MFIs - Performance Assessment and Planning Using Ratios The Case of Indonesia s BPRs - People s Banks Using Ratios to Assess Past Performance and to Set Targets A Guide for Self-Assessment and for Trainers TON BRUNSVELD MARCH 2000 1. Introduction 2. Monthly Reports as Basis for Performance Assessment and The Ratios 3. Plan Future Performance Set the Minimum Own Capital Growth Target 4. Twelve Ratios Applied and What They Say 5. Writing the MFI/BPR Business Plan Using Ratios as Targets ANNEX Balance Sheets and Income Statement Ton Brunsveld, Senior Consultant Facet BV, March 2000. 1
1. Introduction This case study on using ratios for assessing past performance and setting targets for MFIs ( Micro Finance Institutions ) was developed for the BPRs participating in the Bank Indonesia ADB Micro Credit Project,and for Trainers 1. BPRs are small banks licensed by central bank Bank Indonesia for demand and time deposit services and loan product services. They are not licensed for current account transfer services, and are therefore secondary banks. With an average saving account at US $ 50 equivalent, and the average loan outstanding at US $ 100 equivalent, a BPR services mainly the micro clientele segments 2. Currently there are 2,450 BPRs, most of them privately owned by a few shareholders. They are supervised by Bank Indonesia too. For this, the BPRs submit monthly reports to the central bank, and the bank undertakes on-location audits; in principle once a year. 2. Monthly Reports as Basis for Performance Assessment and The Ratios. The report that a BPR sends to Bank Indonesia on a monthly basis is a major input for the central bank for rating BPRs with the CAMEL method. These reports are ideally also the basis for self-analysis of financial performance and for performance planning by a BPR, using ratios that say something about the Efficiency of Operations, about Loan Portfolio Quality and about Financial Sustainability. 2.1 Monthly Reports: The basis for BPR Rating with CAMEL A monthly report submitted by a BPR to Bank Indonesia composes of the following subreports ( 1) The monthly Balance Sheet, (2 ) The Income Statement over the month, and ( 3) Specifications of balance sheet and income statement entries, such as composition of loan portfolio, loan portfolio quality, and composition of demand and time deposits. Bank Indonesia uses these reports to rate the BPRs with the CAMEL method ( Capital Adequacy, Asset Quality, Management Capability, Earnings, Liquidity ), and many BPRs apply the CAMEL method themselves as a self-assessment exercise. As a result, BPRs are rated as Healthy, or Sufficiently Healthy, or Insufficiently Healthy, or Not Healthy. These are the four categories distinguished by the central bank. For years already, around 65 % of the BPRs is rated healthy and sufficiently healthy, while few are rated not healthy. 1 The main aims of this ongoing project are: (1) Provide around 1,000 BPRs rated healthy and sufficiently healthy with additional funds, for onlending to around 450,000 new relatively poor micro borrowers of whom 50 % women, and (2) Strengthening of the BPRs through training programs. 2 For a more detailed description of a BPR of average size see Micro Banking over the Period of Monetary Crisis in Indonesia The Case of the BPRs, elsewhere on this website. Ton Brunsveld, Senior Consultant Facet BV, March 2000. 2
2.2 Monthly Reports: The basis for Self-Assessment of Past Performance and for Future Performance Planning, Using Ratios For self-assessment of past performance, and for future performance planning or target setting, a BPR needs comprehensive ratio analysis; in addition to CAMEL or as part of it. Virtually all the data needed for this ratio analysis are in the monthly reports, and the few data not included are readily available as well. Thus, for comprehensive ratio analysis a BPR needs only to use the data as already available. There are three main groups of ratios: Efficiency Ratios Loan Portfolio Quality Ratios, and Sustainability Ratios In section 4 below are presented 5 efficiency ratios, 4 portfolio quality ratios and 3 sustainability ratios, including the financial sustainability ratio as a target for a next year 3. Example An example of a ratio is the efficiency ratio active borrowers-to-loan staff. This ratio is 840 : 7 = 120 when the loan portfolio comprises 840 borrowers, served by 7 loan section personnel. The sustainability ratios are crucial end ratios: They say much about the level of self-sufficiency of the BPR, and therefore about the probability of successful continuity. The efficiency and portfolio quality ratios are important supporting ratios, because sustainability depends greatly on the efficiency of operations and the quality of the loan portfolio. 2.3 Ratios: Indicators of Past Performance and Targets for Future Performance A ratio as indicator of past performance. To illustrate this, we take again the example of the borrower-to-loan staff ratio. If this ratio is 840 : 7 = 120 at end 1998, and it was a year earlier 660 : 6 = 110, the conclusion about past performance is : (1) loan staff has become more efficient, since one person had a year ago on average 110 active borrowers and now 120 borrowers, and (2) this efficiency improvement resulted from the number of borrowers increasing faster than the number of personnel. A ratio as a target for future performance. To illustrate this, above example may be used again. The BPR calculated end 1997 that its borrower to loan staff ratio is 110. Based on the potential demand for loans, the BPR may set for end 1998 as target a borrower-to-loan staff ratio of 120, arguing that the number of 3 These ratio categories as well as the ratios as given in section 4 have been taken from Financial Ratio Analysis of Micro-Finance Institutions, SEEP Network CALMEADOW, 1995. Ton Brunsveld, Senior Consultant Facet BV, March 2000. 3
active borrowers can increase with 27 % ( from 660 to 840 ), with loan staff increasing with 16 % ( from 6 to 7 persons ). 2.4 The Data Needed for Ratio Analysis To calculate and assess the three groups of financial ratios, a BPR needs to pick the following data from its financial statements; see the Annex for the financial statements. 2.4.1 Balance Sheet Data Two Periods, e.g. End 1998 and End 1997 Net Earning Assets ( in BPRs mainly Loans Outstanding + Interbank Account(s) only ) 4 Example End 1998: Rp 930 million ( Rp 780 m. + Rp 150 m. ) End 1997: Rp 845 million ( Rp 745 m. + Rp 100 m. ) Average Net Earning Assets ( 845 m. + 930 m. ) : 2 = 887.5 m. Average Loans Outstanding ( 770 m. + 809 m. ) : 2 = 789.5 m. Own Capital ( Paid up Capital + Retained Profits ( or Retained Earnings ) Example End 1998: Rp 204 million ( 125 + 79 ) 2.4.2 Income Statement Data End 1998 Total Financial Income ( Interest on Loans + Fees + Interest Interbank Accounts ) Example Rp 426 million ( 379 m. + 15.8 m. + 31.2 m. ) Total Financial Costs ( Interest on Demand and Time Deposits, on Interbank Loans, and on Creditlines from Bank Indonesia, if any). Example Rp 172 million ( 65.6 m. + 71.5 m. + 16.2 m. + 18.7 m. ) Loan Loss Reserve or Value of Portfolio Payments in Arrears. ( See Portfolio Aging Report below ) Example Rp 29 million ( rounded from Rp. 28.93 m. ) Total Operating Costs ( Personnel Costs+ Other Expenses + Depreciation ) Example Rp 188.5 million ( 97.5 m. + 68 m. + 23 m. ) 2 Performing Assets may be used instead of Earning Assets. Performing Assets = Earning Assets + Cash and Cash Equivalents. Ton Brunsveld, Senior Consultant Facet BV, March 2000. 4
2.4.3 Loan Portfolio Data End 1998 Total Value of Loans Disbursed During 1998 Example Rp 1416 million ( 175 % of Loans Outstanding ) Total Number of Loans Made During 1998 Example 1500 Loans ( Average Loan Rp 944 000 ) Total Number of Active Borrowers or Loans End 1998 Example 840 Borrowers or Loans Total Value of Loans Actually Written Off During 1998 Example Rp 14.5 million Average Number of Loan Section Staff During 1998 Example 7 Persons Portfolio Aging Report End 1998 ( Value of Portfolio at Risk and Payments at Risk ) Example Past Categories Due Number of Loans in Arrears Value of Loan Portfolio At Risk Loan Reserve Loss Weights Rp Million 1 2 3 4 5= 3x4 < 10 days 64 36.3 10 % 3.63 10-30 days 32 12 50 % 6 30-60 days 22 14.5 75 % 10.8 > 60 days 10 8.5 100 % 8.5 Totals 128 71.3 28.93 Value of Payments in Arrears/at Risk ( Loan Loss Reserve ) Rp Million As indicated before, the BPRs have all above data available, although some of the loanportfolio data can not be taken directly from the monthly reports. Further, although BPRs use a somewhat different portfolio status report for aging, they will be able to prepare the format recommended here. 3. Plan Future Performance Set The Minimum Own Capital Growth Target The following Minimum Own Capital Growth Target is not found in monthly reports, since it is an indicator of required future performance; not of past performance. It must therefore be calculated separately. 5 5 Obviously, nominal capital growth of the past year or month is specified in the income statement(s) included in the monthly reports. Ton Brunsveld, Senior Consultant Facet BV, March 2000. 5
A sustainable BPR is the BPR that is able to maintain and increase the value of its own capital, as it grows. BPRs should thus be able to add such amounts of retained profits to own capital ( or equity or net worth ), that it is sufficient to finance part of nominal asset growth. Not all nominal asset growth need be financed with own capital. A BPR should also finance asset growth from increasing demand and time deposits and inter bank loans. How much of asset growth to finance from own capital growth depends on three factors: (1) the Real Asset Growth Target, ( 2 ) the Expected Inflation Rate, and on ( 3 ) Own Capital as Percentage of Total Assets, reflecting a sound capital base. ( If this percentage is adequate for the past year, usually only the first two factors need be considered for the next year ). 3.1 The Earning Asset Growth Target, and the Influence of Inflation There is ample opportunity to serve more people better with micro and small loans. BPRs should thus set targets for asset growth, specifically for loan portfolio growth. Let us for 1999 set an earning asset growth target that is both prudent and a challenge: Earning Assets to grow with Rp 85 million; from Rp 959 million at end 1998 ( including Loan Loss Reserve ) to Rp 1044 million at end 1999. This is thus an earning asset growth target of 8.8. %. If only growth in loan assets is targeted, loans outstanding should then grow over 1999 with 10.5 %. These targets represent real growth, if the expected inflation rate is zero. Is the expected inflation rate above zero, e.g. 5 %, the real growth rate comes down to 3.8 % for the earning assets ( 8.8 5 ), or to 5.5 % for loans outstanding ( 10.5 5 ). 6 3.2 The Minimum Own Capital Growth Target as a Retained Profit Target The targeted growth in earning assets, including loan portfolio growth, has to be financed; from demand and time deposits and inter bank loans, and certainly also from own capital. The balance sheet for end 1998 shows that own capital (paid up capital + retained profits) is Rp 204 million, or 21.8 % of the earning assets. If the BPR wants to maintain this percentage for end 1999, own capital should grow to Rp 227.5 million, or with Rp 23.5 million(21.8 % of Rp 1044 million = Rp 227.5 million ). 6 The gross earning assets of this BPR grew in 1998 with Rp 89 million; from Rp 870 million to Rp 959 million, or with 10.2 %. However, the inflation rate for 1998 was well above 10.2 %. As a result, there was no real growth in earning assets. More specifically, there was no real growth in loan portfolio, as it grew nominally with Rp 39 million or 5%. Ton Brunsveld, Senior Consultant Facet BV, March 2000. 6
Rp 23.5 million is the Minimum Own Capital Growth Target. This growth should come in through retained profits. ( When above normal asset growth is targeted, fresh capital should come from shareholders ). A growing BPR has also to finance growth in non-earning assets such as additional computers and motorcycles. Let us set as target that Rp 10 million need be reserved for these additional investments in non-earning assets. As a result, Rp 33.5 million ( 23.5 m. + 10 m. ) is the Retained Profit Target for end 1999 for this BPR. Ton Brunsveld, Senior Consultant Facet BV, March 2000. 7
4. Twelve Ratios Applied and What They Say Below 12 ratios are presented, together with their meaning. They can all be computed manually. However, most ratios are now computed automatically. The ratios have been calculated using the data included in section 2.4 and the Annex. They should be made by training program participants, and should thus not be handed out. Ratio Formula and Example with Data of Section 2 No Group 1: Efficiency Ratios Ratio Formula Example What the Ratio Says (Trend Analysis) 1. Operating Cost Efficiency Total Operating Costs ----------------------------------x100 Aver. Net Earning Assets Rp. 188.5 million -----------------------x100 Rp. 887.5 million = 21.2 % Operating costs was equal to 21.2% of the average earning assets. Decrease from year 0 to 2. Costs Total Operating Costs The operating costs Per ---------------------------------- Rp. 188.5 million were Rp. 125.666 per Loan Number of Loans Made -----------------------= average loan made 1500 (average loan Rp.944.000). = Rp. 125.666 Decrease from year 0 to 3. Costs Total Operating Costs Rp. 188.5 million The operating costs Per Rp. 1 -------------------------------- -----------------------= were Rp. 133.120 per million Total Value of Loans Rp. 1416 million Rp. 1 million lent. Lent Disbursed Decrease from year 0 to = Rp. 133.120 4. Active Number of Active Borrowers Borrowers ----------------------------------------- 840 A loan officer is end per Loan Average Number of Loan ------------= 120 1998 on average serving Officer Officers 7 120 borrowers. Increase from year 0 to 5. Loans Value of Loans Outstanding Rp. 809 million The average loan Outstan- ----------------------------------------- ---------------------- = portfolio per loan officer ding per Average Number of Loan 7 is end 1998 at Rp. 115.5 Loan Officers million. Officer = Rp. 115.5 million Increase from year 0 to NB. Now, early 2002, Rupiah 1 million is US $ 100. Ton Brunsveld, Senior Consultant Facet BV, March 2000. 8
Ratio Formula and Example with Data of Section 2 Group 2: Portfolio Quality Ratios No Ratio Formula Example 6. Payments Of loans outstanding ------------------------ x100 in Arrears Rp. 809 million at Risk Weighted Value of Payments in Arrears ----------------------------------x100 Loans Outstanding Rp. 28.93 million = 3.6% What the Ratio Says (Trend Analysis) end 1998, 3.6% is payments at risk, or potentially uncollectable. Decrease from year 0 to Rp. 71.3 million 7. Portfolio at Value of Loanportfolio Of loans outstanding ------------------------ x100 Risk in Arrears end 1998, 8.8% may Rp. 809 million ----------------------------------x100 become uncollectable. Loans Outstanding Decrease from year 0 to = 8.8% 8. Loans in Number of Loans 128 Of active loans end Arrears in Arrears --------- x100 = 15% 1998, 15% shows ----------------------------------x100 840 overdue payments and Number of Active Loans is thus a risk category. Decrease from year 0 to ( This ratio shows also Borrowers in Arrears, if number of loans is equal to number of borrowers ) 9. Loan Loss Loans Written-off Decrease from year 0 to -------------------------x100 Rp. 14.5 million year 1 is Average Loans ------------------------ x100 Real loan losses in 1998 Outstanding Rp. 789.5 million are below the payments at risk at end 1998 (see = 1.8% ratio 6), which is positive as well. Ton Brunsveld, Senior Consultant Facet BV, March 2000. 9
Ratio Formula and Example with Data of Section 2 Group 3: Sustainablity Ratios No Ratio Formula Example 10. 11. Operating Sustainability Financial Sustainability 12. Financial Sustainability as Target Next Year Total Financial Income - - - - - - - - - - - - - - - - - - - - Total Financial Costs + Total Operating Costs + Payments in Arrears Total Financial Income - - - - - - - - - - - - - - - - Denominator ratio 10 + Retained Profit Total Fin. Income Target - - - - - - - - - - - - - - - - - - - - Targeted Denominator ratio 10 + Retained Profit Target Next Year Rp. 426 million - - - - - - - - - - - - - - - - - Rp.(172+188.5+29)m = 1.09 Rp. 426 million - - - - - - - - - - - Rp.(172+188.5+29+24) m = 1.03 The financial sustainability ratio as a target remains ideally > 1. What the Ratio Says (Trend Analysis) The ratio is > 1 Total financial income exceeds total costs and payments in arrears. There is a left over, part of which can go to Retained Profits. Increase from year 0 to The ratio is still > 1 Total financial income exceeds total costs + payments in arrears + retained profit. Increase from year 0 to The ratio ideally remains > 1, saying that total financial income is targeted to exceed total costs + payments in arrears + the retained profit target ( of Rp. 33.5 for year 1999 ). Both sustainability ratios 10 and 11 are not below 1. This BPR shows therefore a satisfactory position at end 1998. N.B: Spread: Sustainability is often also illustrated with Spread Margin and Net Financial Margin: Net Financial Margin: Total Financial Income Total Financial Costs = Rp. 426 m Rp. 172 m = Rp. 254 m. Spread Margin: Rp. 254 m Rp. 254 m - - - - - - - - - - - - - - - - -x 100 = - - - - - - - -x100 = 28.6 % Spread Payments in Arrears x 100 - - - - - - - - - - - - - - - - - - - - - - - -- - - - = Average Earning Assets Rp. 254 m Rp. 29 m - - - - - - - - - - - - - - - x 100 = 25.3 % Rp. 887.5 m Aver. Earning Assets Rp. 887.5 m Ton Brunsveld, Senior Consultant Facet BV, March 2000. 10
5. Writing the BPR Business Plan Using Ratios as Targets. From section 4 above should be concluded that the BPR performed reasonably well over 1998, at least from its sustainability point of view 7. The two end ratios on sustainability show this, since they are > 1, and specific support to this conclusion is provided by the efficiency ratios and loan portfolio quality ratios. Thus, there is no reason to have a specific plan for this year 1999 ( and onward ), with targets to pursue? This would be a mistake. Even the best performing BPR needs to plan and set targets, and perhaps a good performing BPR performs so well because of detailed planning and target setting. The following two illustrations of possible scenarios for 1999 should be developed by the participants in training programs and should therefore not be handed out, or to trainers only. 5.1 This BPR Possible Business Plan / Scenario for 1999, and Targets This BPR, with both sustainability ratios above 1, might decide to target further fast growth in loan portfolio, as follows: Plan for 1999 higher financial costs, as a result of paying higher interest over demand and time deposits, to attract additional funding for targeted substantial growth in loan portfolio. Further, have for end 1999 a Loans Outstanding target of Rp 1100 million ( 36 % growth ). Finally, have a slight improvement in the operational sustainability ratio, as a result of increased lending volume and higher financial costs. Increase the number of active borrowers per loan officer from 120 to 130 in two ways: (1) induce borrowers to come to office by offering a reduction in loan commitment fees, (2) purchase one additional motorcycle for loan field staff. As a result, have also a higher ratio loans outstanding per loan officer, and a slight reduction in the costs per loan. The overall targeted result is that the financial sustainability ratio of 1.03 for end 1998 ( ratio 11 ) is also maintained over 1999. To achieve this, total financial income should in 1999 exceed total costs again, inclusive the expected payments in arrears and Rp. 33.5 million of retained profit. 7 The BPR should also assess whether it performed well from its clients point of view. This is however not the subject of this case. Ton Brunsveld, Senior Consultant Facet BV, March 2000. 11
5.2 Other BPRs - Possible Business Plan / Scenario for 1999, and Targets Other BPRs, specifically those with a financial sustainability ratio below 1, might decide to target the following for 1999: One additional loan officer in combination with a 7.5 % salary increase for all staff. As a result, have more and better motivated staff, and therefore: (1) a slight reduction in costs per loan made ( with substantial increase in numbers of loans ) and, (2) a slight decrease in the costs per Rp. 1 million lent ( in spite of increasing total operating costs ). Finally, with growing portfolio, have more financial income. To attract funds, train two persons in saving promotion best practices, and offer a more competitive interest rate over deposits; especially time deposits. As a result, the financial costs would increase. However, also financial income would increase, with the loanportfolio growing. Therefore, an increase in Spread may result (with the spread margin perhaps constant). The overall targeted result is that the financial sustainability ratio becomes 1, so that end 1999 retained profits can be added to own capital. 8 8 Specifically these BPRs but the best performing BPRs as well should also prepare realistic Cashflow Projections: For BPRs, as for any enterprise, timely available cash is crucial too, not only profit. Ton Brunsveld, Senior Consultant Facet BV, March 2000. 12
ANNEX TO CASE MFI PERFORMANCE ASSESSMENT WITH RATIOS BALANCE SHEETS in Rp. Million INCOME STATEMENT In Rp. million End 1997 End 1998 End 1998 Net Earning Assets 845 930 Interest Earned over 379 ( 48% x. Loans Outstanding 770 809 Loans 789.5 ). Loan Loss Reserve (25) (29) Fees 15.8 ( 2% x. Inter Bank Assets 100 150 789.5 ) Cash 108 120 Interest over 31.2 ( 25% x Other Assets 110 121 Interbank Assets 125 ) TOTAL ASSETS and 1063 1171 Total Financial 426 TOTAL SOURCES Income Demand Deposits 375 445 Interest Cost: Time Deposits 325 325 Demand Deposits 65.6 ( 16% x 410 ) Inter Bank Loans 83 47 Time Deposits 71.5 ( 22% x 325 ) Creditline(s) Interbank Loans 16.2 ( 25% x 65 ) Bank Indonesia e.g. 100 150 BI Creditline(s) 18.7 ( 15% x 125 ) Micro Credit Project Total Financial Own Capital/Equity: 180 204 Costs. Paid Up 125 125 Net Financial. Retained Profits 55 79 Earnings 172 254 Personnel Costs 97.5 Average Positions over 1998: (15P.x13M.xRp.0.5m) Other Expenses 68 Net Earning Assets Rp. 887.5 m. Depreciation 23 Total Operating Loans Outstanding Rp. 789.5 m. Cost 188.5 Interbank Assets Rp. 125 m. Loan Loss Provision 14.5 Demand Deposits Rp. 410 m. Total Operational Costs 203 Time Deposits Rp. 325 m. Income before Tax 51 and Dividends Interbank Loans Rp. 65 m. Tax 25% 12.75 Net Income 38.25 BI Creditline(s) Rp. 125 m. Dividends 14.25 Retained Profits 24 Ton Brunsveld, Senior Consultant Facet BV, March 2000. 13