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Spring 2015 The Impacts of Capital Structure on Depth of Outreach in Sub-Saharan Africa Courtney Johnson Illinois State University Abstract The mission of microfinance institutions (MFIs) is two-fold, serving poor clients and financial sustainability. Yet, there is a concern that MFIs have prioritized financial objectives over outreach objectives by adopting characteristics of commercialized capital structure. A growing number of MFIs have transformed their capital structure from donations and concessional loans to a structure that undertakes commercial financing options, such as loans at market rates and investment capital. What is the impact of this change in financing on outreach objectives? This paper uses data from 74 MFIs from Planet Rating, a third-party MFI rating website, conducting a cross-sectional analysis. This study finds that MFIs that are highly leveraged compromise outreach objectives. Yet, other variables that indicate a commercialized financing structure are found to be insignificant. This study suggests that Sub-Saharan MFIs can undertake a commercial capital structure without compromising outreach objectives. Yet, it cautions against the overextension of leverage as this has been found to compromise depth of outreach. Roughly half of the worldwide adult population has a bank account (Weise 2012). Banking services not only provide a safe place to store money, but also provide the opportunity to obtain credit, a financial option that has become integral to global business practices and to consumer spending. To some, the ability to take out credit has 118 Critique: A worldwide journal of student politics become a human right (Yunus 1999). Yet, there are many places across the world that remain excluded from banking services. According to Bill & Melinda Gates Foundation, there remain 2.5 billion adults who have no access to banking services (Weise 2012). Microfinance Institutions (MFIs) are micro-lending organizations that provide credit to people previously excluded from banking services. When microfinance first arose in 1976, it was a research project initiated by Muhammad Yunus in a small village in Bangladesh (Yunus 1999). With the success of the Grameen Bank, this grassroots movement became a global vision. The United Nations declared 2005 “the year of microfinance” and Yunus won the Nobel Peace Prize in 2006 (United Nations 2014; Roy 2010). Part of the reason why microfinance has been so widely received is that it has been viewed as a tool to help accomplish the Millennium Development Goals including poverty eradication, access to education, and improvements to nutrition (Roy 2010). Poverty can be understood as a trap, one that brings persistent obstacles causing further economic degradation (Azariadis and Stachurski 2005). In “The End of Poverty,” Sachs (2006) argues that access to capital is a way to help poor people reach the first rung of the economic ladder to climb out of the poverty trap. Indeed, studies show that microfinance has had a positive impact on household income (CGAP 2002). Hossain (1988) found that income of Grameen Bank borrowers increases by 43% compared to the target group that did not have microcredit programs in their area. Similarity, Khandker and Pitt found that household income increased 29% in program villages versus non-program villages (1996). Furthermore, studies show that MFI clients are likely to invest in better housing, nutrition, and education (CGAP 2002; Khandker and Pitt 1996). Additionally, early successes shattered the stereotype that poor people make poor clients, as loan repayment rates remained in the 90th percentile 119 Spring 2015 (Yunus 1999). Microfinance has been widely celebrated for its ability to reach poor people, aiding in the escape of the poverty trap. Yet, since the beginning, MFIs have had to balance objectives of outreach and financial sustainability. Sometimes called attempting to meet the “double-bottom line,” microfinance strives to not only do-good but to pay for itself. Since MFI borrowers are charged an interest rate on credit and sometimes fees associated with membership, in theory, MFIs should be able to cover costs. The idea that microfinance is a social service that could fund itself was an exciting promise. However, achieving financial sustainability has been harder in practice than in theory. Early MFIs often depended on donations or concessional loans from governments to meet high operation costs. For example, in 1996, the Grameen Bank received over $26 million in subsidies through concessional loans and donations, coming largely from the Government of Bangladesh (Morduch 1999). In part, Grameen Bank was not financially sustainable due to the high operation costs associated with lending to poor clients. The Grameen Bank emphasizes high quality staff training and strives to recruit clients among the most marginalized residents of the Bangladesh (Hossain 1988). Additionally, despite that in 1986 the Grameen Bank absorbed a margin of loss of 6.7%, Yunus refused to raise interest rates (Hossain 1988). He was quoted, “microfinance was created to fight the money lending, not to become the money lender” (Bloomberg 2007). Although it took over ten years since the inception of the bank for it to reach financial sustainability, Yunus would not compromise social outreach goals for profitability (Yunus 2007). The Welfarist Camp Welfarists, or the poverty approach, are descendants of the Grameen Bank philosophy that social goals should not be compromised for financial gains. The ideology rests on the premise that self120 Critique: A worldwide journal of student politics employment can empower marginalized people. Often times, loans are given to groups of women to enhance feelings of agency and social capital, creating an environment of empowerment (Riaz 2009). In this camp, MFI success is measured by depth of outreach, or how well the MFI reaches poor clients and mitigates poverty. Although welfarists do not discredit the objective of financial sustainability, they assert that MFIs can become successful institutions while depending on outside sources of funding. They argue that donations and concessional loans are forms of equity investment that have a “social, or intrinsic return” (Woller and Brau 2004, 8). These MFIs usually offer services to the most marginalized clientele, which are disproportionally located in rural, poorer areas. Due to limited infrastructure, increased transportation costs, low population density, and the need for high quality staff, the pursuit of these clients can be costly (Armendáriz & Morduch, 2005; Hudon 2011; Makame and Murinde 2006). Clientele education services, which are common among welfarist MFIs, also increase costs (Hossain 1988; Lafourcade et al). Analyzing 74 MFIs, Conning (1999) found that sustainable MFIs that targeted poorer clients had higher staff costs. Additionally, poor clients have little collateral to cover default increasing the risk absorbed by the MFI (Khandker 1998). Therefore, donations, grants, and concessional loans coming from both independent donors and governments often cover the gap between MFI revenue and MFI costs (Schreiner 1999, 2002; Kar 2011). The Institutionalist Camp & Commercialization However, the welfarist approach to microfinance is matched by another set of beliefs, institutionalists. This camp is committed to MFI financial sustainability and believes emphasis on this objective is crucial to MFI success. Based on concepts originating from Ohio State University’s Rural Finance Program, institutionalists argue that 121 Spring 2015 institutional sustainability is key to successful microfinance functions and furthermore, financial sustainability is integral to institutional sustainability (Woller and Brau 2004). Rather than measure MFI success with depth of outreach, institutionalists tend to focus on the ability of the MFI to expand financial services to more people, a measurement known as breadth of outreach (Olivares-Polanco 2005). Institutionalists operate under the notion that by creating financially sustainable MFIs, the social services to the poor are inherent (Morduch 2000). Institutionalism’s reasoning is based on the profit-incentive theory (Bogan 2012). By taking on more debt through unsubsidized loans and investments, the MFI is under pressure to perform efficiently, cover operation costs, and to turn a profit. These pressures encourage financial discipline promoting economic growth and institutional sustainability (Armendáriz de Aghion and Morduch 2005; Kar 2011; Basu 2004). Along these same lines, donations and concessional loans weaken financial discipline suppressing financial success and economic growth (Charitonenko et al. 2004; Robinson 2001; Basu 2004). Another concern of institutionalists is that donation capital is limited and subject to the “whims of donors” thereby limiting the sustainable outreach of microfinance services (Charitonenko et al., 36). 2004. Lastly, institutionalists worry that donor funds “crowd out” market sources that could aid in the growth of MFI industry (Basu 2004, 14). Where welfarists view microfinance as a social service, institutionalists view microfinance as a business that does social good. For institutionalist MFIs and policy-makers, the most highly endorsed avenue to achieve financially sustainability has been through commercialization. Commercialization is a process that transforms several attributes of an MFI including management structure, operational efficiency, and sources of financing to resemble those more like a for-profit institution. Charitonenko et al. (2004) 122 Critique: A worldwide journal of student politics explains commercialization as “the expansion of profit-driven microfinance operations” (17). One of the key ways an MFI is affected by commercialization is the way the MFI finances itself, or the capital structure. Commercial financing opportunities include non-subsidized loans through commercial banks and the practice of leveraging MFI assets for investment opportunities (Charitonenko et al. 2004). The commercialization of MFIs paves to way to financial sustainability. This idea to “eradicate poverty through profits” has become quite popular and has resulted in a shift towards MFIs running as banks (Prahalad 2006,1; Roy 2010, 29). In 2006, Prahalad published The Fortune at the Bottom of the Pyramid advocating for the merging of bank and microfinance interests. Prahalad argued that banks had the opportunity to extend their business to the clients at the unreached bottom on the economic pyramid while MFIs would benefit from increased access to capital (2006). Today, Citigroup, Barclays, and JP Morgan are among the large bank conglomerates that have incorporated microfinance services (Hartford 2008). By many accounts, microfinance has become a commercial industry. The future of microfinance as a commercial industry has become the dominant strand of thought behind several international development organizations (Roy 2010). In 2004 CGAP published “The Key Principles of Microfinance,” an article that upholds the importance of financial objectives.1 The article discourages subsidies and donations and calls for a laissez-faire approach to government intervention (CGAP 2004). Published by the Asian Development Bank, Charitonenko et al. (2004) echo many of these recommendations adding that government regulation should be The Consultative Group to Assist the Poor (CGAP) is a powerful global partnership that is, essentially, a branch of the World Bank. 1 123 Spring 2015 tailored to support commercial MFIs and discourage subsidy dependence. Mission Drift & Outreach The concern of welfarists is that commercialization of MFIs causes mission drift, or the prioritization of financial objectives over outreach objectives (Christen 2001; Zhao et al. n/d; Helms 2006). Previous research suggests that these concerns are warranted; as financial objectives are pursued, depth of outreach is often compromised. Using data from 435 MFIs, Hermes et al. (2011) find a trade-off between profitability and depth of outreach. In “The Promise and Perils of Microfinance,” Woller (2002) found that many MFIs are not reaching optimal depth of outreach suggesting that the poor and the very poor are not the preferable market for profitseeking MFIs. Additionally, Cull et al. (2007) used data from 124 MFIs finding that there was a trade-off between profitability and outreach to the poorest clients. Finally, after comparing previous literature, Montgomery and Weiss find that the barriers to reach the “core poor” include high interest rates, social stigma, and exclusion due to perceived risk (2005, 26). With such a trade-off discovered by many previous researchers, increasing pressure on MFIs to perform financially would likely prove detrimental to depth of outreach. Moreover, some institutionalists have suggested that MFI outreach should be reserved for the less poor. In an interview with a staff member of the United Nations Development Fund, the speaker asserted that some people are just “unbankable” (Roy 2010, 54). In 2004, Charitonenko et al. wrote that MFIs should exclude the “hardcore poor” (27). Charitonenko and Rahman (2002) argue that the welfarist microfinance market is saturated and that there is “little room for further growth in market depth through Grameen-style microcredit” (26). Instead, the authors advocate for expanding services, products, and clients. In this light it is possible to see that 124 Critique: A worldwide journal of student politics commercialized MFIs likely pursue clients that are less poor and have more assets (Basu 2004; Charitonenko et al. 2004). Instead of focusing on reaching the poorest people, institutionalists often stress financial inclusion, or a measurement for breadth of outreach. Scholars argue that commercial financing opportunities provide MFIs with the capacity to reach more people. In 2007, Michael Chu wrote “Profit and Poverty: Why it Matters” arguing that only financially sustainable MFIs are capable of accomplishing social objectives. Chu asserts, “no longer fundsconstrained, the number of poor people reached and the volume of capital disbursed has exploded” (1). By capturing economies of scale, MFIs are able to expand the reach of financial services thereby increasing breadth of outreach, or expanding the reach of financial services (Brau and Woller 2004; Charitonenko 2004; Christen 2001). The heated discussion between the welfarists and institutionalists has been called the “microfinance schism” (Morduch 2000, 1). At the heart of the tension between welfarists and institutionalists is the disagreement on the use of subsidies in financing MFIs. As MFIs change their financing structures to resemble for-profit structures, MFIs take on further debt and cast aside donations and concessional loans in favor of loans at market interest-rates and investment strategies (Charitonenko and Rahman 2002; Dixon 2012). Studies show that these changes in capital structure improve financial performance, but how does a commercialized capital structure impact depth of outreach? Although the commercialization of MFIs can change several aspects of MFIs, this research aims to capture the effects of commercialization within capital structure. A Focus on Sub-Saharan Africa Although Sub-Saharan Africa has at least 4.6 million active borrowers, approximately 88% of households remain unbanked 125 Spring 2015 (MIX 2012; CGAP 2012). With 50% of the population living on less than $1.25 per day, it would seem that MFI market penetration is surprisingly low. Previous studies have demonstrated that microfinance can have a positive effect on household income, education, and nutrition (CGAP 2002; Khandker and Pitt 1996; Hossain 1988). Sachs (2006) even asserts that microfinance is the key to overcoming the poverty trap. Therefore, limiting the spread of microfinance services within Sub-Saharan Africa, one of the poorest regions across the world, is a disservice at best. Scholars have examined why market penetration is lower in Sub-Saharan Africa than other developing nations finding explanations of culture, infrastructure, and levels of institutional trust (Lerpold 2012; Epstein and Yuthas 2011; Lafourcade et al. 2005). Yet, a frequent claim is that the growth of the MFI industry in Africa has been limited by MFI access to financing. Basu et al. (2004) assert that increasing integration between banking and microfinance industries in Africa would provide greater liquidity to MFIs and expand the growth of microfinance services. Commercialization opens up options to private financing and investment, increasing the number and capacity of MFIs (Helms et al. 2006; Chu 2007). Since the spread of microfinance has been limited, at least in part, by MFI access to capital, then commercialization would expand the growth of the MFI industry in Sub-Saharan Africa, increasing breadth of outreach (CGAP 2004; Prahalad 2006). However, in order to avoid mission drift, it is essential to understand the way characteristics of a commercialized capital structure impacts depth of outreach. This study expands upon the work of Makame and Murinde (2006). These scholars examined the impacts of commercialization measured through regulation and competition on outreach in East Africa. Since the variables used to measure commercialization, competition and regulation, were found to be insignificant, it is the task of this study to examine 126 Critique: A worldwide journal of student politics commercialization from a different angle. Rather than use measurements of regulation and competition as characteristics of commercialization, it may be more significant to use capital structure, or the way an MFI finances itself. Although commercialization may assist in the spread of microfinance within Sub-Saharan Africa, it is important to understand the effect of commercialization on depth of outreach. Therefore it is relevant to ask, have MFIs in Sub-Saharan Africa with characteristics of commercialization maintained depth of outreach? This study will help policy-makers understand the implications of pursuing commercialized capital structures. Data The data for this study comes from Planet Rating, a database of the financial statements of MFIs in Sub-Saharan Africa. These financial statements provide more reliable and detailed information than most previous studies on this topic that used data from the self-reported website Microfinance Information Exchange (MixMarket). Thirdparty rating systems like Planet Rating have the benefit of being less biased. In addition, Planet Rating collects more detailed information about each MFI providing the ability to use new variables. The units of analysis are the 74 publically available financial reports of MFIs in Sub-Saharan Africa available on Planet Rating in English and French. Of the 47 countries in Sub-Saharan Africa, the dataset used in this study has observations from 25 countries, or just over half the Sub-Saharan Africa countries (see Appendix A). Still, there are limitations to this dataset. First, the observation number is relatively low. Second, the MFIs in this database are self-selected to be rated by Planet Rating. 127 Spring 2015 Variables and Hypotheses As explained by Schreiner (2002), Morduch (1999) and Navajas et al. (2000), there are many aspects of outreach that can be measured that shed light on the lending practices of MFIs. This study focuses on depth of outreach, or the quality of meeting the goal to reach poor people. Ideally, scholars have pointed out that depth of outreach should be measured by client changes in income or poverty status after borrowing (Navajas et al. 2000; Schreiner 2002). This speaks to the capacity of the MFI to address poverty. Another method of measuring depth of outreach considers characteristics of the client. For example, depth of outreach increases when MFIs lend to female clients in rural areas as opposed to male clients in urban areas (Paxton 2002). This demonstrates that the MFI emphasizes the mission to serve subjugated, if not poorer, clients. Yet, data of this nature is sparse. The studies that are able to employ these measurements are limited to few observations and are often conducted in data-rich nations. Since this study explores regional patterns in Sub-Saharan Africa where data is limited, this study will use a proxy to measure depth of outreach. Thus, depth of outreach is the MFI’s average loan size measured by the ratio of gross loan portfolio to the number of active borrowers. Based on the rationality that poorer clients take out smaller loans, the lower the average loan size, the deeper the outreach. As Mosley and Hulme (1998) found, households with higher incomes take out larger loans than households with lower incomes. Although this study acknowledges that large loan sizes do not necessarily indicate low depth of outreach (Christen 2011), this proxy has been widely used (Chishty et al. 2011; Hartarska 2005; Mersland and Storm 2009). Yet, the same loan in one country might be substantially different in value than another country. In order to account for economic variability on a country level, this study divides MFI average loan size by gross national income (GNI) per capita. 128 Critique: A worldwide journal of student politics Although previous scholars have measured economic variability in different ways, such a division is a common practice (Kar 2011; Cull et al. 2007; Christen 2001; Makame and Murinde 2006). This study uses GNI per capita rather than GDP per capita because GNI more fully accounts for the economic picture of Sub-Saharan countries. As an MFI demonstrates commercial characteristics within its capital structure, depth of outreach is expected to shrink. This expectation is supported by the empirical findings of Paxton (2011), Chishty et al. (2011), and Kar (2011). In order to account for lagged effects, depth of outreach data is collected from the financial statements of MFIs a year after the values of the independent variables. Profit can potentially shed light on the character of an MFI’s capital structure. Profit is measured as the return on assets (ROA), or MFI income over assets. A commonly used indicator of profit, the higher the ROA the more profitable the MFI (Makame and Murinde 2006; Cull et al. 2007). Past research suggests a trade-off between profitability and depth of outreach. Using data from 435 MFIs Hermes et al. (2011) found that financial efficiency comes at the expense of depth of outreach. Therefore, MFIs that are more profitable will have lower depth of outreach, or higher average loan size. Leverage is the process of using assets or borrowed capital to invest in a venture that is expected to turn a profit (Kar 2011). As an MFI invests its resources in order to turn a profit, it is leveraging their assets thereby taking on more debt. The ratio of debt to assets is a measurement of leverage and this leverage ratio is a key attribute of an MFI’s capital structure. When debt is greater than assets, the higher the ratio the more the MFI is considered highly leveraged. When debt is less than assets, the lower the degree of leverage. As an MFI takes on more debt, its financial risks are higher and the pressure to perform financially increases. Scholars have found that increasing leverage negatively affects outreach. Studying 72 MFIs, 129 Spring 2015 Conning (1999) found that financially sustainable MFIs that focus on depth of outreach were less leveraged. Kar (2011) used panel regression on a dataset of 782 MFIs finding that an increase in leverage decreases depth of outreach. Further evidence comes from Chishty et al. (2011). Using a dataset of 24 MFIs and panel regression techniques, they find that increased leverage decreases depth of outreach to the very poor. If, in fact, the trade-off between financial performance and outreach holds true, then MFIs with higher leverage will pursue less-risky clients, decreasing the depth of outreach (Armendáriz de Aghion; Morduch 2005). Donation intensity may also shed light on the characteristics of a commercialized capital structure. This term derives from the work of Hudon et al. (2011) where in a study of 100 MFIs they found that the “effect of subsidies depends on their intensity” (971). Donation intensity is measured by the value of donations over assets. 2 Arguing that guaranteed money creates idleness and inefficiency, commercialization advocates reason against the use of donations. Therefore, MFIs that are commercialized are expected to have low donation intensity represented by small ratios. Due to the financial pressures associated with commercialization, MFIs that have low donation intensity are expected to have low depth of outreach. Evidence for this claim comes from Paxton (2012). Conducting a study of 18 MFIs in African and Latin American countries, Paxton found that MFI dependence on subsidies decreases as depth of outreach decreases. However, Bogan (2012) claimed to find conflicting evidence. Using panel data from 6 countries, Bogan (2012) found that MFIs with a higher proportion of grants to assets did not reach significantly more poor clients. Yet, despite Bogan’s Data was collected from the equity donation value in the balance sheet unless this value was missing; in which case, the data was collected from the donation value in the income statement. 2 130 Critique: A worldwide journal of student politics claims, this finding was insignificant at the .10 level. Therefore, the previous hypothesis remains. MFIs with low donation intensity will have a lower depth of outreach indicated by a large average loan size. Paid-in capital, or the value of investments, also sheds light on the capital structure of MFIs. Unlike donations, paid-in capital is invested into an MFI with expectation of profitable returns. Sometimes in the form of stocks or shares but also in the form of cash, paid-in capital is a way for an MFI to raise money in a similar fashion as a traditional business. While this method of financing can support goals of financial sustainability, it is possible that increased pressures on financial objectives hinder the outreach objectives of MFIs. To control for varying sizes of MFIs, paid-in capital is measured with regards to assets creating the variable investment ratio. The higher the investment ratio, the lower the depth of outreach. Since donation intensity indicates the welfarist approach to microfinance while investment ratio indicates the institutionalist approach, it is expected that the coefficients of these variables have an inverse relationship, or when the donation intensity ratio is negative, the investment ratio is positive. The interest and fees paid on borrowings indicates the type of loans that an MFI uses to finance itself. Concessional loans, by definition, have lower interest rates than the industry standard. The welfarist viewpoint claims that since MFIs are providing a service by improving the wellbeing of citizens, loans should be given to MFIs at discounted rates (Helms 2006). Counter arguments assert that concessional loans do not build financially sustainable MFIs (CGAP 2004; Helms 2006; Charitonenko and Rahman 2002; Dixon 2012). The institutionalist camp insists that in order for microfinance to be a viable solution to poverty alleviation, MFIs must not be dependent on external sources of financing, including concessional loans (CGAP 2004). Therefore, MFIs that adopt the institutionalist viewpoint will accept loan terms with higher interest rates than MFIs 131 Spring 2015 who are not interested in commercial sources of financing. Taking on more debt and risk, these financial pressures may have an adverse effect on depth of outreach. Yet, in order to compare across MFIs, it is important to control for MFI size. By dividing interest and fees paid on borrowings by assets, this study uses a variable called cost of borrowings. MFIs that have a higher ratio of cost of borrowings are expected to have a lower depth of outreach. Past research has found that the MFI institution type has an effect on outreach. In an analysis of 18 MFIs Paxton (2012) found that non-governmental organizations (NGOs) had deeper measures of outreach than credit unions or banks attributing this to NGO emphasis on social mission. Cull et al. (2011) assert that lending type reflects “differences in social mission, target customers and location as much as management strategies” (F113). For example, in a study of 124 MFIs, Cull et al. (2011) found that MFIs registered as village banks had greater depth of outreach than individual-based lenders. In order to control for “the type-of-institution effect,” this study will use two dummy variables contingent on the data available (OlivaresPolanco 2005, 55). MFIs that are registered as companies will be coded as 0. Companies have stakeholders who often pressure the MFI to perform financially potentially overshadowing outreach objectives (Roy 2010). With companies as the reference category, MFIs that are registered as NGOs are coded as 1. NGOs are expected to have a greater depth of outreach. In contrast to companies, NGOs tend to emphasize social missions rather than financial objectives (Basu 2004; Helms 2006). Lastly, cooperatives are MFIs that are partially, if not fully, owned by their employees or customers. Employing the theory of interpersonal and institutional trust, it is possible that cooperatives may have stronger ties with communities than other institution types (Epstein and Yuthas 2011). If true, cooperatives will have lower average loan sizes and higher depth outreach. Cull et al. (2007) found that village banks have lower 132 Critique: A worldwide journal of student politics loan sizes than all other institutions. However, this finding can only be partially applied to this study because not all village banks are cooperatives and not all cooperatives are village banks. Furthermore, institutional laws complicate this matter. Some countries in SubSaharan Africa, including Ghana, Benin, Guinea, have enacted laws prohibiting NGOs from collect deposits (Basu 2004). This significantly hinders the ability of an MFI to function and would encourage NGOs to formally register as a cooperative or company. Considering that there would be “NGO-style” MFIs operating as cooperatives and companies, this factor would be reflected in lower loan sizes, or higher depth of outreach. Yet, previous research suggests that cooperatives may actually decrease depth of outreach. In an analysis of 163 MFIs, Lafourcade et al. (2005) found that cooperatives had twice as high loan sizes than other MFIs. An explanation for this may lie in theories of in-group and out-group social capital. In a theory set forth by Fukuyama (1999), when social capital within groups increases, social capital towards outsiders decreases. Since cooperatives are by definition a group of members working towards a common objective, cooperatives may be more inward looking than outward looking in terms of interests. If true, this would be reflected in lower depth of outreach. Just because cooperatives are partially owned by employees or customers does not mean that outreach goals are prioritized. In fact, the opposite trend may be occurring. I will control for MFI size by the logarithm of total assets. The amount of an MFI’s assets is a good indicator of MFI size and the logarithm function normalizes the distribution. This measurement has been used frequently by previous scholars (Kar 2011; Chishty 2011; Bogan 2012; Kyereboah-Coleman and Osei 2008). Previous research has found that MFI size is negatively associated with the depth of outreach (Farrington & Abrams 2003; Bogan 2012; Kar 2011). Based on the life cycle theory, scholars have 133 Spring 2015 noted the tendency of MFIs to utilize commercial financing opportunities as they get grow in assets (Bogan 2012; Helms 2006; Basu 2004). The greater the size, the greater the opportunity for commercial lending. As an MFI takes on more commercial debt, the pressures to perform financially overwhelm outreach objectives. Therefore as MFI size increases, the depth of the outreach is expected to decrease. I will also control for MFI age by the logarithm of the number of years an MFI has been in operation. The number of years indicates MFI age, and the logarithm function normalizes the distribution. This measurement has been used by a number of scholars (Kar 2011; Chishty 2011; Makame and Murinde 2006; Cull et al. 2007). Competing theories suggest that this variable may have a positive or negative effect on depth of outreach. The older the MFI, the more interpersonal and institutional trust within a community, the deeper the outreach to poor clients (Epstein and Yuthus 2011). If theory holds true, the older the MFI, the greater the depth of outreach. On the other hand, the life cycle theory asserts that most young MFIs will be financed on donations and subsidies but as an MFI ages, it will “transform” its capital structure to commercial opportunities (Farrington & Abrams 2003; Bogan 2012; Helms 2006). If the life cycle theory holds true, then as MFI age increases, the depth of the outreach is expected to decrease. 134 Critique: A worldwide journal of student politics Table 1: Definition of Measurements Variable Measurement Depth of Outreach (Loan portfolio/# of borrowers)/GNI per capita Profit (ROA) Income/Assets Leverage Debt/Assets Cost of Borrowings Interest + Fees Paid on Borrowings/Assets Donation Intensity Donations/Assets Investment Ratio Paid-In Capital/Assets Size Log (Assets) Age Log (Age) Company (D) 0 NGO (D) 1 Cooperative (D) 1 Descriptive Statistics Of the 74 MFIs in this study, the average loan size varied greatly from $23.28 to $2,487.32 before taking into account GNI per capita. After taking into account GNI per capita, average loan size varied from .03 to 6.23 with a mean of 1.08. The measurement that this study uses to define depth of outreach has a large range from excellent depth of outreach (low number) to poor depth of outreach (high number). ROA varied greatly from -119% to 62% with an average ROA of -5% demonstrating that some of the MFIs in this study were experiencing negative growth while others were experiencing substantial growth. Leverage had a minimum value of 0 and a maximum value of 15 showing that some MFIs did not take on any debt while some took on a good amount. Demonstrating the range of MFI age, years of operation was as low as 5 years old up to 50 years old. After taking the log into account, the average MFI size 135 Spring 2015 was 6.1. Of the MFIs in this study, 17 or 23% of the MFIs were categorized as NGOs while 31 or 42% of the sample were categorized cooperatives. Complete accounts of the variables are listed below in Table 1. Loan Size ROA Leverage Cost Borrowings Donation Intensity Investment Ratio Size Age NGO Cooperative Table 2: Descriptive Statistics of Variables Min. Value Max. Value Mean .0268 6.2332 1.0772 -119.8 -61.9 -5.2347 0 14.5891 .7997 of -.000009 1.99339 .04071 -.000793 7.74635 .41932 0 1.48755 .11153 3.672744 .69897 0 0 7.93905 1.69897 1 1 6.10674 1.17878 .23287 .42465 Findings This model 3 suggests that characteristics of a commercialized financing structure do not necessarily decrease depth of outreach. None of the variables demonstrated a VIF value greater than 5 confirming that this model does not have problems of multicolinearity. 3 136 Critique: A worldwide journal of student politics The adjusted R2 is .11 suggesting that this model4 explains 11% of the variation of loan size. Although ROA, cost of borrowings, donation intensity, and investment ratio are all insignificant at the .05 level, the direction of all the signs are as expected. ROA is positive suggesting that as profitability increases, depth of outreach decreases. MFIs with greater donation intensity have a positive effect on depth of outreach. MFIs with higher investment ratios had a negative effect on depth of outreach. This model finds that cost of borrowing decreases depth of outreach. Yet, since these variables are insignificant, these findings support the institutionalist argument that MFIs that are under greater pressure to perform financially do not necessarily compromise outreach objectives. Furthermore, this model supports the findings of Bogan (2012) that MFIs that depend on subsidies do not have greater depth of outreach. Along these same lines, MFI size and age are found to be insignificant. As MFI size increases, depth of outreach decreases. Yet, since this variable is insignificant, this model suggests that as an MFI grows in size and likely undertakes commercial financing, this does not significantly overshadow outreach objectives. Similarly, although older MFIs demonstrated a negative effect on depth of outreach, this variable is insignificant. Therefore, older MFIs may be taking on more commercialized financing without decreasing depth of outreach. After conducting Cook’s test, Service d’Appui aux Initiatives Locales de Développement, an MFI in Cameroon, was found to be an influential case and was removing making the sample size 74. This is likely due to the fact that SALID is an organization that lends to MFIs, not directly to clientele. Therefore, inclusion in the analysis was theoretically flawed. 4 137 Spring 2015 However, this model also reveals that aspects of commercialization can have negative impacts on depth of outreach. As leverage increases, there is a decrease in depth of outreach. Significant at the .05 level, as an MFI takes on more debt in order to pursue financial objectives, depth of outreach decreases. Supporting the findings of Conning (1999) and Kar (2011), this cautions the overuse of debt. Furthermore, MFIs that were registered as cooperatives had a negative and significant effect on depth of outreach. MFIs that are registered as cooperatives reach less poor people than companies. This finding suggests that member ownership leads to increased selfinterest within the group rather than appealing to the interests outside the group. Contrary to previous research, MFIs registered as NGOs had an insignificant impact on depth of outreach. However, since institutional laws have likely affected registration decisions, further research should explore banking laws in Sub-Saharan Africa and how these might change how an MFI registers its institution type. 138 Critique: A worldwide journal of student politics Table 3: Regression of Depth of Outreach on Explanatory Variables Independent Coef. Variables (S.E.) ROA .004 (.007) Leverage .300* (.158) Donation Intensity -.233 (.250) Investment Ratio .085 (.779) Cost of Borrowing .055 (.667) NGO -.377 (.433) Cooperative .673* (.377) Size .191 (.191) Age .739 (.977) N= 74 Adj R2=.11 Note: *p<.05, one-tailed test 139 Spring 2015 Policy Implications For policy-makers on a local, national, and international scale, these findings suggest that it is possible to pursue a commercial capital structure without compromising the social objective of depth of outreach. Although increased loan interest rates and investments may encourage strict financial accountability, this emphasis on financial sustainability does not necessarily overshadow outreach objectives. This is good news to Sub-Saharan African MFIs that may want to transform their capital structure in order to attract more capital. This is also good news to local or international organizations that are considering Sub-Saharan Africa as a location for a new MFI. The ability to access commercial financing sources rather than the limited pool of grants and subsidies can potentially spread the opportunities of microfinance across unreached spaces. This study suggests that such a commercial capital structure, indicated through ROA, investment ratio, and cost of borrowing does not compromise outreach objectives. In other words, MFIs can remain socially conscious and still pursue financial sustainability. Yet, this study also suggests a word of caution. Overleveraging, or overextending debt to assets, can have negative repercussions on depth of outreach. This study suggests that MFIs with high leverage were unable to balance financial objectives with social objectives. The pressures to perform financially overshadowed the outreach mission resulting in a change of clientele from poor to better off, a finding reflected in growing loan sizes. MFIs that pursue a commercialization of capital structure must be careful not to take on too much debt. Additionally, this study suggests that MFI decision makers that intend to emphasize social goals should consider registering as an NGO or as a company. Supporting the theory set forth by 140 Critique: A worldwide journal of student politics Fukuyama (1999), cooperatives tend to be more inward looking and less concerned with the welfare of the out-group, or nonmembers. Yet, it is also possible that this study has not examined the full picture of commercialization. The commercialization of MFIs affects many aspects of microfinance practices, not just the capital structure. Literature suggests that the conditions attached to loans, the time period of repayment, interest rates charged to borrowers, environments of regulation and competition, and MFI management structure are also impacted by the trend of MFI commercialization (Basu 2004; Makame and Murinde 2006; Charitonenko and Rahman 2002; Kyereboah-Coleman and Osei 2008; Mersland et al. 2009; Christen 2001). Yet, the goal of this study was to focus on one aspect of commercialization, the capital structure, in an attempt to clearly define the pattern of commercialization. Although not in the scope of this study, including these additional variables may better account for the trend of commercialization. In other words, perhaps understanding an MFI’s capital structure does not sufficiently capture the characteristics of commercialization. Future research should strive to identify more of the characteristics of commercialization in order to test for their impact on depth of outreach. 141 Spring 2015 Works Cited Armendáriz de Aghion, Beatriz and Jonathan Morduch. 2005. The Economics of Microfinance. Massachusetts Institute of Technology. Azariadis, Costas and John Stachurski. 2005. “Poverty Traps,” Ch.5. In, The Handbook of Economic Growth, Vol. A1. Philippe Aghion and Steven Durlauf. Eds. Elsevier Ltd. 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