Relationship Between Financial Risk Management Systems and Financial Performance of Micro Finance Institutions in Kenya

Abstract

Micro Finance Institutions are defined as institutions whose major business is the provision of microfinance services. Proactive risk management is essential to the long term sustainability of micro finance institutions (MFIs), but many micro finance stakeholders are unaware of the various components of a comprehensive risk management regimen. Credit risks, especially weakness in credit risk management have been identified one of the main reasons behind the failure of majority MFIs. If the microfinance institution does not manage its risks well, it wi11likely fail to meet its social and financial objectives. This study sought to establish the relationship between financial risk management systems and financial performance of micro finance institutions in Kenya. The research employed a survey research method as well as causal research design to show the relationship between financial performance and financial risk management systems. The study targeted 47 registered MFIs. The study used both primary and secondary data sources. A Likert scale and the use of Statistical Package for Social Sciences (SPSS version 17.0) were employed to aid in the coding, entry and analysis of the data obtained through the questionnaires. The regression analysis was also performed to determine relationship between dependent and independent variables. From the findings of the study Mil's-should institutionalize a risk management process. Management of micro finance institutions has often treated internal control and internal audits as peripheral to operations, focusing only on their ability to uncover past mistakes and wrongdoing. The risk management approach suggests a more integrated approach to internal control, placing a greater emphasis on its ability to proactively prevent loss and encourage efficiency. To be effective, MFIs must institutionalize the concepts of risk management into their organizational culture and environment. The board and management should play an active role in overcoming negative perceptions of internal control and internal audit by emphasizing to employees the positive results that can be achieved from their effective application. By developing control mechanisms that act as incentives rather than disincentives, management can create a positive control environment in which all employees have a stake in improving the internal control system. The use of performance-based incentives, profit centers, and a culture that focuses on solving problems rather than on placing blame are all measures that can reinforce a positive control environment and help to overcome past negative attitudes toward internal control.