Changing the landscape to secure agri-financing opportunities
TXF talks with Lamon Rutten, manager of policies, markets & ICT at the Technical Centre for Agricultural and Rural Cooperation (CTA) about his vision for a changed landscape in agrifinancing throughout the African Caribbean Pacific (ACP) countries.
TXF: Given the massive funding gap for many producers in the African Caribbean Pacific (ACP), how important is it in bringing farmers/producers into contact with logistics, financial services and financial institutions? And, how big is the education challenge?
Lamon Rutten: There is an overriding societal need to reduce this funding gap, both to ensure that rapidly growing urban populations remain supplied with affordable food and to get rural populations out of poverty traps. The gap exists for a reason, largely the perception by finance providers that they cannot profitably and at an acceptable risk fund farmers/producers, directly or indirectly. Among other things, they are often unaware of the opportunities in short distance (national or intra regional) value chains farmers supplying cities with food which are much larger than those in the traditional export crops on which most bankers have been focusing.
Building links between farmers and financiers, in particular through the medium of well-organised value chains, tackles this issue in a comprehensive manner: it helps financiers better understand the opportunities and constraints in agriculture, permits them to finance along the whole chain from farm to fork, and reduces risks for both farmers and financiers.
Logistics providers of various kinds will be needed to properly structure these value chains, and much more attention should be given to strengthening such ‘chain integrators’. The education challenge is large, but before this can be tackled we first need to deal with the perception challenge, that many financiers still think it isn’t worthwhile to look into agricultural financing opportunities.
TXF: What have been the standout initiatives that you have seen in ACP agri financing in the last couple of years?
LR: There are quite a few interesting initiatives under way, although we’re still learning the lessons and trying to interpret them for purposes of scaling up.
Agri loan guarantee schemes are being tested again, with a new way of looking whether they deliver value for money. Warehouse receipt finance, including collateral management, is under intense scrutiny. We’re also trying to get to grips with weather insurance. Financiers are starting to use information and communication technologies (ICT) to develop new delivery models for agri-finance, not just to automate existing models (for example, to permit investors to provide invoice discounting to farmers supplying into national value chains). In addition, countries are starting to introduce central collateral registries. All inall, quite a few initiatives are under way to develop viable commodity exchange models, which all include warehouse receipt systems.
TXF: With particular reference to Africa, what are the major challenges/drawbacks to moving financing forward? And what would really make a difference to this?
LR: Financing or for that matter, agri-marketing opportunities are often constrained by a set of factors poor infrastructure and logistics, disabling government policies and practices, along with poor contractual arrangements etc.
There are quite a few actions that will be profitable for specific groups, for example in setting up better collateral management services, replicating value chain financing models that have proven successful elsewhere, or making proper use of the large new opportunities ICT offers, and over time these benefits will add up. But to make rapid and comprehensive progress, concerted action along different fronts is necessary, which in turn requires a genuine willingness to work in public-private partnerships. This has proven difficult in practice, and when it comes to agricultural finance, the best approach may well be to focus efforts on specific high-potential trade corridors, for specific commodities.
TXF: You have spoken a lot about rural product notes (CPRs as they are known in Brazil and across Latin America) so do you see this financial instrument as something that could and should be incorporated within African agri financing?
LR: There are big deficiencies in bank financing for agriculture in Africa: there simply isn’t enough of it, in particular for longer tenors, as banks have not invested much in understanding agriculture. Banks by and large have not developed appropriate instruments for agrilending; and they add overly high risk premiums, which together with high loan delivery costs lead to very high interest rates.
Introducing competition from capital markets can help on all fronts. CPRs are one possible instrument. They require conditions that in the short to medium term will be difficult to introduce at national levels, but which could be replicated through contractual relationships within more narrow environments, for example within the confines of a commodity exchange system or perhaps even an electronic collateral registry system.
TXF: The warehouse receipt system across sub Saharan Africa is particularly patchy. Why is this, and what can be done to change this is particular countries?
LR: In past decades, there have been massive investments in warehousing infrastructure in many countries, but warehouses were seen as storage facilities rather than as logistics services providers, let alone post harvest financing instruments.
Banks have been using warehouses to support loans, but this has been for, in principle, one-off deals, for a limited period and for one client. Such bespoke arrangements are expensive. We need to develop models that permit financiers to use warehouse receipt systems on a routine basis, at a much lower cost.
Donors and governments can help reduce legal and regulatory costs (and risks); moving to electronic receipt systems will help; and new business models (like India’s approach to collateral management) should reduce collateral management costs.
TXF: Good and secure collateral management is an essential element to upgrade the value chain within agri financing. What is your view with regard to the potential development of a pan-African collateral management company? Is it feasible and is it necessary?
LR: In the past, and in some regions such as Latin America and Turkey even now, it has been common for banks to set up collateral management subsidiaries to extend their vaulting system, permitting them to accept a wide array of commodities in many locations as collateral for loans. Why wouldn’t this work in Africa, as a market penetration strategy for African banks?
A new approach towards collateral management is in any case necessary: there are less and less international collateral management companies active in Africa, and local companies are not strong enough to give much comfort to banks. The critical issue for a collateral management company is to reach critical mass rapidly, so that fixed costs are spread out over many transactions and even more importantly, risks are well-diversified. The easiest way to achieve this, in my opinion, is for a number of financiers interested in expanding their presence in the agricultural sector to jointly invest in a collateral management company, which would first operate on mandates from its investors, and then start serving other financiers.
Potential margins in agri lending are very high, and given demographic trends opportunities will only improve. So there is good money in developing sound delivery mechanisms for agri lending, and collateral management/credit support is, in my opinion, one of the low hanging fruits.
TXF: Commodity exchanges appear to be making a real difference to providing agri producers with a fair and consistent price for their products. How important do you think the development and spread of commodity exchanges is in the African context?
LR: It is very important. In emerging markets (and that included the USA in the 19th century) commodity exchanges tend to take the lead not just in providing price transparency, but also in reducing the obstacles to longer-distance trading, improving the standards and practices in physical trade, and improving warehousing standards. Not to mention that exchanges can intermediate between investors and agricultural sector actors, for example through CPRs or through repo contracts.
In Africa, the obstacles to exchanges are now largely related to government policies and practices, not to technology constraints or lack of business opportunities. There are so many initiatives ongoing that these government obstacles are bound to be overcome in the coming years.
TXF: What is your vision for the future of agri financing in Africa and the ACP region at large? Do you envisage Fin4Ag 2015 including new aspects and players?
LR: More financiers at all levels (micro finance institutes, commercial banks, investors) will become aware of the opportunities, and will look for viable lending instruments and delivery models. Exchanges of experience, like those we organised at Fin4Ag 2014 in Nairobi, will permit a much steeper learning curve.
I hope governments and central banks have become more aware of their responsibilities in providing the proper environment for agricultural finance, and that we will see more debate on exactly how they can best do so. I also hope we will see a larger participation of value chain integrators service and logistics providers that will help financiers to design and implement agri financing schemes.