Should You Start a Micro-financing Business in the Philippines?

It’s a new year. 2016. Maybe you’re an expat living in the Philippines considering ways to bring in some extra cash. Should you start a micro-financing business in the Philippines? 

Micro-financing, or micro-lending, is the lending out of small amounts of cash, usually without collateral.

Despite all the boasting about economic growth in the Philippines, over 11 million Filipino families still remain poor. Almost 8 million Filipinos rate themselves “food poor.”

Many Pinoys and Pinays from a lower economic class have little chance of finding a job because he or she is under-educated and barely literate. Starting a micro business, such as street vending or driving a tricycle, is usually his or her only (legal) option for earning a living.The trike ride back home to Santa Teresa

Due to the massive size of the lower income segment, nearly 90% of businesses registered with the Department of Trade and Industry are microenterprises.

But why, despite their popularity, do microenterprises remain tiny and inefficient, unable to pull their owners out of poverty?

Traditional banks do not lend to people who have no collateral and can only afford to borrow a few thousand pesos at a time.

Poor people thus turn to loan sharks, such as “Bombays,” Five-Six Moneylenders from India,  to borrow the money that they need to survive, paying interest rates of as much as 200% a year.

“Bombay’s,” Five-Six Moneylenders

So-called because of the manner in which they lend, five-six (5-6) moneylenders charge a nominal interest rate of 20 percent over an agreed period of time.

A person who borrows 5 pesos from a 5-6 moneylender over a period of one week repays 6 pesos, including 1 peso interest.

Neither Filipino nor Indian 5-6 moneylenders require collateral or documents from their borrowers. The success of a borrower’s business and loan repayment history provide a gauge of the borrower’s credibility.

5-6 moneylenders undertake daily collection of payments in the morning, afternoon, or both. A client’s daily payment is determined by the sum of the principal borrowed plus its 20 percent nominal interest divided by the credit term.

The loan arrangement is flexible; if the client fails to pay one day, it is understood that he or she will pay for the day missed the next time around.

Renewal of loans depends on the moneylender’s policy. Some 5-6 moneylenders will renew clients’ loans only after the previous loan is paid in full. More accommodating lenders will renew a client’s loan earlier, subtracting the outstanding balance of the old loan from the new loan and issuing the client the remainder.

Although they operate illegally as usurers, Bombays,  have actually mastered the technique of marketing and collecting, so much so that they have flourished and grew and their simple “5-6” operation have been passed through generations.

Note that Bombays limit their operations in one specific area where they can easily manage the collection process and keep a very strict watch on the businesses that they lent their money. For example, one person will concentrate only at Libertad St in Pasay City, another one will concentrate only at Paco Market and its vicinity, another at Pasong Tamo, Makati, Guadalupe, Caloocan, Malabon, etc.

The main purpose of these concentrations is to be able to collect 100% of the calculated and agreed interest of the principal, every day.

The significant difference in a Filipino or “Bombay” is the fact that Filipino 5-6s are resident “insiders” in the  community, while the Indians, as immigrants, are clearly identified as “outsiders.”

As an expat, foreigner, whether Indian or not, you too, are an “outsider,”‘ of course. If you are interested in starting your own  micro-financing business in the Philippines, you might consider becoming a “silent partner” and back a Filipino, such as your spouse.BDO tellers

Why are traditional banks unable to lend to the poor?

Traditional banks have higher overhead costs compared to MFIs. Therefore, they require a minimum size for loans or deposits to justify the cost of servicing such accounts. These minimum requirements are too large for poor people to meet (the average size of a micro loan in the Philippines is only P5,000).

Traditional banks support the cause of microfinance by making funding available to MFIs, who then repackage these funds into smaller amounts that the poor can access.

MFIs charge higher interest rates than traditional banks to reflect the higher administrative costs of processing micro loans.

Can the poor be trusted to pay back their loans and handle money responsibly?
Yes. Actual repayment rates of micro loans are consistently above 90%. An MFI borrower is at least as good a credit risk as a traditional bank borrower.

MFIs in the Philippines report a number of success stories of microentrepreneurs who started with as little as P5,000, but in less than five years were generating as much as P500,000 in annual profit.

The microinsurance and savings products offered by MFIs have also enjoyed wide acceptance, proving that the poor do understand the value of managing risk and providing for the future.

In the Philippines, microfinancing is an activity dominated by rural banks, non-government organizations (NGO) and people organizations (PO), with support from international donor organizations. It is a strategy used to combat poverty particularly in the rural areas.

There are several approaches to engaging in microfinancing. You can get accreditation from the NGOs like Grameen Bank, CARE Philippines and government institutions like Small Business Guarantee and Finance Corporation (SBGCF). Partnering with these organizations will provide you logistics, knowledge and support in pursuing this endeavor.The Tom Cat and The Kano

Can you go it alone?

However, you can also decide to go at it alone – but with a lot more work, more risks and more resources.

One of your primary concerns will be to establish a system or mechanism that would allow your micro-loan clients to repay their loans on time. Two key microloan policy strategies recommended by experts (including USAID) are cash flow-based client analysis and “zero tolerance” for overdue repayments.

With cash flow-based lending, you should get a clear picture of revenue streams of your potential clients. You can determine their actual and potential income, and, with this information in hand, determine how much of a loan the potential clients can afford to handle. You can also devise a loan repayment schedulethat fits the clients’ cash flow.

Select your clients carefully.

Given this, it is imperative that you select your clients very carefully. Your client must have the ability to pay you back with cash, not with chickens or vegetables harvested from their gardens. Like the “Bombays,” they offer their money to legitimate small businesses or to someone who wants to make an honest living through a means of livelihood, like sidewalk vendors, small carinderias, and stalls in the public markets.

“Zero Tolerance”

Regarding the “zero tolerance” policy, you must view micro-loans in the same way the banks view the loans that they provide. It is not a social service. You must be “zero tolerant” of any late payment, or non-payment of loans regardless of any contributing circumstances. With this approach, it can be very profitable for you. Interest rates on micro-loans must be market-driven, and must be high enough to allow you to cover all costs associated with the loan. Here in the US, many micro-lenders even charges the same kind of interest rates charged by credit cards.

Big Undertaking

Providing microfinancing, however, is a big undertaking. You must have enough support and logistics to allow you to seek out clients (which would be very easy to find in the Philippines), however to ensure repayment and pursue laggard clients is another story. Seek out specialized training in operating a successful microfinance operation (the Asian Institute of Management in Makati offers such courses). Remember, you must learn not only to run a financing operation, but how to provide excellent client service and nurture long-term relationships with your microfinance clients.

Your capability to collect repayments will depend on your ability to establish a presence among your clientele. If you have a wide clientele located in Metro Manila, Laguna, Iloilo or Baguio, it may be difficult to collect back on your loans.

Monitor and Track Repayments

  • An important part of your logistics is software that will allow you to keep track and monitor repayments. Your software must instantly flag any instance of late repayment, or non-repayment.
  • Given that microfinance loans are typically of short duration (usually some where between 30 days and six months), and frequently call for daily,weekly or bi-weekly repayments.
  • Keeping track of payment due dates for hundreds of clients is a demanding task, and can only be achieved if you have a good IT infrastructure.
  • If you cannot acquire this kind of software, a very tight record keeping is necessary to allow you to monitor payments and repayment schedules. The “Bombays” keep a small notebook to record the accounts of all their clients.

Another more secure example of Microlending is the pawnshop. If your money is sufficient to capitalize one, this is the safest way to go because you don’t lend any money without collateral. This business require accreditation from the Central Bank as a financial institution, you may check the rules and regulations from there.

(Sources: EntrePinoysPinoyMe.com & Kyoto Review of Southeast Asia)

14 comments

  1. Great suggestion Dave, I haven’t thought of this before.. sounds like a interesting way to invest savings ect…Of course it takes time to learn the biz..nothing is Easy..but sounds very worthy of some research. Thanks alot. Nick in Vancouver.

  2. Dave, I know you did not come up with the “11 million filipino families remain poor” statistic, because that is absolutely over the top 1000000000000% ridiculous. There are far far far far more than 11 million poor filipinos.

    Why the Philippines government continues to say things like this is absolutely bewildering to me. I can understand fudging the numbers a little bit, but my God.

    There are 11 million people in the NCR that are poor, let alone the entire country. Shameful.

    As far as micro lending. I know of many VERY successful Indian operators in Manila and other parts of the country that do GREAT with micro loans. I helped get my ex fiance into that business 8 years ago in Mindanao and it was quite successful. We, however, did require collateral on the bigger loans of 20,000 pesos or more.

    I was actually shocked at the interest rates people would pay over just a 30 day period. I told my ex-finance that in my country (America) that would be considered loan sharking. But in the filipines, with FAR FAR more than 11 million poor people, cash is really needed to start a business or keep a business afloat, pay for food, help with hospital bills, get the kids clothes, or school supplies, things like that….so they will pay those interest rates.

    We found that filipinos were actually good at repaying as promised. I was actually sorta surprised. WE had a guy that we loaned 40,000 pesos. He gave us his almost new motorcycle as collateral. He ended up not paying the loan back, his wife had very serious medical issues and he had to spend every last peso on her.

    I told my ex-fiance to redo the loan, I wanted to help the guy out but the guy said “no, I agreed to pay the loan back at a certain time with interest and I cannot. So take the motorcycle.” We said no, we wanted to redo the loan to help him out. He refused. I was really amazed at this.

    While 40,000 pesos is not considered by most to be a micro loan we did do many much smaller loans and ALWAYS got paid back. Always. So lending in the Philippines can be quite lucrative…but it also puts you in a tough position when you have to call the loan and the people don’t have the money. In many cases the lenders are friends with the people getting the loans. So that is something you really have to think about.

    In Manila, these micro lenders have the re-payment process down to an exact science and they do show up every day to collect. I have seen it many times with filipino friends of mine. And in almost all cases the people make their daily payments.

    It doesn’t take a math expert to realize that if you have enough seed money to start giving out loans and you do it the right way you can make some very serious money.

    1. Yeah, Todd, I agree, that 11 million family figure is way off and comes from one of the government’s own Social Weather Study polls, which are extremely unreliable and can be commissioned by anyone that wants to pay for one.The Borgen Project states that some provinces in the Philippines have 70% of the people living below the poverty line. I don’t believe any of the “official” statistics coming from the government here.

      Well, Todd, quite an interesting story about the man that honored his debt, even though it cost him his motorcycle. I, frankly, am surprised as to how good your repayment rate with most of the people was. I remember when I discovered when my own beloved wife was a “loan shark” and made quite a few bad loans to relatives and friends that have never, or ever, will be repaid. Cousin Roberto owes 9,000 pesos to my father-in-law, Lolo, for a carabao that belonged to Lolo, but Lolo has never seen the money. Roberto always comes up with some excuse when asked about the debt.

      Fascinating insight on this from you, I sincerely appreciate it.

      1. Dave, we never made many loans to family, but on occasion we would and the rules were the same for family members as anyone else. I have found that is how things have to be in the Philippines, and even in America.

        Our repayment rate was excellent. If I had stayed with my ex-fiance we would have done really really well.

        In fact, I have talked to Ruby about starting another loan business but I am not sure Ruby has the personality for it. You have to be tough on people sometimes and Ruby is just not wired that way.

        1. Yep, loans made to family, no matter where you live, can be tricky, Todd.

          I wholeheartedly agree, one has to have the personality to do this kind of work because I’m sure you do have to get tough sometimes. Hmmmm, I think my wife does have the potential for that. 🙂

  3. Hi Dave, it’s a good business you can make some money but it has its drawbacks for me
    I couldn’t do it, the risk is to high I value my family safety and as a money lender you won’t
    Have that, yeah the Indian guys get a good living but even some of them are robbed in
    Broad daylight even killed, I’ve lent money to close friends even the local fish balls seller
    Who’s wife was in hospital with cancer l lent him 7 thousand pesos to pay medical bills
    He paid it back all back even offered me interest which we declined, yes you can make
    Money but think long and hard about it before you do, Derek in pasig.

    1. Yep, the Indians do killed in our neck of the woods, too, Derek. One was murdered in nearby Iloilo along with his Indian wife a couple of years back. I often see these “Bombays” making the rounds in Guimaras.

      We had a relative my wife loaned 1,000 pesos to. He paid it back and wanted to give my wife 1,000 pesos extra. My wife refused that, she only wanted the loan repaid. Good of you to loan money to the fish ball seller. My wife loaned almost 1,000 U.S. dollars before we were married to a relative going to work overseas. None of that debt was ever repaid. The woman has since died of cancer.

  4. Dave,
    Agree with Derek above that lending can be very dangerous. Having to go around everyday to collect would be too much for me. Since it is illegal i would never risk getting involved in it. Though Anne has ever loansharked, she is fighting to get a huge amount of money that is owed her from a couple of sales in Cavite. They are refusing to pay. So she had to contact the local Barangay Captains to there surprise which they didn’t expect she would do. They thought Anne would just go away and were not too happy. I believe that it will work as the Captains have a lot of power. We will find out Thursday. We don’t loan any money out period. We told the Family we are not an ATM.

    1. Ahhh, unfortunately Papa Duck, too many people see that huge “ATM” blinking and glowing on our foreheads. Best to put an “out of service” notice on it.

      Good luck on getting the money owed to Anne, but she did the smart thing by contacting the local Barangay Captains. The Captains are pretty much only one rung lower than God on the chain-of-command in the Philippines.

  5. Tried to post a much longer comment about our story in this business, but it would not post it, it just disappeared, so not going to rewrite it all again.

    1. Sorry about that, Bill S. Sometimes if a post is too long, I believe my spam filter might actually delete. I’ve written long replies to comments that don’t get posted because of a sudden brown out. It can get frustrating.

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