99061 MARCH 2015 ABOUT THE AUTHOR VLADIMIR HRKAC is an Investment Officer in IFC’s The Need for Speed: Financial Institutions Group (FIG) based in Washington DC. He has Helping the Microfinance Industry worked in private and financial sector development for ten years. Stay Afloat in Times of Crises APPROVING MANAGER Microfinance has been a lifeline for many low-income people at the base of Martin Holtmann, Chief Microfinance Specialist. the pyramid, helping them break the cycle of poverty and improve their lives. Yet the rapid growth of the microfinance industry, combined with limited fi- nancial literacy among its customers, made it particularly vulnerable during the 2008–2009 global financial crisis. To expand short-term financing solutions to the microfinance industry following the crisis, to keep credit flowing dur- ing a period of unprecedented financial strife, IFC launched the Microfinance Enhancement Facility, one element of its comprehensive Counter-Cyclical crisis- response package. A timely response was critical, and implementation risks were high. This SmartLesson shows how strong cooperation with partners and the decision to develop an outsourced model contributed to the success and reliability of this crisis-response initiative. Background Consequently, the financial crisis had an adverse impact on microfinance institutions Prior to the crisis in 2008–2009, the by reducing their ability to tap commercial microfinance industry had experienced (local or international) funds for growth nearly 15 years of successful growth through loans, securitizations, or deposit and had been recognized as a valuable mobilization. Resources for refinancing financial-service tool for the poor, with quickly dried up in many markets, and strong growth potential at the base in some cases deposits began to erode. of the pyramid. While microfinance Therefore, leading microfinance investors institutions had faced various local or and partners agreed that the foregoing regional crises such as political threats, developments required an immediate inflation, recessions, and financial and coordinated response. As one of the meltdowns, these prior threats were industry’s main players, IFC, together quite different from those prevailing at with its partner KfW Development Bank, the time of the global financial crisis. recognized the need to instill continued The greater integration of microfinance confidence in the microfinance industry, into the financial sector and further catalyze uninterrupted access to funding, commercialization of the industry were safeguard deposits, and counterbalance necessary to foster the growth and the potential reduction of access to broad outreach of the industry. At the financial services to underserved lower- same time, these factors had drastically income segments of the population. changed the beneficial circumstances and exposed the industry to new threats, In February 2009, IFC and KfW, along with putting its past achievements at risk. other partners (EIB, FMO, OeEB, OFID, SMARTLESSONS — MARCH 2015 1 BMZ, and SIDA),1 launched the $500 million global Microfinance Enhancement Facility (MEF), designed to Box 1: The ACBA Story provide short-term and medium-term financing to sound microfinance institutions that were facing funding The Agricultural Cooperative Bank of Armenia (ACBA) was established in Armenia in 1995, initially to finance small and shortfalls during times of unprecedented financial medium agricultural enterprises and individuals. In 2006, stress. MEF’s objective was to serve as a defensive facility Credit Agricole S.A. of France made an equity investment in to support strong institutions around the world that ACBA, and the bank was reorganized and renamed ACBA required liquidity so they could conduct regular lending Credit Agricole Bank CJSC. The largest shareholder is Credit activities and keep serving their core clients with fresh Agricole, with 28 percent. The other main shareholders are 10 credit. (For an example, see Box 1.) agricultural cooperative regional unions. The impact of the global financial crisis on Armenia was MEF, established as a special-purpose vehicle in severe because of significant decreases in 1) trade with Russia Luxembourg with three classes of shares, is executed and other major trading partners, 2) foreign investment, and through the industry’s largest and most experienced 3) remittances (accounting for 20 percent of GDP) from the fund managers (Blue Orchard Finance, Cyrano Fund Armenians in Russia, the United States, and Europe. As a result, GDP decreased by 14.4 percent in 2009, and the Armenian Management, and ResponsAbility Social Investments dram was devalued by over 20 percent on March 3, 2009. AG) to provide a rapid and flexible response to market needs, achieve maximum possible outreach, and ensure In keeping with its track record of conservative financial policies efficiency. MEF also hired a general secretary responsible and a strong management team, ACBA had implemented a for coordinating activities and communication among variety of preventive measures both before and during the the investors, investment managers, custodian bank, crisis. As a result of these proactive measures, the impact on the bank was minimal despite the economic turmoil that and hedging manager. (See Figure 1 for the detailed gripped the country. As of the end of 2009, the portfolio at organizational structure of MEF.) risk greater than thirty days (PAR>30) was only 1.3 percent, and this was well provisioned. By December 2010, PAR>30 Overall, MEF succeeded in providing the important had decreased to under 1.0 percent. ACBA maintained strong signaling effect required during the worst of the crisis profitability during the crisis, along with low leverage and and has contributed to the stabilization of the sector. high levels of liquidity. MEF’s investment pace picked up considerably during As a sign of its confidence in the bank, MEF extended a 2011–2013, with a growing pipeline and disbursements $15 million loan to ACBA in October 2009. During the first to a wider range of microfinance institutions that now nine months of 2009, in U.S. dollar terms, senior debt had cover all of the world’s regions. The graphs in Figure decreased by over 10 percent, but it increased by nearly 11 2 provide details of MEF’s regional distribution and percent in the six months following MEF’s loan. While not the only factor, we believe that MEF’s loan had an important country distribution. signaling effect on the market. As of December 2013, the outstanding microfinance institution investment portfolio was $441 million in by the crisis situations in Bosnia and Herzegovina, 150 loans to 86 institutions across 33 countries. Since Nicaragua, India, and most recently in Cambodia, the its launch, MEF has cumulative disbursements of $651 crises in microfinance are ongoing. Such crises will likely million in 214 loans to 99 institutions. MEF has also continue to occur in the microfinance industry (with the responded to the market demand for local-currency current eurozone crisis as a salient example), and MEF loans and has significantly increased its local-currency will serve as a flexible vehicle that can respond quickly lending to microfinance institutions, amounting to 20 and decisively to provide stability. percent of its portfolio as of December 2013. The whole local-currency portfolio of MEF is fully hedged to the U.S. Lessons Learned dollar through five different counterparts, including IFC. Portfolio quality has consistently remained strong, with Lesson 1: Strong cooperation with key partners is a impairments below 1 percent of the total portfolio, and critical element behind quick launch and successful the financial performance of MEF has exceeded targeted mobilization efforts. returns since 2011. While IFC played a leading role in the structuring of MEF has continued to evolve over the years, expanding MEF through the combination of its sectoral expertise, into new regions, providing new products, and knowledge of operational best practice, and expansive responding to unexpected local crises. As demonstrated network, the partnership with KfW was critical in creating a sustainable and efficient liquidity facility with sufficient firepower to adequately support the 1 EIB = European Investment Bank; FMO = The Netherlands Development microfinance industry and quickly react to market Finance Company; OeEB = Oesterreichische Entwicklungsbank AG (Development Bank of Austria); OFID = OPEC Fund for International needs. IFC worked closely with the many stakeholders Development; BMZ = Federal Ministry for Economic Cooperation and to react quickly and to create a structure that mitigated Development; SIDA = Swedish International Development Cooperation Agency 2 SMARTLESSONS — MARCH 2015 implementation risk resulting Figure 1: Microfinance Enhancement Facility Organizational Structure from the complicated structure and number of players involved. Using lessons learned from EFSE,2 a previous regional initiative established by IFC and KfW, the partners developed an efficient structure in a timely manner to meet market needs. IFC and KfW stepped up and committed $150 million and $130 million, respectively, to provide comfort and send an im- portant market signal to other investors to participate. IFC’s strong cooperation and partner- ship with KfW facilitated signifi- cant mobilization from various governmental and quasi-govern- mental entities and other inter- national organizations. Through the efforts of the two anchor investors, MEF was successful in raising over $470 million in in- vestor commitments in a short Source: Microfinance Enhancement Facility (http://www.mef-fund.com/about-mef/structure.php) time. This coordinated effort continues today as the investor group helps bring MEF To achieve these objectives, IFC and its partners decided additional funding from such private sector players as in the structuring phase to outsource the origination, Deutsche Bank and other like-minded investors to meet execution, and monitoring of loans and to proceed with the increasing demands of the facility. an outsourced model that would execute the program through the industry’s largest and most experienced Lesson 2: An outsourced funding structure resulted fund managers, Blue Orchard Finance, ResponsAbility, in reduction of the transaction time required to and Cyrano Management. deliver crisis relief. These three investment managers were selected based The MEF structure was created to deliver a rapid and on their reputation, professionalism, track record, and flexible response, achieve maximum possible outreach, reach in the microfinance sector. To avoid any conflicts and ensure efficiency and rigorous risk management. among them, each investment manager was assigned Figure 2: Detailed Regional and Country Distribution Source: Microfinance Enhancement Facility (http://www.mef-fund.com/press/) 2 EFSE = European Fund for Southeast Europe SMARTLESSONS — MARCH 2015 3 specific microfinance institutions from outstanding balance of each class of a list of systemic institutions. To ensure shares compared to the overall investment strong accountability from the investment portfolio and outstanding balances of the managers and to be sure investments are other classes of shares. In this case, the made according to the MEF objectives, delay in the receipt of the first loss tranche an investment committee composed of limited MEF’s ability to disburse A and B representatives from the largest investors tranche shares until the agreed risk ratios was created and given the authority to were met. make all final investment decisions. The investment committee’s oversight of The introduction of risk ratios is a necessary the investment process also ensures that component of the risk structure of MEF. investment managers present quality However, it is important to understand the investment proposals in a consistent ramifications these restrictions can have, if and standardized manner. Investment there are any delays in disbursing specific managers are also required to report on tranches of shares, and their impact on a monthly basis to the fund administrator a timely response in a crisis situation. and are rewarded an incentive bonus While this was the main reason behind at the end of the year, based on their the early delays, the functioning of the performance and achievement of selected facility—with the processing complexities indicators. involved with having three investment managers—also took some time to By streamlining the investment process and work itself out. MEF has since increased bypassing internal investor bureaucracy, its efficiency in processing transactions the MEF structure is capable of achieving and has picked up its investment pace a two-week to four-week turnaround for considerably since 2011, with a growing a loan, as opposed to the months-long pipeline and disbursements to a wider process typically required for IFC to book range of microfinance institutions, which a senior loan. This reduced transaction is expected to continue in the years ahead. time was critical for many microfinance institutions that required immediate Conclusion liquidity funding, and it has created a strong reputation for MEF as a reliable Delivering a crisis-response initiative and speedy source of funding for the quickly was critical in providing the microfinance industry. confidence needed to calm investors and markets and meet short-term liquidity Lesson 3: Multiple tranches of shares needs of microfinance institutions. But linked to one another can create ensuring that the initiative is efficient and complications in implementation if effective in its implementation is just as disbursements of specific tranches are important in delivering the desired impact. delayed. Participation of the industry’s main players, While the structuring and mobilization successful mobilization of funding to DISCLAIMER efforts of the anchor investors proved to create a sizeable response, and creation of SmartLessons is an awards be effective and timely, MEF experienced an efficient processing structure—all have program to share lessons learned a slow deployment of funds after its contributed to MEF’s ability to successfully in development-oriented advisory services and investment launch in 2009. The inability of MEF to serve the microfinance industry and to operations. The findings, disburse loans following the first closing counterbalance the potential reduction of interpretations, and conclusions was mainly due to delays in receiving the access to financial services to underserved expressed in this paper are those of the author(s) and do not first loss tranche from one of the investors. lower-income segments of the population. necessarily reflect the views of The delay was caused by administrative Given the never-ending strong demand IFC or its partner organizations, complications of disbursing the allocated for its funding and the likelihood that the the Executive Directors of The World Bank or the governments funds, and it severely affected the ability of volatility of capital markets will persist, the they represent. IFC does not MEF to disburse other classes of shares due investors of MEF decided in 2013 to extend assume any responsibility for the to restrictions agreed to in the structure the life of MEF another five years so it can completeness or accuracy of the information contained in this of the facility. As part of an effort to keep continue to respond quickly and decisively document. Please see the terms the risks appropriately balanced among to local crises and provide a stable source and conditions at www.ifc.org/ the different classes of shares, risk ratios of funding for the microfinance industry. smartlessons or contact the program at smartlessons@ifc.org. were introduced that required a minimum 4 SMARTLESSONS — MARCH 2015 The original had problem with text extraction. pdftotext Unable to extract text.