We need a decent conversation about the role of collateral in African Agriculture
Lack of collateral in African agriculture has become a perennial problem. While the rest of the world is now recognizing intangible assets like knowledge as the highest form of capital and collateral, African financial institutions are still interested in tangible collateral such as immovable and to a lesser extent immovable property. This is in spite of the fact that most tangible forms of collateral are not directly linked to agribusiness. On the other hand, intangible assets such as experience in a specific line of agribusiness, knowledge, passion, skills and a whole range of personal attributes are directly linked to agriculture as a business.
At least, 70% of commodities sold in informal markets like Mbare in Harare are produced through intangible collateral. With tangible collateral accounting for less than 30% of commodities in the market, there is need for financial institutions to revisit their notion of collateral. Perhaps it is now ideal to consider factors surrounding the success of a particular farming enterprise as opposed to looking at assets outside a farmer’s line of business. As shown in the graphics below, commodities worth US$9.8 million were supplied in Mbare Farmers Market from January to June. At least 70% of this value was produced without any tangible collateral.
Table 1: Revenue by Produce class
Table 2: Revenue by Province
Chart 1: Revenue by province
The above graphics show the collective performance of Mbare farmers’ market during the first six months of 2015. Breaking down this information to wards and districts where the commodities came from indicates that the form of collateral in most of the commodity sources were purely intangible.
How financial institutions and farmers can find each other around the collateral issue
While the 30% of commodities attributed to tangible collateral is quite significant, financial institutions have to think seriously about the wisdom of recognizing intangible assets which are feeding more people. The warehouse receipt system which the Bankers Association of Zimbabwe has been suggesting as a solution is not as powerful as understanding market dynamics in the people’s market. The warehouse receipt system works where commodities are not moving fast. In the people’s market commodities are always in transit and there is not time you can find the market empty. Surely this convening power of the market should be considered collateral enough. As part of recognizing commodity performance on the, market banks can simply ask a farmer to provide demand projections from a particular market for a commodity the farmer is borrowing money to produce. Price elasticity can be a key determinant informing the bank in terms of how much a farmer should borrow. Real time trends on a fluid market are a more reliable collateral than contractual agreements with a buyer who may limited means of controlling the market.
Looking at factors surrounding the success of a particular farming business
Rather than touching assets outside agriculture, another option for banks is examining factors surrounding the success of a particular farming business. The bank can take into account a farmer’s production capacity, market participation and trends in the market. Some farmers have been farming for generations but have no collateral due to macro-economic and policy issues outside their control. Most farmers have knowledge but lack collateral while those with collateral (mostly urban dwellers) are not interested in agriculture. Because they lack title deeds, smallholder farmers and youth as well as graduates from agricultural colleges tend to be excluded from agricultural support although they may have tons of passion. Where banks are keen to control a farmer’s mind set, they can insist on a percentage of a loan going towards capacity building, mentorship or face to face hands-on skills transfer. This can be a precondition for accessing a loan.
Passion and appetite for risk as a form of collateral
Passion and risk taking should be considered important collateral indicators in agricultural financing. Insisting on tangible collateral is an urban approach to agriculture since it is well known that only people in urban areas have title deeds while those in rural areas and growth points do not have title deeds. Banks should not hedge against natural risks such as drought but delinquency. It is not wise to overburden a farmer with climate –related parameters that are beyond his or her control. Farmers are not fortune tellers who can foretell the season ahead of them. Let’s come up with other ways of collateral such as strong relationships and networks. The network era in which we are living shows that networks are becoming important forms of collateral. While one may not mind losing tangible property, she or he would not want to be ejected from a network due to delinquency.
Within a network of farmers in a particular community, extension agents and agro-dealers can be engaged by financial institutions and other value chain actors to monitor use of inputs as well as outputs (harvests) from farmers. This will be a sustainable path to loan repayment and trust building. Given that properties in urban areas are the only ones with title deeds accepted by banks, insisting on tangible collateral reinforces inequalities between urban and rural enterprises. Such inequalities erode trust between financial institutions and rural farmers who will always think financial institutions are biased towards urban businesses.
A farmer’s clientele base and relationships as collateral
How much a farmer has invested in building a clientele base either formal or informal is an important form of collateral. A clientele base and relationships constitute a ready market. Due to a strong clientele base and sound relationships, a farmer may not need to do much in terms of market research. She or he already knows customer specifications, preferences, capacity, etc. For example, farmers who frequent the market all year round know what to produce, when and for whom. Unfortunately such information is not recognized as collateral by financial institutions.
The importance of risk sharing
There doesn’t seem to be plausible risk-sharing models when it comes to uncertainties around which factors a farmer or bank has no control. While accepting business plans and cash flow projections is a way of slightly recognizing intangible collateral, insisting on tangible collateral without looking at other factors is like pushing all the risk to the farmer. There are external factors like a sudden increase in input costs or shortage of Ammonium Nitrate. These are external factors which banks don’t consider but affect a farmer who will have already pledged his or her tangible asset. If uncertainties are taken into account, some forms of collateral become valueless. Banks should focus on those factors a farmer can control. In most cases these are intangible.
The role of references and associations
From production right up to the market, working with references can be a smart way of collateral. On the production side, extension agents and local communities (local leaders) can write reference letters for farmers. On the market side, instead of forcing the farmer to get future contracts, banks can consider a farmer’s previous relationships and supplies (market performance). Intermediaries working in the market or market committees can provide such a reference. Although banks are still interested in future contracts, these are shunned by farmers because they bind a farmer to non-participation in other markets. They can also suppress market forces that might lead to a win –win situation for a farmer, a bank or both. Through commodity associations, farmers should access loans as a group. This arrangement can be more beneficial because farmers share knowledge from production all the way to collective marketing. All this can be done without future contracts. Farmers can be allowed to enjoy economies of scale by supplying either the formal or informal market.
Long term loan facility
Banks should seriously consider a long-term facility (2 – 5 years). For most farmers, one season is too short to get a loan, repay and remain with enough capital to cover the same hectares in the coming season. In such a situation, a long-term loan can be ideal and collateral should be lower in terms of the value of the loan. The loan has to be allowed to bear its own return during the loan tenure. A smallholder farmer cannot guarantee a $1000 loan with 5 cattle within a season because if drought strikes the farmer losses everything. However, the same farmer is comfortable guaranteeing a $1000 loan repaid in 2 – 5 years with one beast because within the same period, the beast will have produced three or four calves. But if you take a house, within a short space of time it can’t appreciate in value within 12 months for a farmer to be able to sell it, cover the loan and buy the same house. Again, the house is a tangible asset not linked to business performance. Cattle can see a farmer using a beast as collateral while enjoy other benefits like milk, manure and draught power in the process.
Collective knowledge as collateral
In any given community there is access to information and knowledge on the micro-climate, information from research institutes, NGOs and other government departments like extension agents and the Met Office. These can inform banks in terms of other external risk factors and opportunities in a particular community. This knowledge system is important for decision making by banks. In most cases banks do not pay for this knowledge which can accurately pinpoint chances of success when investing in a particular farming community. All this knowledge is part of intangible collateral that financial institutions should take into account.
Tripartite business models: farmer – banker – input supplier / agro-dealer.
These models can assist a financial institution in assessing a farmer’s capacity to produce and repay loans. The bank can provide money to the input supplier who then extends inputs to the farmer. When the farmer produces and sells, s/he repays the input supplier who pays back to the bank.
Revolving fund at community level and financial literacy
Banks can also engage in a revolving fund with a community where repayment is reinforced by peer pressure. Farmers have a way of encouraging each other to repay so that they continue receiving loans. Ownership of the loan management and repayment process at community level can be very empowering for communities who will want to see the facility continue. Regarding financial literacy, banks should not just wait for loan repayments. Farmers need back up services on how to manage loans before they receive the money. Intermediaries can facilitate this process.
Creating another facility to support the value chain
There is a danger of injecting US$1 billion into agricultural production when the market (demand-side) has no capital or purchasing power. Institutional buyers cannot be expected to offer buying contracts to farmers when they (buyers) don’t have capital. An environmental scan towards understanding the demand side is very important before dishing inputs to farmers.
Linking loan beneficiaries (farmers) to the market
Farmers can be linked so that they understand market trends, market-based production calendars, standards, specifications as well as creating relationships with the market/traders. This is another form of intangible collateral. Evidence from eMKambo shows that informal markets have their own informal contractual agreements with some traders providing inputs to farmers and then sharing proceeds after selling. Traders are knowledgeable about market performance and have also established their own niches. This mechanism ensures farmers produce what is demanded by the market. A related model is where a farmer gives commodities to a trader for sale on commission. All these models are intangible collateral which cannot be turned into formal contracts.
For any agribusiness growth, 70% is attributable to intangible factors that represent a powerful form of collateral. The remaining 30% is attributable to tangible factors like a house which, unfortunately, can be swallowed up when the 70% is missing. If a farming business is worth $10 000 but a farmer wants to borrow $2000, he or she is saying: “ I will provide intangible collateral worth $8000”. By insisting on title deeds, banks are reinforcing the strangle-hold of agriculture by the middle and upper classes which have title deeds and other privileges. Smallholder farmers, women and youth who do not have these assets are condemned to poverty. Their own forms of collateral, mainly intangible, should be taken seriously. Non-performing loans have been caused by those with title deeds. Perhaps it is time for serious introspection by the financial industry in African countries like Zimbabwe!
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