Claremont Colleges

Scholarship @ Claremont
Scripps Senior Theses Scripps Student Scholarship

2016

Akhuwat: Potential for a Sustainable Islamic

Interest Free Microfinance Model
Juliana S. Beall
Scripps College

Recommended Citation
Beall, Juliana S., "Akhuwat: Potential for a Sustainable Islamic Interest Free Microfinance Model" (2016). Scripps Senior Theses. Paper
755.
http://scholarship.claremont.edu/scripps_theses/755

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AKHUWAT: POTENTIAL FOR A SUSTAINABLE ISLAMIC INTEREST FREE
MICROFINANCE MODEL

BY

JULIANA S. BEALL

SUBMITTED TO SCRIPPS COLLEGE IN PARTIAL FULFILLMENT OF THE

DEGREE OF BACHELOR OF ARTS

PROFESSOR FLYNN
PROFESSOR DILDAR

DECEMBER 11, 2015

 Acknowledgements

I would like to give a huge thank you Professor Flynn for his constant encouragement
and enthusiasm for my topic, as well as Professor Pedace and Professor Dildar for their
continuous help throughout the research process. I would also like to thank Akhuwat for
supporting my research and providing me with the resources to make this study complete.
Finally, I would like to thank my family and friends for their boundless emotional
support while at Scripps.

  2  
Table of Contents

I. Introduction 5

II. Literature Review 7

III. Akhuwat: A Closer Look 10

III. Defining Sustainability 14

III. Cross-Market Comparisons 23

IV. Audits: Financial Indicator Clarification 30

V. Lending Methodology and Gender Dynamics 41

VI. Opportunities for Infrastructural Change 45

VII. Conclusion 48

  3  
 Abstract: This study will examine if Akhuwat provides a sustainable Islamic
interest-free Microfinance model for potential poverty alleviation. This question
is particularly complicated for an organization that relies so heavily on
subsidies. Theoretical debates of sustainability and the recognition of
donations, cross-market comparisons, and data from audit reports will validate
Akhuwat’s potential for long term sustainability. Analysis also highlights the
discrepancies that plague this opaque industry.

  4  
I. Introduction

This study will take a closer look at Akhuwat, an innovative Islamic Microfinance

Institution (MFI) in Pakistan, in order to gain more insight into whether it provides a

sustainable model for potential poverty alleviation. An estimated 72 percent of people

living in Muslim-majority countries do not use formal financial services (Honohon 2007).

With high poverty rates in the Muslim world, microfinance has potential to play a key

role in providing financial access to the poor. However, conventional microfinance

institutions tend to provide products that are incompatible with the financial pillars of

sharia law within Islam. Most notably, sharia law disallows the use of interest-bearing

loans. Surveys conducted in Jordan, Algeria, and Syria revealed that 20-40 percent of

respondents cite religious reasons for not accessing conventional microloans

(Consultative Group to Assist the Poor1). Despite the high poverty rates in Muslim-

majority countries and incredible market potential, sharia-compliant microfinance

represents less than 1 percent of the Microfinance industry (CGAP). While conventional

microfinance has grown tremendously in the past decade, Islamic microfinance growth

has been slow in comparison (CGAP). Nevertheless, Islamic microfinance is a budding

industry still in its infancy, with the number of service providers offering sharia-

compliant microfinance products doubling since 2006 (CGAP).

Pakistan is considered a promising market for Islamic Microfinance, with 98% of

the 180 million population being Muslim and a strong cultural focus on a just economic

system (Haider 2012). Following trends in Indonesia, Bangladesh, and Malaysia, the

                                                                                                               
1  Henceforth  “CGAP”  
2
This means that Akhuwat charges no interest on any of their services. This is different

  5  
State Bank of Pakistan stepped up in 2007 to create Islamic microfinance guidelines and

promote growth of Islamic MFIs. This study will focus on Akhuwat, one of the first fully

Islamic MFIs in Pakistan. To gain insight on Akhuwat’s relative success, this study will

use sustainability and efficiency indicators to make comparisons between Akhuwat and

The Wasil Foundation (Wasil), another interest-free MFI. These organizations’

performance will also be compared to nationwide and region wide industry averages.

Comparisons intend to shed light on the potential sustainability of Akhuwat, and gain

further insight on why the Islamic Microfinance sector has yet to take off in the Muslim

world.

Akhuwat is based largely on charitable funding, with their primary product being

“Qarz-e-Hasan” (an interest free loan with long repayment periods). Akhuwat, which

means “brotherhood,” is unique in that its model is developed on the concept of

community and most branches have been set up in mosques and churches (Haider 2012).

Because Akhuwat has no profit margin on their loans, the institution relies heavily on

donations and subsidies, which may have the potential to hamper sustainability in the

long run. In contrast, the Wasil Foundation offers a range of products that have a profit

margin and thus does not offer “Qarz-e-Hasan” loans. Their focus remains on enterprise

as opposed to social values.

In addition to making cross-market comparisons, this study will examine the

theoretical debate behind defining sustainability and will take a closer look at Akhuwat’s

audits. Discussion and results will call attention to the issues of sustainability faced by

largely subsidized programs. Data analysis will highlight discrepancies in financial

indicators provided by Mix Market Database, Audits, and scholarly research, validating

  6  
the heavy criticism of the opaque nature of the industry. Finally, the study will identify

potential for infrastructural change in Pakistan to facilitate the success of Akhuwat.

Findings have the potential to provide valuable insight for other Islamic MFIs that are

still in their embryonic stages but have great potential to catch up to their conventional

counterparts.

II. Literature Review

Recent research has shed a controversial light on microfinance. Since the

industry’s infancy in the 1970’s, many have deemed microfinance as the most promising

answer to poverty. The most recent studies, however, argue that this is not necessarily the

case and that the industry is plagued with inconclusive data and opaque results. Banerjee

and Duflo (2013) studied the impact of microfinance in a randomized evaluation taken

from the slums of Hyderabad, India. They found that while microcredit did impact

household consumption and helped create businesses, there was no detectable effect on

education, health, or women’s empowerment. Their conclusions are representative of the

majority of recent literature, but they do add that it may take more time for the

microfinance sector to cause noticeable change to these major macro indicators. The

overall impact of microfinance, however, is too complex for the scope of this paper.

A 2012 report from the Centre of the Study of Financial Innovation (CSFI) found

that client over-indebtedness is the most concerning risk in the microfinance industry.

The report speculates that this may point to wider issues in the sector, raising questions

about the increasing emphasis on growth and profit of MFIs. It is from this logic that

  7  
many researchers propose giving to the poor instead of lending to the poor. Initial

research on Conditional Cash Transfers (CCT) proves promising. Rawlings, Laura (2005)

claims that there is “clear evidence of success from the first generation of programs in

Colombia, Mexico, and Nicaragua in increasing enrollment rates, improving preventive

health care, and raising household consumption.” A study by Kabeer and Waddington

(2015), published in the Journal of Development Effectiveness, randomly evaluated 46

quasi-experimental impact evaluations of CCT. They found that CCT programs

decreased child labor, increased household consumption and investment, and smoothed

consumption. Appraisal for non-profit models of financing the poor bodes well for

Islamic microfinance, which prides itself on social justice and wealth redistribution.

While there is an abundance of research on microfinance, Islamic microfinance is

relatively unchartered territory. Islamic microfinance has been coined as an “emerging

market niche” by CGAP. A 2007 CGAP survey collected information from over 126

Islamic MFIs and revealed that Islamic MFIs have a total global outreach of 380,000

clients, making up only one half percent of the total microfinance outreach. Furthermore,

the report found that 80% of the global outreach is concentrated in only three countries:

Indonesia, Bangladesh, and Afghanistan.

Kazim, Syeda and Haider Syed (2012) researched the viability of Islamic

microfinance in Pakistan. They conclude that there is great need for financial services in

Pakistan, and that Sharia compliance is oftentimes seen as a necessity before using

financial services. The study provides a breakdown of the viability of two models of

Islamic Microfinance, one of which is essentially already being implemented by the

Islamic MFI Akhuwat. This model is based on the concept of “Waqf,” meaning the

  8  
dedication of a resource in the way of God. Waqf resources can be used only for

charitable purposes, and the charitable investment must be self-perpetuating, like lending

money to a poor person so they can learn a skill or start a business. According to the

report, a Waqf-based microfinance is one of two viable Islamic Microfinance models for

Pakistan. It allows Islamic MFIs to grant “Qarz-e-Hasan” loans, meaning without

interest, and thus expand in scale and increase outreach by gaining geographical

coverage. However, they note that Waqf is not a sustainable source of funds as it relies on

community benevolence and no current legal framework exists that redirects funds

collected by Waqf-based non-profit organizations to Islamic MFIs. Furthermore, the

report points out that existing regulations do not allow organizations like Akhuwat to

mobilize savings as a source of self-funding. The authors propose that these organizations

attempt to receive patronage from charitable organizations in Pakistan, while admitting

this may be a tedious process.

Muhammad Naveed (2014) draws evidence from the Islamic Microfinance

network already in place in Pakistan and concludes that Islamic microfinance is “playing

an important role improving the living standard, per capita income, awareness level,

ethical values, profitability, infrastructure position, and employment level in the society”

as well as improving unequal distribution of wealth. Farooq and Khan (2014) compiled

data on the social and financial performance of two Islamic and two conventional MFIs

in Pakistan, all rated with four stars by Mix Market database. The article pulled

information on productivity, profitability, portfolio quality, social indicators and financial

structure of each organization from 2005 through 2010. These are commonly used

measurements in microfinance studies, specifically studies comparing the performance of

  9  
conventional versus Islamic microfinance. They found that Islamic MFIs were more cost

effective, based on “Cost Per Borrower” and “Operating Expenses to Assets.” Akhuwat

had the most efficient employees, followed by a conventional MFI. The conventional

MFIs beat out the Islamic MFIs in financial efficiency, with a higher ratio of “Financial

Revenue to Assets.” The study found mixed results for financial performance based on

portfolio quality and profitability indicators. While the report found no source of concern

regarding portfolio quality across all four MFIs, profitability indicators were not

promising. Asasah, a conventional MFI, was the only organization that showed a positive

return on equity. It is important to note that there was missing data for several of the

years observed. Further, data from Mix Market is self-reported and thus discrepancies

and errors are likely.

There is still plenty of research to be done on the viability of Islamic

Microfinance. As of now, there are few studies that incorporate accurate and up to date

qualitative or quantitative client data from Pakistani Islamic institutions such as Akhuwat

and The Wasil Foundation. Information from Mix Market and audits, as well as up to

data information from Akhuwat Headquarters, will provide original and valuable insight

on the sustainability of the organization.

III. Akhuwat: A Closer Look

To understand the mechanics of Akhuwat it is important to identify the founding

principles of the organization. Akhuwat is one of only a few institutions in Pakistan that

  10  
offers a fully sharia-compliant product line. 2Islamic scholars believe that interest, or

“riba”, is inherently exploitative and that money should be used purely a mean of

transferring funds and has no intrinsic value. Thus, it is unlawful to make a profit off of

money itself. Akhuwat, still in its infancy, has offered a fully sharia-compliant product

line since 2001. Their vision is to create “a poverty free society built on principles of

compassion and equity” (Akhuwat). Dr. Saqib, the founder of Akhuwat, explains that the

interest-free loans of Akhuwat ensure that the hard work of borrowers does not go to

waste (Saqib 2012). Akhuwat’s perspective on interest is described on their website:

In addition to ideological reasons, high interest rates may contribute to

exacerbating the plight of the poor as recent global evidence has demonstrated.
For Akhuwat, by using money to earn money, not only does wealth remain
concentrated in the hands of a few but the direction of financial flows remains
from those who have little to those who have more. In keeping with the principles
of equity and social justice, burdening the poor with exorbitant interest rates is
also viewed as undermining the overarching goal of poverty alleviation.

In following this charitable ideology, Akhuwat maintains a portfolio that is 90 percent

“Family Enterprise Loans” in the form of “Qarz-e-Hasan” (interest-free loans that are

derived from the teachings of Islam). These loans are eligible to any individual who has

come up with a viable business plan. This lending model will be discussed in further

detail later on in the paper. The remaining 10 percent of the loan portfolio include

education, health, housing, liberation and emergency loans.

Akhuwat’s alignment with Islamic principles extends beyond the interest free loan

mechanism. Akhuwat’s linkage with religious space is something that sets the institution

apart from its counterparts. Both loan introduction programs and loan disbursements are

conducted at mosques or churches to raise awareness in poor localities. This also

                                                                                                               
2
This means that Akhuwat charges no interest on any of their services. This is different
than a conventional MFI that offers some products interest free.

  11  
increases transparency and accountability while taking advantage of underutilized space

and cutting down on overhead operating costs. While the organization is founded on

Islamic ideals, supposedly no individual is discriminated on the basis of religion or

gender.

In keeping with Akhuwat’s religious philosophical commitment, a central pillar of

the organization is that “it is essential to look beyond oneself.” Founder Dr. Saqib expects

today’s borrowers to become tomorrows’ lenders- he says to “pay back a good deed is

better than a good dead” (Saqib 2012). Akhuwat’s success converting borrowers to

donors is another key aspect that distinguishes it from other institutions of its kind. The

growth in donations Akhuwat has received since initiating its Member Donor Program

(MDP) in 2008 is nothing short of a phenomenon.

TABLE 1: MEMBERSHIP DONOR PROGRAM3

Year Donations from Annual Growth Donations from
Borrowers (US Rate Borrowers as % of Total
Dollars) Expenditure4
2008 $314 NA NA

2009 $157 (50) NA

2010 $92,568 59078 35%

2011 $185,779 101* 31%

2012 $361,762 95* 36%

2013 $819,753 127 39%

2014 $1,401,535 71 38%

                                                                                                               
3  Donation  numbers  are  received  from  Akhuwat  headquarters  directly.  Starred

numbers are different than the growth rate reported by the Islamic Financial Report,
likely due to error.  
4  Ratios  start  at  2010  because  this  is  when  donations  reach  significant  numbers.  

  12  
The numbers in Table 1 have been converted from Pakistani Rupee to US Dollar using

the approximate exchange rate of USD/PKR 105.45. From 2008 to 2014, donations

accumulated from borrowers increased from $314 to $1,401,535 dollars. From 2009 to

2010, donations from borrowers increased a staggering 5,9078%.6 Since then, growth rate

of donations declined, but have maintained relatively stable, reaching 71% as of 2014.

According to Dr. Saqib, the founder of Akhuwat, from 2011-2013, donations from

borrowers alone covered around one third of Akhuwat’s operating expenses. These ex-

borrower voluntary contributions not only bode well for long-term sustainability, but also

are indicative of a certain level of efficiency of the program, as the ex-borrower is

financially stable enough to make a donation.

Dr. Saqib claimed in 2010 that with the enormous help of donations from

borrowers, Akhuwat was 60% percent operationally self sufficient and with hopes of

ultimately being “operationally self-sufficient.” He tells the Berkeley Center for

Religion, Peace, and World Affairs: “The way the program is progressing, we believe

that in few years, the entire operational cost will be matched by donations given by the

borrowers, and we will be operationally self-sufficient.” Further, Akhuwat’s newsletter

states that, despite being voluntary, “the Member Donor Program (MDP) has raised

around 13 million rupees since 2008, and Akhuwat continues to receive large sums of

money from this source in the form of small donations of Rs. 1-3 per day. The MDP

currently covers part of Akhuwat’s operational expenses. And, given the momentum with

                                                                                                               
5
The USD/PKR exchange rate has since fluctuated to 103.5. However, to maintain
consistency, the 105.4 rate is used throughout this study to present all numbers in Dollars.
6
Further research is necessary to understand why this number is so large. It may likely be
the result of a successful marketing campaign by Akhuwat.    

  13  
which it is growing, MDP alone could make the organization self-sustainable in the

foreseeable future.” While sounding promising, this is a problematic statement in that the

formulaic interpretation of operational self-sufficiency (OSS) does not include donations

in revenue, and thus these donations would not help Akhuwat move towards a higher

OSS percentage. Mix Market, the SEEP Network, the World Bank, and CGAP all

exclude donations and subsidies from operational income, the numerator of the OSS

ratio. According to Mix Market, in 2011Akhuwat was 18.74% operationally self-

sufficient. However, this ratio shot up to 99% the following year. It is important to keep

in mind that these numbers are voluntarily self reported, and that this massive increase is

either likely due to an error or a change in accounting practices with regard to donations.

Akhuwat also reported higher operational expenses and lower revenue on Mix Market

than other studies have suggested. Clarifying these discrepancies will be integral in

addressing Akhuwat’s sustainability.

IV. Defining Sustainability

In order to investigate Akhuwat’s sustainability, we will first review the

prevailing accounting methods used for calculating important sustainability indicators.

CGAP guidelines state that MFIs should operate without subsidies, relying on private

investment instead. Similarly, “The New Microfinance Handbook,” by Joanna

Ledgerwood, advocates that funds donated to cover operating costs (subsidies) should be

deducted from net income prior to financial performance analysis, as they do not

represent revenue from operations (Ledgerwood 2014). This ensures that financial

  14  
statements reflect the true level of expenses that would be incurred if the MFI were to

operate without any in-kind donations. These guidelines are penalizing to Akhuwat

because they rely on subsidies such as the free office space of their mosque distribution

centers and the volunteerism of their employees (who, on average, volunteer about 20

percent of their time) (Munir 2012). CGAP’s emphasis on non-subsidized sustainability

is evident in the following Financial Self-Sufficiency (FSS) formula frequently used in

comparing MFIs:

FSS = Business Revenue (Excluding grants and extraordinary items)

Total Expenses +CFA +ISA + IA

In the above formula, CFA refers to Costs of Funds adjustment, ISA refers to In-kind

Subsidy Adjustment, and IA refers to Inflation Adjustment. As shown in the formula,

goods and services purchased at a subsidized rate are added onto expenses, and thus firms

are penalized for receiving grants and subsidies. Additionally, grants are not included in

business revenue. FSS is adjusted to account for subsides and grants so that it can provide

a fair cross-comparison between the financial health of MFIs that receive subsidies and

those that do not. Because this paper approaches sustainability from a welfarist

perspective, and this formula is particularly penalizing for subsidized firms, we will

instead focus on another frequently used indicator, Operational Self-Sufficiency (OSS):

OSS = Operating Revenue

(Financial expense + Loan-loss provision expense + Operating expense)

  15  
In this case, operating revenue7 does not include donations or “any revenue that is not

generated from an MFI’s core business of making loans and providing financial

services.” It does, however, include financial revenue from loan portfolio. Financial

revenue from a loan portfolio is defined as “revenue from interest earned, fees, and

commissions (including late fees and penalties) on the gross loan portfolio only.” In the

case of Akhuwat, operating revenue excludes a substantial portion of funding which they

receive from donors. Considering Akhuwat’s key philosophy and strategy is to convert

borrowers to lenders, then perhaps these donations should be classified as a source of

revenue received from their institutional efforts and loan portfolio. If one is to consider

these donations a source of revenue, then this formula is underestimating Akhuwat’s

operating revenue and thus the calculated OSS may not be an accurate reflection of the

institutions sustainability.

Another formula that subsidized MFIs will systematically underperform in is

return on assets. According to CGAP, Return on Assets (ROA) also does not include

donations.

ROA = (Net operating income-taxes)

Average assets

In order to merit high scores from this formula, as well as the OSS and FSS formulas,

institutions need to charge interest rates that cover a substantial proportion of operating

                                                                                                               
7
Also referred to as operating income.

  16  
costs. Keep in mind that donations of any kind are not included in net operating income.

Again, this is a substantial penalization for a firm such as Akhuwat that receives a

significant chunk of funding from its own borrowers. Based on the basic accounting

definition, assets are “resources owned by a company and which have future economic

value that can be measured and can be expressed in dollars.” Canada Non-Profit

Accounting (CICA) guidelines state that “a contribution receivable should be recognized

as an asset when it meets the following criteria: (a) the amount to be received can be

reasonably estimated; and (b) ultimate collection is reasonably assured.” It is without

question that the loans made by Akhuwat to borrowers are assets, even though the

situation is unique in that there is no return of interest. What is more arbitrary is what we

may include in the return on these assets. While it is clear that in the case of Akhuwat, the

processing and service fee will be recognized as return, what about the voluntary

contributions that are received directly from borrowers in appreciation of these loans?

Scholars have recognized the unique accounting situation of the ex-borrower

donations of Akhuwat. Benedetto and Bengo (2014) write: “…from a technical point of

view, ex-borrower donations can be considered as voluntary loan repayments not in terms

of principal costs, already repaid, but of additional delivering costs to membership fees.”

This statement categorizes ex-borrower donations as essentially add-ons to membership

fees, thus giving validity to its recognition as return. This logic sheds light on the

controversial debate on whether or not donations should be included in revenue. While

there is theoretical framework to support the notion that voluntary contributions should

count as revenue, there also exists a school of thought that takes the opposite stance.

  17  
Hence we are confronted with the infamous “Microfinance Schism” of institutionists

versus welfarists.

The formulas defined by CGAP, Mix Market and SEEP Network generally align

with the “institutionist” perspective on MFIs, which argues that MFIs can never attain

sustainability while receiving such a large chunk of their funding from donors and

subsidies. However, it is important to note that there are two distinct schools of thought

on how donations should be treated in the financial assessment of an organization. We

will take a closer look at both of these perspectives.

Woller (1999) writes “Implied by institutionists is that subsidized MFIs are

inherently inefficient in that the absence of profit motive fails to create the proper

incentives for management.” Institutionists believe that MFIs should charge interest rates

that cover their costs, and that the working poor can afford to pay these interest rates

(Robinson 1996). Further, because targeting the poor and providing small loans induces

higher costs, these interest rates tend to be very high (Conning 1999). The concept that

the very poor can afford the high interest rates of fast growing and financial self-

sustaining MFIs has proven questionable over the past decade. The most recent

assessments of microfinance have shown that client-indebtedness is one of the biggest

problems facing the industry (Centre for the Study of Financial Innovation8 2012). It

seems that the poor cannot afford the high interest rates that allow MFIs to remain self-

sufficient. Furthermore, institutionists believe that subsidized programs will fail before

they reach significant numbers, and thus few low-income entrepreneurs will end up

benefiting from these programs. This perspective is hard to reconcile with the MFI

                                                                                                               
8
Henceforth “CSFI”

  18  
experience of the heavily subsidized Grameen Bank as well as the growing client base of

Akhuwat.

On the other hand, “welfarists” argue that MFIs can achieve sustainability without

achieving financial self-sufficiency in its traditional sense (Morduch 2000). They argue

that donations are a form of equity and that donors are “social investors.” These investors

receive the intrinsic return of not investing in firms they find offensive and instead

investing in firms that will maximize their desired social impact (Brau 2004). While

institutionalists believe that organizations “cannot rely on government or donors as

reliable sources of subsidized funding”, welfarists believe that donors are no more

rational or irrational than any other economic actor and the concern for poverty

alleviation will never dry up. Further, welfarists criticize the rapid growth of profit

seeking organizations as contradictory to poverty alleviation. In the case of Akhuwat,

dependence on local donors means it is not under pressure to scale-up quickly (Munir

2012).

Welfarists propose a new definition of sustainability that bodes well for

organizations such as Akhuwat. Breaking away from tradition, they define sustainability

as the ability to produce outputs that are valued sufficiently by beneficiaries and other

stakeholders so that the program receives enough resources and outputs to continue

production” (Woller 1999). For example, a government will likely act as a rational donor

in that it will not abandon a subsidized MFI if it provides more bang for the buck than

other social investments. Woller introduces the concept of a “social investor” and

redefines the meaning of “subsidy” so that a donor-funded MFI achieving significant

outreach and impact, where its social benefits exceed the alternative social investments

  19  
should not be considered “subsidized.” Thus, an MFI can be viable in the long term

despite donor funding reliance. Under these terms, Akhuwat has potential to be

considered a sustainable and successful institution. This paper will test the welfarist

hypothesis while assessing the sustainability of Akhuwat using financial analysis as well

as qualitative and quantitative client data. Results will deter Akhuwat from striving to

become subsidy-free, as institutionists theory would encourage.

A challenge to keep in mind is that improved social welfare is inherently costly to

measure. And, although as welfarists suggest donors are no more or less rational than any

other economic actor, it would be naïve to assume that they can accurately asses the

impact of their contributions. Traditional microeconomic theory suggests that rational

consumers determine social benefit and will only purchase a product with net economic

gain. However, behavioral economics tells us people are not rational; there are many

ways that they can be fooled into thinking that the social benefit is bigger than the private

cost of a donation when, in fact, it may not be. So, the important things to consider are if

a donor is any less accurately able to assess the social impact of their donation than any

other economic actor is able to assess the payout of his or her investment, such as a

venture capitalist. Additionally, even if the consumer cannot accurately predict the social

benefit of his or her investment, as long as the institution successfully convinces him or

her that the social benefit is higher than the private cost, then they will continue to invest.

The consumer’s decision to reinvest will signal a positive return on (a more abstract

definition of) equity. According to the Stanford Social Innovation Center, Akhuwat’s

model is groundbreaking in that it challenges deeply entrenched assumptions about

economic behavior. Many borrowers will pay back Akhuwat before their other interest-

  20  
bearing loans. Being able to pay Akhuwat back in full (as opposed to difficult-to-pay

back interest-bearing loans) instills in the borrower a strong self-esteem that encourages

funding another lender. It also likely brings social recognition to the ex-borrower.

Malcolm Harper, a scholar on enterprise development, writes:

Akhuwat’s expansion depends on continuing donations to finance growth in the

loan portfolio, and on the continued willingness of the voluntary staff. There is as
yet no evidence that these will stop, and although substantial effort has to be put
into fund raising, and further initiatives will be required in future, there does not
seem to be any reason why a programme which depends on brotherhood,
generosity and goodwill should be any less ‘sustainable’ than one which depends
on purely financial incentives.

Joseph Morduch, Associate Professor in the Department of Economics at Harvard

backs this opinion:

“Since donors and governments remain committed to poverty alleviation as a top

priority, advocates are not unreasonable in arguing for allocating some poverty-
alleviation funds to support innovative and effective microfinance programs over
the long-term. How this will play out exactly is a matter of speculation, but there
is no reason to think that concern with poverty alleviation will quickly whither.
Nor is there reason to think that support for subsidized microfinance programs
will whither -- as long as they remain vigilant in containing costs and maximizing
outreach.” (Morduch, 2000)

Complimentary to Morduch’s recommendations of remaining vigilant in

containing costs, it is not profit maximization that makes a program efficient, but having

a hard budget constraint, which is possible even with subsidies. A hard budget constraint

means that even if the firm tries hard to cut its losses, the environment will not tolerate a

protracted deficit (Kornai 1986). Take, for example, a soft budget constraint where

performance criteria are not carefully specified and managers can expect to be bailed out

after poor performances. Containing costs will not be a priority, as managers do not face

severe consequences of failures to do so (Morduch 2000). With a hard budget constraint,

a deficit causes fear because it may lead to extremely serious consequences. Kornai

  21  
distinguishes between the goals and the hardness of the budget constraint by arguing

“hardness of the budget constraint is not a synonym for profit maximization…profit

maximization refers to the internal goal setting of the decision maker of the firm: the

softness-hardness of the budget constraint refers to the external tolerance-limits to losses”

(Kornai 1986). For Akhuwat, maintaining a hard budget constraint means behaving in an

entrepreneurial manner and adjusting to unfavorable external circumstances by

improving the mechanics of the organization if necessary (i.e. cutting costs, introducing

new products or programs) (Kornai 1986). The firm should be held accountable to a

certain level of efficiency before being given subsidized funds from private and public

entities. As a heavily subsidized organization, Akhuwat should abide by certain

theoretical efficiency principals. While Akhuwat prides itself on low operating costs, a

comparison in the following section of operating costs between Akhuwat and the median

of aggregated MFIs in Pakistan as well as the in South Asia reveals that operating costs

are relatively high.

Another important mechanism for achieving efficiency in subsidized programs is

to use socially-determined transfer prices and be rigid in evaluating performance

according to those prices (Morduch 2000). While microcredit managers may not be able

to lend at an actual profit, they could be lending with a net social gain. Morduch (2000)

explains how institutions can lend at a net social gain without making a profit. The

concept is based on the distinction between “transfer prices” and “shadow prices.” While

transfer prices are internal prices that value capital and can be utilized to compare in

house performance, shadow prices are adjusted downward to account for the social gains

  22  
produced by lending.9 In the case of Akhuwat, revenue should be tied to performance

based on shadow profits. However, shadow prices can be arbitrary. The social gain from

an interest free loan is likely, to some degree, intangible. In practice, individual

evaluators and researchers select their own shadow prices, making results problematic to

compare (Tuan 2008).

As Morduch (2000) explains, the “win-win” proposition suggested by

institutionists where MFIs can simultaneously follow the principles of good banking

while also successfully alleviating poverty has not proven true. In contrast, achieving

financial sustainability in its traditional sense (without the help of subsidies) does not

ensure that an MFI can achieve greater scale and outreach. Likewise, subsidized credit

programs, contrary to prevailing thought, can be efficient and are not bound to fail.

IV. Cross-Market Comparisons

This section will analyze various efficiency and sustainability indicators in order

to compare Akhuwat to The Wasil Foundation (Wasil). This will include comparing the

operating expenses, active borrowers, cost per borrower, and write-off ratios of both

Akhuwat and Wasil, as well as nationwide and region wide averages. Both organizations

are fully Islamic MFIs that operate on very different models, and thus analysis will

provide insight on Akhuwat’s relative performance.

                                                                                                               
9
Shadow prices are dollar values that are attached to each of the short and long-term
outcomes that a social program may affect. They are typically used in cost-benefit
analysis. In this case, capital costs, not the service price, would be adjusted downwards.

  23  
 First we will highlight the key differences in lending methodology of the two

organizations. While Islamic microfinance consists of a range of services, Akhuwat relies

purely on the notion of benevolent lending and thus their portfolio is simple in that it

consists mostly of Qarz-e-Hassan loans. Akhuwat charges a small service fee of 100

Rupees upfront (around 94 cents), regardless of the size of the loan. They do not expect

this to cover their expenses. Akhuwat receives interest-free loans from government

organizations that go into their credit pool and subsidize their costs. For example, the

Government of Punjab provided loans to Akhuwat in 2012 and also agreed to subsidize

all operational costs of the project that their loans were intended for.

The Wasil Foundation, on the other hand, has a more diverse portfolio that

provides services on a partnership basis (Musharakah & Mudarabah), on a trade basis

(Murabaha & Salam) and on a rental basis (Ijarah) (Khan 2010). The latter (Ijarah) is a

system where Wasil rents agricultural land and then subleases it to a farmer for an agreed

period of time. The farmers then pay a monthly rental fee in cash or in the form of crops,

depending on the food. These agricultural packages represent about 10% of Wasil’s

portfolio (CGAP 2014). Wasil has also been acclaimed for its “Salam” agricultural

products (CGAP 2014). Salam offers agricultural clients a cash advance against a

guaranteed purchase price for their crops. Accordingly, Wasil maintains a large portion of

the agricultural sector of Pakistan, while Akhuwat has focused on penetrating urban

areas. Traditional economic theory would predict that Wasil will consistently outperform

Akhuwat on the basis of its much more diverse portfolio with broader opportunities for

financial returns on its assets (loans). However, cross comparisons shown below indicate

otherwise.

  24  
 A comparison of various indicators of Akhuwat and Wasil Foundation provides

further insight into the operating schemes of these two different models of Islamic

microfinance. Data is taken from Mix Market, which relies on voluntarily contributed

information from over 2,000 Microfinance Institutions around the world. For the

purpose of this comparison, we will use data from the year 2011, as it is the most current

year with available information on both organizations. We will also include the median of

an aggregated 27 MFIs in Pakistan for the year 2011, as well as an aggregated median of

250 MFIs in South Asia in 2011. Comparisons between Islamic and Conventional MFIs

can be problematic. This is because comparing the risk-sharing products such as

Musharaka (which is more like an equity investment product) against a conventional

debt-bearing loan is like comparing apples-to-oranges (El-Zoghbi 2015). Having said

that, the Qard-e-Hassan loans typical of Akhuwat are also debt instruments, thus making

a comparison of Akhuwat to the median Pakistan and South Asian MFI not as

problematic as comparing Wasil to either of the three mentioned.

First, let’s start with a basic summary of the main differences between Akhuwat

and Wasil. In terms of outreach, in 2011 Wasil had 7,257 active borrowers and Akhuwat

had a much larger portfolio 63,085 of active borrowers.10 In 2011, Akhuwat had a gross

loan portfolio of $8,059,842 while Wasil had a smaller loan portfolio of $1,390,904. 2011

Financial revenue was $487,287 for Wasil and $921,849 for Akhuwat. It is surprising that

Akhuwat’s revenue is almost double that of Wasil considering Wasil’s much more

                                                                                                               
10  While 2011 was the most current year with available numbers for both Akhuwat and

Wasil, there are more recent individual statistics available on Mix Market that provide
valuable insight of Akhuwat’s growth. As of 2013, Akhuwat’s portfolio of active
borrowers totaled a much higher 235, 517 while in 2014 Wasil’s portfolio of active
borrowers reported in at a 5,482.    

  25  
diverse portfolio of profit earning services. Taking a closer look at the statistics, we see

that Wasil is actually earning a much larger percentage of their revenue from loans, at

$437,844 as opposed to Akhuwat’s $82,669. Akhuwat’s financial revenue from loans

consists of the upfront application fee of 100 rupees (approximately 94 cents). This

implies that Akhuwat either received a massive donation or this is simply an error.

Taking a closer look at Mix Market, we can see that financial revenue of Akhuwat from

other years is significantly lower (in 2010 it is $1,249). Again, we have to assume that

this is either an error or the result of a massive donation or drastic change in how

donations are recognized. Prior to 2011, Akhuwat’s financial revenue is actually

consistently lower than Wasil’s, which intuitively makes sense based on the differences

of their portfolios.

Akhuwat prides itself on its low operational costs and philosophy of maintaining

modest office space, salaries, and equipment. They believe low overhead costs and

humble conditions are essential if they truly do not intend to profit from their clients. Yet,

according to Mix Market, in 2011, Akhuwat’s operating expenses totaled $1,098,747,

while Wasil’s operating expenses totaled a much lower $582,050. Figure 1 shows

comparisons of operating expenses between Akhuwat, Wasil, the Pakistani median, and

the South Asian median.

  26  
 FIGURE 1: OPERATING EXPENSES, 2011
$1,200,000
Operating Expense (US Dollars)
$1,000,000

$800,000

$600,000

$400,000

$200,000

$0
Akhuwat Wasil Pakistan South Asia

Akhuwat’s operating expenses were also higher than the median for all MFIs in Pakistan,

as well as the median for all MFIs in South Asia, according to Mix database. However,

while Akhuwat’s operating expenses are seemingly higher, Akhuwat serves more clients

than Wasil and the median Pakistani and South Asian MFI (See Figure 2).

FIGURE 2: ACTIVE BORROWERS, 2011

70,000

60,000

50,000
Number of Borrowers

40,000

30,000

20,000

10,000

0
Akhuwat Wasil Pakistan South Asia

Thus, a more accurate portrayal of Akhuwat and Wasil’s expenses would be using the

cost per borrower indicator (operating expense/number of active borrowers). Figure 3

  27  
shows the cost per borrower comparisons between Akhuwat, Wasil, the median in

Pakistan, and the median in South Asia.

FIGURE 3: COST PER BORRWER, 2011

$60.00
Cost Per Borrower (US Dollars)

$50.00

$40.00

$30.00

$20.00

$10.00

$0.00
Akhuwat Wasil Pakistan South Asia

As shown in Figure 3, the median Cost Per Borrower of MFIs in South Asia is $20.46,

with the median cost per borrower of MFIs in Pakistan significantly higher at $38.41.

Although slightly higher than the South Asian median, Akhuwat’s cost per borrower of

$23.29 is efficient in comparison to Wasil and the median Pakistani cost per borrower.

However, because Akhuwat touts its low over head costs, modest offices, and partial

voluntary staff, Akhuwat should minimize costs to be, at a minimum, at the median South

Asian level, if not below.

In addition to touting low operational costs, Akhuwat has been acclaimed for its

low delinquency rates. As mentioned earlier, Akhuwat attributes this to the sense of

brotherhood instilled through the close-knit community and its strong religious

affiliation. The cross-market comparison of Figure 4 uses numbers from 2010 as opposed

to 2011 due to missing data.

  28  
 FIGURE 4: WRITE-OFF RATIO, 2010
10.00%
9.00%
8.00%
Write-off Ratio, 2010

7.00%
6.00%
5.00%
4.00%
3.00%
2.00%
1.00%
0.00%
Akhuwat Wasil Pakistan South Asia

As shown in Figure 4, Akhuwat’s write-off ratio is impressively low. Although these

figures are from 2010, outside sources report that Akhuwat’s cumulative recovery as of

June 30, 2013 are still very high at 99.87% (2012: 99.86%).11 The lending scheme of

Akhuwat will be further discussed later.

While these commonly used efficiency indicators make for interesting

comparisons, assessing sustainability from a self-reported database such as Mix Market is

complicated. As discussed earlier, sustainability indicators, such as operational self

sufficiency and deficit/surplus are often reliant on figures that may vary drastically

depending on accounting standards. On Mix Market, we see incredible volatility in

indicators such as Financial Revenue, which can ultimately lead to misleading data

summaries. Figures 1 through 3 are likely fairly reliable as they do not involve income

calculations, which is where things can get particularly deceptive. While cross-market

comparisons from MIX can provide us a general picture of general trends, we need to

                                                                                                               
11  Reported  by  Harper  (2011)  

  29  
take a closer look at the figures provided by official audit reports of Akhuwat to put this

picture into focus.

V. Audits: Financial Indicator Clarification

To successfully understand the yearly Surplus and/or Deficits of Akhuwat we

must carefully analyze how Akhuwat accounts for their donations. Akhuwat has hired

various consulting agencies to do their Audits as of 2008. Deloitte has conducted these

reports from the years 2012-201412. Typically on these reports, total income is broken

down into operating and non-operating (or other) income. Total income is then divided

by expenditure to calculate the deficit or surplus for the year. It is particularly important

to note that Akhuwat changed their donation accounting policy in their audit report

published for the year ended June 30, 2012. The notes section 22 of the financial

statements for year-end June 30, 2012 reads, “During the year, the management has

changed the accounting policy for recognition of members’ donations. Previously such

donations were recognized to Income and Expenditure Account which now has been

changed to recognize these donations to “Donated Funds.”” The new accounting

measures follow the Restricted Fund Method as described by The Institute of Chartered

Accountants of Pakistan (ICAP).

Under this method, the organization classifies its restricted operations by fund

and recognizes the contributions immediately as revenue of that particular fund. Under

the Restricted Fund Method, the organization will also have a general fund, which is

                                                                                                               
12
For all Akhuwat Audits, the year-end is June 30th, not January 1st.

  30  
composed of non-restricted contributions. In the case of Akhuwat, donations used to

cover loans will go now into a Restricted Fund, while donations used to cover operating

cost will go into a General Fund. Restricted funds consist of both external and internal

restrictions. For example, there may be times when the directors of an organization

decide to use certain contributions for certain purpose, and these would fall under the

latter type of restriction (See Figure 5).

FIGURE 5: RESTRICTED VERSUS UNRESTRICTED FUNDS

Source: ICAP

This Restricted Fund Method is a widely accepted method. Canadian Non-Profit

Accounting Guidelines (CICA) also states that revenue is divided into two funds: an

unrestricted fund and a restricted fund. CICA says the following of the restricted fund:

Restricted contributions are subject to externally imposed stipulations as to how

the funds are to be spent or used. The organization must use the resources in the
manner specified by the donor.

It is important to be aware of the distinction between restricted and unrestricted funds in

order to analyze Akhuwat’s statements of income and expenditure, and their incurring

deficit or surplus. Whether or not Akhuwat includes restricted funds in their total income

  31  
will have a large impact on the incurring surplus or deficit. To further complicate things,

as mentioned, Akhuwat includes two types of donations in Operating Income:

Operational Donations and Community Donations. Operational Donations consist of

donations given by donors for day to day operational expenses and Community

Donations represents donations collected from donation boxes placed at different

community centers and retail stores. This is why looking at indicators from databases like

Mix Market such as “Revenue,” “Income,” “Net Income,” “Surplus,” and “Profit” may

actually be very unreliable. As we shall see, even within the same organization and

auditing company, there are fluctuations in income that can be attributed to accounting

changes. This does not bode well for the reliability of Mix Market.

In the case of Akhuwat, as of the year ended June 30, 2012, the Restricted fund

includes “Donated Funds,” “Contributed Fund,” Takaful Fund,” and a “Rehabilitation

Fund.” For example, revenue from the “Takaful Fund” is restricted in the sense that it can

only be utilized to subsidize services of Akhuwat Health Clinic and for paying Zakat.

Revenue from the “Rehabilitation Fund” is used only for paying stipends to heirs of

victims of suicide bomb attacks. While donations received by these funds are considered

revenue for each fund, none of these Restricted Funds are included in what Deloitte

denotes as Akhuwat’s income for this year. Income, as shown on the Income and

Expenditure Account, includes “Processing Fee,” “Other Income,” “Community

Donations,” “Operational Donations,” and “Income from AHS Clinic.” It is important to

distinguish between donations intended for covering operating costs and donations

intended for sustain loan disbursement. Note 4.7 of the audit report states: “Grants

received for providing loans are directly recognized in the Donated funds. Other funds

  32  
provided by the donor to subsidize operating and administrative expenses are recognized

directly as income, in the period of receipt.” Thus, donations intended for subsidizing

operating expenses will be recognized in the General Fund and thus as operating income,

while donations intended for loan disbursal will go into the restricted “Donated Fund.”

Whether or not this “Donated fund” is included in total comprehensive income that goes

into calculating the surplus will change over the course of 2012-2014, as we will see

below.

First, we will take a look at Akhuwat’s Total Income (Operating and non-

Operating) in comparison to its Operating Income over the period of 2011-2014.

FIGURE 6: AKHUWAT INCOME AS REPORTED IN AUDITS, 2011-2104

$6,000,000.00

$5,000,000.00
Total Income
(Operating
Income (US Dollars)

$4,000,000.00 and Non)

$3,000,000.00

$2,000,000.00 Operating
Income

$1,000,000.00

$0.00
2011 2012 2013 2014

The most obvious thing of interest from Figure 6 is the massive jump from 2012 to 2013

in both Operating and non-Operating Income. These jumps can be attributed partially to

changes in funding, but also to changes in accounting. First, we will address the change

in accounting by looking at the 2013 figures in the 2014 Deloitte audit. While in the

previous audit (year-end June 30, 2013) Total Income comes in at $2,410,263 for 2013,

  33  
in the 2014 audit Total Income comes in at $3,854,184 for 2013. While Operating

Income (including processing fee, community donations, service fee, operational

donations, and income from AHS clinic) remains constant for both audits, the 2014 audit

report increases the scope of non-operating income in 2013 to include revenue from the

restricted “Donated Fund.” More specifically, the report includes $1,211,864 from

“Donations received during the year,” which is the amount of donations received from

general public which are used for providing interest free micro loans. Prior to this year,

revenue from this restricted fund was not included in total income and consequently not

included in total comprehensive income (deficit/surplus). Thus, Figure 6 can be deceptive

in that it depicts a massive change in the mechanics of the organization.

The jump in operational income is due to an almost three fold increase in the

“service fee,” which in this case represents service charges received from Punjab Small

Industries Corporation (PSIC) and the Youth Affair Department, both government

agencies. PSIC provided an interest free loan of Rs. 2,000 million to be used on a

revolving basis to provide interest free micro loans. Akhuwat is entitled to receive service

charges of 7% of the disbursed amount from PSIC to meet its operational needs. The

jump in Operational Income is also due to an increase in Operational Donations from

$123,311 to $488,609.

In order to provide a visual with more consistent comparisons over the course of

2011-2014, the following figure uses income excluding “Donated Funds” across all four

years.

  34  
 FIGURE 7: AKHUWAT TOTAL INCOME (ADJUSTED), 2011-2014
$3,000,000.00
Total income (US Dollars)
$2,500,000.00

$2,000,000.00

$1,500,000.00

$1,000,000.00

$500,000.00

$0.00
2011 2012 2013 2014

As shown in Figure 7, there are still notable increases in income from 2012 to 2013 even

when excluding donations from members that are streamed into the Restricted Fund. As

mentioned earlier, this increase can be attributed to an increase in service fee and

operational donations.

Notable increases in income from 2012 to 2013 coincide with significant

increases in total expenditure. Fortunately, total expenditure is not affected by changes in

donation recognition across the four years, and thus does not need to be adjusted.

FIGURE 8: AKHUWAT TOTAL EXPENDITURE, 2011-2014

$4,000,000.00
Total Expenditure (US Dollars)

$3,500,000.00
$3,000,000.00
$2,500,000.00
$2,000,000.00
$1,500,000.00
$1,000,000.00
$500,000.00
$0.00
2011 2012 2013 2014

  35  
Akhuwat’s audit for the year-ended June 30, 2013 shows significant increases in salaries,

wages and other benefits from the year 2012 to 2013. In 2012 this category totaled

$1,006,258 and in 2013 it increased to $2,082,725. There were also significant increases

in Travelling and Conveyance, Rent, Staff Training, and Miscellaneous. This may be an

indicator of an expansion including a substantial increase in human capital.

Now that we have taken a look at total expenditure, we can produce two different

deficit/surplus graphs, one using the total income and one using the adjusted total

income. First we will look at the deficit/surplus graph which one would construct from

the figures readily available on Akhuwat’s statements of income and expenditure.

FIGURE 9: AKHUWAT DEFICIT/SURPLUS FOR THE YEAR, 2011-2014

$2,000,000.00

$1,500,000.00

$1,000,000.00
Deficit/Surplus (US Dollars)

$500,000.00

$0.00
2011 2012 2013 2014
-$500,000.00

-$1,000,000.00

This graph bodes well for Akhuwat, showing an impressive transition from a deficit in

2012 to a relatively large surplus in 2013. However, recall that these ratios are based on

an inflated income total in 2013 in comparison to past years due to the inclusion of

revenue from the restricted funds. Thus, the following figure has been created using

consistent calculations for total income. The increase in expenditure from year 2013 to

  36  
 FIGURE 10: AKHUWAT ADJUSTED DEFICIT/SURPLUS FOR THE YEAR

$600,000.00
$400,000.00
$200,000.00
Adjusted Deficit/Surplus (US

$0.00
-$200,000.00 2011 2012 2013 2014

-$400,000.00
Dollars)

-$600,000.00
-$800,000.00
-$1,000,000.00
-$1,200,000.00

2014 is realized in Figure 10, which shows that excluding Donated Funds, Akhuwat

actually experienced a rather large deficit in 2014. While this is far from a catastrophe, as

Akhuwat has seemingly recruited a fairly reliable stream of donor deposits in their

restricted revenue, it gives us insight that is impossible to see from Mix Market. Akhuwat

should work on minimizing their operating costs by maintaining a hard budget as advised

earlier. While Akhuwat’s increase in expenditure from 2013 to 2014 may be justified by

a possible one-time expansion, it is not matched with significant increase in processing

fees over the course of the year. Operating expenses should be checked and if such

expenses increase without coinciding increases in operating income, then Akhuwat

should undergo severe consequences/changes.

Now that we have clarified various income discrepancies, we can now go on to

produce consistent OSS figures. How we define operating income will have significant

impact on these figures. It seems most appropriate to abide by The Institute of Chartered

Accountants of Pakistan (ICAP) and the Chartered Professional Accountants of Canada

(CICA) standards, not only because these are utilized by Deloitte’s Audits, but also

  37  
because they allow for (at least a portion of) donations and subsidies to be included in

operating incomes, which is the numerator of OSS. Thus, unlike the total income figure

we used to determine the (deficit)/surplus, we will be abiding by OSS formula and

including solely Operating Income in the numerator. In a sense, our formulas now

capture a hybrid model of OSS by utilizing ICAPs definition of operating income and

thus including subsidies.

TABLE 2: OPERATIONAL SELF-SUFFICIENCY OF AKHUWAT, 2011-2014*

2011
OSS= $122,698/$592,030= .21
2012
OSS = $788,270/$1,006,258= .78
2013
OSS= $2,150,342/ $2,082,725= 1.03
2014
OSS= $2,166,474/ $3,642,686= .59
*In accordance with ICAP’s operating income standards

What is impressive about these numbers is that Akhuwat comes fairly close to reaching

full OSS (and does in 2013) without including the substantial revenue accumulated in the

Donated funds. There are still donations included in operating income in the form of

community and operational donations that are explicitly given with the intention of

covering operational costs, but if we were also to include the donations received from ex-

borrowers in the OSS formula, Akhuwat will be fully self sufficient. Let’s take for

example the most recent financial year:

TABLE 3: 2014 ADJUSTED OSS

Year Adjusted OSS Formula Adjusted OSS

2014 OSS = Operating Income +Member Donations/ OSS=$2748255/ = 1.3

Operating Expenditure +Financial Expenditure $2,082,725

  38  
We see from Figure 11 that OSS in the year 2014 increased from .59 to 1.3 when the

Donated fund was included. If, as discussed earlier in regard to the Return on Assets

indicator, we can define donations from ex-borrowers as a legitimate source of financial

return on assets, then this Adjusted OSS Formula is actually more representative of

Akhuwat’s overall financial health.

One of the most commonly cited criticisms of the microfinance industry is the

lack of transparency. From the past overview of some of the complications of

sustainability indicators, it is clearly understandable why consumers are wary of the self-

reported numbers of MFIs as well and the resulting aggregated statistics. The numbers

calculated in Figure 10 using the audit report are significantly different than what is

shown on Mix Market. On Mix Market, Akhuwat’s OSS was .995 in 2011 and .1875 in

2010. In regard to OSS in 2010, we can now revisit with more clarity Dr. Saqib’s vague

but highly important statement in 2010 that, when including ex-borrower donations,

Akhuwat was 60% Operationally Self-Sufficient. In November of 2010, Dr. Saqib stated:

It is interesting to note that around sixty percent of our costs are met by
donations from our borrowers. We inspire them to donate as much as they want in
return for the interest free loan. Without any compulsion or coercion, they are
giving donations to meet operational costs; this makes us 60 percent self-
sufficient. The way the program is progressing, we believe that in few years, the
entire operational cost will be matched by donations given by the borrowers,
and we will be operationally self-sufficient.

From this statement, it is unclear if Dr. Saqib means that donations from borrowers alone

makes Akhuwat 60% self-sufficient, or their income statement including donations from

borrowers makes them operationally self-sufficient- an important distinction. From the

2010 audit report by A.F. Ferguson & Co., it is clear that Dr. Saqib cannot be referring to

  39  
the member donations alone covering 60% of operational costs (See Appendix 1). This

leaves the alternative of either operating income covering costs or total income covering

costs. To add in another confusing layer, operational income is not distinguished from

total income in the audit report, so we will have to do some guesswork based on the more

resent audit reports from Deloitte. The closest answer we get to Dr. Saqib’s estimate

based on the audit report is by dividing Operational Income (Total Income-“Other

Income,” as seen done by subsequent audits).

TABLE 4: Operational Self Sufficiency, 2010

2010 OSS= Operating Income/ OSS= $179,317/$262,925= .68
Expenditure

As you may recall from earlier in the section, these calculations are made from the 2010

audit, before changes were made to exclude donations from members from the income

statement. So, although Akhuwat has seemingly made little progress on the sustainability

from based on OSS indicators since this year, it is at least partially due changes in the

recognition of donations.

The discrepancies we see on Mix Market and through the media are indicative of

why it is so essential to take a closer look at often-called “opaque” industry and set the

record straight. While Akhuwat can clearly stretch their accounting data to manipulate

their OSS, which MFIs may have already been doing on Mix Market, this should neither

be the goal of the organization or the point of this study. On the contrary, an organization

such as Akhuwat should not have to prove itself as financially sustainable, at least in its

traditional sense. As Benedetto and Bengo write, “[Akhuwat] reaches financial

sustainability in an innovative manner: transforming ex-borrowers into donors…”.

  40  
VI. Lending Methodology and Gender Dynamics

A key sustainability consideration of Akhuwat is the lending scheme. In

Akhuwat’s initial years, it utilized the group-lending scheme popularized by long

standing organizations such as Grameen Bank. However, Akhuwat phased out the group

loan strategy as of 2006 because group leaders were found to manipulate position and

extort money. According to Akhuwat’s Decade Report, “Most group members were

selected on the basis of their popularity in the locality and not on their genuine need for

credit” (Akhuwat 2010). Further, members complained that the regular group meetings

were taking up too much time and the poorest of the poor found it difficult to form or join

a group. Others complained that they simply did not want to work in groups; that they

were individualist by nature and wanted the same accountability that better-off people

received from big banks. Akhuwat was aware that they could use the individual lending

as a ‘selling point’ to attract new clients. Despite international experience, which shows

that group loans are more likely to be repaid on time than loans to individuals, Akhuwat’s

“individual household borrower”, also known as its “family loan” model, has higher

repayment rates than the prior method (Harper 2011). The table below shows differences

in repayment rates between the two schemes, as cited by Harper:

TABLE 5: REPAYMENT RATE BY LENDING SCHEME

Lending Scheme Average Repayment Rate

All Schemes 99.7 %

Group Loans 98.8%

Individual Household Borrower 99.9%

  41  
 Akhuwat’s reasoning for transitioning to family/individual loans also had to do

with problematic gender dynamics resulting from prior MFI’s experiences. Akhuwat

believes that the prevailing emphasis of lending to women has led men to feel inferior

and marginalized, thus prompting an increase in domestic violence towards women.

According to evidence from Bangladesh, domestic violence was often severe; there were

numerous accounts of men throwing acid and disfiguring women’s faces (Harper 2011).

This is one of the reasons that Akhuwat places much less emphasis on lending to females

compared to other MFIS. Figure 11 shows that according to 2011 Mix Market data,

females made up only around 30% of Akhuwat’s total borrowers.

FIGURE 11: PERCENTAGE OF FEMALE BORROWERS, 2011

1
0.9
Percentage of Borrowers Female

0.8
0.7
0.6
0.5
0.4
0.3
0.2
0.1
0
Akhuwat Wasil Pakistan South Asia

As opposed to the widely accepted MFI practice of loaning mainly to women,

Akhuwat started experimenting with a family loan model, in order to “strengthen family

relationships rather than to promote conflict. ” Akhuwat found that staff had to spend less

time on each loan, as they only had to visit the applicant to check on his or her income

  42  
level and reputation in the community (Harper 2011). Harper explains the family lending

model:

Wives and husbands were required to sign loan agreements, or mothers and sons,
or fathers and daughters, and the loans were known as family loans. Every
member of the family knows that they have taken a loan, and this creates a sense
of unity in the household and avoids duplication of loans in the same family. The
entire family is the guarantor and the beneficiary. Borrowers are also required to
bring two other guarantors, who are not from the same household, to co-sign
their loans, in order to replace the group guarantee. These guarantors do not
have to be any wealthier than the people whose loans they are guaranteeing; they
have merely to be respectable people in the same communities who know the
applicants well and are prepared to stand behind them.

Once the loan is disbursed, the Unit Manager monitors the client with regular visits to his

residence and place of work. If the loan is not repaid within the three days of its due date,

a Unit Manager will pay a reminder visit to the client. If the repayments are still not made

the guarantors are contacted and asked to make the repayment. From the information

given, one may be dubious of whether or not this method really facilitates female

independence, rather than constraining them through the authority of requiring a male

guarantor. The absence of a “mother to daughter” type loan agreement suggests the latter

possibility.

A sample list of borrowers received from Akhuwat headquarters was analyzed

for the purpose gaining further understanding of the gender dynamics at play with their

Family Lending model. The sample cannot be assumed to be a random sample as it is

made up of approximately a 50/50 split of men to women, which is far from reflective of

the actual ratio of male to female borrowers. The sample list includes the borrower’s

name, followed by the first (presumably) guarantor’s name, their date of birth, the

purpose of the loan, the amount, the gender of the borrower, the date of disbursement,

  43  
and whether or not they donated to Akhuwat. Despite this not being a random sample,

there are several noteworthy points we can gather from this document.

First, the majority of guarantors are male- for both female and male borrowers. Of

the female borrowers, at least 70% had male guarantors13. Keep in mind that this

guarantor is in addition to the family style agreement- likely made between the woman

and a male in the family. While the family loan model may have the intentions of

reducing male violence towards females and improving family relationships, it seems that

using a model solely because it won’t disturb preexisting misogynistic family

relationships is not progressive. However, the effect of these family dynamics on

women’s empowerment is beyond the scope or intention of this study, which is to focus

on the inner mechanics of the organization.

Regardless of the immeasurability of the women’s empowerment effect of the

lending scheme, it is impossible to deny quantifiable repayment rates-which are

impressive. Akhuwat’s unique lending model, as well as its unprecedented low

percentage of female borrowers, and most notably its completely interest free product

line, defies traditional microfinance trends. As Harper states:

It is generally accepted not only that they [MFIs] must be ‘sustainable’, that is
profitable, in order to survive and to attract and retain investors, but that MFIs
should lend through some form of group mechanism, that they should lend mainly
to women, and they should make rather high charges, not only to be ‘sustainable’
but also to discourage misuse of loans to encourage repayment and to ensure that
their loans are not hijacked by those who are not needy, as so many subsidized
goods and services are…Akhuwat is unique because it breaks just about all the
generally accepted rules of microfinance, but has nevertheless survived and
grown.

                                                                                                               
13
This figure comes from a sample data set of 500 borrowers provided by Akhuwat
headquarters. While names of guarantors were provided, genders were not. Hence,
guesswork was involved in determining gender and this number is approximate.

  44  
While Akhuwat has indeed survived and grown, there is still a need for infrastructural

improvement. If a subsidized program such as Akhuwat is to continue at current funding

levels, it will also need to continue to find modes of constructive engagement with

government owned agencies, as Akhuwat has done with Punjab Small Industries (PSIC).

Lessons from past failures suggest that this will require clear understandings of the limits

to direct government involvement and a commitment to the transparency and

accountability of programs (Morduch 1998).

VII. Opportunities for Infrastructural Change

Opportunities for infrastructural change in Pakistan stem from preexisting income

redistribution mechanisms entrenched in Islamic philosophy.14 Income redistribution is of

particular relevance in Pakistan, where 22 % of the population lives in poverty and where

income inequality has worsened over the past several decades (Shirazi 2015).

Waqf, the concept of “eternal charity,” is derived from the Quran and further developed

by Islamic scholars in hadith text. Waqf is a pool of resources created through the

accumulation of both financial and real assets. It functions essentially as trust system

used for sacrificing one’s belongings for the sake of charitable purposes. The welfarist

approval of sustainability bodes well for a Waqf-integrated model for Islamic MFIs,

particularly for an organization such as Akhuwat.

                                                                                                               
14
Mechanisms include the Zakat (an obligatory tax on citizens above a certain wealth
level that is redistributed to the poor), Sadaqah (a voluntary charity), Qarz-e-Hassan
(interest-free loans), and Waqf (a religious endowment grounded in Islamic law).

  45  
 First, lets take a closer look at the mechanics and ideology of Waqf. Cash Waqf

can either take the form of cash lent for free to the beneficiaries or cash that is invested

and then the net return is given to the beneficiaries (Dogarawa 2010). There are typically

two allotted uses for Waqf, one for family endowment and another for religious or

charitable purposes. The latter one, called Waqf Khairi, will be the one referred to in this

paper (Gaudiosi 1988). Waqf is similar to a trust in that property is restricted by

guidelines (Ahmad 2007). Like a trustee, the head of the Waqf (known as the Mutawalli)

is responsible for running the organization and spends the wealth according to agreed

upon rules. Ahmad writes “Countries such as the United States, where trusts are

prevalent, have agreed to the fact that Waqf is the best way to transfer income from the

rich to the poor. Thus, Waqf and endowments are both used for the same purposes of

poverty alleviation and socioeconomic benefits.” The concept of Waqf can be

distinguished from that of a trust in that the Waqf has to abide by the law of perpetuity-

the concept that charitable endeavors should make continual impact over an indefinite

period. This is similar to the widely known maxim that we should not simply give a man

a fish, but teach him how to fish. To compliment this notion, Waqf funds are meant to

strengthen social bonds. The MFI’s charitable goals of assisting the poor set up

businesses fit well into this framework.

A Waqf-integrated model for Microfinance is particularly well suited for an

organization such as Akhuwat. Akhuwat has a simple portfolio consisting of benevolent

loans, and thus relies on inexhaustible social investments in charity. Akhuwat’s loans are

intended for people living well below the poverty line, and, as discussed throughout this

paper, the continuation of these loans is reliant on a charitable system. Several studies

  46  
cite that Waqf could be a potential source of funding Qard-e-Hassan style loans.15

Further, the welfarist approval of sustainability discussed earlier bodes well for a Waqf-

integrated model for Islamic MFIs.

Scholars have laid out some of the problems with the development of the Waqf

system in Pakistan. The inability of the government to monitor such institutions and hold

them accountable for the funds as well as the potential for religious disagreements on a

potential regulatory framework both pose potential challenges. Further, the lack of citizen

awareness of the existence of Waqf, and the potential for the Waqf fund to feed into

Islamic microfinance doesn’t bode well for donations (Shirazi 2015). In fact, according to

studies, Pakistanis held negative associations between the correlation of Waqf and

microfinance (Shirazi 2015). This means that when asked about the potential use of Waqf

both in general and in regard to microfinance, respondents gave negative responses. This

negative association is likely due to the lack of knowledge of Waqf and a consequent lack

of trust in the potential system. According to the same study, 80% of Pakistani

microfinance clients surveyed at random wanted to know more about the Waqf system. It

is essential that MFIs build confidence in the eyes of the public in order to build in an

infrastructure in which they could tap into these resources (Shirazi 2015). Thus, we

revisit the welfarist perspective that relies on the donor as a “social investor” in order to

create a sustainable cash flow.

Despite potential obstacles, there is substantial literature that proposes the

development of a cash Waqf fund in Pakistan. Kazim and Haider (2012) review Ahmed’s

“Waqf-based Microfinance: Realizing the Social Role of Islamic Finance” to asses its’

                                                                                                               
15
(Kazim 2012), (Shirazi 2015), and (Ahmed 2007) all mention Waqf in connection with
Qard-e-Hassan loans

  47  
viability in Pakistan. They provide two ways in which the Waqf could be set up. One

would be from a state department, where provincial governments could choose to allocate

a certain amount of funds to setting up microfinance operations in certain regions.

Pakistan has already made movements in this direction. In 1959, the Waqf Properties

Ordinance was introduced in order to bring Waqf properties under the control of the state.

Waqf properties were traditionally managed by the supposed decedents of the saints of

the properties, likely passed down generation to generation. It is of no surprise that

income generated by these properties was used for the personal benefit of the owners of

these properties. The 1959 Ordinance allows provincial government to oversee Waqf

properties falling under their jurisdiction. In the year 2010-2011, the Waqf Board Punjab

generated roughly $9,600,160 from these Waqf estates. Of this sum, $10,236 was

available for charitable distribution (Kazim and Haider 2012). Unfortunately,

microfinance operations would likely face fierce competition in gaining patronage from

the State and receiving such funds due to high demand. The second mechanism noted by

Kazim and Haider would be to attain Waqf funds directly from the populace. In a sense,

Akhuwat is already successfully utilizing this mechanism through their collection of

community donations.

VII. Conclusion

Scholars who study MFIs are divided on the topic of sustainability. While

“institutionists” believe that MFIs need to be operationally self sufficient without

donations and subsidies to be sustainable in the long run, “welfarists” view donors as a

reliable source of revenue that can be incorporated in income/expenditure ratios. The

  48  
logic of institutionists suggests that MFIs need to charge interest rates to cover expenses,

thus relying on the assumption that borrowers can afford these high interest rates.

However, the most recent studies on Microfinance have come to the conclusion that

client over indebtedness is the biggest problem in the industry today.

Welfarists have redefined sustainability as the ability to produce outputs that are

valued sufficiently by beneficiaries and other stakeholders so that the program receives

enough resources and inputs to continue production. They introduces the concept of a

“social investor” and redefine the meaning of “subsidy” so that a donor-funded MFI that

has achieved significant outreach and impact such that its social benefits exceed the

benefits of alternative social investments should not be considered “subsidized.” Based

on this theory, we can adjust “operational income” in the OSS formula to include

donations. Further, we should not penalize Akhuwat for receiving loans below the market

rate by adding this to the “expenses” denominator of the OSS ratio. Based on Akhuwat’s

most recent audit reports, when donations from ex-borrowers are included in operating

revenue for the most recent financial year-end, their OSS ratio is over 1. Under this

adjusted formula, Akhuwat should be considered a sustainable model for Islamic interest

free Microfinance. Additionally, Akhuwat should tap into Waqf beneficiaries to

compliment client donations and create a more reliable stream of revenue.

There are several limitations to these conclusions. As Akhuwat is still relatively

young at 12 years in operation, it is hard to predict long run sustainability. The act of

clients giving back to Akhuwat is a trend that only started having a significant impact on

the organization in 2008, and donation rates have yet to plateau. Further, there are still

large variations in Akhuwat’s income and expenditures year to year due to growth and

  49  
capital expenditure. Lastly, there are data inconsistencies across different resources such

as Mix Market, Islamic MFI Report, Deloitte, and the Akhuwat Headquarters. Further

studies should consider tracking Akhuwat’s performance over the next decade. While this

paper only addresses sustainability, future research may want to analyze the efficiency

and social impact of Akhuwat. Further, because the most recent studies have shown that

microfinance can be severely problematic, we should question the prevailing

institutionalist guidelines that penalize reliance on donations and subsidies.

Research should focus on identifying the strengths and weaknesses of interest-free and

grant giving institutions in comparison to conventional MFIS that provide interest-

bearing microloans.

  50  
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