important for enhancing the social and economic impact of the financial sector.‖ They further

recommended that ―development banks, commercial banks and other financial institutions,

whether independently or in cooperation, can be effective instruments for facilitating access to

finance, including equity financing, for such enterprises….‖ It should be noted here that access

to credit, savings, or other financial services is only one of a series of strategies needed to

reduce poverty and achieve the MDGs. Financial services need to be complemented by access

to education, health care, housing, transportation, markets, and information. The following

are MDGs goals and examples of potential measures of access to financial services.

(Islamic MF Development – IDB, S.A)

Millennium Development Goals

1990 1995 2000 2005 2008

Goal 1: Eradicate extreme poverty and hunger

Employment to population ratio, 15+, total (%) 48 47 47 49 51

Employment to population ratio, ages 15-24, total (%) 39 36 36 40 43

GDP per person employed (annual % growth) 5 5 1 3 2

Income share held by lowest 20% 8.1 10.

0 8.7 9.1 ..

Malnutrition prevalence, weight for age (% of children under 5) 39.

0 ..

31.

3 .. ..

Poverty gap at $1.25 a day (PPP) (%) 23 12 6 4 ..

Poverty headcount ratio at $1.25 a day (PPP) (% of population) 65 48 29 23 ..

Prevalence of undernourishment (% of population) 22 18 .. 23 ..

Vulnerable employment, total (% of total employment) .. 65 64 61 62

Goal 2: Achieve universal primary education

Literacy rate, youth female (% of females ages 15-24) .. .. 43 53 58

Literacy rate, youth male (% of males ages 15-24) .. .. 67 77 79



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Persistence to last grade of primary, total (% of cohort) .. .. .. 70 ..

Primary completion rate, total (% of relevant age group) .. .. .. 61 63

Total enrollment, primary (% net) .. .. 57 67 66

Goal 3: Promote gender equality and empower women

Proportion of seats held by women in national parliaments (%) 10 .. 2 21 23

Ratio of female to male enrollments in tertiary education 58 .. 81 88 85

Ratio of female to male primary enrollment 52 56 68 76 82

Ratio of female to male secondary enrollment 48 .. .. 78 76

Share of women employed in the nonagricultural sector (% of

total nonagricultural employment) 6.6 7.5 7.4 9.7

10.

7

Goal 4: Reduce child mortality

Immunization, measles (% of children ages 12-23 months) 50 47 56 78 80

Mortality rate, infant (per 1,000 live births) 102 93 84 76 73

Mortality rate, under-5 (per 1,000) 132 119 106 95 90

Goal 5: Improve maternal health

Adolescent fertility rate (births per 1,000 women ages 15-19) .. 57 52 47 46

Births attended by skilled health staff (% of total) 19 18 23 31 39

Contraceptive prevalence (% of women ages 15-49) 15 18 28 30 30

Maternal mortality ratio (modeled estimate, per 100,000 live

births) .. .. .. 320 ..

Pregnant women receiving prenatal care (%) 27 26 43 36 61

Unmet need for contraception (% of married women ages 15-49)

32 .. .. 25 25

Goal 6: Combat HIV/AIDS, malaria, and other diseases

Children with fever receiving antimalarial drugs (% of children

under age 5 with fever) .. .. .. 3 3

Condom use, population ages 15-24, female (% of females ages 15-

24) .. .. .. .. ..

Condom use, population ages 15-24, male (% of males ages 15-24)

.. .. .. .. ..

Incidence of tuberculosis (per 100,000 people) 181 181 181 181 181

Prevalence of HIV, female (% ages 15-24) .. .. .. 0.1 0.1

Prevalence of HIV, male (% ages 15-24) .. .. .. 0 0

Prevalence of HIV, total (% of population ages 15-49) .. 0.1 0.1 0.1 0.1

Tuberculosis cases detected under DOTS (%) .. 1 3 38 67

Goal 7: Ensure environmental sustainability

CO2 emissions (kg per PPP $ of GDP) 0.5 0.5 0.5 0.4 ..



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CO2 emissions (metric tons per capita) 0.6 0.7 0.8 0.9 ..

Forest area (% of land area) 3 3 3 2 ..

Improved sanitation facilities (% of population with access) 33 40 48 58 58

Improved water source (% of population with access) 86 87 88 90 90

Marine protected areas, (% of surface area) .. .. .. 0 ..

Nationally protected areas (% of total land area) .. .. .. 8.5 8.5

Goal 8: Develop a global partnership for development

Aid per capita (current US$) 10 7 5 10 14

Debt service (PPG and IMF only, % of exports, excluding workers'

remittances) 23 24 21 10 9

Internet users (per 100 people) 0.0 0.0 1.4 6.7 11.

1

Mobile cellular subscriptions (per 100 people) 0 0 0 8 53

Telephone lines (per 100 people) 1 2 2 3 3

Other

Fertility rate, total (births per woman) 6.1 5.3 4.4 4.1 3.9

GNI per capita, Atlas method (current US$) 400 490 490 720 980

GNI, Atlas method (current US$) (billions) 43.

1

59.

8

67.

7

112

.9

162

.9

Gross capital formation (% of GDP) 18.

9

18.

5

17.

2

19.

1

21.

6

Life expectancy at birth, total (years) 60 61 63 65 65

Literacy rate, adult total (% of people ages 15 and above) .. .. 43 50 54

Population, total (millions) 108

.0

122

.4

138

.1

155

.8

166

.0

Trade (% of GDP) 38.

9

36.

1

28.

1

35.

3

34.

2

Source: World Development Indicators database



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a) Is there any need to check the loans utilization?

People inquired most of time that, Are loan utilization checks necessary? The vibrant reaction

should me YES. Because, it‘s essential to check all the MFI‘s which are engaged in micro

financing amenities. The intention should be scrutiny of the organization but not censure.

Most of MFI‘s in all over the world checks loan utilization as essential, but as per field officers

(particularly in conventional MFI‘s), clients do not usually use loans for the purpose stated in

the loan application forms. They exploit the loan money in their isolated purposes and just pay

the loan installments. The intention of MFI‘s never been to extend the loans in poor

communities, but to make the persons or family able to earn as per their essentials and spend

their lives in the society with self-honor and respect. Loan utilization checks may seek to

prohibit use of loans for ―non-business‖ purposes that may have a higher rate of return than

the business purpose – for example, retiring expensive debt or buying medicine for a wage-

earner.

There is no doubt that lending is essentially a relationship of trust, but loan utilization checks

force the client to lie and cheat in the very first interaction with the MFI after getting the loan.

Most MFI‘s making small loans are helping client‘s household to diversify sources of income,

reduce risks, smooth seasonal troughs in income availability and successful MFI‘s across the

world do not tie their loans to specific types of utilization. It is therefore difficult to understand

the rationale behind the continued use of loan utilization checks.

Hence, I can say finally that, loan utilization checks are however necessary for larger, individual

and enterprise development loans. These loans are sanctioned on the assessment of credit

officer‘s analysis of the cash flow of that business, on the other hand, most of staff members in

Pakistani MFI‘s are not trained as per requirements and consequentially they can‘t accomplish

their events as per microfinance philosophies and guidelines. So, it is necessary to check and

ensure that loans utilize only for the stated purpose in the loan application form and should be

used for productive purposes.



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b) Why do deprived persons tale multiple credits? How it can be holdup?

Due to appearance of too many MFI‘s in this sector of lending in Pakistan, race has increased

among the MFI‘s for clients. Almost all MFI‘s are working in a specific poor community and

clients are borrowing from the multiple sources just for without any ambition. All these clients

are utilizing these loans in non-productive purposes and increasing their liabilities which show

results in the form of too many installments that clients cannot pay naturally and converts

debtors and creates troubles for him as well as for their families. It is very difficult to stop this

incident of multiple borrowing from different MFI‘s but it can be reduced by putting the

combine efforts to establish the authority in MFI sector which collect and record the whole

MFI‘s clients data and provide the complete details of clients who have any other loans from

any MFI before sanction of new loan from any MFI. There are many reasons for taking

multiple loans by clients in which some most important are;

Due to unsatisfactory amount for business enlargement, buying equipment etc.

For paying their loans to local money lenders, friends or relatives.

For their friends or relative needs.

For purchasing jewelry and other home appliances.

For home maintenance and for medical expenses like sickness, injury etc.

For marriage, memorial services, old age etc.

For disaster or tragedy such as floods, fire, cyclone or war etc.

c) Importance of productive loans in poor lives

I strongly believe that we can create a poverty-free world, if we want to.... In that kind of world, [the] only

place you can see poverty is in the museum. When school children will be on a tour of the poverty museum,

they will be horrified to see the misery and indignity of human beings. They will blame their forefathers for

tolerating this inhuman condition to continue in a massive way.... (Dr. Muhammad Yunus)

It is observe through field survey that people use money for their personal uses not for

business. They borrow the money from MFI‘s and pay their loans and other liabilities. When

people use this money for their personal substances, infect, they use MFI money in non-

productive means. The importance of productive loans can be show from the following point

of views;



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Living Standard

Life standard always play dynamic role to judge the productivity of microloan in any

community. Life standard has direct relationship with loan productivity. If standard of living is

showing positively impact its means that customer is utilizing his loan in productive way. On

the other hand, if living standard is not increasing its means utilization of loan is non-

productive.

Optimistic reputation

Optimistic reputation is the major cause of any person‘s respect in any society. If anybody is

utilizing the MFI‘s loan for his/her business expansion, repayment will be also timely and

result will be in the shape of good or respective reputation in community.

Development of Positive Credit History

If loan utilizing in productive manners, automatically repayment will be timely and credit

history of the client will be satisfactory. Satisfactory credit history shows positive impact for any

MFI.

Encouraging Awards by MFI

Most of MFI‘s arrange the rewards in the form of cash money, relaxation in the loan tenor,

relaxation in mark-up, certifications etc. if clients use their loans in productive purposes. MFI‘s

also offer big loans for their businesses if customer not utilizing loans in non-productive

purposes.

MFI can train for different MF product like saving etc.

For the clients who are using their loans in productive purposes, MFI‘s also arrange different

training workshops, seminars and get-togethers etc. for their basic educational needs and their

business related fields for their betterments.

MFI can give Interest Rebate

If loans showing optimistic impact for any client business, MFI‘s also offer interest rebates on

their loans.

Poverty Mitigation



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A productive loan shows very positive impact in the field of poverty mitigation. Due to

productive utilization, client income increase as well as his / her business also expands. When

any business move to expansion, people gets jobs and also production increase. When people

income increases, their purchasing power also increases, they purchase goods & services for

fulfillment their living needs and producers increase their production. Result of all these above

processes becomes in the form of poverty alleviation.

Accomplish the Non-Productive Needs

Clients can satisfy their non-productive needs if they use loan in productive field. The amount

that clients earns through investment in productive manners, can use for satisfaction of their

non-productive needs.

Safety from Local Moneylenders & Activist

Clients will be save himself and his / her families from local moneylenders and activists if

he/she will use the loans in productive or constrictive works. No one can exploit anybody

rights etc.

Educational and Health Improvements

Through productive loan, clients can take advantages and benefit in the shape of his/her kids

educational and health betterments and improvements.

d) Bad impacts of non-productive loans in MFI’s

Any MFI face the bad effects in case of any loan non-productivity. Not only client affected by

utilizing any loan in non-productive manners, MFI also get affected itself. The important bad

effects that can be faced in this regards are following;

Bad Reputation or Image of MFI

When any customer utilize the MFI‘s money which he/she borrow for his/her business

purposes in his/her life for meeting their individual requirements like loan of local

moneylender, home utility bills, children school/colleges fees, disease or medicines overheads

etc. client use that money in non-productive way. At the consequence, client becomes nonpayer

because he/she incapable to pay back. When debtor increase in any MFI, its reputation in

prospective market becomes bad.



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MFI Tolerate High Operational Cost

One more bad effect for any MFI of non-productive loan is that MFI tolerate the high level of

operational cost. MFI staff works for collection of bad debt not for new clients.

Opportunity Cost

When any loan becomes non-productive in any community. Due to this non-productive loan,

the targeted community is getting affected negatively and subsequent, MFI lose the opportunity

of new clients in that community. So, this bad effect also confronted by any MFI.

Other client also effected

When recovery officer of any MFI dialog with debtor for retrieval of loan amount, the people

of that area feel immoral due to officer‘s negative attitude. This practice of bad attitude put the

adverse impact on other clients of the MFI. Finally, due to non-productive of one loans cause

the negative impression for others clients.

MFI objectives not meet

Every MFI always declare their objectives of work. The core objective of any conventional MFI

is “to earn maximum profit” at any cost. In case of non-productive loan, MFI lose their

profit/interest and finally fail to meet their objective.

Delinquency rate increased

When MFI‘s increase their loan facilities to the people who never invest their loan money to

enhance their businesses and use it for their private purpose, ultimately get default the loan,

So, delinquency rate can also by non-productive loan.

Negative impression of MFI’s

Comprehensive sketch of any MFI always demonstrate negative impression when any loan

transfer to debtor list. Its shows that anxiety of MFI is just giving the loan but not with

productive intention.

People avoid taking facility from MFI

Deprived groups expect the self-honor from the MFI‘s and never try to become defaulter. They

borrow the money from local lenders some times for paying their installments even. When



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recovery teams push them for repayments, they fed-up from their side and next time avoids

taking loan from that MFI‘s.

e) Conventional MFI’s increase liabilities whereas Islamic MFI’s increase Assets

From the commencement of microfinance services in Pakistan, very well-known MFI‘s are

working in this field and providing the conventional microfinance financial services. The goal

of every MFI was to alleviate the poverty level, to empower women and the poor community.

But unfortunately, all conventional MFI‘s fail to attain these goals. It is now only in their files

or missions but not in the real fields. It‘s due to race among the MFI‘s for making the profit up

to extreme level. There is no doubt that these NGO‘s not having the object to earn the profit

but to alleviate the poverty and sustainability in deprived lives.

In conventional MFI sector, the intention is absolutely transformed and switched to making

interest. Every MFI is signing the number of staff members and assigning them enormous

monthly targets of loan disbursements. To achieve these massive targets, MFI loans officers are

just issuing the loans without checking the customer‘s reputation and his credit behaviors,

resulting of these actions shows that MFI‘s clients liabilities are increasing gradually and people

are facing the dilemmas concerning the payments and also their businesses and lives are

thrilling downhill. There are number of roots and key one is that the loan is offering in CASH

mode. Cash loan stimulate the clients to exploit the money in their private or non-productive

purposes.

On the other hand, an innovative revaluation in this arena of MF, introduced from earlier few

ages. It is the system which is under the law of Islamic Shariah. Before Islamic banking system

was introduced in commercial banking system that is working in Pakistan effectively. Islamic

Microfinance Institutions (IMFI‘s) are in tiny figures but they have started their operations in

microfinance sectors. Islamic MFI‘s having collection of products for deprived community in

which Qard-e-Hasna, Murabahah, Mudarabah, Ijarah, Salam, Istisna, Istijrar & Takaful are

included. Islamic MFI‘s have started initially Qard-e-Hasna (Interest Free Loan) & Murabahah

(Cost plus Pricing) products with Takaful (Interest Free Insurance) in targeted areas of MF. Islamic

MFI‘s are also contribution for extra facilities other than lending facilities in form of social

services in which basic free education, health care centers, business & environmental



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education, sewing schools, building mosque (masjids), markaz darul Quran (Quran

educational institute), water wells etc.

In interest free option (Islamic MFI‘s), cash amount is not disbursed. Only ASSEST based

lending is permitted. In Pakistan, currently Qarz-e-Hasna & Murabahah is offering in

Microfinance sector.

f) Horrible effects of non-productive loans in deprived people

Poverty is not created by poor people. It has been created and sustained by the economic and social system

that we have designed for ourselves; the institutions and concepts that make up that system; the policies

that we pursue. (The Nobel Foundation, 2006)

According to my views about above statement, there are many other reasons that are causes of

poverty. Poverty has different terrible effects in which I will discuss about the major and

important effect or harm that is utilization of finances in luxuries of life and other needless,

infertile and unproductive etiquette. It is truth that poor communities are getting the

microcredit facilities from different MFI‘s at same time and utilize this money in their house

building, for marriage of their beloved sons or daughters etc.

The bad effects that poor community faces after using the money in non-productive purposes

are following.

Poor people need to build up their assets, by using loans in nonproductive ways, they are

unable to increase or even sustain their assets.

Productive loans are playing vital role in any economy to increase their import, export and

employment level; if loans will be non-productive then all above these benefits cannot be

achieved.

By using the loans in non-productive manners, financial system can destroys.

Deprived community living standard can move down.

Real story of conventional microfinance borrower

Muhammad Akram was doing his powers looms business very well and upholds his family in

good style when he was not creditor of any MFI.

Before, he was businessman and doing well because that time he was the owner of his business

with 10 powers looms machines (as per his information cost of each one used machine is

Rs.60, 000 to Rs.70, 000 approximately). He employed 4 men including his son. He is also

expert in his business. Meanwhile, his bad luck period start when his one friend told him



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about the some MFI‘s, which were offering the loans

to the poor self-employees. He got some money from

different MFI‘s for expansion of his business and

used that money for their self needs (he admit that

loan officers told him that he can use this money

even for their home needs etc.). With the passage of

time, the huge interest of that MFI‘s increase

gradually and he feel that his business also going down due to some circumstances in his family

and business environment in the market. First he sold out his land of piece one third of its

original price because the recovery officers were sitting all the day at his home for installments

collection.

Story of non-productive loans not stopped here. After one and half month, again he faced big

trouble more than before for paying installments when he offer his 6 powers looms machines

for sale. Non-productivity still was playing the role to destroy his family life when again he was

unable to pay installments, then he decide to mortgage his remaining 4 machines to an

investor (who promised with him for paying his installment) and now is working on same place

as employee on daily wages. One more, he tried to pay the complete loan but never success to

achieve this target.

Conclusion of the Story

The MFI‘s which are given the loan without any purpose of business always creates burdens

and problems on the loanee. Poor people not too much educated about this system so most of

time they utilize loan amount in his personal needs. Resulting they do not invest the amount

for further business expansions and become debtor and fall in the depth of poverty badly.



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Are microfinance loans productive as per MDG’s in Pakistan?

To encounter the prime aim of MDG‘s (Poverty Eradication) by 2015, World summit evaluates

progress in 2005. This meeting held in New York, USA where head of 151 nations get together

under the ridge of United Nation General Assembly. Microfinance was top of the agenda in

this momentous summit. The importance of the microfinance shows very well as per outcome

statement of this world summit;

“We recognize the need for access to financial services, in particular for the poor, including through

microfinance and microcredit”.

These aims are applied by the internationally for reducing the poverty by 2015. These MDG‘s

address to;

Income poverty

Hunger

Disease

Lack of education

Infrastructure & shelter

Gender exclusion

Environmental degradation

With the access of capital, a good financial sector accomplishes the assets. But low income

people need access of financial assistance to manage their assets and economy. Microfinance

only deals in ‗micro‘ not in ‗macro‘. But the impact of ‗micro‘ can be ‗macro‘, if the utilizations

of these financial services in the appropriate business extension and evolution.

In this current world, no one can beat this poverty issue without aid of others. Now it‘s

compulsion of time to fight collectively against poverty not partially. The poor needs access of

financial for meeting their daily needs also. They need employment, schooling, health etc. most

of time they need instant money for their provisions of life. No doubt, these financial services



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help to reduce the poverty but the attractiveness of MFI‘s is to attain and sustain for poverty

alleviation.

If we investigate the MDG‘s with esteems of microfinance financial services contributing in

Pakistan particularly in conventional MFI‘s point of view, the outcomes that are originate by

me throughout the grass root survey in Kasur & Lahore zones, no MFI which are providing any

additional communal amenities like children basic education, health, poverty alleviation

activities etc. every MFI have their own missions, visions and objectives as MF principals but

they are not following these rules and the resulting figures showing the negative impact in the

potential markets of microfinance. MFI‘s are just doing business like commercial banks and

trying to hunt more clients at very high rate of interest while they knows very well that people

are not utilizing these facilities in productive purposes but their aim is only to show huge

figures of disbursed loan amount with high mark-up returns. These MFI‘s are not doing any

constructive job in the deprived societies other than earning high interests.

These MFI‘s Impact should be positive with constrictive aim in the right way as per MDG‘s to

empower the women and poor people to increase their business activities. During the survey I

have asked questions to the people, does microfinance improve their lives and business? Most

of them say NO. The reason behind of this ‗no‘ is that people are not using these loans for

making or earning money or sustainability for their families lives.

The main issue that makes the MFI‘s fails to accomplish the MDG‘s or microfinance aptitude

as per rule is only and only that the deprived people utilize their money in non-productive

commitments, not for productive behaviors.

The following are some key finding during the survey from the targeted area, which shows that

conventional MFI‘s loans are utilizing in non-productive purposes whereas, in Islamic MFI‘s

(which are just starting their operations in the potential market in Pakistan) are showing most

positive impact comparatively.

NOTE

Following graphs, in which GREEN presenting the conventional, BLUE represent the Non-Conventional

(Islamic) and DARK RED represent overall cumulative results in each discussions.



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(i) Staff behavior of MFI’s

Microfinance deals with deprived population and they need more care as compare to rich

population. The staff behaviour in conventional MFI‘s also not well as per needed in

microfinance sector. Most of people protest about immoral insolence of the staff members in

which few cleints tell that during the loan processing, staff behaviour was negitive and most of

them tell that recovery staff not behave like human.

For deprived people, who have already utilized their loan money in their individuals needs,

some times feel very trouble to pay their loan installments intime and recovery staff, even bank

management never give them any time release or relaxation for paying their insallments. The

above graph of conventional MFI‘s shows that 29% clinets compalin about bad behave, 51%

tell that behave of staff (branch & recovery) is satisfactory and only 20% clinets provide feed

back of good or very good staff behave.

In Islamic MFI‘s figure shows that only 9% staff attitude is bad, 40% satisfactory and remaining

51% showing the good/very good behaviours.

Here is also need to review and trained to conventional MFI‘s staff members in regards to

customer relationship especial for microfinance sectors.

One more side need to check and attempt to crack this issue. Durning the interveiw to cleints

of conventional MFI‘s, few customers also complian of field / sales staff that they demand the

money before disburcement of loan. This is heppening due to cash loan disburcement.

On the other hand, in Islamci MFI‘s, there is no way for the staff memebers to demand about

the money because Islamic MFI‘s not deals in cash matters then in assets. So, MFI‘s needs to

resolve this problem as per their policies.

9%

40%

51%

Non-Conventional Results-(B)

23%

47%

30%

Cummulative Results-(C)

29%

51%

20%

Conventional Results - (A)



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(ii) Offering any extra / additional facilities by MFI’s

It is very significant and essential to be evaluation by the conventional MFI‘s establishments or

upper level management that no one MFI is contributing any extra or additional facility for the

deprived people in the targeted community. Here, any extra or additional facility means

“Services that are providing by the MFI to their clients against very few cost or free of cost only for purpose

of encourgement, growth or development”.

Facilities may include free education, any medical facility, any welfare work, free business

consultancy, schools, sewing school or related work or job etc.

The above graph of conventional MFI‘s showing that 0% additional services are offering by

them. All conventional MFI‘s are challenging for their better services for growth and

development with slogon of poverty alleviation but, not a single conventional MFI is providing

any facility like that for the empowerment and poverty alleviation & development of targeted

people. Poverty can not alleviate by cash distribution among poor but enabling them earn from

their works or businesses for their families.

In non-conventioanl graph 32% clients are getting any type of additional facilites by the Islamic

MFI‘s. As I have discuss ealier, the non-conventional (Islamic) MFI‘s are on prime stage and if

they are providing these social services even 32% of their clients, it shows good impact for

future. According to MDG‘s, these facilities are also including in the targets of microcredit.

Yes No

32%

68%

Non-Conventional Results - (B)

Yes No

11%

89%


Yes No

0%

100%

Conventioanl Results - (A)



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(iii) Improvement in business after getting loans

The vital role of microfinancing in the MFI‘s sector is only to enhance or improvement in the

business of poor people and alleviate the poverty level through microcredit facilities and enable

them to eaarn the sufficent money for the development of their families. Deprived people get

loans with aptitude that they will use these loans for their business development and growth

only but, reality is entirely adverse.

Only 23% people‘s business improve after receiving the loan from diffeent conventional MFI‘s

while 19% people respond that their life and business not show any imrovement and remains

same, 58% response stright farward that their businesses not get improved after utilizing the

microloans. Overall analysis shows the negitive impact and unsustainablity after utilizing the

loan facility by the conventional MFI‘s clients. It also demonstrate that mainstream of the

clients respond the MFI‘s loans in negitive although 23% clients is positive.

The main reasons behind this serious issue is illitration or less-educated community, lack of

knowledge to utilization of MFI‘s facilities, not motivating for removing their poverty, negitive

intentions of loans, no check and balance from MFI‘s side, high rate of interest, MFI‘s

intentions for business only, lack of proper guidance etc.

This is danger alram for the conventional MFI‘s in the market. If people will remains utilize

their loans in non-productive purposes, altemately, conventional MFI‘s will fail to achived their

aims and fails to alleviate the poverty and economic growth in poor cumminities as per their

missions.

Yes No Same

79%

12% 9%

Non-Conventional Results-(B)

Yes No Same

41% 43%

16%

Commulative Results- (C)

Yes No Same

23%

58%

19%

Conventional Results-(A)



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(iv) Preference of loan type (Cash based loans or Asset based loans)

Preference of loan analysis for finding the cleints behaviour that they like to take cash based

loans or asset based loans are very necessary to findout the potentional market trends. People

who like to take cash loans as per conventional method are 34% and other segment which like

asset loans are 66% that shows very well movement of the clients towards islamic microfinance

organizations which offer asset based loans. Only 21% clients wants cash loans and remaining

shows satisfacion in non-conventional MFI‘s. it means, the over all big trend of cleints in

Pakistan microfinance sector are motivated to convert their facilities from conventional

microcredit to non-convetional microcredit (interest free).

There is always room in the potentional markets for expansion. In this affections, conventional

MFI‘s needs to revised and monitors the policy matters for the implementation as per market

trends. Most of existing clinets of MFI‘s are attracted in asset loans as compare to cash loan.

Cleints alo realized very well that they are utilizing these microloans for non-productive drives.

Mainstream of clinets don‘t want to do like this. So, their intentions are moving rapidly to

asset loans, which are offering by non-convetional MFI‘s (Islamic MFI‘s).

Cash Loan Asset Loan

21%

79%

Non-conventional Results-(B)

Cash Loan AssetLoan

30%

70%


Cash Loan Asset Loan

34%

66%

Conventional Results-(A)



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(v) Improvement in the lives of destitute after getting loans

The main intentions of microfinance is the improvement of deprived people but unfortunatily,

due to the aim less race and and intentions of earning high interest (which is not aim of

MFI‘s), generates too many hitches in this sector.

Loan productivity continuously shows positive impact and inclinations to moveing upward in

the poor people survives. But the above results showing that conventional MFI‘s not success to

improve their clients lives. Only 33% clients admit that their lives improve after loans getting,

while, 67% clients told that their live makes miserable after getting loans.

On the other side, when I asked same question to islamic MFI‘s clients, they pride feedback

that only 24% clients lives not get improved while, 76% clients lives improve after getting

loans. It is important to clear that this (24%) percentage is only due to the cash loan in Islamic

MFI‘s (Qarz-e-Hasna) because in Pakistan, poor people habitual to utilize the MFI‘s money for

their personal needs.

Again it shows that islamic MFI‘s are also performing well as compare to conventional MFI‘s to

improve the poor people lives.

Yes No

76%

24%

Non-Conventional Results - (B)

Yes No

47%

53%

Cumulative Results - (C)

Yes No

33%

67% Conventional Results - (A)



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(vi) Are microfinance loans utilizing in business or personal practices?

Are microfinance loans utilizing in business or personal practices? The reaction is categorically YES. It

is observed during the survey of sample clients, taken from all famous and well-known

conventional MFI‘s in the selected research study areas that people are taking loans from

multiple MFI‘s with any business or productive aims.

People are getting the loans (Cash Loans) from the different conventional MFI‘s for business

purposes, but they are utilizing these loans for their personal practices 81% and for business,

they are consuming only 19%. (See Green graph)

In Islamic MFI‘s, people can‘t get the cash loans. These MFI‘s offer only asset based loan

facility, in which client cannot get the hard cash but the MFI purchase the product/items

which client needs for expansion business. During the survey of Islamic MFI‘s, I have founded

that 11% people still utilizing the loans product in non-productive purposes. But remaining

89% clients are utilizing these facilities of credit in the productive purposes. (See Blue graph)

The enormous difference between conventional and non-conventional (Islamic or Interest Free

approach) showing by graphs that the cash loan facility is not favorable for the deprived clients

of MFI‘s. If any MFI offer them cash loan, they always utilize these amounts in their personal

needs but Islamic MFI‘s never offer cash loans. Due to this reason, they can‘t utilize those

goods for their personal needs but for their business purposes.

According to MDG‘s, the intention of microcredit loans should be to make sustainable the

targeted community in regards of their business and their personal lives. The above graph show

the opposite of this goal, which is due to high competition among the conventional MFI‘s in

the race of earning more and more high interests. It is natural dilemma that poor are most of

time uneducated in the sense of utilizing the money. They think that MFI‘s are giving these

Business Personal

19%

81%

Convetional Results - (A)

Business Personal

89%

11%

Business Personal

40% 60%

Cummulative Results - (C)



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loans for their personal needs fulfillments; it is the duty of loan officer or branch manager to

guide or educate them for utilizing these facilities for their business enlargement. During the

interviews of different MFI‘s loan officer / field officers, most of them, admitted that (with

promise that their name should be secrets) they knows very well, even management also know

about the loan utilization of the poor people. But they can‘t stop them because of client‘s

personal decisions. So, the aim or goal of the microcredit is fail here due to utilization in non-

productive or personal uses.



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Microfinance authority conducted many researches and intended many different lending

elements for accomplishing the mission of poverty alleviation and economic sustainability in

the poor lives. But, still no one MFI is in the situation for conquering this target. Infect, there

is prerequisite to understand the actual target of microfinance.

The main misperception in conventional MFI‘s is to recognize the philosophy and target

customers of microfinance. Many MFIs are doing business like commercial banks. Their

attitude of work does not indicate that they are involved in the business of poverty alleviation,

economic sustainability in the poor lives and their business growth. Even these MFI‘s behave

like other commercial banks in Pakistan. The reality is totally adverse in this regards, the object

of any MFI should be very clear as per microfinance ambiance. The aim should be only and

only that to help the poor, to boost up and empowerment of women, to protect health issues,

education and getting the self-respect in the society by earning with their efforts. Now it is

moral responsibility of concern departments to regulate the microfinance rules and regulation

as per state bank of Pakistan. Anton Simanowitz, Director Social Performance Network, once said

that:

“Microfinance practitioner must have a mind of banker and a heart of a social worker”.

The key of success in this field of work is to build up any MFI trust in the roots of poor

communities. This trust can build up only when these MFI‘s will behave courteously with the

clients, aim changed their systems. There should be strategy for the unbanked and deprived

person who really needs financial facilities or services for their businesses and surviving for

their families. These financial services should be offered as per preferences of low income

entrepreneurs.

Now, there is necessity of time to coordinate globally for economic and social development to

eradicate this problem. To exterminate this matter, MFI‘s needed to adopt positive boldness

and struggles mutually but not in small portions. It is truth; microfinance offers the solution of

these issues. Fatefully, the practices which are adopted by different conventional MFI‘s in this

esteems are not as per obligatory. The contest of earning the anomalous interest targets

detracted conventional MFI‘s from their motives of poverty alleviation and social welfare in



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Pakistan. Concerns can control if track of conventional MFI‘s change from making high

interest to poverty alleviation, education, medical amenities, public welfare and business

evolution in poor communities that are the real passion of microfinance philosophy. The

significant change will be exposed in large measure and productive for the worthy deprived

people. A good microfinance foundation should be the following characteristics;

The loan officer should have accurate idea of repayment capability of clients.

MFI‘s aim should be to grow of business not earning profit.

MFI‘s needs to create high level of transparency for checking loan productivity.

Aim of any MFI‘s should be to support the deprived people not just lending.

If any MFI‘s clients default, risk should be animated.

MFI‘s concerned with be only with poor people not for others.

According to the Human Development Index (HDI), 60.3% of Pakistan's population lives on

under $2 a day, some 22.6% live under $1 a day.

Now, it is realized by the great world powers that it is very essential to alleviate poverty for the

world amity. In the past time period, too many efforts made but not successes entirely. Dr.

Yunus introduce the microfinance and challenge that this is the powerful instrument to

alleviate the poverty. But unfortunately, the conventional microfinance also fails desperately to

attain this goal. It is truth that, there is always room for innovation to be introduced in any

surviving organization structure. It is very important regarding the conventional MF sector, the

most important thing in this regards is not simply extend the credit. It is more advisable to do

asset base lending along with provision of services that could lead to an economic activities at

an individual level as well as state level. The additional services like medical, education, insurance

and saving etc. should be the obligatory package with microloans. By implementing these

services in any MFI can become well organized business.

It is assumed that conventional MFI‘s are participating to empowerment the poor by granting

monetary or cash loans and sharing efforts to alleviate the poverty from the society. Remember,

it‘s only assumption, truth is something else. It is observed in grass root field survey that

deprived people lives are full with problems all the time. They always not need only hard cash

money or cash loan. Most of time they use the cash money (loans) in their individual needs in

which fee of their children, utility bills, health, paying loan of local money lenders, relatives



http://en.wikipedia.org/wiki/Human_Development_Index

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and friends. They also need some additional facilities from MFI‘s side in which health,

education, saving also should be necessary. The problem in the poor lives creates due to

utilization of resources in non-productive substances. People acquired money from the multiple

MFI‘s and use it for their personal needs. They never capitalize these loans in their business

growth or expansion and gradually, installments liability increases and poor‘s life become more

miserable. Result of these activities shows when MFI‘s demand their loan installments and

client always unable to pay them. So, there is need to educate the clients about the utilization

of microloans in productive means.

The microfinance expert introduced new approaches of lending in which the most admirable is

Islamic lending methodology. Islamic method of lending created on ASSETS base lending

except CASH base lending (Interest Free Loans). By adopting Islamic methodology in

microfinance sector, utilization of resources can be turn in productive ways. Asset based

lending increase the assets of the clients and help to become the reason of increase in income

and sustainability in the business activities and it is excellent technique to eliminate the poverty

element in the deprived communities.

Farz Foundation (First Islamic Microfinance Organization) is another effort to avoid certain

adverse outcomes of the unreliable ways of lending in Pakistan. This methodology is totally

based on Islamic Shariah (law) and providing credit services in good manners. This

methodology is an innovative economic mechanism ensures long-term profitability of

microfinance. The aim of ‗Farz‘ is not only to help the poor borrowers and make them

successful business individuals in the society furthermore ensure in the maximum possible

empowerment through education and health. As per Farz mission, ―A business cannot be

successful with bad health, illiteracy and skills‖. So, there is now more need for conventional

MFI‘s to proficient their staff as well as clients to get more productive. It is truth that no one

MFI can achieve the MDG‘s by individual efforts. So, there is need of time for all the

conventional MFI‘s to adopt innovative lending methodologies with aim of not earning profit

only, also facilitates to deprived people with health and education supplements. It is also

necessary for all Islamic MFI‘s in Pakistan to make sure the communication of their positive

experiment and also need of Pakistan Islamic microfinance network for the improvement of

Islamic microlending and development.



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It is already discussed that poverty is big challenge that the whole world is facing. Microcredit is

very powerful tool to eliminate it. The MFI‘s attitude should be to fulfill the goals according to

MDG‘s, not earning profit. It has been proved by the various data analysis (2.16) that the most

of conventional MFI‘s are not on the track to achieve these goals. These conventional MFI‘s

left their path of poor welfare and start work like commercial banks or institutions.

Innovation in the field of microfinance introduced by the Farz Foundation (First Islamic MFI)

in Pakistan that is according to Islamic Shariah. Islamic Microfinance also has a social

performance motivation. FARZ Foundation has a strong notion that the ultimate financial

sustainability cannot be availed without social sustainability. However, the dream of changing

the lives of poor cannot become a reality without fulfilling the aim of social performance. No

doubt, microfinance is a tool which can change not only the individual lives of the poor, but

also can bring a social revolution in poor countries towards greater productivity. Social

performance based microfinance is not a commercial based industry. It has a belief on socio

productive profitability, which occurs as a result of prominent social change at a larger scale.

In this perspective FARZ (duty) Foundation was established to accomplish the real goals and

objectives of the microfinance sector, which are currently neglected to an enormous extent. It is

a social performance based non-governmental organization with highly committed, self-

motivated, innovative and enthusiastic grassroots experts as its founding members. They are

also very experienced microfinance practitioners.

FARZ Foundation is registered under Societies Act 1860 by its legal status. FARZ Foundation

is an organization in Pakistan aiming towards achieving millennium development goals

(MDG‘s) with a holistic approach. It is simultaneously addressing health, education, and the

financial vulnerability of poor populations to ease their burdens while systemically alleviating

poverty.

There is need to implement Farz methodology for poverty reduction and attaining the goal of human

prosperity with the additional benefits of health, education and environment betterment.

Farz Foundation is a social performance based poverty alleviation organization with a unique

and innovative Islamic microfinance model and business design. It has "Partnership with the poor

and, profit and loss sharing" as its prior investment methodology. As far as demoted poor and

deprived are concerned, Farz Foundation provides them "Productive Zakah (donations)" and



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"Qarz-e-Hasna (interest free loan)" to start their business after giving them the basic business

training.

It has the strong belief that the sustainability of client is the sustainability of the organization. It

makes them able to Zakah payer but not the Zakah receiver. It serves its clients with asset based

products instead of giving cash directly to them.

Farz Foundation brought innovation in microfinance industry by introducing asset based

products including "Murabahah" and "Ijarah" instead of providing cash to clients. So it is

following the Farz methodology instead of Grameen methodology. Apart from providing

financial services, it also serves its clients with educational and health facilities. It also has a very

convenient cluster formation process which has seven steps including mobilization, community

meeting, home screening, business screening, final formation meeting, asset purchasing, sale

agreement and disbursement.

Target Market

Goal of ―Farz Foundation‖ is a peaceful social and economic

revolution to generate the opportunities of business partnership

among poor and microfinance facilitators through the four

components of micro-productivity, social performance, integration

and social change. Its target markets are Home Based Workers,

particularly women that are low income entrepreneurs, People living with HIV, Sex workers,

Transgender Persons, Destitute and handicap Beggars.

―FARZ Foundation‖ has a faith that without empowering these population groups, the

microfinance industry cannot achieve its long terms goals. ―FARZ Foundation‖ has determined

the huge untapped market of home based low income workers to be a very fertile client base

for microfinance in Pakistan, which could also benefit from enhanced productivity through the

power of microfinance focused on social performance.

Objectives of FARZ

To become a model organization in social performance focused microfinance.

To enhance the productivity of home based entrepreneurs‘ disabled persons, HIV people,

sex workers and transgender persons.



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Provide grants and interest free loans to the poorest while building their capacity for

sustainable livelihoods. We will prepare them for a business loan product within one year

of program entry.

To graduate the home based entrepreneurs into micro-enterprise cooperatives.

To provide basic education, particularly business education to the poor.

To provide basic preventative health education and first aid facilities to the poor.

To offer environment awareness and education at grassroots level and motivate

environmental clean-up and conservation efforts.

To provide a stimulating and professional work environment to the staff and build their

capacity on continuous basis.

To support the entrepreneurial modernization and technology development of Pakistan.

Dynamics of Farz

“FARZ Foundation” supports a social performance movement

for socioeconomic prosperity and building a new sphere of

integration. From inception, it has focused on translating the

social mission of microfinance into practice.

Vision

"To bring the social change through poverty alleviation by

improving productivity and capacity of clients and staff"

Mission

"Empowering the poor through innovation and diverse business opportunities, by integrating

social performance focused microfinance with collaborative community health and educational

partnership"

SWOT Analysis of Farz Foundation:

Strengths:

First MFI organization which offers asset based products to its clients instead of giving cash.

It brought innovation in MFI industry by introducing asset based products including

Murabahah and Ijarah.

It has cooperative and friendly staff towards clients.

It offers educational and health facilities even to non-clients.



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It has a very convenient and fast cluster formation process.

It has less risk as compared to other MFI companies because it deals in assets, not cash.

Weaknesses:

Lack of funds availability is its major weakness.

It has fewer clients as compared to other MFI companies which directly provide cash to

their clients.

Communication gap is also its main weakness because they are lacking in making the

people aware about camp, scheduled to provide health facilities in the community.

Opportunities:

It has niche target market which is not served by any other competitor.

It has the potential of growth because its clients are informing their neubours and relatives

about Farz Foundation, in a very positive manner.

Its clients are willing to take finance in future also.

It has a very positive image in its target market.

Threats:

Threat of new competitors.

Risk associated with its doubtful customers.



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1. Grameen Bank Bangladesh

2. Asian development bank

3. UNO

4. Pakistan Microfinance Network (PMN)

5. Consultative Group to Assist the Poor (CGAP)

6. (Opportunity International)

7. State Bank of Pakistan (SBP)

8. Farhat Abbas Shah (Farz Foundation)

9. (Micro-Lending by Prof. Dr. Udo Reifner)

10. James D. Wolfensohn, President of World Bank (1996)

11. (“Micro-Credit Financing and Poverty Alleviation in OIC Member States” 9-11 June 2007, Istanbul,

Turkey)

12. UN Millennium Project

13. {The Microfinance Revolution: An Overview Rajdeep Sengupta and Craig P. Aubuchon}

14. (Chaddus Bruce 05.09.07)

15. AMIR Programme - Sustainable Microfinance Initiative}

16. Adam Smith – Founder of Economics

17. (Islamic Microfinance theory, policy and practice – Ajaz Ahmed Khan)

18. (Islamic MF Development – IDB, S.A)

19. Dr. Muhammad Yunus

20. World bank

21. (Financial Dictionary)

22. (www.answers.com)

23. (Islamic MF Development – IDB, S.A)

24. World Development Indicators database

25. The Nobel Foundation

26. Kashf Foundation & Kashf Microfinance Bank

27. Tameer Microfinance bank

28. Community Support Concern (CSC)

29. Asasah



http://www.cgap.org/p/site/c/template.rc/1.26.1302

http://www.cgap.org/p/site/c/template.rc/1.26.1302

http://www.answers.com/

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30. Khushhali Bank

31. Akhuwat (Pakistan)

32. Farz Foundation

33. First Microfinance bank

34. NYMT Islamic Microfinance

35. www.google.com

36. www.ezineArticles.com

37. Microfinance focus

http://www.google.com/

http://www.ezinearticles.com/

researcher muhammad ahmed mazher supervisor & examiner · researcher muhammad ahmed mazher...

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