Financing Smallholder Farmers: 5 Steps For Social Enterprises Before Lending

Biogas system producer Sistema.bio hoped its planned asset-based financing program would invigorate product sales to farmers in Mexico. But when the social enterprise sought microfinance institutions to supply capital and manage lending for financing smallholder farmers, the proposed interest rates approached 120% and loan application processing time seemed lengthy.

Sistema.bio’s CEO Alexander Eaton took a deep breath and decided instead to build the company’s own loan underwriting and repayment program that could offer no interest loans that better matched its social mission. Finance Director Esther Altorfer said it’s a decision nobody regrets.

“We’ve managed to increase sales (and) we see it even now, as we are expanding, to be a key competitive advantage (compared) to other biogas companies,” said Altorfer. “Through the whole loan appraisal process we (also) get to know our customers much better.”

As more social enterprises selling products to base of pyramid consumers offer asset-based financing to drive purchases, these first-time lenders are getting a crash course in loan making and collections, especially when financing smallholder farmers.  They are finding that technology – mobile apps, cloud databases and SMS messaging  – is helping turn asset-based financing programs into a core competence.

Before outlining five key steps to creating such capacity in-house and the lessons companies have learned along the way, let’s answer a threshold question: Why offer such ancillary services in the first place?

Be it cash installment payments to purchase a waste-to-energy biodigester or pay-as-you-go mobile money transfers to buy a home solar power system, research and analysis by The World Bank Group and inclusive business consulting firm Hystra makes a compelling case for the value of consumer financing in developing countries:

“…The (consumer financing) model’s long-term significance is that companies can develop goods and services targeted at lower-income markets because consumer financing provides a way to alter the relationship between product cost and household disposable income,” according to a 2017 World Bank policy brief. “While other constraints to scaling up effective demand also need to be solved, tackling the ‘ability to pay bottleneck’ undoubtedly expands the reach into the BoP market.” (Read More)

Source: World Bank Group

Environmental Companies Adopt Consumer Financing Early

Cleantech companies like Sistema.bio (focused on financing smallholder farmers) and solar power system distributor Ilumexico, along with WASH practitioner iDE (three TaroWorks customers who use our mobile offline CRM to help manage their business), are among the early adopters of consumer financing to drive product sales. They are also making good use of mobile, cloud-based technology to help oversee lending operations.

Social enterprises can either partner with a microfinance institution or bring the loan-making and managing process in-house. While both techniques have worked, Hystra recommends the latter as it believes developing staff lending skills and a supporting technology infrastructure in the organization “can provide value to customers” as well as “increase revenues and allow (an) organization to reach more clients.”

Ciprian Panturu – Digital Finance Expert at PHB Development and a consultant for the United Nations Capital Development Fund writes “…there are indeed opportunities for asset-based financing social enterprises to partner with (some) MFIs – mainly to leverage their field presence (e.g. cross-selling products and services), and/or to make use of their banking license.” But he also sees challenges when working with less technically sophisticated MFI lenders. Ciprian has witnessed a number of MFIs with inconsistent selling skills and lengthy loan turnaround times. In such cases, he concludes that partnering with an MFI might create unnecessary friction slowing down the roll-out.

“Moreover, as MFIs move into the digital space gradually, they end up with these unmanageable ‘cards castles’ of systems from various banking software providers (BSPs), that don’t talk to each other anymore…” Ciprian writes. “Usually, they end up managing one MIS for each module (i.e., the branches on the core banking system, the agency banking channel on the agency banking platform, the mobile banking channel on the mobile network operator’s interface, the automated credit scoring on its own platform, etc.) – so in the end, having a cross-institution analysis is mission impossible.”

Five Steps To Building Asset-Based Financing Programs

Social enterprises looking to build their own, internal asset-based financing system have their work cut out for them, as well. They will need to:

• Obtain sufficient working capital to finance the loans.
• Collect and analyze data from the field to build a financial and behavioral profile of the loan recipient.
• Employ methodology to determine the borrower’s creditworthiness, which can range from more established credit scoring options to algorithmically driven “alternative data” credit scoring systems.
• Develop in-house risk assessment skills – either by training existing staff on loan underwriting and portfolio management or hiring people with prior experience.
• Build systems to not only collect and analyze data but to monitor loan performance, facilitate timely repayment, manage field staff and strengthen customer relationships.

Financing Smallerholder Farmers Can Drive Sales

Sistema.bio, which manufactures, sells, installs and services a hybrid reactor biodigester that transforms animal manure at small farms into biogas for clean cooking and a nutrient-rich organic fertilizer, began financing smallholder farmers in 2012. After a cash down payment, Sistema.bio installs the unit at the farm and then customers start reaping the benefits of the installed equipment (mostly savings). Customers however do not own the biodigester unit until completing 100% of subsequent installment payments. The goal is to incentivize small subsistence farmers to invest in an energy and fertilizer producing unit that will generate enough savings to repay its cost (around $800) within 18 to 24 months.

Biodigester in use on a farm. Source: Sistema.bio

When Sistema.bio decided not to pursue MFI funding due to high interest rates and lengthy loan turnaround times, it partnered instead with the crowdsourced funding platform Kiva, which to date has provided more than $590,000 in no-interest loans to over 600 farmers and lending guidance that Sistema.bio’s Altorfer said accommodated her company’s social mission. Sistema.bio was an early participant in a since completed pilot program Kiva established to support non-MFIs, or social enterprises whose business model is not based on credit, said Wesley Schrock, Kiva’s Portfolio Manager for Latin America. Kiva still provides such loans.

“Historically, (non-MFIs) have a much worse repayment rate than our MFIs,” said Schrock, who has worked with Sistema.bio to fine tune its lending operations. He believes it is an example of how the “professionalization of their credit process” can “help the organization expand and grow and access market rate capital.”

Altorfer, who came to the company with a background in finance and banking, said the organization’s learning curve for financing smallholder farmers has been steep but the benefits have also been substantial.

Mobile and Cloud Technology Can Support Lending

As the loan program grew, Sistema.bio faced the challenge of how to enhance and expand operations by developing a solid methodology to assess creditworthiness and using the results to make loan decisions in real-time – so as not to slow its product sales momentum. It also needed a way to monitor the status and health of its loan portfolio and make this information simultaneously available to multiple team members to quickly identify potentially delinquent borrowers.

Sistema.bio had already been using TaroWorks’ mobile data collection and analysis app and offline CRM capabilities, which are integrated into Salesforce.com’s CRM, to collect and analyze data in hopes of improving biodigester sales, product installation, maintenance and other field operations. To help strengthen its lending operations, Sistema.bio harnessed these same tools to:

• Build a Credit Scoring System: The methodology is based on 20 factors collected on mobile devices by field staff who are already interacting with potential customers to determine their biodigester needs. Scoring factors include quantitative metrics like sources and cycles of revenue and expenses as well as qualitative measures including the health of the farmer’s animals and the cleanliness of the farm. These details allow Sistema.bio to tailor a payment plan to each farmer’s ability to pay.
• Develop Loan Data Dashboards: Once data is uploaded from the field, Sistema.bio checks online, real time dashboards it created to gauge overall loan portfolio health – like total principal outstanding, delinquency rates and credit dollars as a percentage of total sales. Individual loan performance is also assessed by tracking the number of days before the next payment is due and the farmer’s payment method. Using their cloud database and mobile app’s ability to transmit data to and from the field, Sistema.bio enlisted their field technicians’ help with loan repayments by giving them current loan status information on their devices, which they use to remind the farmer, in-person, when the next payment is due.
• Deploy Performance Management Tools: Using an SMS system, Sistema.bio’s credit coordinator can simultaneously send personalized payment reminders to multiple customers with the same payment due dates. With TaroWorks’ field staff management functionality, Sistema.bio can also set performance goals for their sales team (like number of farmers visited each week) and show progress against those goals to both the seller and her manager.

Gathering credit scoring data in the field. Source: Sistema.bio

Sistema.bio has employed loan best practices, staff training and mobile technology to make significant progress financing smallholder farmers – from a time when they had no formal process for loan screening and origination. As a result, the percent of its loan portfolio that is on time increased from 64% to 73% within five weeks of several major process changes. Delinquency rates on new loans have dropped from at least 30% by the end of 2015 to zero as of Q3 2017.

Financing Smallholder Farmers: Lessons Learned

With years of experience under its belt, Sistema.bio has teamed up with organizations dedicated to providing asset-based financing in Kenya and will conduct a trial of how an external partner might offer financing through a program similar to that now run by Sistema.bio – in hopes of complementing the in-house program and helping it scale.

Altorfer said Sistema.bio has learned a number of lessons that will help the company as it expands  financing smallholder farmers in Mexico, Kenya and Nicaragua:

• Understand Sellers’s Methods: Before developing an asset-based financing program, spend time with field staff to understand how your team is assessing each potential customer through the sales process. “What we realized …was that our sales agents in the team…had an internal checklist in their head….(a) subjective way to already screen the clients” for creditworthiness, said Altorfer. “Most of the work we did was trying to put words, criteria and scores on what they were already doing.”
• Don’t Scrimp on Training: If Altorfer could do things over again, “We probably would have spent some more time training people” on the technology. “In the beginning, some adopted fast and others were struggling” resulting in incomplete data collection that initially hampered credit scoring, she said.
• Sweat the Legalese: Altorfer advises making sure your original customer contracts and other related legal documentation accurately reflect the new asset-based financing program. She also recommends that loan terms and policies be easily accessible to team members and customers through your CRM or MIS platform.

What does Altorfer see as some of Sistema.bio’s remaining challenges financing smallholder farmers?

“One of the challenges has been continuing to not operate as a traditional MFI but trying to really use our empathy-driven sales method to …. basically lend and provide financing to our clients by taking only the best practices…in the way that lending is traditionally made. We haven’t rejected any loan to date…We know that our digester is generating savings (for customers). We know the client has the capacity to pay us. We just have to gather the right data to determine what structure makes sense for them to repay us.”

Consumer Financing Resources

• An Introduction to Digital Credit: Resources to Plan a Deployment (Microfinance Gateway)
• Microfinance Credit and Operational Risk Management Tool Guides (Microfinance Gateway)
• Consumer Financing Commercialization Toolkit (PATH)

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