ASSESMENT OF FACTORS AFFECTING LOAN REPAYMENT

PERFORMANCE IN OROMIA CREDIT AND SAVING INSTITUTION

(A CASE STUDY OF BISHOFTU BRANCH)

A Senior Essay Proposal Submitted To Rift Valley University Bishoftu Campus In Partial
Fulfillment Of The Requirement For The Award Of Bachelor Of Art Degree In Business
Management.
BY:
1. Habtamu Shura (0484/12)
2. Edile Baca (0518/12)
3. Senaf Tamiru(0290/12)
4. Tigist Abebe(0525/12)

Rift Valley University Bishoftu Campus

Department Of Business Management

Advisor: Mekonnen Sorsa (MBA)

March, 2024
Bishoftu, Ethiop.
Acknowledgement

First of all praise to the Almighty God, who makes everything done in his appropriate time. We
would like to thanks universal medical college to give this chance of doing this research paper.
And, next our deepest gratitude and appreciation goes to our Advisor Mekonnen Sorsa (MBA),
for his unreserved and all rounded support and enriching and for his constructive comments on
this research proposal. Our special thanks also go to our friends and family who helped us
through a lot; this would be impossible without them.

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Table of Contents
Acknowledgement........................................................................................................................................i
ABSTRACT................................................................................................................................................iv
Abbreviation and Acronym......................................................................................................................v
CHAPTER ONE........................................................................................................................................1
INTRODUCTION.....................................................................................................................................1
1.1 BACK GROUND OF THE STUDY...............................................................................................1
1.2. Background of the organization....................................................................................................2
1.3. STATEMENT OF THE PROBLEM............................................................................................3
1.4. OBJECTIVE OF THE STUDY.....................................................................................................5
1.4.1 GENERAL OBJECTIVE.........................................................................................................5
1.4.2 SPESIFIC OBJECTIVE..........................................................................................................5
1.5 RESEARCH QUESTION...............................................................................................................5
1.6. SIGNIFICANT OF THE STUDY.................................................................................................5
1.7 SCOPE OR DELIMITATION OF THE STUDY.........................................................................6
1.8 LIMITATION OF THE STUDY....................................................................................................6
1.9 ORGANIZATION OF THE STUDY.............................................................................................6
CHAPTER TWO.......................................................................................................................................7
LITERATURE REVIEW.........................................................................................................................7
2 INTRODUCTION............................................................................................................................7
2.1 THEORETICAL FOUNDATION OF THE STUDY....................................................................7
2.2 THEEMERGENCE OF MICROFINANCE INSTITUTIONS....................................................8
2.3 BRIEF DESCRIPTION OF MICRO FINANCE INSTITUTIONS IN ETHIOPIA...................9
2.4 FACTORS OF LOAN REPAYMENT PERFORMANCE.........................................................11
2.5 EMPERICAL LITERATURE:....................................................................................................14
2.5.1 STUDIES OUTSIDE ETHIOPIA..........................................................................................14
2.5.2 STUDIES WITH IN ETHIOPIA...........................................................................................16
CHAPTER THREE.................................................................................................................................18
RESEARCH METHODOLOGY...........................................................................................................18
3.1 RESEARCH APPROACH............................................................................................................18
3.2 RESEARCH DESIGN...................................................................................................................18
3.3 POPULATION SAMPLING........................................................................................................18

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 3.3.1 TARGET POPULATION......................................................................................................18
3.3.2 SAMPLING TECHNIQUE....................................................................................................19
3.3.3 SAMPLE SIZE.......................................................................................................................20
3.3.4 SOURCE AND METHODS OF DATA COLLECTION.....................................................20
3.4 METHODS OF DATA ANALYSIS.............................................................................................20
3.5 BUDGET AND WORK PLAN.....................................................................................................21
3.5. Budget plan...............................................................................................................................21
3.5.2 Work plan................................................................................................................................21
REFERENCES.........................................................................................................................................22

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ABSTRACT

Micro finance institutions have a significant role for the development of one’s country economic
development by providing a credit and also a saving service for those productive clients. Though
there are many factors that can affect the efficiency of the institution like, loan management and
processing system, cash management, and loan repayment performance. This study was
conducted with the aim of analyzing the factors that influence micro-finance loan repayment
performance, specifically in Oromia credit and saving institution in Bishoftu Town branch using
primary data collected through self-administered questionnaire .This study intends to assess the
factors affecting loan repayment performance of the beneficiaries of OCSI. In order to achieve
this objective, the study was adopted mixed research approach. Primarily data were collected
from 15 institution’s employees holding different positions selected through purposive sampling
techniques using a self-administered questionnaire. Moreover secondary data were obtained
from the annual financial report of OCSI. For the data analysis, descriptive statistics including
percentage through statistics were used to assess or described the phenomena or variables that
influencing repayment rate .The findings of the study shows that credit term, credit monitoring,
collateralized loan and loan supervision by the institution assign as the causes of nonperforming
loan.

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Abbreviation and Acronym

CBE commercial bank of Ethiopia

DBE Development bank of Ethiopia
MFIs Micro-finance institutions
OCSI Oromia credit and saving institution

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 CHAPTER ONE
INTRODUCTION
1.1 BACK GROUND OF THE STUDY
Micro-finance institutions (MFIs) are those institutions which provide micro credit, saving and
other services for those who are productive borrowers. The formal and informal sectors are the
principal sources of finance for any investment or business that can be under taken at micro,
small-scale and large-scale level in an economy. The major financial institutions in the formal
financial sector in Ethiopia are commercial bank of Ethiopia (CBE) and development bank of
Ethiopia (DBE).
Solomon (2006) noted that the banks serve big businessmen and disregard poor households and
many small-scale credit-worthy businessmen with their viable investment ventures are denied
access to institutional credit because they couldn’t afford the required collateral. He also
indicated that,” over all; the prevailing operation of the formal financial institution in many low
income countries such as Ethiopia is inefficient in providing sustainable credit facilities to the
poor. Regarding delivery of financial services access to institutional credit was very limited in
Ethiopia. Because of this limited access the majority of the poor get financial services through
informal sources like money lenders, Iqub, Idder, merchants’ friends and relatives etc. The
formal financial sources have not interested in delivering credit to the poor. Micro finance such
as like Oromia credit and saving institution play an important role to equally serve the poor
borrowers as when they purposely need to be productive.
Oromia credit and saving institution was initially established under the proclamation number
40/88 in 1989 E.C by getting license from National Bank of Ethiopia and ministry of trade
started its operation in Oromia National Regional State setting its head quarter in finfinne/Addis
Ababa as a micro finance intermediary share company and began its work by providing micro-
credit services for those poor’s who are biased by the major financial institutions (i.e.
CBE&DBE) in order to alleviating poverty and stimulating the region’s economic growth and
promoting sustainable financial services, both operational and financial.
A loan is a debit evidence by which specifies among other things the principal amount and
interest rate and the date of repayment. In it loan entails the revocation subject aspects for a

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period of time between the lender and the borrower. In practice any material object may be lent.
Acting as loan is one of the principal tasks of financial institutions issuing of debt contract such
as bond is typical source of fund.
Credit is recognized as the important financial services that contribute to the success of business
venture. This success intern believes to contribute towards economic development. However
existence of credit facility alone not necessarily result in supporting of economic development
unless and other ways it will be accumulated by the existence of conductive to the efficient
utilization of credit fund. Loan recover is the main factor to determine the quality of loan assets
of financial institutions. Lower recovery indicates erosion of the institution effectiveness to
provide the expected services.
Repayment performance is a critical feature of credit, because persistent or continuous poor
payment ultimately leads to financial failure in any hand or financial institution.
Different factors can hinder the loan estimated recovery performance of Oromia credit and
saving institution that should be investigated for the precaution of the institution.

1.2. Background of the organization

Oromia credit and saving institution was initially established under the proclamation number
40/88 in 1989 E.C by getting license from National Bank of Ethiopia and ministry of trade
started its operation in Oromia National Regional State setting its head quarter in finfinne/Addis
Ababa as a micro finance intermediary share company and began its work by providing micro-
credit services for those poor’s who are biased by the major financial institutions (i.e.
CBE&DBE) in order to alleviating poverty and stimulating the region’s economic growth and
promoting sustainable financial services, both operational and financial.
OCSSCO is a microfinance institution that strives to strengthen the economic base of low-in-
come earning people in both urban and rural parts. The company operates in Oromia national
Regional state setting it head quarter in Finfinnee (Addis Ababa) and 18 zonal offices in the
capital of 18 Oromia zonal administrations. Currently the company has about 3400 staffs out of
which head office constitute only 3% where as zonal and branch office respectively share 8%
and 89%. OCSSCO becomes one of the largest microfinance institutions in Ethiopia in its
accessibility, outreach expansion, product diversity and service delivery system. The company

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has achieved substantial growth in loan portfolio, saving mobilization and capital formation as
well. Its branch network has been raising since its establishment and currently the company has
294 branches across Oromia.

The table below shows summary of the development trends.

Year Client outreach Loan disbursement Saving mobilization
1997/98 1,529 9,049,388 1,200,317
1998/99 9,165 17,611,135 2,724,560
1999/00 22,995 27,615,441 4,303,500
2000/01 29,450 38,276,108 6,187,241
2001/02 38,186 41,160,000 9,963,645
2002/03 42,120 61,965,312 11,477,881
2003/04 75,732 88,592,197 14,077,705
2004/05 128,630 141,723,093 28,524,924
2005/06 183,194 228,198,176 45,907,587
2006/07 268,324 413,306,561 70,435,548
2007/08 414,823 700,643,279 134,430,818
2008/09 351,519 686,662,539 222,229,959
2009/10 458,544 1,019,348,445 342,059,287
2010/11 501,540 1,261,416,078 547,140,041
2011/12 515,906 1,595,473,161 996,749,365
2012/13 724,711 2,421,030,296 1,332,190,144

1.3. STATEMENT OF THE PROBLEM

Lending represents the typical services of micro-finance institutions provide for the productive
borrowers. Loans are the dominant asset and represents 50-75% of the total amount at most
micro-finance institutions, generate the largest share of operating income Mac Donald & Koch,
(2006).Moreover it’s contribution to the growth of any country is huge in that they are the main
intermediaries between depositors and those in need of fund for their variable projects thereby
ensure that the money available in economy is always put to good use. Therefore, managing loan

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in a proper way not only has positive effect on the micro-finance institutions performance but
also on the borrower firms and a country as a whole. Failed to manage loans, which make up the
largest share of the institutions asset, would likely lead to the way of high level of non-
performing loans. As whole credit is generally accepted, that is put to productive use, results in a
good return. But credit provision is such a risky business that, in addition to other reasons. The
performance of Oromia credit and saving institution has been impressive since there
establishment they are expressing default problems that can be observe from the financing loan
report.

Berhanu(2001) argues that default problems destroy lending capacity of the institutions. Loan
default may also deny new applicants access to credit as the micro-finance institution cash flow
management problems arguments in direct proportion to the increasing default problems.

Many studies find out different factors that determine loan repayment performance of micro-
finance institutions. External factors such as the economic, political and business environment in
which the borrower operates are important determinants of loan repayment (Dereje eta l; 2005,
Belayneh, 2006). Moreover, in exploring micro-finance repayment problems in the informal
sector in (Addisu, 2006) found that repayment capacity increased with education level. Addisu
also found that borrowers who planned their business activities in advance or who had prior
experience were least likely to default in their loan repayment. In contrast, they found that the
levels of monthly sales were directly related to non-repayment of loans. Ephrem and Ibrahim
(2003) in their study on determinants of loan repayment performance in Bahirdar town identifies
loan size, age of beneficiaries, household size, and number of years of formal education and
occupation as the key predictors of loan repayment.

There are main factors that can determine the loan repayment performances of Oromia credit and
saving institution but not find out in the above mentioned studies such as the institutional factors
(credit term, supervision, collateral and credit monitoring). So in our study we are going to
narrow this gap on the basis of taking a sample from the institution's employee.

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1.4. OBJECTIVE OF THE STUDY
1.4.1 GENERAL OBJECTIVE
The general objective of this study is to assess the factors that affect the loan repayment
performance of oromia credit and saving institution in Bishoftu Town branch.

1.4.2 SPESIFIC OBJECTIVE

Specifically the research tries to address the following objectives:

 To assess the role of credit term on the loan repayment performance of OCSI.
 To find out the relevancy of collateralized loan on the non-performing loan.
 To investigate the function of loan supervision in the repayment performance of
borrowers.
 To identify the role of credit monitoring on loan default.

1.5 RESEARCH QUESTION

This Study Tries To Address The Following Question:

1. What is the role of credit term on the loan repayment performance of OCSI?
2 .Does the organization require the relevancy of collateralized loan on the non-performing
loan?
3 .What is the function of loan supervision in the repayment performance of borrowers?
4. What is the role of credit monitoring on loan default?

1.6. SIGNIFICANT OF THE STUDY

As explained earlier, targeting credit to the poor is one of the several instruments of alleviating
poverty. Micro-finance Institutions are engaged in providing credit to the poor so that they can
generate income and employment for themselves. For these institutions to be able to render such
a service on a permanent basis, they should be viable and sustainable. They should not depend on
donations or subsidies in the long run.

This requires an efficient loan repayment performance as well as an impact to be observed on the
target beneficiaries. Although some studies have been conducted on the credit schemes that

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targeted the poor in Ethiopia. So this study tries to provide a detailed empirical analysis on the
factors that affect the loan repayment performance of OCSI.

The finding of the study will have some important for the manager of Oromia credit and saving
institution in the assessment of loan granting procedures of the institution, for the institutions
policy maker, for the programmers, for other researchers who want to do on this area, for
governmental purpose, the credit worthiness of borrowers and other interesting parties about the
factors affecting performance of loan repayment in the institution and to suggest possible
solutions for the problem.

1.7 SCOPE OR DELIMITATION OF THE STUDY

Even though, sustainability of MFIs includes financial, economic, and institutional and borrower
viability, this study focuses on only one aspect of it, i.e. borrower viability. Accordingly, the
study focuses on factors affecting loan repayment performance of OCSI in Bishoftu Town
branch (such as collateral, loan supervision, and credit monitoring and credit term) which is
concerned on the borrowers’ viability. Additionally, the sample of this study is taken from the
institution's employee.

1.8 LIMITATION OF THE STUDY

The study is applied to OCSI in Bishoftu which is limited in specific area coverage of Bishoftu
Town branch only. The study’s target population is also specified on only employees that doesn’t
include the borrowers. This is because of time and financial constraints.

1.9 ORGANIZATION OF THE STUDY

The research paper contains five chapters. The first chapter is an introduction of the paper,
includes back ground of the study, background of the organization, statement of the problem,
objective of the study, basic research question, significant of study, scope and limitation of the
study. Whereas chapter two holds literature review, chapter three talks about research
methodology, chapter four deals about data presentation and analysis and in the last chapter five
presents about conclusion and recommendation.

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 CHAPTER TWO
LITERATURE REVIEW
2 INTRODUCTION
In this section the related literatures will be present. It starts from the theoretical foundation of
the study. Then it is followed by the emergence of MFIs, brief description of MFIs in Ethiopia,
the impact analysis frame work, and factors affecting loan repayment performance are all
presented respectively. Finally, empirical evidence which is investigated by different researchers
is presented.

2.1 THEORETICAL FOUNDATION OF THE STUDY

Micro finance institutions are existed to perform a number of functions primarily for granting a
credit for those productive poor which are a credit worthy borrowers. Granting credit which is
the primary function of micro finance institutions as explained earlier is exposed the institution
for credit risk. Credit is a device for facilitating transfer of purchasing power from one individual
or organization to another. As indicated by (Oyatoya,1983) credit provides the basis for
increased production efficiency through specialization of functions thus bringing together in a
more productive union the skilled labor force with small financial resources and those who have
substantial resources but lack entrepreneurial ability.

The link between credit and economic development has captured the attention of economists
since long (Schumpter J.A., 1993). With improved financial intermediation, the proportion of
financial savings that is diverted by the financial system into non-productive uses fails, and the
rate of capital accumulation increases for a given saving rate (Menash, 1999).

A credit market differs from standard markets (for goods and services) in two important respects.
First standard markets, which are the focus of classical competitive theory, involve a number of
agents who are buying and selling a homogeneous commodity. Second in standard markets, the
delivery of a commodity by a seller and payment for the commodity by a buyer occur
simultaneously. In contrast, credit received today by an individual or firm in exchange for a
promise of repayment in the future. But one person’s promise is not as good as another.

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Promises are frequently broken and there may be no objective way to determine the likelihood
that promise will be kept (JafeeDawit, and Joseph Stiglitz, 1990). Financial institutions in many
developing countries hold a truly alarming volume in non-performing assets. Differences
between promised and actual repayments on loans are the result of uncertainty concerning the
borrower’s ability or willingness to make the repayments when they are due which creates the
risk of borrowers default (Pischke, 1991; Vigano, 1993; Kitchen, 1989). The inapplicability of
the standard demand and supply model for credit market give rise to credit rationing phenomena.
Credit rationing as defined by (Jafee M. Dawit, 1971) is the difference between the quantity of
loans demanded and loans supplied at the ruling interest rate. In this case lending institutions
make use of their own screening criteria to identify credit worthy borrowers so as to decrease the
probability of default.

2.2 THEEMERGENCE OF MICROFINANCE INSTITUTIONS

For quite a long time, formal financial institutions were not serving a useful purpose for the poor.
In developing countries the poorer section of the community did not get access to formal
financial sectors. They were simply kept out of the reach of the formal financial institutions for
several reasons. First, formal financial sectors require collateral and credit rationing. Second,
they prefer for high-income clients and large loans. Third, the processes and procedures of
providing loan are bureaucratic and lengthy. Fourth, they are often urban- based and give lending
to those engaged in trade and industry. Fifth, they usually consider the demand for loan by the
poor as unattractive and unprofitable (Bouman, 1984, cited in Padma and Getachew, 2005;
Ghate, 1992); Khandker, 1998; and Henok M, 1998). There is no exception in Ethiopia as rightly
pointed out in several studies (See Gebeyehu, 2002; Mulat et al, 1998 and Wolday, 2000, 2001
and 2002). On the other hand, informal financial sectors were not good either. They usually
require high interest rates, which the poor cannot afford to pay. These situations have also found
to restrict the access of the poor towards informal financial sectors. Morduch (1998) argued in
his study conducted in Bangladesh that since moneylenders operate with little competition, they
charge high interest rates. Generally, according to Hulme (2000), capital markets in developing
countries do not work well so much so that they do not favor any development endeavor by the
poor.

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The year 1974 is a landmark in the history of microfinance development. It was by then that
Professor Muhammad Yunus, a Bangladeshi economist introduced the idea of providing the poor
with small loans. While he was on a field trip to an impoverished village with his students, he
met a woman and interviewed her. She was making a living from the sale of stool (prepared from
bamboo). From the interview he understood that the woman was making only a penny margin of
profit for each stool. Then he reasoned that the woman would raise herself above subsistence
level if she were given the loan with a more advantageous rate: then, he did it from his own
pocket. In 1983 he formally established the Grameen Bank (meaning “village bank”). Today, in
Bangladesh, Grameen has 1,175 branches, 12,500 staff and 2.4 million borrowers. The
geographical coverage is 41, 000 villages, which means more than 60% of the total villages in
the country.

Thus, the limitations of financial institutions in providing the poor with credit have become the
driving forces behind the emergence of MFIs. Nowadays, microfinance institutions are
burgeoning (grow or increase) rapidly to provide the poor with financial as well as technical
assistance. While emphasizing the importance of microfinance, Kofi Anna, Secretary General of
the United Nations once said, “Microcredit is a critical anti-poverty tool—a wise investment in
human capital. When the poorest, especially women, receive credit they become economic actors
with power. Power to improve not only their own lives but, in a widening circle of impact, the
lives of their families, their communities, and their nations.” The accomplishment of MFIs is,
therefore, a manifestation of a paradigm (typical example or model) shift that defeated the old
notion that the poor are not “creditworthy.”

2.3 BRIEF DESCRIPTION OF MICRO FINANCE INSTITUTIONS IN

ETHIOPIA
Since the takeover of the present government in 1991, considerable attempt has been made to
liberalize the financial sector. To this effect, Proclamation No. 84/94 was issued, which allows
private domestic investors to participate in banking and insurance activities, which were
previously monopolized by the government. However, the issuance of this proclamation alone
did not totally solve the financial problem of the economically active poor people in rural and
urban areas (Seifu 2002). Another Proclamation, No. 40/96 was issued to solve the problem of
the delivery of financial services to the poor. Following the issuance of this proclamation the

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microfinance industry of Ethiopia showed a remarkable growth in terms of outreach and
sustainability. Furthermore, the National Bank of Ethiopia issued a new directive on May 2002
to improve the regulation limits on loan size (Br. 5000), repayment period (one year), and
lending methodology (social collateral). The government also started micro-enterprise lending
program after signing a development credit agreement (that is Market Town Development
Project) with International Development Association (IDA) on March 30, 1990) which has been
managed by Development Bank of Ethiopia. The objectives of the program were to finance very
small businesses and household income generating activities, and to provide at least 50 percent
of the loan to women entrepreneurs (cited in Asmelash, 2003).

Currently, there are 23 microfinance institutions registered and licensed under the National Bank
of Ethiopia and reaching 905,000 credit and some saving clients (Getaneh, 2005). The industry is
non-competitive and provides uniform credit and saving products to all clients (Wolday, 2002).
The development of these MFIs could be viewed from two angles: (i) as potential market growth
for financial services and (ii) as a paradigm shift by the government and NGOs from mere relief
assistance to mobilizing the community towards sustainable development (Fiona, 1999, cited in
Wolday, 2000).
The impact of microfinance initiatives can be seen from three different but interrelated aspects.
These are economic, socio-political/cultural and personal/psychological. It means that large
MFIs reaching hundreds of thousands of clients may have three aims: 1) bringing changes in
economic growth in a region or sector, 2) bringing a shift in the political aspect of a particular
district, and 3) improving borrowers’ sense of self. These impacts could be evaluated from two
perspectives. The first one is the financial system approach (the intermediary school) and the
second one is the client-oriented impact analysis approach (the intended beneficiary school). The
first one focuses on changes in the organization (MFI) and its operations. And as such, its proxy
indicators are outreach and sustainability of the program (Goetz and Gupta, 1996; Hulme, 2000,
Ledger wood, 1999 and Yaron, 1997)..

Studies suggest that many microfinance programs have attained the objective of reaching a large
number of clients with small amounts of resources. Women are believed to be the main
participants and beneficiaries of microfinance programs in many countries. Yet, many women

10
lack enough power within households to use their loans to improve productivity and welfare
(Goetz and Gupta, 1996). In this study, the impact of microfinance is assessed taking both
households as a unit of analysis.
2.4 FACTORS OF LOAN REPAYMENT PERFORMANCE
Loans constitute as the primary source of income by any micro finance institutions. As any
business establishment the institutions also seeks to maximize its profit. Since loans are more
profitable than any other assets, the institution is willing to lend as much of its funds as possible.
But institutions have to be careful about the safety of such advances. Institutions naturally try to
balance the issue of maximizing profit by lending and at the same time manage risk of loan
default as it would impair profit and thereby the very capital .Thus the institution needs to be
Cautious in advancing loans as there is a greater risk which follows it in a situation where the
loan is defaulted. Generally, in developing and underdeveloped countries, the reasons for default
have multidimensional aspect. Various researchers have concluded various reasons for loan
default. Literature categorizes determinants of loan repayment performance as follows. The
following paragraphs were discussed about determinants of nonperforming loans.
Credit term
The institutions credit term has an effect on the repayment performance. If there is a strong care
made a negotiation between the institution and their clients about the credit term the institution
faces a little loan default or non-performing loan. In his study (Abreham, 2004) conducted on the
Oromia credit and saving share company evidence that non-performing loans are determined by
a credit term. And also who studied in other financial sectors like commercial bank of Ethiopia
investigated that credit term is one of the determinant of nonperforming loan (Samuel, 2006).
Besides other studies find out the borrowers poor knowledge about credit term as the cause for
loan default (studies in commercial bank and other financial institutions of Indian).

Collateral

Collateral is also known guaranty which is an asset that a borrower pledges to the institution in
order to componset the institutions risk at the time of loan default (Sinkey, 2002). It is something
valuable which is pledged to the institution by the borrower to support the borrower’s intention
to repay the money advanced. Guaranty is taken to componset to the institution’s risk at the time

11
of loan default, and is considered as Secondary source of repayment (Koch & MacDonald,
2003). The purpose of security is to reduce the risk of granting credit by increasing the chances
of the lender recovering the amounts that become due to the borrower. Security increases the
availability of credit and improves the terms on which credit is available. The offer of security
influences the lender’s decision whether or not to lend, and it also changes the terms on which he
is prepared to lend, typically by increasing the amount of the loan, by extending the period for
which the loan is granted and by lowering the interest rate. The reasons why a security is needed
by the institution are:

 To assure the borrowers full commitment for their operation.

 To provide as an insurance for the borrowers default.
 To provide as a protection for the borrowers deviation from normal course of action.
Credit Monitoring

Lending decision is made on sound credit risk analysis /appraisal and assessment of
creditworthiness of borrowers. But past records of satisfactory performance and integrity are no
guarantee future, though they serve as useful guide to project trend in performance. Loan granted
on the basis of sound analysis might go bad because of the borrower may not meet obligations
per the terms and conditions of the loan contract. It is for this reason that proper monitoring is
essential. Monitoring deals with the following vital aspects:
 Ensuring compliance with terms and conditions.
 Knowing the final use of approved funds.
 Assessing performance to check continued viability of operations.
 Detecting deviations from terms of decision.
 Making periodic assessment of the health of the loans and advances by nothing some of
the key indicators of performance that might include: profitability, activity level and
management of the unit and ensure that the assets created are effectively utilized for
productive purposes and are well maintained.
 Ensuring recovery of the installments of the principal and interest in case of term loan as
per the scheduled repayment program.
 Identify early warning signals, if any, and initiate remedial measures thereby averting

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 from possible default.

Loan Supervision
Supervision is the follow up of the institution for the borrower about that they are in the right
way operating their business or other determining operation for the provision of loan. There are
three major types of loan follow up. These are physical follow up, financial follow up and legal
follow up each discussed below.
Physical follow- up:

Physical follow-up helps to ensure existence and operation of the business, status of collateral
properties, correctness of declared financial data, quality of goods, conformity of financial data
with other records ( such as taxes ,register books), availability of raw materials, labor situation,
marketing difficulties observed, undue turnover of key operating personnel, change in
management set up among others.

Financial Follow- up:

Financial follow up is required to verify whether the assumptions on which lending decisions
was taken continues to hold good both in regard to borrowers’ operation and environment ,and
whether the end use is according to the purpose for which the loan was given.
Legal Follow- up:
The purpose of legal follow up is to ensure that the legal recourse available to the institution is
kept alive at all times. It consists of obtaining proper documentation and keeping them alive,
registration, proper follow up of insurances. Specific issues pertaining to legal follow up include:
ascertaining whether contracts are properly executed by appropriate persons and documents are
complete in all aspects, obtaining revival letters in time (revival letters refer to renewal letter for
registration of security contracts that have passed the statutory period as laid down by the law),
ensuring loan/mortgage contracts are updated timely and examining the regulatory directives,
laws, third party claims among others.

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2.5 EMPERICAL LITERATURE:
Loan repayment performance is affected by a number of socio-economic and institutional
factors. While some of the factors positively influence the loan repayment, the other factors are
negatively affecting the repayment rate. Regarding to the loan repayment performance of
borrowers several studies have been conducted in many countries by different authors. Some of
the studies are mentioned below.

2.5.1 STUDIES OUTSIDE ETHIOPIA

When one goes through the bulk of literature on the impact of microfinance, one can find quite
different results, which are generally inconclusive. In some cases, microfinance is said to have
brought positive impacts on the life of the clients. A growing database of empirical studies shows
that microfinance has positive impacts to boost the ability of poor people to improve the
conditions in which they live. Research works indicate that the poor have taken advantage of
increased earnings to improve consumption levels, send their children to school, and build assets.
In some other instances, microfinance is said to play insignificant role towards mitigating the
problem of the poor. But looking at the positive impacts, several studies indicate that
microfinance allows poor people to increase their incomes by starting new enterprises or
expanding existing ones. The argument is that through diversified sources of income, the people
could be able to shield themselves against external shocks. Savings and micro- insurance
services could also allow poor individuals to plan for future expenses, and cover unanticipated
expenses. Studies of microfinance programs and their clients indicate the following impacts on
poverty and hunger. In Indonesia, 90% of clients surveyed on the island of Lombok had moved
above the poverty line, with income increases (Panjaitan-Drioadisuryo and Cloud, K, 1999). In
Zimbabwe, extremely poor clients of Zambuko Trust, a local MFIs, increased their consumption
of high- protein foods at a time when food expenditures across the country as a whole were
decreasing (Barnes, 2001). In Tanzania/Zanzibar, the income and assets values of borrowers are
almost twice that of non-borrowers (REPOA, 2005). In India, in addition to increased economic

14
well- being, share clients have shown a striking shift from irregular, low-paid daily labor to more
diversified sources of income, with a strong reliance on small businesses (Simanowitz and
Walters, 2002). Studies of two separate microfinance institutions in Bangladesh documented a
similar shift from informal labour to self-employment among MFIs clients. As a result, overall
wage rates in the villages served by the microfinance programs also increased (Zaman, 2000 and
Khandkher, 1998). Pitt and Khandker (1998) also indicated that microfinance has brought
positive marginal impacts on consumption in Bangladesh. They showed that microfinance has
become a promising strategy to shield the poor from vulnerability through consumption
smoothing as well as building assets. The rate was even lower for old borrowers than new ones.
This is to mean that number of loans was found to be important in impacting the life of clients
positively. Strengthening this assertion, Montgomery et al (1996, cited in Zaman, 2001) pointed
out that third time borrowers were found to get higher incomes and register growth in their
enterprises. Mustafa et al (cited in Zaman, 2001) also found that older borrowers were found to
have greater asset values and household expenditures on average than new borrowers.

In another study, Khandker (2003) found out that microfinance is serving a useful purpose in
benefiting the poorest segment of the clients and in reducing poverty in Bangladesh. He
indicated that females are found to benefit more than males from microfinance services. But, the
poor are found to spend much on food, not on other income-generating activities. According to
Khandker, enhancing the skill of the clients is very important in addition to providing them with
credit. The benefit of microfinance is evaluated from the perspective of meeting people’s short-
term problems as far as Khandker’s analysis is concerned. It is well known that the majority of
microfinance programs specifically target women clients and provide them with direct control
over resources because access to microfinance services is believed to open up greater livelihood
opportunities for women and thereby allow for their increased participation in the economy. As a
result, many MFIs consciously design their programs to empower women, with the goal of
increasing their voice in decisions (family, economic, social, and political) that affect their lives.
The following studies could substantiate this. After joining Freedom from Hunger affiliates in
their respective countries, women clients in Ghana were found to play a more active role in
community life (MkNelly and Dunford, 1998) and those in Bolivia (Ibid, 1999) were found to be
actively involved in local government. On the other hand, a survey of 1300 women in

15
Bangladesh showed that MFI clients were significantly more empowered than non-clients in
terms of physical mobility, asset ownership, and control of productive assets, decision making,
and political and legal awareness (Hashemi, Schuler, and Riley, 1996).

A gender impact study of four microfinance programs in Bangladesh concluded that women
clients experienced positive change at a personal level, in the form of increased self-worth, as
well as the household level. Apart from the above-mentioned positive impacts of microfinance,
access to financial services whether credit, savings, or insurance enable many poor people to
access better health care services.

2.5.2 STUDIES WITH IN ETHIOPIA

(Berhanu A., 2005) Studied on the determinants of loan repayment performance of smallholder
farmers in North Gondar, Ethiopia. In order to analyze the factors that affect loan repayment, a
total of 17 explanatory variables were considered in the econometric model. Out of these seven
variables were found to significantly influence the repayment performance. These were land
holding size of the family, agro-ecology of the area, total livestock holding, number of years of
experience, number of contacts, sources of credit and income from off-farm activities. The
remaining variables (family size, distance between main road and household residence, purpose
of borrowing, loan amount and expenditure for social festivals) were found to have insignificant
effect on loan repayment performance of smallholder farmers.

(Abafita, 2003) Analyzed the microfinance repayment performance of Oromia credit and saving
institution in Kuyu, Ethiopia. According to his finding; sex, loan size and number of dependents
are negatively related to loan repayment. On the other hand age was found to be positive .
Income from activities financed by loan, repayment period suitability and loan supervision are
positively and significantly related to loan repayment performance. Moreover, loan diversion is
significant and negatively related to loan repayment rate. The negative sign implies that the use
of diverted funds for non-income generating purposes.

(Assefa B.A., 2002) estimate the effects of hypothesized explanatory variables on the repayment
performance of rural women credit beneficiaries in Dire Dewa, Ethiopia. Out of the twelve
variables hypothesized to influence the loan repayment performance of borrowers, six variables
were found to be statistically significant. Some of these variables are farm size, annual farm

16
revenue, celebration of social ceremonies, loan diversion, group effect and location of borrowers
from lending institution. (Abreham G., 2002) Studied on the loan repayment and its determinants
in small-scale enterprise financing in Ethiopia around Zewayarea . He is found out other sources
of income, education, and work experience related economic activities before the loan are
enhancing loan repayment. While extended loan repayment period is influence the repayment
performance negatively. (Reta, 2002) studies for loan repayment performance of women fuel
wood carriers in Addis Ababa. His finding is frequency of loan, suitability of repayment period
and other income sources are found to encourage repayment hence reduce the probability of loan
default. While educational level is negatively related to loan repayment.

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 CHAPTER THREE
RESEARCH METHODOLOGY
3.1 RESEARCH APPROACH
Among the three types of research approach those are qualitative, quantitative and mixed
approaches in this study relationships between the repayment performance and those the factors
to repayment is summarized quantitatively. It is appropriate to used qualitative approaches, and
in ordered to obtain an understanding about the institutions specific factors that would determine
the occurrence of nonperforming loan.

3.2 RESEARCH DESIGN

The research design is needed to provide relevance information that would be most effectively
and efficiently the research questions as can be seen in the research questions (Hair et al., 2007)
and objective of the study. As a result, the most appropriate research design in this study is the
descriptive method. The essentials of the descriptive research design are: to address questions
that have been raised, to solve problems that have been observed, to identify whether the specific
objectives have been met or not.

3.3 POPULATION SAMPLING

In this part the target population, sampling technique and sample size of the study would be
discussed.

3.3.1 TARGET POPULATION

According to (Joseph, G. & Meretz, F., 2003) population is a group of items that a sample had
been taken from. A sample, on the other hand, refers to a set of individuals or groups selected
from an identified population with the intent of representing the findings to the entire population.
A sample was selected as a result of constraints that make it difficult to cover the entire research
population. The target population of this research was the whole employees of Oromia credit and
saving institution in Bishoftu Town branch.

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Table 3.1 Total Population of the Study:
NO. Institutions Number of employees

Male Female

1 OCSI 18 10

Total 28

Source: human resource management report of OCSI

3.3.2 SAMPLING TECHNIQUE

The data has been collected from different employees of the target population of the study i.e. the
management department of the institution, loan approval section (account officer & loan officer,
auditor and service department. The study has been used purposive/judgmental sampling to
select the respondents of the study.

Purposive sampling

According to the institutions human resource management report the employees were employed
in to different position based on their activities such as management department (credit manager,
human resource manager, financial manager), service department, loan approval section (loan
officer or account officer), and auditing department. A purposive sampling was then used to
select representatives from each department and we would use sampling technique of
purposive/judgmental sampling technique to select all employees in credit management
department. Because the employees in credit management department are daily involved in
credit processing and we believe that they have better information about loan.

3.3.3 SAMPLE SIZE

To investigate the points raised by this research it is important to select a representative sample.
The determination of sample size is influenced by many factors that need to be taken into

19
account. These factors include the cost and time constraints, variability of elements in the target
population and others. In this study the sample size include the whole employees of in credit
department total 4 employees, 1 auditors, and 1 institution’s managers, and 9 employees from
other department such as loan approval section (account officer or loan officer), management
department, and other service department.

3.3.4 SOURCE AND METHODS OF DATA COLLECTION

This study has been used both primary and secondary data sources. The questionnaire would be
both open-ended and close-ended type which is administered to the sample respondents of study
area.

3.4 METHODS OF DATA ANALYSIS

The method of data analysis depends on three main issues. These are knowledge of the
researcher, objective of the study and measurement of the data. Accordingly this study has
quantitative data utilizes the descriptive statistics, and percentages. Tables had been used to
present the data, and also qualitative data has been used to analyze through simple qualitative
description about loan and its determinants for the repayment performance of the institution.

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3.5 BUDGET AND WORK PLAN

3.5. Budget plan

No Item Unit cost Quantity Total

1 Pen 20 4 80
2 pencil 10 4 40
3 Ruler 25 2 50
4 Rubber 5 4 20
6 Marker 50 2 100
9 Photocopy 4 30 120
11 Flash 450 1 450
12 Binding 30 1 30
Sub total 890
3.5.2 Work plan

No Month
Activity Jan Feb March
1 Topic submission
2 Proposal write up
3 Preparation of the plan and questionaries’
4 Data collection and discussion
5 Analysis and conclusion
6 Editing and finalizing the paper

REFERENCES

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Abafita 2003. ‘Microfinance and loan repayment performance: A Case Study of the Oromia
Credit and Savings Share Company (OCSSCO) in Kuyu’, MSc thesis, Addis Ababa University,
Addis Ababa.

Abreham. (2004). determinants of loan repayment in oromia credit saving and share company.

Abreham. (2002). credit term determines the loan repayment performance. A.A.

Abreham G.2002. A ‘Loan repayment and its Determinants in Small-Scale Enterprises

Financing in Ethiopia: Case of private borrowers Around Zeway Area’, M. Sc. Thesis, AAU.

Addisu. (2006). factors affecting loan repayment performance.

Assefa B.A. (2002). Factors influencing loan repayment of rural women in Eastern Ethiopia.
Ethiopia, : the case of Dire Dawa Area’, A Thesis presented to the school of graduate studies,
AleMayaUniversity;

Belayneh, D. e. (2005 2006). Factors affecting loan repayment performance.

Berhanu A. (2005). Determinants of formal source of credit loan repayment performance of

smallholder farmers. Ethiopia, the case of north western Ethiopia, North Gondar’, M.Sc. Thesis,
AlemayaUniveristy, Ethiopia.

Ibrahim, E. &. (2003). determinants of loan repayment performance inBahirdar town.

Jaffee Dwight, and Joseph Stiglitz, 1990. Credit Rationing, in Handbook of Monetary
Economics, Credit Rationing, in Handbook of Monetary Economics, Vol. II, Ed. By Ben (Vol.
Vol. II). (N. H. Ed. By Benjamin M. Friedman and Frank H. Hahn, Ed.)

Jaffee M. Dwight1971. Credit Rationing and the Commercial Loan Market, An Econometric
Study of the Structure of the Commercial Loan Market.,John Wiley and Sons,Inc.U.S.A., 1971.

MacDonald, K. &. (2003). collateral is a secondary source of repayment.

Mensah, 1999. Bank Credit provision and Performance Measurement: The Experience of Rural
Banking in Ghana,.Master’s Thesis 1999.

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Pischke, 1991; Vigano, 1993; Kitchen, 1989. Retta 2000.

SchumpeterJ.A., 1933. The Theory of Economic Development,. Oxford University press, 1933.

Sinkey. (2002). collateral is used to componset the institution at the time of loan default.

solomon. (2006). small-scale enterprise and loan repayment performance.

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