While I’m more interested in poverty alleviation than profit we need to cover our costs too. A sustainable institution needs to also generate a profit for expansion. These are the issues being worked through at this time. This slide show is great if you are considering these same issues.

Perhaps I could just start by telling you a couple stories? Like I could tell you about one young lady who was able to bring her income from $5/week to over $50 making tortillas.  A $100 investment enabled her to buy some supplies and construct a wood burning stove with a flat cooking surface. She sells out every day in a very short time, she makes enough money to pay extra on her loan and even pay her husbands off after he defaulted.

Then again I could tell you about another older woman who was paying 10% a month on loans to a money lender, a rate that caused her to close down operations for awhile. The loans that we are offering cost far less and have allowed her to expand her business. We don’t have a good handle on the cost of administering the loans but currently feel that at just over 1.6% a month we may be able to scale up our lending and be fully sustainable.

For now I think I’ll just take some time to get up to speed with my pile of emails that have accrued during my time being gone.

Why we Need to Assess the Process

We are hoping to extend the program and infuse an additional $100,000 by the end of the year. By refining the processes that were used during the testing phase we’re going to be more prepared to manage a larger amount of capital. Problems or shortcomings that exist with a small amount of money are going to be greatly magnified as the loan portfolio grows. We are offering really small loans so keeping costs low is a top priority.

Micro-Finance Sustainability

Micro-finance is a great way to have a positive impact on communities around the world. If a micro-finance program isn’t sustainable then it creates a vacuum for funding which can create a drain for small and large organizations alike. In order to ensure that our program can sustain itself we need to keep our operating costs as low as possible yet still be able to manage growth.

Small Loans Cost More

Dependent upon your experience with micro-finance you’re going to have different understandings about an MFI. The micro-finance program that we have initiated is targeted at the poorest of the poor, we’re working with really small loans, which is really expensive as a percentage of total loaned dollars. The cost of screening, loaning, and collecting each loan is going to be pretty much the same no matter how large the loan is. Larger loans result in more interest income and therefore lower costs to manage overall. Small loans cost about the same amount of money to administer but the income is lower which eats away at the profit margin quickly.

So the solution for many people may be obvious: Lend larger loans. The other solution is to raise the interest rate.   In many case people may not want a larger loan or be in a position to efficiently use more capital. There are many variables and our assessment is going to give us more information to make better informed decisions about what is happening and the best next steps.

Defining Poverty

Before we can adequately answer the question we have to first define what poverty is. In Muhammad Yunus book “Creating a World Without Poverty” he wrote “Every country and every region will probably have their own definition of poverty…At Grameen Bank, we had to develop our own definition of poverty so that we would be able to measure our success in helping people rise out of poverty through micro-credit”. He goes on to write ten points that they utilize for measuring the poverty of their borrowers.

For this post I’m going to simplify things. I’ll use Wikipedia’s definition of poverty taken from the Encarta Encyclopedia that says “Poverty is the condition of lacking basic human needs such as nutrition, clean water, health care, clothing, and shelter because of the inability to afford them.” Dependent upon where you live in the world the cost of these things will be different.

Micro-Credit as a Tool to Reduce Poverty

One major roadblock that an entrepreneur may encounter when seeking to create an enterprise is access to affordable credit. If the entrepreneur doesn’t have savings there isn’t any money to draw upon to cover start up costs for the business. Without funding to start a business the entrepreneur is unable to move forward. Micro-credit (idealistically) gives entrepreneurs access to money at a cost that is less than other options.

The Cost of Capital Determines Effectiveness of The Loan

When determining if Micro-credit reduces poverty it’s critical to understand the costs that the entrepreneur assumes when accessing credit. If the rate the entrepreneur pays for the credit matches or exceeds the amount of money the entrepreneur makes then the answer is simply “no”,  in this case access to capital cannot reduce poverty. There would be no financial gain and thus no benefit to accessing the capital. Conversely if the money that is made exceeds the amount that is borrowed the borrower needs to determine if the profit meets needs. In some cases there may be profit, just not enough profit to justify the amount of time that was needed to generate it. In short there is a cost reward analysis needed for determining if a loan is worth the amount of time spent. The cost reward should be measured against other opportunities that may exist.

The Amount of Profit Should Meet and Exceed Needs

If the profit gained from an enterprise (after paying the cost of the loan) meets the daily needs of an individual we could say that the profit will keep the individual in the same societal circumstances (if all variables remain the same) for the duration the profit is received. If the profit exceeds daily needs then there is a surplus that can be used in for those things in excess of daily needs. How this surplus is utilized determines the effectiveness of micro-credit for eventually reducing poverty.

Micro-Credit Can Reduce Poverty

Micro credit can reduce poverty however there are many variables that need to be considered when evaluating a program. Some of these variables are:

1. What is the cost of credit?

2. How much profit can be made for every dollar borrowed?

3. What opportunities exist for the entrepreneur?

4. How much competition is there for the opportunity?

And many, many others.

Conclusion

It may be easy to say “yes, micro-credit reduces poverty”.  There are many variables that need to be evaluated when determining how effective micro-credit can ultimately be. There are many organizations that offer credit at a rate that may be too expensive for the entrepreneur. Some are purely for profit and charge as much as possible without regard for the needs of individual people. Others are only regarding the needs of the people and are not sustainable.

I really believe that micro-credit can reduce poverty. In the coming months and years I will be evaluating these ideas and reporting them here.