Cost Realism in Deploying Technologies for Development Aishwarya Lakshmi Ratan (Microsoft Research India) Mahesh Gogineni (London School of Economics)

Cost Realism in Deploying Technologies for

Development

Aishwarya Lakshmi Ratan (Microsoft Research India)

Mahesh Gogineni (London School of Economics)May 30, 2008

Confronting the Challenge of Technology for Development: Experiences from the BRICS

Department of International Development, University of Oxford

TEM, Microsoft Research India

Outline• Problem area• Analytical

framework• Hypotheses• Case studies• Implications• Takeaways• Limitations


Problem area• At 24-36% per annum, microcredit is cheaper than

moneylender-loans, but not cheap enough.

• High transaction costs drive up the price (even the best MFIs have operating cost/asset ratios >10%)

• Can technology deliver cost savings through efficiency gains?

• If yes, will this drive down the price of credit and expand outreach?

• Examine client-facing information collection and processing transaction tasks in microfinance workflows


Analytical frameworkCost for a given transaction τ is described by a cost functionC (Vl, Vk, O, L, F, N)

WhereVl= w (wage or labour cost per unit time) * A (inverse

productivity indicator or no. of time units per transaction τ)Vk = Variable capital cost per transaction τO = Operating costs per unit labour for transaction task τL = Total labour hired for transaction task τF = Fixed costs for transaction task τN = Number of transactions of task τ

Measure efficiency through input cost minimisation

Examine the relative cost accrued for task τ under alternatearrangements, LT (low-tech, baseline channel)and HT (high-

tech)TEM, Microsoft Research India

Analytical frameworkPer-transaction gains from using a HT option G = (Vl + Vk)LT - (Vl + Vk)HT

G = w (ALT - AHT) + Vk,LT - Vk,HT

Total gains across all τ transactionsTG = G*N = (w (ALT - AHT) + Vk,LT - Vk,HT ) * N OG = (OLT*LLT) - (OHT*LHT)OG = L (OLT - OHT)

Profit through cost savings π = TG+OG

RoI = π / |FLT – FHT|

Σt=1

6(πt (1+ρ))

(1+δ)t - |FLT - FHT|NPV =

Where ρ is the inflation rate and δ is the opportunity cost of capital TEM, Microsoft

Research India

HypothesesHypothesis 1

Cost savings from a HT channel maximised when TG is maximised, requiring:-High wage rate (w)-High productivity differential (ALT – AHT )-High variable cost differential (Vk,LT - Vk,HT )-Large number of transactions τ per unit time (N) Hypothesis 2

Cost savings from a HT channel are maximised when OG is maximised. Since OHT will typically be higher than OLT , this requires:- Low operating cost differential (OLT - OHT)

Hypothesis 3

For a given level of net profit through cost savings, the larger the fixed cost differential (|FLT – FHT |), the lower the likely financial sustainability of the HT channel.


Cases• Examine 3 microfinance institutions (MFIs) in southern India• Chosen for:

– the spread they offered as small, medium and large organizations,

– their choice of varying microfinance operating models (Joint Liability Groups vs. Self-Help Groups), and

– their experimentation with ICTs in client-facing information collection and processing tasks.

• Follow Kumar (2004) in an activity-based costing approach• Two kinds of microfinance data examined: Loan Customer

Acquisition and Loan Installment Processing• LT channel: PC-based back-end + paper-based front-end

HT channel: PC-based back-end + electronic device based front-end

• In the cases examined, cash transport costs equivalent across LT and HT


Cases

Customer AcquisitionUrban NBFCImprove efficiency of customer acquisition processSmart phone used by field officerData sent via SMS or GPRSCut variable cost by 50%Positive RoINegative NPV over 6 years

Installment ProcessingRural SHG FedStreamline book-keeping and installment data collectionSmart phone used by field officerData sent via SMSLittle reduction in variable costsHigh fixed costs for HT channelNegative NPV over 6 years

Installment ProcessingRural NBFCStreamline installment data collectionHandheld device used by field officerData uploaded through USBCut variable cost by 73%Positive NPV over 6 years

1 2 3


Cost savings comparisonCase 1+ Case 2 Case 3

Labour component 1(front-end)w1 (per month, Rs.)* 4500 800 4500A1,LT - A1,HT (Productivity gain in minutes)

19-19 = 0 2-2 = 0 3.46 - 0.81= 2.65

Productivity gain 1 (share of baseline)

0 0 0.76

Labour component 2 (back-end)w2 (per month, Rs.)* 4000 800 6000A2,LT - A2,HT (Productivity gain in minutes)

14-0 = 14 2-1.75 = 0.25

0.6 - 0.033 = 0.57

Productivity gain 2 (share of baseline)

1 0.125 0.95

Vk,LT - Vk,HT (Rs.) 5.65-0.05 = 5.6

0 0.78 - 0.33 = 0.45

Variable capital cost reduction (share of baseline)

0.99 0 0.58

G (Rs.) 10.97 0.019 1.92N (number of task τ transactions per yr per branch)

2400 22,992^ 64,800

TG (per yr per branch, Rs.) +26,304 +437 +124,416OLT – OHT (per L, Rs.) -2030 -1680 -970L (per branch) 8 8 12OG (per yr per branch, Rs.) -16,240 -13,440 -11,640π (cost savings, Rs.) +10,064 -13,003 +112,776FLT - FHT (per branch, Rs.) -98,462 -68,000 -138,000NPV of π over 6 years^^ <0 <0 >0(PV of π over 6 years) / |FLT - FHT| ^^ 0.5 <0 3


Implications•The higher the labour productivity gains from the HT channel, the greater the transaction cost savings.

•The higher the local wage for the task, the higher the productivity-linked transaction cost savings.

•The higher the variable capital cost reduction, the greater the transaction cost savings.

• A larger number of transactions per unit of labour/per device greatly multiplies the power of productivity gains per transaction from the use of the HT channel.

•The larger the operating costs required to run the HT channel (e.g. connectivity costs), the lower the gains from overall cost reduction.

•The higher the fixed capital investments called for in the HT channel, the more substantial the requirements for high transactional cost savings and low operating cost differentials to ensure the HT channel’s financial sustainability.


Is tech always cost-efficient?

Classic banking, US Microcredit, India

Parallels in PDA-based data collection for healthcare, telecentres for accessing lean data, individual computers for education, etc.

$22,000/yr $240/yr

$200$700

12.5% productivity improvement ~ $2750

12.5% productivity improvement ~ $30


TakeawaysCan technology deliver cost savings through efficiency gains?Yes, but conditional on the cost context:

– the local wage rate for adequately skilled labour– labour productivity,– variable capital costs, – fixed and operating costs per channel,– scale of transactions per device.

Among our cases, the successful deployment of a HT channel involved:- operating in an environment of high wages, - achieving high improvements in labour productivity, - reducing variable capital costs significantly, - having low operating costs for the HT channel,- processing a large number of transactions per device.


Limitations and extensions• ICTs don’t always trump paper!

– The view that though capital-intensive, electronic ICTs, with their speed and accuracy, will automatically trump labour-intensive paper-based ways of fulfilling the same functionalities, is mistaken.

• Extending this work will involve:– Adopting a dynamic, not static lens– Specifying a functional form to calculate allocative and

productive efficiency, returns to scale– Endogenising variables: w, N, L– Assessing costs with bundling of transaction tasks per

channel (data and payments across products)– Incorporating data quality gains/error correction costs

across channels– Testing against a larger sample of data points


Acknowledgements: Ujjivan, CCD/Ekgaon, BASIX, Shabnam Aggarwal, Angelin Baskaran, Kentaro Toyama, Rajesh Veeraraghavan, Rahul De

Excel-based costing template available at http://research.microsoft.com/~aratan/costing.htm

? [email protected] TEM, Microsoft Research India

http://research.microsoft.com/~aratan/costing.htm

mailto:[email protected]

Documents

Cost Realism in Deploying Technologies for Development Aishwarya Lakshmi Ratan (Microsoft Research India) Mahesh Gogineni (London School of Economics)