The effect of credit risk management on financial performance of deposit taking microfinance institutions in Kenya

Abstract

This study sought to investigate the effect of credit risk management of financial performance of Deposit Taking Microfinance Institutions (DTMI) licensed by the Central Bank. The research design used in this study was descriptive research design. The study involved an in depth study of credit risk management and the relationship between the two variables i.e. credit risk management and the financial performance of DTMI was described extensively. Primary data was collected using questionnaires. Secondary data collected from the Deposit Taking Microfinance Institutions (DTMI) licensed by the Central Bank annual reports (2011 - 2014) was used. Of the 9 licensed DTMIs in Kenya, full data was attained from 6 of them and thus the study concentrated on the 6 DTMIs. The data collected from the annual reports of the DTMIs was analyzed using multiple regression analysis. In the model return on asset (ROA) was used as the profitability indicator while Default rate, cost per loan asset and bad debt cost as credit risk management indicators. The study established that cost per loan asset, and bad debt cost and default rate are significant credit risk management indicators that have an inverse effect on financial performance of DTMFI. The study also results indicated that MFIs use credit risk control in Credit risk Management. The study further established that interest rate risk, liquidity risk, credit risk and operational risk affects performance of loans in the MFI. The recommendation is to advise MFIs to enhance their credit risk control this will help in decreasing default levels as well as non-performing loans. This will help improve financial performance.