The first piece in this series focused on the direct impact of the pandemic on the Sentinels themselves, including their staff, product offerings, communications with their customers, and operations. This second installment zooms out to look at the Sentinels in relation to the broader financial, policy, and regulatory systems that surround them, and how the Sentinels have coped with: liquidity and solvency challenges, liaising with funders, lobbying policy-makers, and understanding and implementing fast-changing rules.
INSTITUTIONAL FINANCIAL CHALLENGES
One of the big questions of the early days of the pandemic was how much it would affect the finances of the microfinance industry. The financial challenges of the pandemic have been unavoidable, even in the least-affected markets. However, the scale has ranged from relatively modest to near-existential. Loan rescheduling and moratoria on repayments have been the primary channel, and for the most difficult cases, multi-month repayment moratoria have created massive challenges. For one of the Asian Sentinels, collections were effectively on hold for a full year, from late March 2020 until April 2021. The resulting impact on liquidity has been without precedent. Some smaller MFIs in that market have already closed.
The big question across the board is what will happen to repayments when they resume, and when there are no longer uncertainties and moratoria and deferment or forgiveness programs. The signal from the Sentinel with the year-long moratorium is mixed: collections resumed at 60% of payments due. You can view that as a glass half-full or half-empty depending on your prior expectations. What is obvious, though, is that no MFI could continue operations with that level of repayment.
For the North African Sentinel, a government-mandated moratorium meant that 70% of the April 2020 portfolio was rescheduled, though its impact diminished over time, and by the first quarter of 2021, this was down to 40%. In some cases, different regulatory designations created opportunities for more flexible interpretation, by which one Sentinel was able to offer flexible and recovery loans as an alternative to the 12-month moratoria announced by the regulator. The result was a more limited and modest impact on its financials. Many of its local competitors followed.
In several markets, there were no mandates, and this allowed institutions to adopt more tailored approaches based on client needs. For the Central Asian Sentinel, because of the relatively small loans and the fact that interest accumulated during the course of the moratorium, only 50% of clients opted for a payment moratorium, and even those tended to prefer shorter periods, so that by early 2021, less than 10% of loans were still under some kind of rescheduling. A similar principle applied to the Central American Sentinel, whose loans are also short-term. Some Sentinels saw minimal impact, with only a small minority of clients requesting some type of rescheduling.
RELATIONSHIPS WITH FUNDERS
One theme that flows through nearly all Sentinel interviews is the unusually flexible response from international debt investors. This is decidedly good news, but it was by no means certain when the crisis started. Nearly all Sentinels mentioned the willingness of investors to reschedule and extend loans. One suggested that funders might have too much liquidity:
“Before, [Microfinance Investment Vehicles] were offering €2 to3 million per single deal, now they are offering €10 million. For [Development Finance Institutions], before it was €5 to 6 to 7 million, now whoever we talk to, it’s €8 to10 to 12 million. It seems that the funders are over-liquid.”
This flexibility has been mirrored by local lenders in some markets, particularly specialized apex and development funds. Even so, the situation is hardly homogenous. Indeed, access to funding has been a crucial differentiator. The West African Sentinel had floated a large bond a few months before lockdown, so liquidity simply wasn’t an issue. For others, the situation was similar, with several Sentinels raising significant funds and building up liquidity during the crisis, providing the organizations substantial flexibility.
Meanwhile, a Southeast Asian Sentinel has been struggling to raise any funds at all from local banks that were its traditional source of funding, and as a result has been facing major liquidity challenges. While it’s a medium-sized institution and thus far has been able to manage, smaller institutions in the country have been struggling to survive, with some having already closed. Similar scenarios were described by other Sentinels, creating a Darwinian situation where institutions with strong liquidity gain an upper hand during the crisis. One large Sentinel minces no words on this point:
“The crisis has favored stronger institutions with access to funding. Some [weaker institutions] are running out of money. They are asking if we would not rather purchase them. We aren’t interested in their companies, but would rather just absorb their clients.”
But what’s true for liquidity is less true for capital. Because of flexible regulations put in place in response to the pandemic, for most Sentinels, loans that have been rescheduled or placed under a moratorium have not been subject to strict provisions. The impact on capital has thus been delayed, and to a large extent remains unknown. One Sentinel that had been through a major crisis in the past expects to wait three years before the full extent of Covid-related losses will be realized.
And for those who do face significant capital losses, getting investor support may prove more difficult than it has been for managing liquidity. One Sentinel going through a restructuring process reports that it has been both very complex and very slow:
“Between the lenders who have to take haircuts and shareholders who’re putting in additional equity, there are fifteen parties—none of them can make a decision ‘at the table;’ they need to go back to their investors, all of whom have different opinions and motivations and tolerance of risk and loss, [which] means that finding a ‘convening point’ is hard.”
GOVERNMENT RESPONSES IN THE FI SECTOR
On the financial regulatory front, the most common government response in the countries where the Sentinels operate has been some type of pause on repayment: moratoria, grace periods, or some other form of rescheduling. However these vary greatly, from voluntary guidance to strict mandates. In many cases these have been accompanied by some type of loosening of loan provision rules. In several Sentinel markets, there have been notable disparities in how the special measures were implemented, with institutions operating under different licenses or different supervisory bodies seeing significantly different rules—in one case, “the official circulars were exactly the same but the practical implementation is easier for MFIs than the banks.”
Some governments have gone further and provided significant support for financial services providers. One Sentinel described a program that directly supports institutions in their efforts to provide flexibility to clients:
“The country’s microfinance association lobbied the government for a ‘solidarity fund’ that enables a state microfinance funder to guarantee COVID-affected restructured loans to informal sector microenterprises.”
On the other hand, some governments have been less than helpful. Reports one Sentinel:
“The big news at the moment is about the Turnover Tax, which the government announced last year. This is a 1% tax on gross turnover. It was introduced because the government expected many organizations to report losses during 2020–21 and so it was a way to raise revenue even if organizations are loss-making. Implementation has for the time being been stopped by the lower courts. However, we are pessimistic about the prospects for the judgment to be upheld in high court, not least because some organizations had already paid. We also anticipate that taxes will be applied retrospectively.”
DEEPER CHALLENGES, BUT GREATER RESILIENCE
When the pandemic started, there were many questions about what the impact on the microfinance sector would be. Some pointed to the resilience of the sector in the 2008 global financial crisis and suggested there was not much to worry about. Others (including Tim) thought that the pandemic was an existential threat unlike any the sector had ever seen.
Looking at the experiences of the ten Sentinels thus far, what stands out is that both perspectives were right. The pandemic presented challenges more wide-ranging and serious than any the sector had ever seen, any of which could have pulled a provider under. At the same time, the sector has proved remarkably resilient to these serious challenges. The Sentinels have managed payment moratoria, staff and salary cuts, new product innovation, and even significant changes to operating models in some cases. Nearly all of the Sentinels could be described as optimistic even in the face of these challenges.
Still, many questions and concerns remain. As noted above, managing liquidity is a different challenge than managing capital and it remains to be seen what balance sheets will ultimately look like. Governments have been broadly supportive of the sector, rather than punitive, but with the Delta variant continuing its rampage, the policy environment could change in ways much less favorable to the industry. For most Sentinels repayments have remained remarkably strong given the circumstances, but few report repayment rates that would allow them to continue operating indefinitely. Nearly all depend on repayment and PAR rates returning to “normal” within the next year. The sole exceptions are a few institutions that are well-funded and well-positioned to pick up the pieces from collapsing competition—they are confident that when it’s finally over—whenever that may be—they will emerge stronger. So far funders have been willing to continue to lend/invest, even ramp up their investment. Will that continue if vaccinations continue to lag so much in the developing world or as another variant emerges?
Another consistent trend is an acceleration of the march to digital. Some are much better equipped than others, having had procedures and platforms already in place. Others are engaging on a more trial-and-error basis, trying to find a solution that works for both the institution and its clients. It’s a trend we’ll continue to watch closely as it could fundamentally change the economics of microfinance and who is being reached.
Finally, for the Sentinel series itself, following this kick-off, installments will update on a roughly monthly basis, focusing on various aspects of the issues facing the Sentinels and updates on what their organizations have been doing.
