European Journal of Accounting, Auditing and Finance Research (EJAAFR)

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This paper examines the impact that lending methodology on the performance of loan portfolio based on a study of microfinance institutions in Kenya. The specific objectives of the study were to establish the effect of group and individual lending on performance of loan portfolio in micro-finance institutions, and to establish the effect of moderating factors on performance of gross loan portfolio. Secondary data was used in the study of 8 out of 56 microfinance institutions under umbrella Association of Microfinance Institutions of Kenya (AMFI). This was motivated by availability of data. Panel data analysis was applied to test hypothesis that there is no relationship between group lending on performance of loan portfolio. After running a regression in which loan portfolio performance is the dependent variable, the study found a positive significant coefficient of 0.79 and (p=0.42) on group lending without moderating factors. When moderating factors were included the coefficient becomes 0.38 and (p=0.19). The null hypothesis was therefore rejected. There was no significant relationship of individual lending on performance of loan portfolio in the regression despite finding a positive coefficient of 0.41 and (p=0.27) without moderating factors and 0.16 and (p=0.58) when moderating factors were added. Therefore, the author accepted the null hypothesis which states that there is no effect on individual lending on performance. The third hypothesis which stated that moderating factors do not affect performance of loan portfolio was also rejected, since the study found significant relationship between moderating factors and lending methodology on loan portfolio. From the regression results, transaction cost and credit risk have a negative relationship on the performance of gross loan portfolio/assets. The researcher recommends to MFIs to use group lending as a result of security/collateral as it reduces adverse effects. Furthermore managers should improve business performance through cost minimization strategies. It is further recommended that MFIs managers should consider diversifying their revenue generating activities rather than concentrating on only one source of income

Keywords: Kenya, Lending Methodology, Loan Portfolio, Microfinance Institutions, Performance

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