Optimal Capital Structure: The Role of Savings in MFIs Overview and Pakistan Case Study Ellen Seidman Executive Vice President, ShoreBank Corporation, and Chair, Center for Financial Services Innovation February 21, 2008 Morgan Stanley Westchester Campus

© Copyright ShoreBank International Ltd Benefits of Saving Saving in General: Risk management, income smoothing Discipline Asset effect Saving at a Formal Institution: Enhanced safety of funds and person - Both institution and funds more likely to be there when needed - Holding away from residence reduces likelihood of theft, impulse buying or lending Enhanced access to other financial products Physical evidence of a persons identity and further link to mainstream Potential inflation hedge

© Copyright ShoreBank International Ltd Savings and MFIs Savings have been small or insignificant part of MFI capital base: regulation and capacity constraints Because the perceived leverage ceiling for MFIs is lower than for commercial banks, MFIs are reaching debt constraints MFIs have two broad funding options beyond debt: deposits (if regulation allows) and equity (commercialization) Key factors in moving to deposits: institutional maturity and capacity, cost, risk management capabilities Risks MFIs must deal with in mobilizing savings: liquidity, asset-liability management, interest rate risk

© Copyright ShoreBank International Ltd MFI Savings: Client – MFI Value Proposition

© Copyright ShoreBank International Ltd Savings and MFIs: The Case of Pakistan Source: SBI 2007 estimates based on detailed historical and projected analysis of likely largest microfinance providers by 2010

© Copyright ShoreBank International Ltd Pakistan: MFI Savings Product Considerations ClientMFI ValueCosts/benefitsManagementDesign Decisions Demand deposits Meet unexpected needs Smooth consumption Store excess cash Receive transfer payments Do not require regular income Large number of accounts, small average balance Least profitable Stable Requires less trust-building Heavy demands on staff, MIS and internal controls Constant liquidity management Minimum opening deposit Deposit size allowed (minimum and increments) Number of deposits allowed monthly Notice requirement for withdrawals 1. MFI/Bank can channel the small cash savings as demand deposits. 2. Transaction costs must be kept low: Point of transaction must be reasonably close process of completing a transaction must be simple and swift.

© Copyright ShoreBank International Ltd Pakistan: MFI Savings Product Considerations ClientMFI ValueCosts/benefitsManagementDesign Decisions Contractual & Time Saving Products Meets expected needs Store long term surplus Interest earned Longer term funds Larger average balances More profitable May be volatile Require a high level of trust-building Fewer administrative requirements Cash flow nearly predictable High liquidity management requirement Deposit amounts and frequencies; Consequences of late payments/early withdrawals Payout: lump sum or stream of payments 1. Potential to compete with committees/informal savings structures 2. For saving for medium to high cost, predictable needs 3. Time deposits make possible mobilization from the relatively better off in the urbanpoor community 4. Challenging as pioneering product: a) trust challenge, b) financial habits of the urban poor

© Copyright ShoreBank International Ltd Encouraging Saving Making it Easier - Bundling with other products, including loans - One-time commitment Social Support - Deposit collectors - Savings circles, ROSCAs Make it Fun - Prize-linked saving

© Copyright ShoreBank International Ltd MFIs & Savings: Conclusions Deposits can be cheaper than debt or equity if volume and terms leverage potential market demand Risk management is critical to successful deposit strategy Operational and financial costs vary widely and need to be analyzed carefully Source: CGAP, The True Cost of Deposit Mobilization Client aspirations and opportunities from savings should be considered