How Do We Improve Microfinance Governance? Start By Measuring It

If there is one thing I have learned in four years of analyzing social performance data for MIX, it is that good procedures cannot enhance MFI performance in isolation. Unless an MFI aligns its systems to its mission and its products and services to its strategic goals, it will not adequately meet client needs. The importance of having a combination of policies and strategies that mutually reinforce each other shows up in governance as well—an area historically neglected in microfinance research but whose soundness is instrumental in protecting an MFI from risk exposure and in advancing its social agenda.

MIX recently collected data on a new set of governance indicators selected by the governance working group of the World Microfinance Forum of Geneva. Although a significant portion of good governance does not lend itself well to a survey-based data collection, the indicators selected were specifically screened for their likely link to the processes and structural aspects of governance. These indicators suggest that good governance is comprised of multiple factors. Based on a sample of 162 MFIs across 57 countries, MIX found a positive correlation between the presence of risk management functions, internal auditing procedures, and the existence of Board committees. Simply put, MFIs with the most sound governance structure tend to have all these procedures in place.

These findings fit with the industry’s increasing recognition that good governance is the primary differentiating factor between those institutions that overcome crises and those that do not[1]. As noted in the report on our findings, good governance practices dictate that an MFI adopt a risk manager or an internal auditor dedicated to fulfilling the risk management function for the institution since the existence of such a function is frequently associated with an increase in long-term profitability. We can more fruitfully investigate the relation between these various aspects of governance and MFI performance by tracking both over time.

This is why MIX plans to introduce metrics related to the presence of risk management and auditing functions, as well as of Board audit and risk management committees—whose role can become critical as an MFI grows in scale and complexity—in next year’s data collection campaign.

The aforementioned report also provides insights into other areas of governance. For example, on average, MFI Board directors evidence diverse experience and qualifications, as well as a high level of independence[2]. This holds true both across markets and MFI sizes. Furthermore, the majority of MFIs in our sample have Board members with multiple qualifications: finance/microfinance and business experience being the most common. The majority of MFIs also have Boards that meet with reasonably high frequency during the year, with most credit union and bank Boards meeting at least 10 times a year.

When we think about governance, we must be careful as well not to neglect the fundamental role of the Board in defining an MFI’s vision and mission. Thus, the ability of an MFI to translate its mission into practice depends to a very large extent on the Board’s commitment to measuring that MFI’s progress towards its development goals. MIX data on social performance show that, across a sample of 405 MFIs, 77 percent ensure that their institution identifies social performance issues as components of their strategic and business plans. Nevertheless, it is not yet common to have Board committees that specifically monitor operational and outcome aspects related to social performance.

This data is confirmed by the number of MFIs who are actually measuring the progress towards their social goals: of the over 600 MFIs who have been reporting to MIX to date, less than 20 percent of them consistently measure the poverty levels of their clients, the number of enterprises they have financed or the number of jobs who have been created through financed enterprises. A stronger Board commitment to measure an MFI’s mission achievement would certainly help the industry to better understand how effective microfinance has been in meeting development goals and in enabling improvement wherever the goals are not met.

Governance plays a prominent role in the Social Performance Task Force’s (SPTF) recently launched Universal Standards for Social Performance Management. These standards assert that a truly double bottom line institution should have a Board of Directors whose members show commitment to the institution’s social mission and who hold the institution accountable to this mission and to the institution’s specific social goals.

Therefore, other than integrating the new indicators mentioned above into existing MFI reporting practices, the next step in assessing governance at the industry level is to begin measuring essential practices related to these standards. In particular, practices such as the role of the Board in directing and overseeing an institution’s overall social strategy and in preventing mission drift during institutional transformation need to be quantified.

MIX and the SPTF will work closely over the next few months to identify appropriate metrics to evaluate these practices in order to allow a deeper and more holistic appraisal of governance to inform industry best practice.

To learn more about findings, read Measuring Governance in Microfinance: Initial Findings from a Pilot Project.

[1] Marulanda, B., Fajury, L., Paredes, M., Gomez, F. (2010), “Lo Bueno de lo Malo en Microfinanzas: Lecciones Aprendidas de experiencias fallidas en America Latina”, study funded by FOMIN/BID, IAMFI, Calmeadow, Deutsche Bank Foundation and ACCION’s Centre for Financial Inclusion.

[2] An independent director is a person who has never been affiliated with the institution or its senior executives through ownership, employment, business, or a family relationship.