CHAPTER ONE

INTRODUCTION

1.1 Background of the Study

The roots of lending can be traced back to the roots of civilization from Mesopotamia that are than more 3,000 years old showed the development of a credit system that included the interest rate concept. (Carlin & Mayer. 2013). legitimate banks were developed from the indenture servitude that was rampant by individuals known as moneylenders who would set up benches in the local market place (with the word of bench being (“banca”) that we coin the word bank (payer, and Redman 2017).Banking in Africa started giving loans to white settlers in the 1990’s. getting to the 1990’s loans given to customers did not perform which called for an intervention. Most suggestions were for evaluation of customer’s ability to repay the loan, but this didn’t work as loan defaults continued (Modurch, 1999). This bought about crises in the banking sector.

Over the last 10 years, the quality of the loan and its portfolios across many economy worldwide stayed comparatively stable until the emergence of 2007-08 financial crises. Since then, the quality of the bank assets declined quickly because of the world economic downturn. The reality is that loan performance was not yet standardized across the world econmies (Gerstel and Beasens, 2008).

Microfinance credit is a source of financial services to entrepreneurs and small businesses lacking acce banking and related services. (Diagne & Zeller, 2001).Microfinance credit can play a pivotal role in economic growth by influencing the growth of small and medium size enterprises in the economy. Bank and lending institutions provide the services that allow people to save and invest available assets and resources, which further supports and strength economic activity. Within underdeveloped communities, the role of microfinance institutions provides the credit access and financial services needed to develop income earning business, with any society, micro credit financial services provided and businesses to obtain credit and mange available assets on a continuous basis (Copestake, Bhalotra, Johnson, 2001).

According to Balogun and Alimi (2010), loan default can be defined as the inability of a borrower to fulfil his or her loan obligation when due. High default rates in MSMEs lending should be major concern to policy maker in developing countries, because of its unintended negative impacts on MSMEs financing. Microfinance institutions all over the world including Cameroon faced with the challenge of loan default.

The chance the microfinance institution may not receive its money back from borrowers (plus interest) is the most common and often the most serious vulnerability in a microfinance institution (Warue, 2012). According to her since most microloans are unsecured, loans default can quickly spread from handful of loans to a significant portion of the portfolio. This contagious effect is worsened by the fact that microfinance portfolios often concentration in certain business sectors. Consequently, many clients may be exposed to the same external threats such as lack of demand for client’s products, livestock disease outbreak, bad weather and many others. These factors create volatility in microloans portfolio quality, heightening importance of controlling credit risk. In this regards, microfinance institutions need a monitoring system that highlights repayment problems clearly and quickly, so that loan officers and their supervisors can focus on delinquency (repayment rate) before it gets out of hand. In lending service, a default is the failure to pay back a loan.

Von-Pischke (2010) as in Mungure (2015) states that some of the impacts associated with defaults include the inability to recycle funds to other borrowers; unwillingness of the other financial intermediaries to serve the needs of small borrowers; and the creation of distrust. As noted by Baku and Smith (2008), the cost of loan default will be felt by both the lenders and borrowers. The lender cost in default situations, including loss of interest, the opportunity cost of principal, legal fees and related costs.

Micheal et al (2006) emphasized that non-performing loans in loan portfolio affects operational efficiency which in turns affects the profits of the bank, liquidity position and solvency position of the microfinance institutions. Batra,(2003) noted that non-performing loans also affect the psychology of bankers in respect of their disposition of funds towards credit delivery and credit allocation. This creates a different attitude and perception towards different borrowers in different locations by the bankers. The 2013 Ghana banking survey indicates that many microfinance institutions in Ghana are encountering massive bad loans. The situations because the country’s major banks (Ghana) limited and standard chartered bank (Ghana) limited facing the same problem. The reports do not reveal the exact repercussions of the situation; but based on other evidence, it is certain that bad loans effect the financial condition of banks.

Nonetheless some of the loans given out by the lending institutions unfortunately are not paid back and eventually result in bad debts with adverse consequences for the overall financial performance of the institutions. The issue of loan defaults becoming an increasing problem that threatens the sustainability of microfinance institutions. The causes of the problem are multi-dimensional and non-uniform among different literatures.  Unsettled loans  are always a source of misery for lenders because if a microfinance  has too much of it on its balance sheet, it can adversely affect its operations in terms of liquidity, profitability, debt- servicing capacity, Lending capacity and ability to  raise additional capital. The incidence of non-performing loans in the Ghanaian banking and non-banking industries including microfinances has been on the rise in recent years as their loan portfolio increases despite efforts by these financial institutions to deal with it.

1.2 Statement of the Problem

There are, significant disparity in the level of development and profitability in microfinance institutions across different countries (mix, 2010) but are main focus here is microfinance institutions in Cameroon. The profitability of microfinance institutions in Cameroon has strength over the years because of some factors. Microfinance institutions in Cameroon, are over 850(statistics compiled by this researcher from government figure) appeared to have failed to achieve their planned portfolio performance, which led to bankruptcy in many microfinance institutions in Cameroon, especially those in the southwest region of Cameroon such as UNICS PLC, Bai Estate cooperative credit union(Beccul), and others.

The sector is criticizing for providing services only to the bankable customers an almost in the same condition as banks forgetting their social responsibilities of providing finance services to those excluded from the traditional banking system. This can be explained by the fact that these microfinance institutions are mostly emanation of bans and therefore operates with their mother bank conditions. According to the COBAC reports on microfinance sectors (2008), the level of loan default is still high in the sub regions which turns to reduce the profitability of microfinance institutions in Cameroon.

The low level of profitability of microfinance institutions over the years came as a result of some factors. The regular news about the microfinance institutions in Cameroon is the constant close down of several microfinance institutions establishment which reduces customer’s confidence level. We still have in mind Confinest and Fitta cases, Cameroon as researched (on by Hubka and Zaidi, 2005, cull and all 2009 Ndambu 2011).

High interest contributes to lower the profitability of microfinance institutions in Cameroon, interest rates still remain very high in microfinance institutions in Cameroon than those of banks (cobac 2008), the volume the loan and saving mobilized by the sector is still very low as compared to the banking sectors (about 5.5% of the deposit an 4.8% of the bank loans in 2008 against 7% and 6% respectively in September 2007). Furthermore, is an uneven geographical distribution of microfinance institutions across the national territory (Fatabong 2012, Kobou et al 2009) with less than 48% of microfinance institutions located in rural areas meanwhile close to 60% of the population of Cameroon lives in rural areas.

Despite the remarkable expansion of saving the recovery of loans still remain very low. The violation of basic prudential norms stipulated by the banking commission as well as poor internal control which all contribute to low profitability   Ironically very few studies to the best of our knowledge have scrutinize the studies. Therefore, this study seeks to assess the effect of loan default on MFIs on profitability in CCC (MFI) in Buea, Cameroon to evaluate how their loan default affects or relates with their profitability.

1.3 Research Questions

1.3.1 Main Research Question

The main research question of this study is what’s the effect of loan default on profitability of Community Credit Company (CCC) in Buea, Cameroon?

1.3.2 Specific Research Questions

We equally have the following specific research questions which include:

1. To what extent does the high-interest rate on loans affect the profitability of Community Credit Company (CCC) in Buea, Cameroon?
2. How does inadequate loan size affect the profitability of Community Credit Company (CCC) in Buea, Cameroon?
3. What is the effect of the lack of monitoring on the profitability of Community Credit Company (CCC) in Buea, Cameroon?

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