Good Money’ Chasing ‘Bad Money’: Implications for MFIs Management and Governance in Ghana – Results

Good Money’ Chasing ‘Bad Money’: Implications for MFIs Management and Governance in Ghana - ResultsOn the average, it costs an MFI GHS 3,863.3 (equivalent of US $2476.47) to process court actions against defaulters. The average loan portfolio aged more than one year is estimated at 104,409.78 (equivalent of US$ 66,929.35) meaning MFIs in Ghana have high nonperforming loans (NPLs) on their balance sheet. It is also interesting to note that on the average 52 clients were sent to court between 20062010. These were clients whose loans were influenced in one way or the other by a board member, CEO or a key staff of the organization. Another cost to the MFIs is the unpaid amount (principal plus accrued interest) that remains with the clients. Even though defaulters may be ordered by the courts to pay, the court cannot guarantee the full payment of all outstanding loans. It has been observed from the study that clients only pay less than 50% of the bad loans after which they relocate or cannot be located at all. Thus the second part (relocation) of the cost to the bank is even greater than the cost of court actions. The third aspect of cost to MFIs is the time spent in chasing clients for court actions. It takes on the average 30 days for the court to give hearing to a client. Even though this cannot be quantified in monetary terms, the opportunity cost is high. A member of staff who follows the court actions could have worked at the office instead of chasing bad money and attending to court to represent the bank since most MFIs do not have lawyers. Even when there are lawyers, a staff still has to represent the MFI as the secondary prosecutor to provide evidence that the clients owe the institution. Going by the Basel Accord (Basel Committee, 2003) therefore means that irrespective of the nature and size of the organization, full provision should be made for all doubtful debts.
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Good Money’ Chasing ‘Bad Money’: Implications for MFIs Management and Governance in Ghana – Study Methods

Data for the study comprises both secondary and primary data. The secondary data comprises financial reports of the selected MFIs. In addition structured questionnaires were used to collect information from selected MFIs in Ghana including Credit Unions (CUs), Rural and Community Banks (RCBs) and Savings and Loans Companies (S&Ls). In all 4 credit unions, 4 rural banks and 2 savings and loans companies were interviewed for the study. The institutions were selected from Central, Ashanti and Western Regions of Ghana. Selection of these institutions was done randomly and according to institutions that were prepared to give out the information for the study. The questionnaires captured information on outstanding loan balances, reasons for default among clients, management opinions on credit approval, board involvement or otherwise in loan approval. An examination of loan books was done to confirm information provided by the interviewees. A descriptive approach was used to analyze the data. For the sake of anonymity, the respondent institutions are to be held anonymous as the Ghanaian data protection law requires. In this paper therefore the names of the institutions are withheld for the sake of anonymity.
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Good Money’ Chasing ‘Bad Money’: Implications for MFIs Management and Governance in Ghana – Literature Review

Good Money’ Chasing ‘Bad Money’: Implications for MFIs Management and Governance in Ghana - Literature ReviewPart of the problem is attributed to management and governance of MFIs. Good management practices and governance are therefore critical to MFIs operations. Using panel data from RCBs in Ghana, Kyereboah-Coleman and Osei shows that governance plays a critical role in the performance of MFIs and that the independence of the board and a clear separation of the positions of a CEO and board chairpersons have a positive correlation with performance measures. This in part emanated from high recovery rates since the board and management were both independent and credit officers have the power to decide who qualify for loans and how much by critically appraising the loan applications. When this is absent, it means management and board are contributing to the default among clients thus causing corporate governance problems. Chaffai, Dietsch and Godlewsky used a database of around 2154 banks located in 29 emerging countries in Eastern Europe, Asia and Latin-America for the period 1996-2000. They found that corporate governance problems occur whenever the bank’s owners or the regulators lose control of the decisions of banks managers, so that the latter can adopt too risky lending policies.

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Good Money’ Chasing ‘Bad Money’: Implications for MFIs Management and Governance in Ghana – Literature Review

Moral hazard can also arise when lenders are unable to discern borrowers’ actions that would affect the distribution of returns from an investment. This means that after a lender has extended finance to a client they are exposed to moral hazard, the risk that the client will not perform in a manner sufficient to meet the contract in order to repay the loan in future. For example, once a loan has been secured, a borrower could use the proceeds of the loan for a higher risk purpose or a non-income generating activity, necessitating costly ex-post monitoring of the financial contract which may also lead to default. In ex-ante, moral hazard refers relates to the idea that unobservable actions or efforts are taken by borrowers after the loan has been disbursed but before project returns are realized. These actions affect the probability of a good realization of returns. Expost moral hazards refers to the difficulties that emerge after the loan is made and the borrower has invested the funds. Armendariz and Morduch argue that even if those steps proceed well, the borrower may decide to take the money and run away once project returns are realized. These problems indicate that it is not only high interest rates that may cause borrowers to default.

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Good Money’ Chasing ‘Bad Money’: Implications for MFIs Management and Governance in Ghana – Microfinance in Africa

Good Money’ Chasing ‘Bad Money’: Implications for MFIs Management and Governance in Ghana - Microfinance in AfricaThe mix market (MIX) collects and validates financial, operational, product, client, and social performance data from MFIs in all regions of the developing world, standardizing the data for comparability. The information is made available    on MIX Market, a global, web-based, microfinance information platform, which features financial and social performance information for more than 1,900 MFIs as well as information about funders, networks, and service providers. Table 1 shows the performance of selected African MFIs that report on the MIX.
Across Africa, Ghana has the largest number (54 institutions) of MFIs that report on to the MIX market as of 2010. One interesting thing about the Ghanaian microfinance sector is that despite its highest number of institutions, total loans and deposits are far less than Kenya which has halve of the number of institutions in Ghana. The country with the least number of MFIs is Liberia. With the exception of Kenya, all MFIs have higher average loan sizes per borrower than average deposit per borrower. The implication is that default among clients could cause serious problems for MFIs because deposits cannot cover loans in times of default. Again, it is even not proper to use deposits to defray default loans.
The theoretical framework upon which this study is based is the agency theory. The theory posits that in the presence of information asymmetry, the agent (managers and board members) is likely to pursue interests that may hurt the principal (in this case the depositors whose monies are being used for on-lending and investors).

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Good Money’ Chasing ‘Bad Money’: Implications for MFIs Management and Governance in Ghana – Money Lenders

Are these by-laws adhered to strictly? The answer may be NO. This is because some clients are given the loans before they even apply. Again, a scan through the books of selected credit unions showed that there some loan aged more than two years going contrary to the bye-laws. In another development, some clients take individual loan that is more than even 25% of the institution’s total assets. All these undermine the essence of good governance thus generating bad loans hence bad money. In recent times, in Ghana, anonymous bank managers have had themselves to blame, sacked, imprisoned and sanctioned for condoning and conniving with clients to take loans that should have been approved through the entire board. In some instances too some employees of banks in Ghana have been blacklisted just because they involved themselves in one way or the other in granting loans. read more
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Good Money’ Chasing ‘Bad Money’: Implications for MFIs Management and Governance in Ghana – Ghana’s perspective

Good Money’ Chasing ‘Bad Money’: Implications for MFIs Management and Governance in Ghana - Ghana’s perspectiveRural and Community Banks (RCBs) are managed by Chief Executive Officers (CEOs) and governed by Board of Directors (BoD). The board as usual is elected by shareholders during Annual General Meetings (AGM). The management committee is headed by the CEO who is appointed by the board. In Ghana RCBs are community based and the rule is that the CEO and the board members must come from the community. Since the CEO and the board members are from the community, they are not likely to be independent in dealing with clients from the community. The Apex bank regulations, L.I 1825 section 35 stipulates the role of the board of directors of RCBs in Ghana as follows:
1.    The board shall ensure that any application for financial accommodation is dealt with and considered strictly on financial and economic merit to ensure that the bank: (a) performs its functions and conducts its affairs in accordance with sound business, financial and administrative standards and practices, and (b) takes measures that are necessary to ensure that any financial assistance rendered by the bank is utilized for the intended purpose.
2.    The board shall formulate borrowing and lending policies for the bank;
3.    The board may propose to any RCB or the Bank of Ghana, measures for efficient and profitable management or operation of a rural bank and the proposals may include mergers, acquisitions, amalgamations and reconstruction.
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Good Money’ Chasing ‘Bad Money’: Implications for MFIs Management and Governance in Ghana – Financial Services

Anecdotal evidence indicates that the latter functional role of the government has contributed to distortions in the microfinance market as a result of the wide differential interest rate charges created by its engagement in retail financing. In addition to Ghana Government’s functional role of retail financing distorting the microfinance market, sustaining this responsibility is currently grappling with operational hurdles such as monitoring and loan recovery. In another instance, while the mandate of the Bank of Ghana transcends any other body in terms of prudential regulations, the social mission of microfinance and MFIs dominance in the informal sector has sparked capacity related challenges for the Bank of Ghana (BoG). Thus for the government to successfully regulate MFIs it should incorporate social monitoring indicators into the periodic reports submitted for assessment. This by no means is daunting and an initial national level benchmarking of social indicators and extra capacity (financial and human) is imperative. Among the attempts to combat this challenge is the institutionalization of mini-central banks (Apex bodies) and reliance on networks (Ghana Microfinance Institutions Network (GHAMFIN)) and or associations (Association of Financial Non-governmental Organization (ASSFIN)). While this initiative is commendable, clear exclusivity of responsibilities of each of the institutions and hierarchical definition of functional roles in the event of overlaps between financial and non-financial issues is lacking in Ghana. Among the obvious reasons for initiating the GHAMP was to deal with the issue of conflicting responsibilities and mandates. However, for reasons including the above mentioned issues and bureaucracies, launching of the GHAMP since 2006 is still expected. read more
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Good Money’ Chasing ‘Bad Money’: Implications for MFIs Management and Governance in Ghana – Overview

Good Money’ Chasing ‘Bad Money’: Implications for MFIs Management and Governance in Ghana - OverviewThe issue of governance (internal and external) and management relationship with regards to loan application and disbursement has not been given much attention in the literature of microfinance in Ghana. The board has the responsibility to approve certain threshold of loan amount at board meetings. Unfortunately, the situation where a board member may solely influence or ‘fast track’ a client’s loan application is common in Ghana. In the same way a situation where management personnel may also influence the credit to recommend a client’s loan for approval is also not uncommon. Any of these two situations can generate bad loans at the cost of the institution. This is what the paper attempts to explore and proposes measures of dealing with them. In this regard, the main question that the paper addresses is that in the face of increasing default among MFI clients and using good money to chase bad money, what are the implications for managers and those who govern (the board) MFIs in Ghana? Is it worthwhile to use ‘ good money’ to chase ‘ bad money’? The rest of the paper is organized as follows: the next section takes a look at the management and governance issues in the Ghanaian microfinance sub-sector. Section three reviews some literature related to the current study; section four discusses the study methodology and data; section five presents results of the study and section six concludes.
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Good Money’ Chasing ‘Bad Money’: Implications for MFIs Management and Governance in Ghana – Systemic Risks

Another side of the coin is that the influence of management and board of directors may generate bad loans because loan officers are sometimes not given the opportunity to appraise loan applications well before approval. Management and the board have the responsibility for ensuring that the goals of the MFIs are achieved and also depositors’ interest is protected. The fundamental goal is to contribute to institutional sustainability and one way of ensuring this is to ensure that there is high repayment rate. This involves reaching out to more clients and economically active population strata, the so-called main outreach ‘frontier’ of microfinance (Helms, 2006; Johnson et al., 2006). Secondly, there is the need to achieve financial sustainability, preferably independence from donors. While Rhyne considers these two main goal areas to be a ‘win-win’ situation, claiming that those MFIs that follow the principles of good banking will also be those that alleviate the most poverty. Reading here
Woller et al. and Morduch believe that the proposition is far more complicated. This is because in most cases management and the board influence the loan application processes thus creating more outstanding loans which directly affect the achievement of MFIs objectives. It is important however to recognize that the theory of corporate governance is based on the assumption that the objective of firm is to maximize the market value of the company’s wealth translated into shareholders’ wealth maximization. In this regard the onus is on board to discharge good internal governance strategies to achieve this.
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