RIM Prepares for the 2016 European Microfinance Week

Posted by George Herdeg, Intern, Risk management Initiative in Microfinance (RIM)

Look for the Risk management Initiative in Microfinance (RIM) at the upcoming European Microfinance Week in Luxembourg taking place between November 16 – 18. Kevin Fryatt, RIM’s Director, will be moderating a session on Thursday November 17th from 3:45pm – 5:15pm titled Would’ve, could’ve, should’ve: Lessons learned from a currency devaluation crisis in Azerbaijan. The panel will be discussing the currency devaluation crisis in Azerbaijan in 2015 and the failures within the microfinance industry to anticipate and mitigate loss in the crisis. The session’s purpose is to discuss the drivers of the crisis, how various actors have responded, and future strategies to protect clients and institutions against similar crises. More information on the 2016 European Microfinance Week is available on their website.

RIM Issues Expert Comments on the Basel Committee for Banking Supervision’s Guidance on the Application of the Core Principles for Institutions Relevant to Financial Inclusion

Posted by Kevin Fryatt, Director, Risk management Initiative in Microfinance (RIM)

RIM recently brought together a team of microfinance risk management experts to develop and submit comments on the Basel Committee on Banking Supervision’s (BCBS) Guidance on the application of the Core principles for effective banking supervision to the regulation and supervision of institutions relevant to financial inclusion published in December 2015. As outlined by the BCBS, this consultative document builds on past work by the Committee to elaborate additional guidance in the application of the Committee’s Core principles for effective banking supervision to the supervision of financial institutions engaged in serving the financially unserved and underserved. The proposed Guidance identifies 19 of the total 29 Core Principles where additional guidance is needed, and both Essential Criteria and Additional Criteria which have specific relevance to the financial inclusion context. The Guidance is intended to be useful to both BCBS member and non-member jurisdictions, including those jurisdictions in which supervisors are striving to comply with the Core Principles and who may implement this Guidance gradually over time.

To read RIM’s comments on the proposed Guidance, download the submission here.

Highlights from the 2015 European Microfinance Week

Posted by Kevin Fryatt, Director, Risk management Initiative in Microfinance (RIM)

On November 19, 2015, RIM participated in the European Microfinance Week moderating an interactive risk management session titled, “Towards the implementation of sustainable forward-looking risk management: challenges and lessons learned.” Catch the highlights of the session starting on page 24 of the official conference report.

For more information about the 2015 European Microfinance Week, please visit the official conference website.

 

Download the European Microfinance Platform 2015 Conference Report with RIM’s session starting on page 24:

The Risk Management Graduation Model: Deriving Value through an Appropriate Approach to Microfinance Risk Management

Posted by Kevin Fryatt, Director, Risk management Initiative in Microfinance (RIM)

“We do not engage in risk management because our CEO tells us that every department should be a profit center.” “Risk management seems useful, but how can we afford to pay for it?” Such industry sentiments have been the norm, I’ve found, in my work at the Risk management Initiative in Microfinance (RIM). These statements and many others like them reflect the reality that the value of risk management and its role within microfinance institutions (MFIs) have not yet fully been realized. As the microfinance industry matures and reaching scale through growth continues to drive the strategies of inclusive financial service providers, ways to create sustained value for their clients and shareholders will be increasingly sought after and explored. Finding ways to create sustained value, however, can often be challenging.

Risk management, if carried out effectively, is one important aspect in creating sustained value. Well-executed risk management derives organizational value by ensuring decision-making is carried out within an agreed-upon acceptable level of risk, ultimately providing greater certainty about returns against double-bottom line objectives through reducing volatility of net income and strengthening its ability to meet necessary social returns. For example, decisions on the acceptable amount of credit risk to accept may impact the amount of future financial losses an institution may suffer (financial return) while potentially impacting the type of clients it is able to serve (social return). If risk management has such a high potential to create sustained value, what then has been standing in the way of MFIs effectively implementing it to date?

Many factors explain the challenges in realizing the full value risk management can provide, and much of which point back to the lack of an appropriate risk management framework. Consider the following key framework characteristics:

  • Scalability: MFIs have grown rapidly in recent years, and have, in many cases, outgrown their ability to proactively manage new and complex risks. An appropriate risk management framework must provide for scalability, providing senior management and board members the understanding of what appropriate risk management systems and decision-making structures look like at various levels of institutional development.
  • Suitability: To be suitable, risk management for microfinance needs to reflect the subtle and not-so-subtle differences of the sector itself, providing for a comprehensive approach to the types of risks facing inclusive financial institutions. As a multiple bottom line industry, the way we define and evaluate risk must consider both financial and social performance losses, rather than financial losses alone. For example, transferring foreign currency risk to one’s clients may seemingly reduce financial risk to an institution in the short-term. However, what was once foreign exchange risk for the institution has now become foreign exchange risk for disadvantaged clients, ultimately putting at risk the institution’s social goals and objectives. Risk management frameworks from other industries, foremost the single bottom line focused commercial banking sector, cannot be transposed onto the microfinance sector. Doing so will render the approach incomplete.
  • Availability: To date, approaches to risk management have been largely proprietary in nature, available to customers of expensive consulting firms or institutions linked to funders with technical assistance budgets. This has left the ability to implement formal risk management in the hands of those with the access to external financial support or larger, more developed institutions who can afford to pay out of internal resources. A publicly available risk management framework reduces the upfront barrier to implement risk management and allows for individuals and institutions to begin down the road of risk management capacity building with best practices at their fingertips.

At the beginning of 2013, the RIM set out to address these challenges. Its founding members embarked on the development of the Risk Management Graduation Model (RMGM), a pathways-based standard for risk management in the microfinance sector which provides risk management best practices applicable to various institutional tier levels. This framework has been tested in over 14 countries worldwide and within a variety of different legal and operational contexts. The RMGM provides an institution with a forward-looking view into best practice risk management systems and structures, allowing for proactive decision making, institution building, and resource allocation.

Risk management’s value proposition to MFIs can be realized through a common understanding of the types of risks inherent to the microfinance business model as well as through a common approach to the types of policies, limits, and tools necessary to adequately manage these risks throughout an institution’s growth process.

The RMGM framework for deposit-taking and non-deposit-taking MFIs, and the RMGM Assessment Tool, a tool which allows an MFI to assess its adherence to the RMGM framework, are publicly available for download on the RIM’s website.

RIM is a collaboration of organizations with a vested interest in raising the standards of risk management in the microfinance industry. RIM provides a platform for risk management standards development, information sharing, and industry cooperation. RIM’s founding members include ADA, Calmeadow, Center for Financial Inclusion at Accion (CFI), MEDA, MFX Solutions, Microfinanza Srl, Oikocredit, and Triple Jump.

 

For the original article, please visit the Center for Financial Inclusion’s blog here.

 

 

Download the paper detailing our Risk Management Graduation Model and our assessment tools:

When listening to clients becomes a risk : the current state of the microfinance industry and a call for better microfinance risk management

To remain competitive, microfinance institutions ( MFIs ) must listen to their clients, innovate, and find creative ways to lower the cost of service provision. As the rhetoric goes, the needs of the client come first. To serve clients better, MFIs have innovated through the use of new technologies such as: mobile money, agent banking networks, and driving savings mobilisation through savings group linkages to deposit-taking MFIs. In and of itself, tailoring one’s business to the needs of its clients is a sound business practice. Too often, the conversation stops here. Client feedback is solicited, new products are developed, the business grows. Client feedback is solicited, new products are developed, the business grows – and so the story goes.

This story, the current narrative of the microfinance industry, is incomplete and broken. MFIs are implicitly told that balance sheet growth must be realised to reach financial sustainability, and this may be true in many respects. However, what is largely missing is the narrative of risk management – a key component of the fundamental decision-making framework of any financial institution. Risk management plays an important role, not only in the health of financial institutions and their shareholders’ investment, but most importantly on the overall well-being of clients. Balance sheets have grown in size and complexity on the back of less than adequate personnel skill-sets, static risk management approaches, and frameworks in risk management, which do not adequately reflect the double-bottom line nature of microfinance. The microfinance industry is now playing catch-up and feeling the impact.

Over-indebtedness as a risk has received much attention in recent years. Yet this is only the tip of the iceberg. In Africa alone, the effects of these trends have been evidenced through an alarming number of MFI collapses. In August 2014, the Reserve Bank of South Africa bailed out African Bank Investments Limited ( ABIL ), due to issues that arguably point back to poor and imbalanced credit risk management. In Ghana, a country with no deposit guarantee scheme, the microfinance sector has experienced a risk management crisis that resulted in the collapse of over 50 MFIs. The collapse of many of these institutions was caused by failing to implement the basic tenets of liquidity risk management and solid financial intermediation by funding long-term assets with short-term liabilities. The subsequent result was severe liquidity crises, institutional collapse, loss of customer deposits and a reputational loss in sector confidence. One might stand back and wonder how we have arrive at this point in the development of this sector. The answer is complex and multifaceted.

Misaligned incentive mechanisms for proper implementation of risk management.
The incentives for conducting risk management in microfinance need to be viewed from the value they bring to an institution’s double bottom line – both social and financial. Currently, many institutions are wrongly incentivised by the licensing requirements for becoming a deposit-taking MFI or through investor requirements rather than from a deep understanding of the underlying value and importance risk management plays within a financial institution. As a result: Underperforming risk functions, robust policy manuals developed but not well understood or functionally used by staff and resounding cynicism towards risk management are resulting trends.

Lack in understanding of the proper role and value of risk management.
The risk management function is one of the most misunderstood functions within a MFI, often being confused with the roles of internal audits and compliance rather than playing its primary role of supporting the business units in maintaining policies and procedures, which ensure that all risks are identified, measured and managed throughout the institution. The damage and confusion caused by the improper creation and implementation of this function often outweigh the intended benefits. Without a proper understanding of the role and value of risk management, a MFI’s willingness to invest its own resources to build out this important function is negatively affected.

Lack of appropriate and generally accepted risk management standards in microfinance.
Feedback from recent microfinance risk management capacity-building programmes and industry stakeholders highlighted the need for comprehensive risk management industry standards for MFIs at different levels of their development. Given the variety of institutional types and their associated complexity, the industry is overdue for a scalable set of risk management standards. These standards would provide a MFI with forward-looking visibility on their risk management needs vis-à-vis the strategic growth included in their business plan. These standards would allow a MFI to proactively consider the risk management implications of meeting client demand, while simultaneously managing risk in the business planning and execution process.

In 2013, the Luxembourg-based NGO Appui au Développement Autonome ( ADA ) and seven other Founding Members, including Calmeadow, The Center for Financial Inclusion at Accion ( CFI ), Mennonite Economic Development Associates ( MEDA ), MFX Solutions, Microfinanza Srl., Oikocredit, and Triple Jump created the Risk management Initiative in Microfinance ( RIM ). RIM is a collaboration of organisations with a vested interest in raising the standards of risk management in the microfinance industry. RIM provides a platform for risk management standards development, information sharing, and industry cooperation.

RIM has successfully undertaken the development of the Risk Management Graduation Model (1), a pathways-based, best practice standard for risk management in the microfinance sector. The Risk Management Graduation Model has been designed to bridge the gap between the current state of risk management systems, tools, practices and required capabilities and that of the more sophisticated approaches proposed by the Basel Committee on Banking Supervision ( BCBS ). Through a diagnostic process, MFIs can assess their current risk management systems, structures and capabilities against RIM’s Risk Management Graduation Model and determine their adherence to best practice risk management standards applicable to their institutional tier level. Through a six-step institutional risk management improvement process, MFIs will be able to 1) Identify their institutional tier level and the appropriate standards within, 2) Assess their level of adherence to the Risk Management Graduation Model standards, 3) Strategise their Risk Management Graduation Path – a strategic improvement pathway, 4) Plan the necessary financial and human resources required to achieve the improvement goals, 5) Execute the plan within a project management framework and 6) Evaluate their plan’s level of success.

The goal of being a client-centric industry is a noble one. This goal must inevitably continue if we are ever to meet our aspirations of being a genuine double bottom line industry. However, as the industry shifts towards increasingly more financial intermediation, use of new technology and sophistication of balance sheets, the entire  industry must take seriously a balanced approach that considers the risk implications of these and future developments. This is only possible if the microfinance sector itself agrees on the need to address the underlying incentive structures that exist, improve upon the current understanding and appreciation of risk management and its approaches and support the refinement and adoption of global microfinance risk management standards. To this end, the interests of the microfinance industry’s ultimate stakeholders – the clients themselves – can be protected.


 

( 1 ) The Risk Management Graduation Model framework will be available in mid-November 2014 and its associated Diagnostic Tool in 2015. Please visit RIM’s website to learn more : www.riminitiative.org 

The original document is located here.

Kevin Fryatt is the Director of US-based RIM, which was founded in 2013 by ADA, Calmeadow, the Center for Financial Inclusion at Accion, MEDA, Microfinanza Srl, MFX Solutions, Oikocredit and Triple Jump.