NDEJJE UNIVERSITY FACULTY OF BUSINESS ADMINISTRATION KAMPALA CAMPUS.

EXAMINATION OF CREDIT POLICY AND PERFORMANCE OF MICRO-FINANCE INSTITIONS IN UGANDA. CASE STUDY: MICRO CREDIT DEVELOPMENT TRUST HEAD OFFICE

BY OTIM RICHARD OPIO 09/BA/E/222

A RESEARCH PROPOSAL SUBMITED IN PARTIAL FULFILMENT OF THE REQUIREMENT OF NDEJJE UNIVERSITY FOR THE A WARD OF A BACHELOR`S DEGREE IN BUSINESS ADMINISTRATION.

DECLARATION

I otim Richard opio declare that this research proposal is a result of my own efforts .it is original and to the best of my knowledge, it has never been presented to any other institution /university for any academic award.

Candidate -------------------------------------------

signature

OTIM RICHARD OPIO 09/BA/E/222 Date -----------------------------------------------

APPROVAL This research proposal compiled by otim Richard opio under the topic of examination of credit policy and performance of micro-finance institutions in Uganda. And it will be under the supervision of Mr..) . It is therefore with my approval. SUPERVISORS SIGNATURE -----------------------------------------Mr. .. Date: ---------------------------------------------

DEDICATION This piece of work is dedicated to the Brothers, Sisters, Uncles, Aunts and my friends: Bagonza David &bazanye Elijah for all the maximum support and contribution they have showed me throughout my course.

ACKNOWLEDGEMENT I wish to extend my sincere appreciation to my father , mother for the love they have shown me, special thanks to for the support she has given during my entire life not only university education. I really thank my supervisor Mr. .. for her guidance; it is because of her commitment and close supervision that I will able to produce the final report. Also to mention my friends and course mates whom we have shared both bad and good times during my education career, Jane naboosa, bagonza David, moreen nakoobe among others.

TABLE OF CONTENTS

ABSTRACT The study will aim at finding out the examination of credit policy and performance of micro- finance institutions. Therefore the major objectives are; to examine the types of credit policy that exist in micro-credit development trust, to assess the relationship between credit policy and performance of micro-credit development trust and also to find out the other factors that might have hindered the performance of micro-credit development trust. The number of respondents selected will be 30 using the random sampling in microcredit development trust. The majority instruments to be used for data collection will be questionnaires. The study is largely descriptive and analytical based on both qualitative and quantitative data from primary and secondary sources, the data collection instrument will include; questionnaires and library research. Recommendations made from the study will act as a guide for continuous implementation of credit policy and making new reforms to enhance effective and continuous credit management. The study will suggest further research to be conducted to establish the effect of credit policy on the performance of micro-finance institutions.

CHAPTER ONE 1.0 INTRODUCTION 1.1 BACKGROUND TO THE STUDY According to Ledger wood (1998) micro-finance institutions (MFSI) are non governmental organizations, savings and micro-loans to active poor individuals, small-scale enterprises or groups of individuals. Such persons have experienced difficulties in accessing financial services from the formal banking sector, for the purpose of engaging in viable economic activities. Micro-finance institutions started in the early 90s and by 1997, they were around 35 micro-finance institutions countrywide. Such micro-finance institutions are licensed under various laws in Uganda i.e. Company act (1964), co-operative society statute (1991) and non-governmental statute (1993). Micro-credit development trust is one of those institutions in Uganda, providing small loans and savings to micro-businesses who cannot access such services from formal banking sectors. Elmer (2001) said that micro-finance institutions are regarded as one of the best weapons in the boosting of performance of businesses and that the idea arose in 1976 in Bangladesh with the founding of the grameen bank. He defined microfinance institutions as organizations that lend money to people who can offer no other collateral than a business idea and the capacity to work.

Michael MC card (1998). The borrower is normally required and proves his credit worthiness to be given money by commercial bank by putting up formal collateral and business history. This shut out the poor from the commercial banking market. Michael (2001) argued that where as micro-finance is one of the major trends in modern development co-operation, the media gives it un-usually wide coverage especially when the micro-finance summit in Washington in 1997, which was attended by several heads of state. According to pandey (1993) firms use credit as a marketing tool for expanding sales. In declining market, it may be used to maintain the market share. Credit help to retain old customers and create new customers. Pandey (1993) stated that if sales maximization is the goal of the firms credit terms, it should follow a very lenient credit policy and sell on credit to everyone, in order to enable the poor people to access credit terms, which commercial firms cannot do due to their stringent credit policy. Micro-finance institutions are known to sell credit to customers on very liberal terms and standards. Therefore, it was on the basis of the above literature and experience, that the researcher has developed an idea and interest to investigate and examine credit policy and the performance of micro-finance institutions in Uganda. 1.2 STATEMENT OF THE PROBLEM Micro-finance institutions offer credit facilities in terms of loans to the people. It was not yet clear whether credit policy used/applied by these micro-finance institutions are responsible for the level of performance. According to labongo (1999) the targeted population was 3650 for a period of four years between (1996-99). Micro-finance performance has been on decline since 1999 as shown by outreach levels in table 1- below; Years percentag es 1996 6.5% 1997 5.1% 1998 2.6% 1999 2.0%

It is therefore suspected that credit policy used could have influenced level of performance of these finance institutions. This therefore has prompted the researcher to take an initiative to investigate the effect of credit policy on performance of micro-finance institutions.

1.3 RESEARCH QUESTIONS 1. What type of credit policies exist in micro-credit development trust? 2. What is the relationship between credit policy and performance of micro-credit development trust? 3. What other factors have hindered the performance of micro-credit development trust?

1.4 OBJECTIVES OF THE STUDY To examine types of credit policy that exists in micro-credit development trust (MCDT) To assess the relationship between credit policy and performance of MCDT To find out the factors which have hindered the performance of micro-credit development trust? 1.5 PURPOSE OF THE STUDY The purpose of this study is to investigate the credit policy and performance of micro-finance institutions in Uganda. Case study micro-credit development trust. 1.6 SCOPE OF THE STUDY The study will focus on examination of credit policy used by micro-finance institutions. The study will be carried out within micro-credit development trust by the researcher, concerning the examination of credit policy and performance of

micro-finance institutions for period of four years (1996-1999). Micro- credit development trust is located in kamwokya in Kampala district. It is situated in the eastern part of Kampala city. 1.7 SIGNIFICANCE OF THE STUDY

The study will provide a basis on which further researchers will pick interest to research more about the topic.

The study is expected to offer the understanding of the factors that incline with credit policy management and performance of microfinance institutions. With this understanding, it is expected that policy formulation in terms and conditions of credit policy management by micro-finance institutions will be more realistic and capable of undertaking all the available measures to overcome the anticipated situations that might retard the proper operation of the micro-finance institutions. And with the recommendations given if adopted, management will understand the importance and need of managing credit. In the end, it will be easy for the organization to relate trends and performance of micro-finance institutions in Uganda.

Findings from the research will be useful for organizations, companies and in particular managers to identify reliable, efficient, and effective measures to be used.

To the researcher, it is a partial fulfillment of the requirements for the award of a Bachelors degree in Business administration.

CHAPTER TWO 2.0 REVIEW OF RELATED LITERATURE 2.1 INTRODUCTION This area of study will introduce the related literature about the examination of credit policy and performance of micro-finance institutions. 2.2 The concept of micro-finance institutions According to ledger wood (1998), defines micro-finance institutions as a nongovernmental savings and credit co-operation that provide savings and micro-loans to poor individuals, enterprises or groups. Such persons have experienced difficulties in accessing financial services from the formal banking sectors, for the purpose of engaging in viable economic activities.

According to walugembe (2000), micro-finance is the provision of savings and credit services to the self employed, low income earners (generally reffered to as the poor); people to enable them start up or expand their small income generating businesses. Micro-finance institutions offer financial services to the poor, who otherwise have only limited or no access to commercial banking (Jordan,2001) The above definitions all bring out the fact that micro-finance institutions are crucial for the development of low income generating households and aim at improving the standards of living of the poor majority. The extent to which micro-finance institutions in Uganda today have attained this sole purpose is debatable, seeing that most micro-finance institutions are concentrated in urban areas and have not yet moved to the grass roots, where majority of poor reside. According to Manfred (2001), argues that micro-finance institutions uses one of the model that is appropriate to reach the poorer that is the linkage model, which seeks to combine the strengths of self help groups like risk pooling, term transformation provision of long term investment loans, and financial intermediation across regions and sectors. In Uganda, micro- finance institutions began in earlier after the countrys return to peace and macro-economic stability and after the 1993 financial sector reform, which created relatively, free operating environment. The privatization of the Uganda commercial bank, which resulted in the closing of many branches, left large areas of the country without any formal financial services (walugembe 2000). 2.2 OBJECTIVES OF MICRO-FINANCE INSTITUTIONS It is important to bear in mind that different micro-finance institutions may have their own specific objectives. However those discussed below are general objectives of the most micro-finance institutions. The objective of most micro-finance institutions is poverty reduction and often focuses on the poorest segment of the population (dicliter,1999).

Poverty reduction can be measured in terms of important in the standards of living of persons with access to respective micro-finance institutions. Poverty reduction may also be measured by an increase in the level of business activities in the area where micro-finance institutions are concentrated (namatovu, 1999). However , micro-finance institutions have not yet proved themselves as sole winners in the poverty reduction scheme and other aids to poverty alleviation have been forced to emerge. A good example of such aids is entandikwa scheme (walugembe ,2000). At a national level the objective of micro-finance institutions is to increase the national savings mobilization level reduce rural-urban transfer of financial resources through re-investment in local communities (chan, 1999). Other objectives as out lined by Jordan (1999) include; To empower women and other disadvantaged population group. To reduce rural families dependence on drought prone crops through diversification of their income generating activities. To encourage the development of new businesses help existing business grow or diversify their activities.

2.4 CLIENT AND SCALE OUTREACH Based on their objectives, micro-finance providers select a target market in order to address a specific client population (labongo 1999). Ledger wood (1999) states that, target markets can be identified by the characterstics of the clients or their poverty level. These include their gender, ethnicity, caste, region, the micro-finance institutions wants to serve and the type or level of business activity it wishes to support.

The target market is identified because it is under served and disadvantaged in some way that slow business. It is however, crucial that the target market is selected in a bid to enhance a more equitable distribution of financial services and not simply to make profits. Micro-finance institutions (MFI) should cleary ferine who they are the poorest of the poor, is it farmers, is it women? Serious practitioners will most probably target the economically active poor, leaving the poorest of the poor to charity. Ledger wood (1999) argues that, if a customer is not making a daily profit, the institution can not expect to be repaid and the customer to expand. There are some who feel uncomfortable with making profits through the delivery of a commercial service to the economically active poor, and they question the motive of those who seek to promote such developments. On the other hand, others believe that the only way to ensure the long term delivery of micro-finance services is by the commercial delivery of said services. Micro-finance institutions risk in targeting a segment of the population that has no access to business opportunities because of lack of markets, inputs and demands. Productive credit is of use to people with other inputs that cannot be served by formal banking industry. According to a research done by namatovu ,(1999) urban based clients are considered to be cheap and easy to reach. This is because of better and cheaper infrastructures and they pay better than their rural counterparts. Namatovu (1999), also stated that Uganda women finance trust concentrates mainly on serving women due to their ability and commitment to repay. The geographical distribution of micro-finance institutions has been centered on urban areas and large trading logic would dictate that they expand to market their services in areas where they are needed as justification for their incorporation and existence. This could attain sustainable growth and capacity based in rural areas, thereby gaining competitive average (assiimwe ,1997). The key objectives of the credit policy on micro-finance institution is to improve access of the poor to financial services. It is estimated that about 40% Ugandans still live below the poverty line, that is $500 per year (walugembe ,2000).

If it is true that firms use credit as a marketing tool for expanding sales as asserted by pandey (1993), micro-finance institutions in Uganda have reasons, enough to increase their scale of outreach.reason being that they use more lenient credit policy control as compared to commercial banks and secondly a considerable number of persons are still see to be poor. It is important to note that the scale of outreach is recorded by the total number of clients served by a micro-finance institution. What remains uncertain is whether the credit policy control and methodologies used by micro-finance institutions are sufficient for capturing a larger clientele. Yaron et al (1997) defines outreach indicator as inclusive of the number of clients, number of women as a percentage of active borrowers, number of current voluntary saving and number of people targetd. In Uganda there is need for a system of client identification to assist micro-finance institutions make prudent lending decisions, identify their respective outreach scales and provide them with credit histories (labongo ,1999). 2.5 CREDIT PERFORMANCE According to joseph et al (1997) pointed out that business performance is measured in terms of units, sales, value, marketing costs, market share and production costs. According to david &Andrew (1993), come-tended that business performance can be ssessed considering three aspects that is economy, efficiency and effectiveness where by the economy relates to the ability of the business to obtain its inputs at optimum cost. Thus the economical businesses will get the balance between cost and equity. Efficiency is the best use of the resources to achieve production of goods or services and in addition efficiency emphasizes the optimum use of resources such as money, machines, materials and people than its market competitors can be promptly described as an efficient business. According to david &Andrew (1993), states that effectiveness is concerned with achievement of set organizational by how close an organization comes to attaining its strategic objectives. Also david &Andrew point out that for any business to

operate economically and efficiently, every individual employee and every department must work together as a co-ordinated whole where by each part of the business must try to achieve a similar high standard. They point out further that there are three possible ways in which performance can be measured that is, its productivity will involve determining the actual output and production achieved and dividing it by input of the resources needed to produce. The above authors continued to srgue that the ratio of turn over and capital employed is the measure of the volume of sales, which is invested in business. According to pandey (1993) states that there is one way in which the financial manager can affect the volume of credit sales and collection period and consequently investment in accounts receivables. This is done through the changes in credit control. This is used through a combination of three decision variables. a) Credit standard b) Credit terms c) Collection efforts Credit policy performance can be also defined as an institutions method of analyzing credit requests and its decision criteria for accreting or rejecting application (edminister, 1980). 2.5.1 CREDIT STANDARDS These are criteria which a firm follows in selecting customers for the purpose of credit extension. To estimate the probality of default in payment, the financial manager should consider capital, capacity, character, consideration and collateral (pandey, 1993). According to namatovu (1999), micro-fiance institutions should allow a kind of security that minimizes costs and is convenient to clients. This security should be easily obtainable by clients since it may hinder loan accessibility. Pandey (1993) emphasizes the fact that if credit standards are loose, the firm may have larger sales but will have to carry larger receivables. On the contray , if a firm

extends credit only to most reliable and financially strong customers, the firm may not be able to expand sales but not bad debts losses will result. A predetermined percentage of the loan value is usually retained and controlled by micro-finance institutions as savings to be used as security or loan insurance fund. According to ledger wood (1999) states that in addition to the provision of credit policy, micro-finance institutions mobilize savings represent the funds that must be contributed by the borrower as a condition for receiving the loan. These savings, serve as additional guarantee mechanism to ensure re-payment. Micro-finance institutions on the whole often have a maximum loan size for first borrowers, which increases with each loan. This is designed to decrease the risk to the micro-finance institutions and to enable the clients develop a credit history. Most micro-finance institution also desire that their clients open up a savings accounts, to act as collateral for re-payment of the loan. However, the credit standards, which influences the number of clients reached (micro-finance institution sales) remain debatable. 2.5.2 CREDIT TERMS Credit term is normally looked at as the credit policy period and terms of discount. But it goes beyond this to include the amount of credit and the choice of instrument used to evidence the credit (brealey and myres,1988). Pandey (1993), defines credit terms as the stipulations under which a firm sells credit, these stipulations include:a) Credit period b) Cash discount A firm lengthens credit period in order to increase its operating profit through expanding sales. According to ledger wood (1999), states that the loan term is the most important variable in micro-finance. It refers to the period of time during which the entire loan must be re-paid. The loan term affects the payment schedule, the revenue to the

micro-finance institutions, and the financing cost of the client and the ultimate suitability of the loan. Re-payment rates typically range between 30% and 60% in many cases higher than those of commercial banks. To lower administration costs and financial risks microfinance institutions typically change interest rates, which are higher than commercial baking charges (Jordan 2001) Questions over the fairness of high interest charges and other such as fines to the poor must be seen in proper context. Micro-finance institutions must become self sufficient in all ways or they will collapse and their performance will end as soon as donor support ends. Interest rates for example must cover all their operational and administration costs. However, micro-finance institutions should ensure that they facilitate poverty alleviation and not poverty spread. 2.5.3 COLLECTION OF CREDIT Collection of credit is needed because customers do not pay the firms dues in time others are non-payers, collection effort is therefore aimed at accelerating collections from slow payer and reducing bad debts. Prompt collections is aimed at increasing turnover while keeping costs low and bad debts within the limits (pandey, 1993) Different micro-finance institutions have come up with several collection procedures to ensure loan re-payment. Notable among these are:Frequent visit by credit officers, group pressure, center meetings at which clients make subsequent payment of a mounts, owed loss of collateral. Therefore credit terms should be designed to meet client needs based on the belief that micro-finance institutions value access to financial services and act in a reasonable manner by treating customers as clients rather than beneficiaries. Perhaps if clients are based on cash patterns of borrowers and designed as much as possible to enable the client repay the loan without undue hardship. Micro-finance institutions may avoid potential losses obtain many more clients and should build an asset base.

CHAPTER THREE 3.0 METHODOLOGY 3.1 INTRODUCTION This chapter consists of methods that will be used by the researcher in survey as regards the topic. The chapter will composed of following; research design, population of the study, sampling techniques, sources of data collection, methods of data collection, data quality control, measurements of the variables and data analysis. 3.2 RESEARCH DESIGN The study will use both non-experimental and descriptive in nature. This is because it involves analysis and gathering of data on already existing process without controlling or exerting any control on research conditions. The interviews and questionnaires will be administered to obtain necessary quantitative and qualitative data. 3.3 POPULATION OF THE STUDY Data will be collected from micro-credit development trusts employees that is; managers and workers. The total number of the respondents will be 30 people. Illustration

Respondents Males Females total 3.4 SAMPLING TECHNIQUES

No. of respondents 14 16 30

The researcher will use simple random sampling for selecting respondents from the population. The sampling frame will be written on small pieces of paper of the same size, shape and colour. The paper will be mixed in a container and the researcher will randomly pick until the sample size is obtained. 3.5 DATA COLLECTION INSTRUMENTS AND PROCEDURES The researcher will obtain an introduction letter from the dean of faculty Ndejje University and take it to micro-credit development trust to get permission from its management. The data collection tools will include questionnaires and structured interviews. 3.6 sources of data The researcher will obtain data from both primary and secondary sources. However the emphasis will be put on the primary source. 3.6.1 Primary source of data Here the researcher will directly obtain the information or data from the selected respondents of micro-credit development trust. 3.6.2 Secondary source of data The researcher will obtain data from magazines, newspapers, journals from the institute of bankers libraries and other research reports by students from other recognized universities that relate to the objectives of the study. 3.7 ADMINISTRATION OF INSTRUMENTS The researcher will have a pre-test to check whether the questionnaires design capture all that is intending to investigate.

DATA PROCESSING AND PRESENTATION The researcher will collect data, edit and code it. Editing will be done to ensure completeness of the questionnaires and knowing questions by numbers and letters so as to drive statistical meaning of data. Also data will be presented in tables indicating frequencies and percentages. Tables will be easy to interpret by the beneficiaries of the research findings 3.9 DATA ANALYSIS OF THE STUDY The researcher will arrange the data collected in tables and narrative will be made to give more meaning to the figures, and even before analyzing , data will computed into percentages, frequencies, which will be used to drive conclusions and recommendations.

10.0 PROPOSED BUDGET ESTIMATE FOR THE RESEARCH

Item Transport Stationary Binding Miscellaneous Total

Unit cost 150,000 200,000 30,000 70,000

Quantity 3copies -

Total 150,000 200,000 90,000 70,000 510,000

11.0 TIME SCHEDULE FOR THE RESEARCH Activities/ Period Dec Jan Wk 3 Acquiring letter from Wk 2 Jan Wk3 &4 Feb Wk 1 Mar Mar Apr Wk 3 Wk 4 Wk1 &2 Apr Wk 3 Apr Wk 4 Ma y Wk 1

the Dean Contact staff research guidance. Developing the Questionnai res Approval of the questionnai res by the supervisor Data collection process Entering data charts into & for

bar graphs Data presentatio n and evaluation End of the research process. Typing the rough copy of the report. Submission

of research

the

data to the supervisor for correction Correction of errors, & editing, printing binding the report Submission of report the supervisor the to

REFERENCES; Asiimwe g. (1997): the effect of micro-finance credit policy on small scale business enterprises in Uganda. Case of pride Africa natete branch. Ditcher t.w (1999): sustainable banking with the poor World Bank publication Washington d.c Manfred zellen (2001) d&c foaison on micro-finance journal published by deutsche fur international entricklung (dse) in Frankfurt. Jordan c.(2001):micro finance, low income and housing shelter and

settlements, news letter vol.1 np .5, pg.8-10 Yaron et al (1997) rural finance issues design & best practices world publication Washington d.c

Richard l.draft (1998): management 4th edition published by the Dryden press in USA

Pandey I .m (1995) financial management (7th revised edition) vikas publishing house, New Delhi.