The Financial Crises and Consolidation (M&A) in the Microfinance Industry: A framework for addressing current challenges
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The Financial Crises and Consolidation (M&A) in the Microfinance Industry: A framework for addressing current challenges

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Mitchell Lench, Partner - Treetops Capital - United States of America

Mitchell Lench, Partner - Treetops Capital - United States of America

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The Financial Crises and Consolidation (M&A) in the Microfinance Industry: A framework for addressing current challenges The Financial Crises and Consolidation (M&A) in the Microfinance Industry: A framework for addressing current challenges Presentation Transcript

  • Treetops Capital The Financial Crises and Consolidation (M&A) in the Microfinance Industry: A framework for addressing current challenges November 2009 1
  • Agenda ! Impact of the financial crisis and solutions for MFIs ! Consolidation: A framework for addressing challenges 2
  • Impact of the financial crisis on microfinance and potential solutions to address current challenges (1/4) Challenges faced by MFIs Potential solutions ! Deteriorating asset quality and ! Implementation of new MIS and credit over-indebtedness due to economic technology systems slowdown, unemployment, volatile ! Improvement of credit methodology commodity prices, etc. and internal risk controls ! 69% of CGAP survey respondents ! Proper loan officer incentives in place experienced increase in PAR 30 ! Participation in credit bureau that ! Median PAR 30 in the Latin shares negative information on borrowers American region moved out from 3.4% in 2007 to 4.2% by 2008 ! Screening clients’ indebtedness levels ! Overindebtedness is a concern in and seeking first-time clients in more rural a number of markets as MFIs areas compete for the same clients ! 60% of microfinance clients found it harder to repay loans Source: MixMarket and CGAP’s “Impact of the Financial Crisis on Microfinance Institutions and 3 their Clients: Results from 2009 CGAP Opinion Survey”
  • Impact of the financial crisis on microfinance and potential solutions to address current challenges (2/4) Challenges faced by MFIs Potential solutions ! Refinancing risk and inability to ! Transformation can help MFIs access refinance at attractive rates, more diversified, lower-cost funding especially for Tier 2 and 3 MFIs ! Deposit mobilization can provide ! 52% of MFIs reported a more stable sources of funding experienced liquidity constraints ! Greater ability to tap into local (35% of Tier 1 MFIs versus 64% capital markets of Tier 3 MFIs) ! Syndication can reduce funding costs ! Funding costs moved out 250 for larger MFIs through larger loan basis points in Eastern Europe, to amounts as high as 400 bps in some Latin American countries, and 450 bps ! Consolidation may help institutions or more for top-tier institutions in achieve lower funding costs South Asia Source: CGAP’s “Impact of the Financial Crisis on Microfinance Institutions and their Clients”, 4 February 2009
  • Impact of the financial crisis on microfinance and potential solutions to address current challenges (3/4) Challenges faced by MFIs Potential solutions ! Increased foreign exchange risk ! Tapping into local capital markets ! A 2008 CGAP study shows that through bond and CD issuances 70% of cross-border funding is ! Deposit mobilization denominated in hard currency ! MFIs with foreign exchange losses ! Guarantees / back-to-back loans with reported these losses at up to 7– local banks 43% of their profits ! Working with microfinance funds that offer local currency funding solutions ! Lending in hard currency to clients whose income is in the same currency (ie, exporters earning USD) Source: CGAP’s “Impact of the Financial Crisis on Microfinance Institutions and their Clients”, 5 February 2009 and 2008 CGAP study, Focus Note 44.
  • Impact of the financial crisis on microfinance and potential solutions to address current challenges (4/4) Challenges faced by MFIs Potential solutions ! Lower growth rates, mostly due to ! Consolidation can achieve clients’ businesses being adversely economies of scale and cost synergies impacted to achieve higher growth ! 47% loan portfolio growth in 2007 ! Product development can help MFIs for MFIs reporting to MIX Market to increase profitability and capture a ! 65% of MFIs surveyed in 2009 larger market share in competitive CGAP study experienced stable or markets decreased growth in 2008 Source: MixMarket and CGAP’s “Impact of the Financial Crisis on Microfinance Institutions and 6 their Clients”, February 2009
  • Despite these challenges, microfinance has provided more stable returns than traditional asset classes Symbiotics Microfinance Index(1) (USD) S&P 500 •Monthly performance •Index value •Monthly performance •Index value 20% 140 Monthly Performance 2.0% Monthly Performance 135 15% Indexed Cumulative 130 Indexed Cumulative Performance Performance 130 10% 120 1.5% 5% 110 125 120 0% 100 1.0% 115 -5% 90 110 -10% 80 0.5% 105 -15% 70 0.0% 100 -20% 60 Jan- Jul- Jan- Jul- Jan- Jul- Jan- Jul- Jan- Jul- Jan- Jul- Jan- Jul- Jan- Jul- Jan- Jul- Jan- Jul- Jan- Jul- Jan- Jul- 04 04 05 05 06 06 07 07 08 08 09 09 04 04 05 05 06 06 07 07 08 08 09 09 (1) Funds currently part of the index are: ResponsAbility Global Microfinance Fund B Cap, Dexia Micro-Credit Fd Sicav BlueOrchard Debt USD Cap, Finethic Microfinance SCA SICAR USD, ResponsAbility Microfinance Leaders Fund, EMF Microfinance Fund AGmvK, Class T (since March 2009), Dual Return Fund Vision Microfinance USD Cap (up to and including February 2009). Source: www.syminvest.com, Bloomberg. 7
  • Agenda ! Impact of the financial crisis and solutions for MFIs ! Consolidation: A framework for addressing challenges 8
  • Consolidation is expected to continue given increased competition and challenges presented by the crisis Examples of past M&A transactions Examples of markets where M&A expected ! Peru ! Bosnia xxx ! BBVA merged three entities: Caja Rural ! Intense competition and high penetration de Ahorro y Crédito Nor Perú, Caja Rural de Ahorro y Crédito del Sur, and ! Bolivia Edpyme Crear Tacna to create Caja de ! Intense competition and high penetration Ahorro y Crédito Nuestra Gente ! India and Mexico ! Financiera Edyficar acquired Crear ! Fragmented market: large number of small Cusco in 2006 to gain a foothold in the MFIs competing with few big players Cusco market ! Peru ! Colombia ! Intensifying competition in urban areas, ! BBVA merged Corporación Mundial de consolidation expected to continue la Mujer- Bogotá and Corporación ! Nigeria Mundial de la Mujer- Medellín to create ! Consolidations expected due to heightened Bancamia, a microfinance bank minimal capital requirements for MFIs ! Kenya ! Nicaragua ! Equity bank acquired Uganda ! Large number of institutions in a small market Microfinance Ltd ! “No Pago” movement has increased default ! Eco bank merged with First Bank of rates of many MFIs and weaker institutions Nigeria may benefit from consolidation 9
  • Consolidation framework for Microfinance Institutions 1 2 3 Defining strategic Negotiation: objectives: Screening Implementation Valuation, potential and post-merger Assessing benefits of Structuring, consolidation integration consolidation and partners Governance ! What are the MFI’s ! What institutions would ! Holistic approach to ! Detailed work plan for strategic objectives? be attractive partners? valuation post-merger ! Complementary integration ! Could these objectives ! Structuring to align services/ product be better achieved incentives lines through consolidation ! Potential synergies ! Identification of (vs. organically or via a ! Shareholder/ legal potential financing joint venture)? structure sources ! Social mission ! Post-merger ! Potential risks governance of ! Level of difficulty to combined entity execute ! Assessment of interest 10
  • 1 Benefits from consolidation can come from five main sources… Example cases where benefits apply to Description Microfinance Institutions ! Larger combined entity likely to have reduced ! Liquidity constraints and higher funding costs Access to capital liquidity risk and easier / cheaper access to capital ! Lower private capital investment ! Access to more sophisticated financing and ! Governments and donor funding limited funding from capital markets ! Spreads have increased 400-500 basis points ! Deposit mobilization in some markets during financial crisis ! Greater investor confidence and negotiation ! Funding constraints force MFIs to curtail growth power Geographical ! Expansion into another geography through ! MFIs eager to increase outreach to different regions expansion consolidation in order to achieve growth more and tap into new markets quickly/ profitably than expanding organically ! Barriers to entry to grow organically Acquiring a new ! Access underwriting methodologies and platforms to ! MFIs which want to: client segment/ adopt new product(s) and target new client base ! Target new market (i.e. SMEs) product ! Introduce new lending methodology (i.e. individual) ! Offer deposit products and need banking license ! Achieve cost savings or revenue improvements ! High cost of technology infrastructure Cost/ revenue through ! Opportunity to consolidate branches synergies ! Economies of scale ! Access to specific product expertise ! Frontline synergies, e.g., cross-selling opportunities ! Leverage superior management capabilities to add ! Need to reinforce management team or acquire Management value to target company or to own company new capabilities (e.g., knowledge of new market) arbitrage 11
  • 2 Screening potential consolidation partners Operating model ! Technology and lending platform and methodology (e.g., individual or group) ! Geographical coverage (loan officers) ! Customer base (including number and socio-economic profile) ! Regulatory constraints, economic and political risks Financial Information Governance/ Ownership structure ! Key financial information ! For-profit vs. not-for profit ! Funding sources ! Management and employee Target institution ! Asset quality ownership ! Profitability indicators ! Institutional ownership ! Preliminary synergy assessment Strategy and management ! Strategy of MFI ! Competitive advantage ! Quality of management ! Strength of relationships with clients and funders ! Reputation of MFIs and its products 12
  • 2 Target screening: practical advice Take a practical approach in screening the potential universe: " Is the owner willing to sell? If not, why? Are there structural solution to align incentives? " Perform preliminary due diligence " Listen to what others (i.e. clients, bankers/ investors, etc.) say about the target (e.g., comments on management capabilities, strategy etc.) Take a conservative approach towards synergies: " Cost synergies are most easily implemented " Revenue synergies are more difficult to achieve 13
  • 3 Negotiation process and alignment of incentives: Valuation, structuring, governance / management Description Key success factors ! Comprehensive due diligence to ! Agreement on ! Determine synergies ! Valuation methodologies ! Evaluate financial projections ! Financial projections Due diligence ! Evaluate potential risks ! Shared long term vision and social and valuation mission ! Multiple methodologies valuation ! Confidentiality - Non-disclosure agreements ! Define a dedicated team ! Determine merger financing ! Alignment of economic incentives ! Cash versus Stock ! Sustainable financial structure ! Debt/ Equity raising requirements Structuring of ! Acquisition through stages? deal ! Deferred contingent compensation at achievement of certain milestones? ! Post-merger shareholder structure ! Definition and agreement of the respective ! Sustainable corporate governance strengths of both teams Governance ! Cohesive management team 14
  • Common pitfalls and consideration points Common issues / pitfalls Consideration points ! Lack of adequate strategic rationale: ! Develop clear strategic rationale and fit acquisition driven by opportunistic acquisition into a wider strategic framework target identification ! Lack of planning and a specific ! Establish and agree on process up front roadmap with clear responsibilities, steps and deliverables ! Undifferentiated approach and lack ! Carefully plan initial contact with seller by of understanding of seller context understanding context and identifying key puts target in defensive position people ! Limited number of consolidation ! Take into considerations other transactions structures are considered 15
  • Contact information Treetops Capital 8 East 40th street, 9th floor New York, NY 10018 Mitch Lench, Partner Luca Torre, Partner T +1 212 642 7511 T +1 212 642 7513 M +1 917 319 5887 M +1 847 922 8613 F +1 212 658 9834 F +1 212 658 9834 E mitchell.lench@treetopscapital.com E luca.torre@treetopscapital.com 16