Not long ago I joked that I would spend the rest of my career in microfinance putting together debt financings to support microcredit lending operations, and that I would spend my retirement restructuring those debt financings.  Unfortunately that “retirement career” may be nearer than I hoped.  Just  last week journalists began writing about the problems and alleged temporary closure of GreenHouse Investment Solutions, a Nigerian microfinance institution.  According to one journalist, the problems of GreenHouse could “sound the death knell for the microfinance sector [in Nigeria] that is gradually gaining public trust and patronage by depositors.”

Why does this kind of doomsday reporting sound familiar?  Probably because for over a dozen years before coming to the microfinance sector, I worked on sovereign debt restructurings – the negotiations, the documentation, and the public policy underpinning these complex transactions.  During this time, I sat at the table in at least three capacities – deal lawyer, bank regulator, and policymaker.  While the amounts were much larger and the players much more numerous, there are several lessons that might be helpful to the microfinance sector as some of its more troubled microfinance institutions (MFIs) begin to manage their first debt restructurings.  

Borrowers in distress generally have two options: 1) seek resolution in an out-of -court debt restructuring that is informal and consensual;   or 2) seek judicial protection under applicable bankruptcy laws.  For a MFI that is based in a jurisdiction that offers  a well-articulated and appropriately enforced bankruptcy law and regulations, the relief of a formal bankruptcy proceeding may be most appropriate.  For other MFIs, who are not so lucky as to live in “bankruptcy nirvana,”  an informal debt workout process may be most appropriate (or could be where the MFI and its creditors prefer to start before resorting to a judicial resolution).

Even the most informal debt workout process is hard, particularly when there are multiple creditors from multiple jurisdictions holding debt denominated in multiple currencies demanding to be paid (or, at least, demanding fair and equitable treatment to be accorded to all creditors).  This may be for many MFIs their very first intercreditor negotiation of any kind.  So an important first step is to secure skilled legal and financial advisors who can coach the MFI on how to negotiate with a group of creditors.  (No, all appearances aside, this is not my plug for more consulting work!)

Four big questions are likely to be at issue in any debt restructuring of a troubled MFI:
1) How much of its existing debt obligations can the MFI pay?
2) How much of these debt obligations must be deferred (and by whom)?
3) When are such payments or deferrals to be made? and
4) At what price?

While likely painful, reaching consensus on answers to these questions will need to be quick.  Delays are likely to increase costs (to the MFI and its creditors) and also, dangerously, could contribute to an erosion of the MFI’s already compromised economic value due to further deterioration in the asset quality of its microcredit portfolio (either  due to contracting microlending activity or distracting MFI management from day-to-day operations). Moreover, some creditors may have limited patience for engaging in a lengthy and costly negotiation, particularly if the amounts at stake are relatively small.

Given the speed with which a weak MFI can collapse, a “learning by doing” approach to managing debt workouts is fraught with difficulties.  Accordingly, an important step for everyone in the microfinance sector – MFIs, creditors, investors, guarantors, donors, and government actors/policymakers, to name a few – is to develop consensus around best practices for managing a debt restructuring of distressed MFIs. 

Here are six principles that might serve as these best practices:
1.  Where possible, look to INSOL Principles to guide the structure by which the debt negotiation will be organized.
2. Adhere to a transparent process that includes all interested stakeholders.
3. Demand fair and good faith dealings by the MFI with its creditors, and among creditors.
4. Encourage speedy and simple solutions.
5. Favor “new” money over old such that creditors that provide new financing to the distressed MFI enjoy a priority over other existing creditors.
6. In the absence of fraud or bad faith conduct by the MFI, favor long-term, out of court resolutions.

At the risk of stating the obvious, the ultimate goal here is to preserve the troubled MFI as a going concern.  As John Hatch, founder of FINCA International, so aptly put it:  “No one ever ended poverty by going bankrupt.”