By Cesar Lopez and Elizabeth Rhyne (2003)
http://www.microfinancegateway.org/files/20868_service_co_model.pdf
Abstract
Lopez and Rhyne present alternative strategies for commercial banks in establishing microfinance operations, arguing that the Service Company Model is the most successful. They present two case studies where this strategy has been successfully implemented.
Summary
Banks tend to avoid microfinance even though there are many advantages in downscaling their services and entering the microfinance sector. These include: an established infrastructure; market presence and brand recognition; access to plentiful and low-cost funds; and low-cost structure or private ownership with strong incentives to be efficient. Lopez and Rhyne present four types of strategies that banks follow when initiating microfinance operations. Each has strengths and challenges:
- Internal Unit The bank creates a special department within its own structure. This model faces important challenges in terms of recognition and understanding within the bank.
- Financial Subsidiary The bank creates an independent financial entity. The separate entity may not benefit from the bank's market positioning and brand recognition.
- Strategic Alliances A bank partners with an NGO or microfinance organization. The challenges are usually in the design of an agreement that clearly states the costs, risks, responsibilities and returns for each partner. MFIs usually have to give up too much.
- Service Company The bank creates a non-financial company that provides loan origination and credit administrative services to the bank for a fee. This company does all the work of promoting, evaluation, approving, tracking and collecting loans, but the loans themselves are kept on the books of the bank.
Of these, the service company model is the best.
- Legality The service company doesn't need a banking license, nor is it supervised separately by banking authorities, nor has it any equity base requirements; thus, making it much easier and less costly to operate than a financial subsidiary, while offering a transparent framework.
- Infrastructure The service company can take full advantage of the bank's infrastructure, brand recognition, positioning, et cetera. For example, some operations can use the bank branch infrastructure if the location of the bank is accessible for microfinance clients; similarly, microfinance operations can benefit from transaction processes used by the bank, such as ATMs, bank tellers, etc. Service companies can take advantage of the bank's know-how by using headquarters' staff, mostly on issues like IT, marketing, human resources, legal issues, etc.
- Branding The service company can have its own identity while still holding some connection to the parent bank. (i.e. Sogesol is the service company to Sogebank) This enhances credibility without disturbing the main branding of the traditional bank.
Both CREDIFE in Ecuador and SOGESOL in Haiti demonstrate how the service model has worked in practice. Both organizations have managed to break even fairly soon after they began operating, and they continue to grow. These case studies highlight that among the factors that attracted these two organizations to use this model are the little capital required, the lean structure and the fast approval process.