By Elizabeth Kamuu
The origins of microfinance in Kenya dates back to the 1960s when microfinancing was a pilot initiative for non-governmental organizations (NGOs) operating in Kenya. These organizations through donor funding, offered credit services to local communities in order to support businesses and improve the overall economic and social wellbeing of beneficiaries. Overtime the concept of microfinance spread and grew in most parts of the country leading to the establishment of formal and informal microfinance institutions (MFIs) that offered a wide range of services such as deposit-taking, microinsurance and money transfer services. Interestingly, as the concept bulged from its humble beginnings, its purpose to support small-scale entrepreneurs and those unable to access affordable financial services became dominant.
As Kenya moved from a British protectorate to an independent state, it was certain that the establishment of financial institutions would play a key role in driving growth and prosperity for the country. The agricultural sector was pegged as the backbone of the Kenyan economy. It created jobs, provided food and was the country’s major foreign exchange earner hence; most financial institutions skewed their lending towards this sector. Overtime, as the Kenya economy diversified and created formal jobs, financial institutions lending preferences changed as the sector adopted a credit risk-based model. This approach meant that borrowers would be classified based on their ability to repay loans and the growth prospect of their respective industry. The categorization of employment as formal and informal had greatly affected credit accessibility more so to those considered to be in informal employment. This scenario proved to be the catalyst that promoted the rise of microfinance institutions in Kenya.
The number of those in informal employment outpaced those in formal employment and the Kenyan economy was considered to be driven by the informal sector. With this in mind, those in informal sector financed their operations by mostly borrowing from microfinance institutions thereby triggering the Government to set up a regulatory framework for microfinance institutions in Kenya. The Microfinance and Finance Act of December 2006 was published in the Kenya Gazette to establish appropriate rules of engagement in the microfinance sector. This was meant to allow oversight and protect consumers from unscrupulous service providers.
In 2008, nine applications were received for registration of microfinance institutions with Faulu Kenya Microfinance being the first to be registered. Currently there are 15 microfinance institutions in Kenya. They include: Faulu Microfinance, Kenya Women Microfinance Bank, Uwezo, SMEP, Rafiki Microfinance, Daraja Microfinance, Century Microfinance, REMU, Sumac Limited, Choice Microfinance, U & I Microfinance, Maisha Microfinance, Muungano Microfinance, Caritas Microfinance and Musoni Microfinance.
Microfinance institutions are categorized into three groups based on market share analysis according to the Central Bank of Kenya. These categories include: large, medium and small. Large microfinance institutions have a market share of 5% and above, medium microfinance institutions have a market share of between 1% and 5% and small microfinance institutions have a market share of less than one percent. According to the Central Bank of Kenya(CBK) Bank Supervision Annual Report of 2018, as at December 31st 2018, there were 3 large microfinance banks with an aggregate market share of 87.6%, 4 medium microfinance banks with an aggregate market share of 9.8% and 6 small microfinance banks with an aggregate market share of 2.5%. The report highlights that large and small microfinance banks registered a 2.1% and 0.8% decline in market share respectively while medium peer groups registered a 2.7% growth in the same period.
Analysis of MFIs aggregate balance sheet(Table 1), signals stability and room for growth and diversity. Total net asset grew by 4.67% between 2017 and 2018 while total liabilities increased by 33.71% in the same period. Interestingly, the industry’s investment in government securities declined by 24.56% between 2017 and 2018. This could be attributed to the industry’s change in investment strategy from fixed income instruments to equities or real estate. Increase in customer deposits by 5.25% in the same period, could be attributed to the adoption of new customer attraction tools such as agency and mobile banking although net advances increased marginally by 3.11% illustrating a restrictive approach to lending.
Table 1: Microfinance Institutions Balance Sheet Analysis (Ksh. M)
Despite the marginal growth trend observed, there are challenges that these institutions have or are facing to date. Deriving reference from Financial Access Survey analysis of 2010, the industry has not been developing with the same enthusiasm and intensity as evident in many developing countries. Some of the challenges can be attributed to:
- Ignorance of non-financial aspects
Microfinance institutions role should not be limited to deposit taking and lending. They ought to branch out to other areas such as entrepreneurship training and hosting events that touch on innovation and technology.
2. Drift of MFI objectives
Microfinance institutions were incorporated with the initial objective of eradicating poverty and uplifting societies. However, there has been a vivid transformation in those objectives. MFIs now generally target profitable ventures, arguably because of change in its shareholding structure and the adoption of risk-based lending models, for them to develop self-sufficiency first in order to offer credit facilities to the public.
3. High interest rates
MFI’s transaction and interest costs prove to be economically strenuous, compared to interest rates from top tier banks whose rates could even go lower, because of the latter’s balance sheet strength and large deposit pool. Also, with the upcoming digital lending platforms such as M-Shwari and Tala which pose a significant threat in terms of competition, clients are finding it much easier to go for those alternative options, due to their visibility and ease of accessibility.
4. Concentration of institutions in the urban areas
Most of these institutions have operations based in the urban cities, with very few reaching deep into rural communities. According to CBK’s – Directory of Microfinance Banks, only 2 microfinance institutions have a substantial branch network covering multiple counties while 6 institutions have only one branch.
Over time, the functionality of MFIs has been questioned; is the industry stagnant or progressive? It is paramount for the industry observe and cultivate diversified strategies, developed from the analysis of its SWOT (Strength, Weakness, Opportunity, Threats) environment, to maximize on its potential. In addition, the industry could potentially benefit from mergers thereby capitalizing on the economies of scale and riding on a strong visibility in the market.
Overtime, it is clear that microfinance institutions in Kenya have lost perspective of the financial value chain. By strictly focusing on deposit taking and lending, these institutions fail to understand their role in promoting financial literacy to their customers. Financial literacy training could indirectly improve these institutions chances of lending to appropriate borrowers and limit their exposure to bad debt. In addition, such initiatives play a crucial role in establishing long-term customer relationships and enriching corporate social responsibility.
In addition, MFIs should take up the challenge of developing more innovative products for its customers. With the country trying to adjust to the unprecedented effects of COVID-19, microfinance institutions should come in and promote products that mitigate the risks that customers are likely to face during this period. With the rapid increase of self-employment and enterprise creation from formal job losses, MFIs could promote different types of financial products in their portfolio, to suit people with various needs. With the foreseen uncertainty during the financial period, MFIs could come up with insurance products, to help in with the management of plausible risks. With the hopefulness of better economic performance in the short to medium term, MFIs could develop investment strategies that would limit the negative effect and support financial and operational performance. Opportunities in foreign exchange and asset management remain untapped. This will not necessarily be a mission drift, but a gradual and progressive advancement in the potential and capacity of microfinance institutions to serve.
The world is currently faced with unprecedented risks emerging from climate change. Most organizations are adopting a climate-friendly operational model and establishing partnerships with other organizations that promote the green economy. Microfinance institutions have a role to play as well in promoting climate change. This provides an opportunity for the sector to target clients who are promoting climate sustainability, through projects such as solar energy and food production, and forge collaborations with other actors such as NGOs in order to promote climate-friendly economic growth. The green-climate fund is an avenue that the sector could use to reinforce its commitment to climate change.
Another valid recommendation is the review of licensing standards. There is a need for the Central Bank of Kenya to go back on its drawing board and examine its requirements, particularly concerning the liquidity amount that the institutions have to maintain at a constant point in time. Given that the country is currently trying to make good of its resources, now more than ever, to recover from the effects of the coronavirus, the Central bank of Kenya (CBK) should at least try to tweak its CAMEL (Capital, Asset quality, Management, Earnings and Liquidity) requirements and minimize barriers. Especially for institutions trying to enter the market. The future of the industry relies heavily on the ability of investors and ultimately the regulator, to provide a favorable regulatory environment, to support financial inclusivity.
Microfinance institutions have the opportunity to offer bespoke products and services thereby fulfilling societies needs and demands. Although new non-traditional lending platforms have emerged in the last decade, this presents an opportunity for the industry to form long term relationships with these external players thereby leveraging on the synergy and creativity of both parties to promote industry transformation and growth.