When Washington Mutual, one of the largest US banks, was shut down in September 2008 following the sub-prime crisis, its depositors and secured creditors suffered no losses, though shareholders and unsecured creditors lost around $12 billion. That was still about 4 per cent of the company’s assets.
However, in June 2006, FOCCAS, a once promising Ugandan MFI with an unusually committed client base, became insolvent and was closed. Its socially responsible (SR) creditors recovered nothing on their outstanding loans.  A year later, WEEC, an up-and-coming Kenyan MFI lost its founder-director to an untimely death, and defaulted on its debt soon after. Its SR creditors too recovered nothing.
In the microfinance world, recoveries by creditors following an MFI’s collapse are rare. When MFIs fail, pursuing liquidations, even in the presence of relatively strong portfolios, is often deemed too costly and too difficult.
Though MFI failures are relatively infrequent, liquidations need to be examined by the microfinance community.  So what is the evidence from prior cases?  First, there is anecdotal evidence suggesting that borrowers view the closing of their MFI as a forgiveness of the loan.  For example, when an NGO in Bolivia was merging with others to form Eco Futuro, rumors spread among borrowers that it was closing, and they stopped paying.
In addition, defaults among clients become self-reinforcing – as more clients see others not paying, they stop too, and this happens even faster in group lending, where after a “tipping point” of defaults is reached, the whole group falls apart.  An example is the current case of Fundación San Miguel Arcángel (FSMF), a Grameen replicator in the Dominican Republic. Following extensive fraud by members of executive management, and subsequent scaling back of new disbursements due to losses, it found itself dealing with delinquencies of over 50 per cent and still rising.
The main obstacles to reasonable portfolio recoveries after an MFI failure have been two-fold:  the difficulty of transferring servicing of microcredits to other parties, and the expectation of future loans as a key incentive for borrower repayments.  These two issues interact to reduce creditor recoveries, causing them to suffer losses significantly in excess of what the MFI’s balance sheet would indicate.
Here, Paul Mayanja of the Stromme Foundation in Uganda has a suggestion – consider adding some physical collateral to the loan, even if it’s a symbolic amount, to ensure that the MFI management’s incentives after default would be aligned with your own.   If, as a creditor you can gain control of the MFI quickly after default, or have a contingency operating fund to draw upon, if needed, chances of recoveries will be further improved.
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