Microfinance ~ How to Make Money and Feel Really Good About It

My seven-year-old self was sitting at the dinner table, staring down at a plate containing boiled brussel sprouts, when my mother told me about the starving children in Ethiopia. I’m still not sure why she picked Ethiopia over the other third-world countries, but there it was. I should be grateful for these brussel sprouts, went the logic, because elsewhere in the world children starved.

Except I wasn’t starving, and my mother was trying to make me eat these awful things instead of giving them to the poor kids. That seemed a double cruelty on my mother’s part.

Such was my introduction to the plight of the third-world country. It was, in fact, astute; I was living in a country of plenty, where others were not. My immediate reaction was to try to help those others and myself simultaneously. They’d get the food, I’d get to avoid the brussel sprouts. It would have been win-win.

Had we been talking about cake, though, I wouldn’t have volunteered to send it to Ethiopia.

Ok, Ok, what in the world am I doing talking about this on a finance blog? Well, it’s actually pretty spot-on as an example of the problem with charitable institutions these days; they rely on charity. And charity really only comes in volume when it’s in the self-interest of the giver.

Enter microfinance. The idea behind microfinance is pretty simple; it’s a loan. It functions the same way any other loan does; the lender gives [some money] to the borrower, the borrower uses that money to do [something], and then gives [some money+some more] back. The only difference is this: the loan is relatively small, and it is made to very poor people.

Here’s a quick example: Nzame wants to sell goat milk, but he doesn’t have a goat. He borrows a couple hundred dollars from a microfinance institution, then buys the goat. He then sells the goat milk and gives a portion of his profits back to the institution until he is paid back. Nzame has an income stream that he didn’t have before, and the institution makes a little interest.

The trick with microfinance is in the very small nature of the loan; any given loan carries with it very little risk. In addition, Nzame is going to want another goat pretty quickly; he’s going to make sure his loan gets paid back so he can keep getting loans.

SKS India, traded on the NSE as SKSMICRO, has recorded a repayment rate of 99% on the loans it makes; and it charges an interest rate of 24.55%. Now, there’s some overhead involved in the volume of loans a company like SKS has to do, but even so a 24.55% interest rate with 99% is something to look at. SKS’s stock began relatively volatile; the IPO asking price was far too high, and the market has been correcting them on that one. However, it seems to have stabilized somewhat over the last year; if this continues, they may make for a decent long-term investment. They’re not the only ones in this business, either.

Microfinance is done by a number of charitable institutions; if you’re looking to turn a profit make sure that you avoid these. Many of them call their donors “investors” and talk about “making a loan,” so research carefully, as many of these so-called non-profits will simply keep the money that is repaid to them.

The for-profit approach to microfinance has been scoffed at by charitable purists, but if there’s a profit involved, the amount of money available to the third world is going to increase drastically. This is the same win-win scenario I contemplated at seven years old – both the donor and the beneficiary come out of the equation ahead. Nobody has to give up their cake.

This is not the most lucrative investment advice I’ve ever made; the profit margins are there, but not staggeringly large. That said, SKS has been an established company for the last twelve years, and it has seen nothing but consistent growth of capital since its establishment. That kind of history makes for a stable long-term investment. If you are looking at another microfinance company, be sure to check out their history and their method of operation; there’s a lot of profit in breaking new ground like this, but there’s also a lot of failure.

And, unlike most for-profit investments, this one comes with the added feeling that, while your money resides with the company, it’s working to make the world a little bit better. Where else can you get that?

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3 Responses to Microfinance ~ How to Make Money and Feel Really Good About It

  1. I love this idea, because it makes people self sufficient and gives them ability. I’ve seen a few charities that do this, but have never really thought of participating. I might have to put that on my list of “must dos”!
    Daisy @ Young Finances recently posted..Best Credit Cards for Young Adults, July 2013My Profile

  2. Great article, Peter! Never thought about microfinance as an investment option before.
    Laurie @thefrugalfarmer recently posted..How and Why You Should Get Out of Debt: Part 3, Staying the CourseMy Profile

  3. Alexa says:

    I read somewhere that the people given these small loans were so thankful that they almost always were paid back. I think it’s an amazing concept. I also think it’s a great investment option. It’s nice to know that your money is really helping people who need it and making such a difference in their lives.
    Alexa recently posted..5 Ways Single Moms Can Find Time for ThemselvesMy Profile

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