CHAPTER ONE

INTRODUCTION

1.1 Background of the Study

Financial institutions make their greatest profits from lending or by giving out loans. The major activities of Microfinance are to instilling saving culture, investing activities and offering lending services, which is the major source of raising revenue for Microfinance. As noted, large proportion of Microfinance asset comprise issued loans to members (Okundi, 2011).

Some these loans given out by the Microfinances unfortunately become non-performing hence eventually declared bad debts with adverse consequences for the overall loan recovery performance of the institutions Microfinance play a significant role in the provision of financial services to the target both rural and urban groups (Turyahebwa, 2013).

The issue of non-performing loans (NPL) is becoming an increasing problem that threatens the sustainability and performance of Microfinance in Cameroon. Currently the rate of Non-Performing Loans are on the rise and this has caused much problems in sustainability of Microfinance in addition, adversely affecting the balance sheet, operations in terms of liquidity, Lending capacity, profitability, debt- servicing capacity, and ability to raise additional capital. Microfinance provides savings, credit and investment opportunities to individuals and bonafide members (SASRA 2017).

According to Maghimbi (2010) Microfinance perform an active financial intermediation function, particularly mediating from urban, semi-urban to rural areas, and between net savers and net borrowers. They also ensure that loan resources remain in the communities from which the savings are mobilized. In Kenya, Microfinance s have remained one of the most important financial sector in provision of financial services, and have deeper and extensive outreach and mobilize members for sole purpose to pool resources together and empower members of the community (Njeru, 2016). In addition, to improving livelihoods, Microfinance encourages the behaviour of saving money among the communities than any other type of financial institute (ICA, 2007).

Adequately managing loan delinquency risk in financial institutions is critical for the survival and growth of such institutions. In the case of Microfinance, the issue of loan delinquency is of even greater concern because of the higher levels of perceived risks resulting from some of the characteristics of clients and business conditions that they find themselves in (Maina, 2016). Microfinance are in the business of safeguarding money and other valuables for their members besides providing loans and offering investment financial services (Murungu, 2012).

Loaning to members is the main income generating activity for the Microfinance. But this activity involves huge risks to both the lender and the borrower. The risk of a member not fulfilling his or her obligation as per the contract on due date or anytime thereafter can greatly jeopardize the smooth functioning of a Microfinance’s operations. On the other hand, Microfinance with high credit risk has high bankruptcy risk that puts the members’ funds in jeopardy and eventually leading to collapse (Muriithi, 2012).

In case there is lack of proper oversight role by the authorities such as SASRA has great risk and effects in operations of Microfinance s. Among the risks that face Microfinance’s is loan delinquency management risk. This forms one of great concern to most Microfinance s and Government Regulators (Kamonjo, 2014).

The following services offered by MUSIC Bonaberi is been rendered to their members. MUSIC Bonaberi has the following types of members: civil servants and salaried persons (who use MUSIC as a means of payment of their salaries), business persons (who obtain loans from MUSIC Bonaberi to finance their businesses), private companies and individuals (who seek financial services from MUSIC Bonaberi for diverse reasons).

1.2 Problem Statement

As with any financial institution, the biggest risk in microfinance is lending money and not getting it back. Credit risk is a particular concern for MFIs because most micro lending is unsecured (i.e., traditional collateral is not often used to secure microloans Craig Churchill and Dan Coster (2001). The people covered are those who cannot avail credit from banks and such other financial institutions due to the lack of the ability to provide guarantee or security against the money borrowed.

Many banks do not extend credit to these kinds of people due to the high default risk for repayment of interest and in some cases the principle amount itself. Therefore, these institutions required to design sound credit management that entails the identification of existing and potential risks inherent in lending activities.

Matu (2008) carried out a study on sustainability and profitability of microfinance institutions and noted that efficiency and effectiveness were the main challenges facing Kenya on service delivery, Orua (2009) did a study on the relationship between capital structure and financial performance of microfinance institutions in Kenya, Gitau (2010) did a study on assessment of strategies necessary for sustainable competitive advantage in the microfinance industry in Kenya with specific focus to Faulu Kenya

Timely identification of potential credit default is important as high default rates lead to decreased cash flows, lower liquidity levels and financial distress. In contrast, lower credit exposure means an optimal debtor‟ level with reduced chances of bad debts and therefore financial health. According to Scheufler (2002), in today’s business environment risk management and improvement of cash flows are very challenging.

It is therefore important to investigate the effects of loan management on the financial performance of microfinance activities using MUSIC Bonaberi branch as a case study. The aim is to identify the effects of effective loan management that has influenced the financial performance of microfinance so as to come out with a means to reduce delinquent and bad loans in microfinance.

1.3 Research Questions

1. Does the lending policy affect the financial performance of MUSIC Bonaberi?
2. To what extent does tight loan control affect the performance of MUSIC Bonaberi?
3. To what extent does loan delinquency affect the performance of MUSIC Bonaberi?

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