Africa Agenda: Standard Bank Ventures into Smallholder Agricultural Financing

Thursday, 23 April 2009

In March 2009, South Africa’s Standard Bank announced it had signed a USD100m deal with Kofi Annan’s AGRA to provide financing to small-scale farmers and agricultural businesses. This sector had long been regarded as high cost, high risk - how will Standard Bank’s approach be different? And what other regional experiences exist? By Rachel Keeler. In March 2009, South Africa’s Standard Bank announced it had signed a USD100m deal with Kofi Annan’s Alliance for a Green Revolution in Africa (AGRA) to provide financing to small-scale farmers and agricultural businesses. AGRA and the Millennium Challenge Account Mozambique will provide a 20% default guarantee on the loans to be dispensed in Tanzania, Uganda, Ghana and Mozambique over the next three years. Standard says it plans to expand the program after that, with hopes that other banks may follow suit. Currently, less than 1% of commercial lending in Africa goes to agriculture, despite the sector’s overwhelming share of continental employment and GDP. Outside of microfinance institutions that can charge up to 100% interest - and most microfinance institutions focus on trading activities and urban areas as well -, no one wants to lend to smallholder farmers. “Why can’t you lend to farmers? The answer is it’s the surest way of losing money,” says Robert Mbugua, Standard Bank’s director of governments and international organisations for Africa.  There is a long and weighty list of risks that make this the case: unstable seed and fertilizer supplies, soil health problems, drought, high transaction costs, lack of collateral, and market access nightmares including inadequate infrastructure for transport and storage. Add on top of all this fluctuating commodity prices and government inefficiency and you get a lot of very sad farmers in Africa, most of whom creditors tend to avoid like the plague. As a result, Africa’s agricultural productivity is the world’s lowest, yielding one-quarter the global average.  Standard says its new financing model is designed to fix all of these problems, and will allow the bank to phase out donor guarantees by the end of the three-year pilot program. This is an ambitious claim. So how does Africa’s biggest bank intend to transform “the surest way of losing money” into a profitable, long-term lending facility?  Risk mitigation The trick, Mbugua says, is being able to correctly identify all of the risks presented by smallholder agricultural financing, which are generally feared yet little understood. “Each of those risks is a bullet,” he says, “you might have the wrong seed, or the right seed but no fertilizer, or if everything works and you have no off-taker, you’re dead.” Standard has been financing large-scale agriculture for 100 years, so it already has a good sense of the industry. The bank claims that with the help of partners like AGRA it will finally be able to address the additional challenges posed by down-market agriculture and start winning the game of smallholder farming roulette:    • Fertilizer, seeds and soil: Over the next five years, AGRA plans to invest USD150m in East and Southern African seed companies to develop high-yielding, drought resistant varieties of staple crops. In the meantime, Standard says the right seed and fertilizer are already out there for any farmer with the money to buy them. AGRA estimates that three-quarters of African farm land is severely depleted. Fertilizer will help, but AGRA is also educating farmers on crop rotation, correct fertilizer use and the need to plant soil enriching produce.     • Water: Standard says its focus will be on introducing weather insurance to mitigate drought losses. The bank has already done this in South Africa and plans to extend the idea into other countries using weather indexed insurance products provided by local insurance intermediaries and underwritten by international re-insurers.    • Transaction costs: Smallholder farmers are difficult to lend to because there are millions of them tilling tiny farms in incredibly remote areas. AGRA thus spends a lot of time training and funding networks of agrodealers who decrease the distances farmers have to travel to buy quality supplies. Standard has also organized small-scale farmers into co-op groups of 500 to 1000 farmers from which an intermediary representative works with the bank.    • Collateral: Standard says it has actually built its lending model around the expectation that farmers will have no collateral. A big part of making that possible is the bank’s effort to line up crop off-takers up front. Several large corporations have already agreed to buy upcoming harvests. Barbara Noseworthy, AGRA’s senior resource mobilization officer, likes to tell the story of the bank manager in Mozambique who once said: “I don’t want farmers to put up their houses; I want to know I’m making a good loan.”   • Market access: Securing off-takers also helps with market access problems. AGRA likes to focus on “natural breadbaskets”—areas where agricultural networks are already strong. Standard hopes to break into the futures market to set stable commodity prices in advance. AGRA is also trying to improve on-site storage technologies. Up to 40% of crop yields in Africa are lost in transit because of infrastructure constraints. Standard wants to fund less perishable goods that will not rot on the road. This is in recognition that African governments probably will not fix infrastructure bottlenecks anytime soon.   Government factors So what about that pesky government factor? AGRA has been running a similar loan guarantee programme in Kenya with Equity Bank since last year. One of its major partners is the Ministry of Agriculture. This raises the odd question how a ministry that allowed a USD10m maize scandal to happen on its watch is supposed to help boost agricultural productivity and market access. East African governments have been promising to address supply side constraints for years with little to show for it. AGRA also cautions of problems in Tanzania where the government has a penchant for socializing agricultural financing, which could crowd out private bank interest.   Some of the issues to look out for:   • Infrastructure: One potential for progress in East Africa is the planned North-South Corridor. The multi-billion dollar project will link Tanzania’s Dar es Salaam port with the copper belt in Zambia and ports in South Africa, with improved roads, rail, power, and border and port facilities. But this enormously ambitious work is barely beginning and the number of donors, governments and regions involved means the going will be slow. Even urgent infrastructure projects of a less ambitious scale are notoriously late and over budget.    • Subsidies: Government agricultural subsidies are back en vogue following Malawi’s success with fertilizer that made international headlines in 2007. Malawi used fertilizer and seed subsidies to go from near famine in 2005 to exporting food in 2008. AGRA holds this example as proof that market intervention can produce big results under harsh circumstances. “I see a case where a government can be responsive, even where the situation isn’t perfect, and lives can be improved significantly,” Noseworthy said.  However, research on fertilizer markets in Kenya has shown that private solutions may work best in the long run. Kenya phased out all of its fertilizer subsidy programmes in the 1990s and has since seen smallholder usage by planted hectare grow by 39%. Researchers attribute this to the government’s stable marketing policy, an increasingly dense network of fertilizer retailers, and intense competition in importing and wholesaling that have driven costs down and spurred logistical innovation. This is the kind of outcome that AGRA is pushing for through its support for agrodealers and other interventions, but it has been achieved in Kenya mostly through market forces.    • Political risk: Still, the key to Kenyan success was good government policy that remained stable over an entire decade. What we are seeing today is the breakdown of this support. The private sector complains that political instability is now the greatest threat to economic growth in Kenya, surpassing the global crisis. But considering global pressures, including rising fertilizer and fuel prices, voucher-based subsidies like the kind Kenya has reinstated are a good idea, especially if they can be paired with the holistic approach Standard advocates, with the all-important weather insurance. But any government subsidy programme has room for inefficiency that can hamper commercial development. Also, with agricultural policy under negotiation at the WTO, subsidies may not be a legal long-term solution. Does Public-Private Rinancing Work?  While the USD100m Standard-AGRA deal is unprecedented in scope, similar programs are ongoing in Lesotho, Uganda, Tanzania and Kenya. Their goals and track records are somewhat mixed.    • Lesotho: With a 100% government guarantee, Standard Lesotho Bank has been making loans to blocks of smallholder farmers since 2006. The bank has financed R105m (USD11.5m), with the government providing a 30% subsidy so farmers only pay back 70% of the loans. Mbugua says the program has had low loss ratios over the past two years. But Lesotho farmers are used to receiving subsidies they do not have to repay, so they have had to undergo education on how the basic loan process works. In addition, such a strong subsidy element will ultimately limit to how many farmers this loan product can be rolled out.    • Uganda: In 2003, the Rockefeller Foundation invested USD500,000 and gave a 50% guarantee on USD1m lent to small-scale farmers by the Centenary Rural Development Bank (CERUDEB). After five years, the generated returns exceeded the total default of USD10,400 and the bank has continued with several million in lending to the agricultural sector.    • Tanzania: AGRA partnered with the National Microfinance Bank (NMB) of Tanzania and the Financial Sector Deepening Trust (FSDT) to provide USD10m in loans to agrodealers – a slightly different focus compared to lending to farmers. AGRA took on 50% of the risk and got interest rates down from 46% typically charged by microfinance institutions to 18%. So far USD3m has been approved and the government wants to scale up the program to 53 districts. It is too early for default rates, but the FSDT has agreed to raise its share of the facility as a show of faith in the program.    • Kenya: AGRA’s partnership with Equity Bank in Kenya established a USD50m lending facility in May 2008 with a 10% loan guarantee. Equity lowered its interest rates from 18% to 12% and has rolled out about USD5m in loans over the last year, reaching 7,000 smallholder farmers in conjunction with a government subsidy programme that provides vouchers to redeem for supplies from agrodealers. In Western Kenya, the programme has contributed to a 20% increase in maize yield. But the original goal (as reported in May 2008) was to reach 2.5 million farmers with USD50m in three years. One year in, Equity has only loaned 10% of the facility (coincidentally the same amount as the loan guarantee) and reached a fraction of its target group. This could signal any number of problems: The facility began in the midst of post-election violence fallout, with many farmers driven off their land; the government has been a mess and Equity itself has had trouble recently with the Central Depository and Settlement Corporation. The bank declined to comment on the programme for this article.   • Standard Bank: The new Standard Bank facility is meant to lend USD25m to each of its four countries over three years at prime plus 3-5% to reach 750,000 farmers. That makes it smaller on a national scale than Equity’s Kenya facility, but bigger than all other similar programs. Equity’s inability to lend more than 10% of its fund in the first year may be indicative of challenges for financing of this magnitude. And the much higher loan guarantees carried by donors in other programmes mean no one knows if a commercial bank can successfully take on this much risk in lending to smallholder farmers for the first time. Standard is also going one step further: The bank plans to lower the amount of loan guarantee it receives from 20% in year-one to 10% in year-two, 5% in year-three, and finally 0% in years beyond.  Perspectives  So what are they getting out of this unprecedented gamble? “We want to make a difference in Africa. If Africa works, it works for us. If Africa fails, we’re the biggest loser because we’re the biggest bank on the continent,” says Mbugua. More importantly, Standard predicts major profits if they can get it right: “If you can crack open a way of lending to agriculture, it’s such a big field. It could be a big growth field.”  Standard’s huge USD100b portfolio, which remains liquid and underexposed to the global crisis  Africa Agenda: Global Credit Crunch and Trade Financing, means the bank can afford to take the risk of trying. But international banks without the experience, assurance or liquidity to match Standard will most likely continue to shy away from the roulette of lending to smallholder agriculture.    Share this article with others: Comments (0) Subscribe to this comment's feed Write comment Show/Hide comment form Name Email Title Comment smaller | bigger Subscribe via email (Registered users only) I have read and agree to the Terms of Usage. Add Comment