NOTE 10: ON
MICROCREDITS (Continued)
In my previous Note, I commented on the psychological
approach to the credit relationship that is also applicable to the Microcredit.
I would pick up again this approach which is determined by six
conditions governing the relationship between debtor and creditor: (1) Confidence: If a debtor receives a loan
from a creditor, it is because the debtor conveyed enough confidence to the
creditor to believe that he/she will fulfil the obligation. (2) Sincerity: When the debtor files the required documentation to the
creditor and consistently answers the questions that are being presented, the
creditor will not have any doubts about the situation of the debtor. (3) Discipline: When applying for a loan,
if the debtor was verified in the credit bureaus and he/she appears as a
reasonably good payer, it can be assumed that there is a disciplined behavior.
(4) Character: This is represented
by the paying behavior, transparency and the honesty reflected by the applicant
or debtor. If these are present, the creditor will be confident
("Willingness to Pay"). (5) Assessment
of the creditor: The debtor clearly understands the implied commitment of
the creditor, if he/she is a good payer there will always be an open door with
the creditor. The latter clarify and strengthen the credit relationship in the
long term and (6) Continuity of the
relationship: Both sides tacitly agree that the relationship will be
prolonged as much as possible in the future, if both are satisfied.
Perhaps some financial experts criticize me for this "soap
opera" with all their right and all critics are constructive but as
psychologist who has worked more than 46 years in the financial sector in 27
countries, I do not think the financial and legal approach is the best, less the
unique platform for qualifying and resolving successfully a credit
relationship. Hence, the above six points show me the basis for that
relationship. As I think, there are better ways to manage a credit than those
used traditionally, and still are being used today. In my opinion, this brought
the world to the "credit crunch" and the recession. At least, I am proposing
a new approach on lending relationships that it has worked for me in the
practice.
As a marketing person, I have heard MFIs frequently say that
the pressure of competition, forces them to act following the strategies of
others in the market. If, competitors were in handling the lending situation,
that would be right, but they do not, so it will be the worst way following
them and falling in the risk of overindebtness with the customers. The best
way, it is always staying one-step ahead of the competition with innovative and
creative ways to attract new customers and keep existing ones, with an excellence
in service and a quality of the customer service. MFI that responds to these
two actions will lead the market, even if it is true that with time their
actions will be imitated, the service excellence will shield their customers
against the “siren songs” of the competition.
I will now analyze the credit from the perspective of
previous six-points. In the last Note I commented that the risk of default is
tripled during the life term of a loan, in relation to the risk of a wrong
applicant qualification. I also commented that credit has two very distinct
phases: The application phase and the payout phase. The first it is total and
absolute responsibility of the IMF, so if a mistake is made, the institution
can hardly attribute the error to the debtor and in the second, while the
debtor is paying properly, an harmonious relationship is maintained by the
creditor. But when the debtor falls behind, the attitude of the MFI gives a 180
degree turn in the way the customer is treated, assuming a very aggressive
position, this radical and contradictory change is very far away from the
relationship when the debtor was paying correctly. This change is so abrupt and
excessive in many cases, which resulted in the scandal Andhra Pradesh in India,
which caused 88 suicides in 2010 and has very worried to global microfinance
sector.
The credit problem arises when the Pandora's Box opens,
because a chase begins, in many very cases violent, with equal treatment for
all defaulters and as insistent with those who cannot pay and those that do not
have the wiliness to pay, rather than objectively analyze each case in search
of solutions. I have always found there are always solutions, either preventive
or corrective. Such as: (a) Use fractional collection procedures to avoid the
extreme actions; (b) Educating financially the debtors on credit risk and the
consequences of overindebtedness as preventive and on the in the best way to
manage their money and (c) Watching the defaulters behavior to detect early
problems. However, the IMF's emotional reaction to the risk of losing income,
sends the wrong messages to the customers and the personnel, this last if they
are not trained to manage this situations, the result is catastrophic to both
parties: The MFI and the defaulters. I will discuss each of these aspects with
examples.
I will start with point (c). Earlier I mentioned how you
should handle the issue of competition and points (b) and (c) which are closely
related, I will treat them jointly: The way MFI publish in advertising to their
customers, in many cases is more harmful than beneficial. To demonstrate this I
will present two typical examples that I experience, one in relation to savings
and other on loans: The financial community competes by offering higher rates
to depositors of savings, which has led savers to give an exaggerated value to
the percentages more than money value of interests. By not educating
financially on percentages, depositors have lost their meaning, except that
some are higher than others are. Take the case of ordinary savings account in two
MFIs: One offers an interest rate of 5% per year and another 3% annually, but
none explains in the advertising that the interest is calculated on the average
daily balances. However, if both show an average balance of $ 100 at the end of
the month, the interest paid that month would be $ 0.25 for the 3% and $ 0.41
for the 5%: It is clear that the difference in money between the two accounts
would be only $ 0.16, while the difference between the two rates would be 2%.
The first difference is negligible while the second is significant and this is
what it had been publicized by the two MFIs: Do you think many people would
decide to open the account in one or another by such an small money difference?.
The example on loans: IMFs tend to offer from the beginning and automatically
the maximum term of a loan, regardless of the purpose of the money itself,
claiming that this is what the competition offers. However, if the loan is to
be used as working capital to renovate an inventory that rotates every 3
months, it does not make sense to lend this money with a 12 months term for payback.
Because during that period the inventory will have to be rotated 4 times, but
the Microcredit will only cover one rotation and the debtor must wait 12 months
to repay the loan and receive a new one: But how will the debtor will finance
the inventory during that time?. It is the duty of the IMF to educate the
client, showing that in savings is preferable to evaluate other differential
advantages of the two accounts. in borrowing to use a 3 months payback term to
cover each inventory turnover with a new loan and to adjust the amount of the
new loan according to the sales: If the sales increases or reduce the amount
will cover either a part of the inventory or a bigger inventory if the sales increase.
Both examples are related to financial education that MFI should give their
customers and that most of these do not do when they sell their financial
products or services, regardless of what the competition does, you have to sell
the best financial solution for each customer which it must be a “suit tailored”
to their exact needs. Therefore the personnel must be train to sell professionally,
properly and educate the customers of their portfolio.
In (b) is difficult for me to interpret the perception of
some MFI that defaults in payments are a betrayal of the debtor to the MFI or a
sin, so he/she should be punished severely, rather than give the loan officers
the opportunity to seek a solution with his/her customers. In many cases
default happens due to an undisciplined behavior or ignorance (That was one of
the triggers of Andhra Pradesh), and customers all of a sudden see themselves
placed into a serious problem with a bad end. An example that I notice in one
of my clients: The IMF used to pursue defaulters the hard way. I trained loan
officers to find out the root of the problems of the defaults, based on the knowledge
gained with time and trust and the relationship developed with their customers and
how to handle the default, as a professional selling situation to recover and
avoid future defaults. It cost me more to persuade the managers in the IMF, who
resisted empowering the loan officers, instead of scolding them hard when the defaults
occurred. Microloans in this IMF were paid in monthly installments, so I
prepared the loan officers to react casuistically and at the beginning of each
month, when a debtor showed a delay in the previous month. They persuaded the
debtors (Sell professionally, is to identify the needs and persuade
solutions) to set aside a weekly a portion of the monthly payment, visiting
customers at the end of each market day in each week and to assure the deposit
in a “deposit only savings account”. Loan officers motivated the client to deposit
as much as they could give each week. So actually, they made four installments
every month, one weekly, which eventually covered more than their monthly
payment and a part of the default of the previous month, catching up on the
next two months. The Microenterprisers realized that it was easier to cover in
this way payments, as the debtors alleged that paying the full monthly quota
with the income of the last week of the month was not always possible. What
happened is that customers saw their business with a weekly perspective,
leaving for the last week of the month the payment of the Microcredit. From
that moment on, they changed the way to manage their payments and the
defaulting problem was significantly reduced. Today, in this MFI the lending
officers have enough authority to manage freely the defaults up to 60 days, as
they are the most interested in receiving their full bonus that it was being
reduced in relation to the default of their loans portfolio. The moral: Loan
officers in addition to selling and processing new loans should educate
customers. Therefore, they must be taught to learn how to do professional
selling.
Many MFIs do not realize that every defaulter is a unique case
and that aggressive, equal treatment and collective action for all defaulters
could be counterproductive. IMFs directors and managers must act rationally,
with tailored solutions in each case and seek effective and permanent
solutions, as in the example above; preventing conflicts and strengthening customer
loyalty and also achieving the cross-selling of other services offered by the
MFI (The Savings Account opened by the customer).
In conclusion, the debtor suffered when he arrived the last
week of the month and sales were not sufficient to cover the monthly payment,
so no matter how much the MFI grind them the situation could not be resolved.
Once the debtors change their money management behavior, default was reduced
and additionally a new savings account was opened. At this point, the executives
of an MFI have a helicopter view. It cost to delegate, so when there was the
slightest default there was a tendency to generalize and enter into a spiral of
"management by spasms" giving orders, demanding immediate results and
scolding everyone, making loan officers lose their margin of maneuverability
with their customers and even if they were well trained. This leads them to
react thinking more about the survival of their employment that in the delinquent
customers. This aggressiveness tends to be contagious, so the loan officers must
be taught to sell; is not enough for them to have financial knowledge. I have
seen Microentrepreneurs talk with emotion in front of loan officer on how
he/she help them and taught them, because this "soap opera" creates
intense bonds of trust and loyalty between clients and the MFI. The
relationship between a teacher and a pupil is very strong, and the strongest is
this link, the more difficult will be for the competitors to attract the good
creditors away from the MFI.
I will end this note with some brief suggestions to
strengthen this relationship:
1.
You
must know the use of money of the Microloans before defining the term of the
loan with the applicant, in order to reduce this term to a realistic minimum
payment periods. This reduces the risk of defaulting, reduces the operative
costs of the Microenterprisers business and as you know, a shorter lending
period result in less risk for the MFI during the loan’s maturity and gives the
Microenterpriser more flexibility.
2.
The
lending officers have to know how to observe inconsistencies and gestures of
the loan applicants that warn them of the risk of default. This ability is also
important in loan recovering processes.
3.
Loan
officers must observe and process the experiences that give effective and
permanent solutions to settle the defaults, as seen daily in their work. These
strategies should become permanent and shared with their peers.
4.
You
must ensure the outstanding balance of loans to recover them in case of
permanent disability or death of the debtor. The group insurance premium
applied to the balance of Microcredit is cheaper than a recovery process.
5.
To
provide the maximum deposit in the form of a limited savings account and/or
fractional payments of the loans so that customers can design their own payment-saving
solutions tailored to their need.
6.
Do
not forget that Microentrepreneurs cannot be away from their businesses for too
long and that they must be taught to manage their money that includes reminders
of the fractionated payments.
I will continue this issues in the next Note and as you can
see the rating of debtors and portfolio recovery can be a marketing issue.
Who'd say?.
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