Non-performing Loans and financial performance of Microfinance Institutions in Kenya

Abstract

Financial institutions all over the word encounter extensive exposure to defaulted loans. In this regard, it is prudent for MFIs to design viable mechanisms of credit or default management. Scholars in various areas of economics, finance and business continue to accord a significant attention to financial performance due to its role to firm’s competitiveness. The purpose of this research was to investigatenon-performing loans and financial performance of microfinance institutions (MFIs) in Kenya. The specific aims of the study were: to assess the effect of non-performing loan ratio (NPLR),examine the effect of loan loss provision (LLP), evaluate the effect of cost per loan asset ratio (CLAR), and establish the effect of credit to deposit ratio (CDR) on financial performance of microfinance institutions in Kenya. The study used secondary data specifically, the annual published financial statements and other financial records from Central Bank of Kenya (CBK). Other secondary sources included books, journals, online reading and other resource materials based on financial performance and non -performing loans. The study was guided by moral hazard theory, modern portfolio theory, stakeholder’s theory and financial accelerator theory. Descriptive research design was used in the study and utilized cross -sectional data for period between years 2013 to 2017. Selected four MFIs operating in Kenya licensed to accept deposits and perform lending business formed the target population of the study and census method was used to select study sample. To establish non-performing statistics, Microsoft Excel and SPSS software’s were used. Also, regression analysis of the SPSS was used to establish the effect of non-performing loans (NPLs) on financial performance of MFIs in Kenya. Overall, the study established that financial performance of MFIs is significantly and positivelyaffected by non-performing loans in various proportions despite loans being the main asset that generates income. The study recommended need for better credit or loan management systems. For instance, MFIs should rely heavily on the report of credit worthiness of borrowers provided by reference credit bureaus and proper business assessment before decisions to lend. Additionally, it is prudent to hire competent staff to manage the credit process. A furtherstudy should be undertaken on this area using both primary and secondary data and focus on one MFIs and increase sample size.