Objective. The CAMEL methodology was originally adopted by North American bank regulators to evaluate the financial and managerial soundness of U.S. commercial lending institutions. The CAMEL reviews and rates five areas of financial and managerial performance:
Capital Adequacy, Asset Quality, Management, Earnings, and Liquidity Management. Based on the conceptual framework of the original CAMEL, ACCION International developed its own instrument. Although the ACCION CAMEL reviews the same five areas as the original CAMEL, the indicators and ratings used by ACCION reflect the unique challenges and conditions facing the microfinance industry. To date, ACCION has used its CAMEL primarily as an internal assessment tool, which has contributed to setting performance standards both for the ACCION Network and for the microfinance industry as a whole.
Methodology. The MFI is required to gather the following information for a CAMEL examination: (1) financial statements; (2) budgets and cash flow projections; (3) portfolio aging schedules; (4) funding sources; (5) information about the board of directors; (6) operations/staffing; and (7) macroeconomic information.
Financial statements form the basis of the CAMEL's quantitative analysis. MFIs are required to present audited financial statements from the last three years and interim statements for the most recent 12-month period. The other required materials provide programmatic information and show the evolution of the institution. These documents demonstrate to CAMEL analysts the level and structure of loan operations and the quality of the MFI's infrastructure and staffing.
Once the financial statements have been compiled, adjustments need to be made. These adjustments serve two purposes: first, they place the MFI's current financial performance in the context of a financial intermediary; second, they enable comparisons among the different institutions in the industry. The CAMEL performs six adjustments, for the scope of microfinance activity, loan loss provision, loan write-offs, explicit and implicit subsidies, effects of inflation, and accrued interest income.
The ACCION CAMEL analyzes and rates 21 key indicators, with each indicator given an individual weighting. Eight quantitative indicators account for 47 percent of the rating, and 13 qualitative indicators make up the remaining 53 percent. The final CAMEL composite rating is a number on a scale of zero to five, with five as the measure of excellence. This numerical rating, in turn, corresponds to an alphabetical rating (AAA, AA, A; BBB, BB, B; C; D; and not rated).
Based on the results of the adjusted financial statements and interviews with the MFI's management and staff, a rating of one to five is assigned to each of the CAMEL's 21 indicators and weighted accordingly. A definition of each area and the criteria ranges for determining each rating are as follows:
- Capital Adequacy
- Leverage: the relationship between the risk-weighted assets of the MFI and its equity
Ability to raise equity: assessment of an MFI's ability to respond to a need to replenish or increase equity at any given time
Adequacy of reserves: measure of the MFI's loan loss reserve and the degree to which the institution can absorb potential loan losses
- Asset Quality
- Portfolio Quality:
- Portfolio at risk: measures the portfolio past due over 30 days
- Write-offs/write off policy: measures adjusted write-offs on CAMEL criteria
Portfolio classification system: review of portfolios aging schedules; assesses institution's policies associated with assessing portfolio risk.
Fixed Assets:
- Productivity of long-term assets: evaluates MFI's policies for investing in fixed assets
- Infrastructure: -evaluation of whether it meets the needs of both staff and clients
- Management
- Governance: how well the institution's board of directors functions, including the diversity of its technical expertise, its independence from management, and its ability to make decisions flexibly and effectively
Human Resources: evaluates whether the department of human resources provides clear guidance and support to operations staff, including recruitment and training of new personnel, incentive systems for personnel, and performance evaluation system
Processes, controls and audit: the degree to which the MFI has formalized key processes and the effectiveness with which it controls risk throughout the organization, as measured by its control environment and the quality of its internal and external audit
Information Technology System: assesses whether computerized information systems are operating effectively and efficiently, and are generating reports for management purposes in a timely and accurate manner
Strategic planning and budgeting: whether the institution undertakes a comprehensive and participatory process for generating short- and long-term financial projections and whether the plan is updated as needed and used in the decision-making process.
- Earnings
- Adjusted return on equity: measures the ability of the institution to maintain and increase its net worth through earnings from operations
Operational Efficiency: measures the efficiency of the institution and monitors its progress toward achieving a cost structure that is closer to the level achieved by formal financial institutions
Adjusted Return an Assets: measures how well the MFI's assets are utilized, or the institution's ability to generate earnings with a given asset base
Interest rate policy: assess the degree to which management analyzes and adjusts the institution's interest rates on microfinance loans (and deposits if applicable), based on the cost of funds, profitability targets, and macroeconomic environment
- Liquidity Management
- Liability structure: review of the composition of the institution's liabilities, including their tenor, interest rate, payment terms, and sensitivity to changes in the macroeconomic environment
Availability of funds to meet credit demands: measures the degree to which the institution has delivered credit in a timely and agile manner
Cash flow projections: evaluate the degree to which the institution is successful in projecting its cash flow requirements
Productivity of other current assets: evaluates extent to which the MFI maximizes the use of its cash, bank accounts, and short-term investments by investing in a timely fashion and at the highest returns, commensurate with its liquidity needs.
Hari Srinivas - hsrinivas@gdrc.org
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