A study on derisking fertilizer finance, conducted by Dalberg found the following issues, and makes recommendations to address them. Read the full report here and the Executive Summary below listing the main issues and proposed interventions. Issues Fertilizer financing issues affect local blenders, distributors, and smallholder farmers. Producers and large importers receive competitive financing from […]
A study on derisking fertilizer finance, conducted by Dalberg found the following issues, and makes recommendations to address them.
Read the full report here and the Executive Summary below listing the main issues and proposed interventions.
Issues
- Fertilizer financing issues affect local blenders, distributors, and smallholder farmers. Producers and large importers receive competitive financing from banks. However, access to hard currency and currency depreciation are problematic. Local blenders and distributors are subject to expensive debt with tenuous processes from financial institutions (FIs). Working capital is an issue and many lack assets and equity to secure bank credit; hence, they primarily rely on the suppliers (producers) to extend credit. At the end of the chain, retailers and smallholder farmers have the least access to financing and will often rely on savings and informal channels.
- Five critical risks underlie these challenges, limiting lending and contributing significantly to the financing gap in the fertilizer value chain.
- Business model risk – Lenders note that the high costs associated with reaching, assessing, disbursing, and monitoring loans, and subsequently, the low profitability frequently restrict lending to underserved and unprofitable segments such as rural smallholder farmers
- Credit risk – Delayed or denied payments by borrowers such as distributors and agro-dealers often limit lenders from engaging in this market
- Sovereign risk – Payment delays and market distortion caused by governments participating directly in the market often impact the market’s competitiveness and, subsequently, the attractiveness of lenders to engage VC actors
- Currency risk – Typically affects the suppliers who sell products in unstable local currencies, affecting their cashflows and the likelihood of lenders providing financing
- Commodity risk – Fluctuation of input and output prices leads to cashflow concerns that adversely affect financing opportunities
- Existing solutions do not sufficiently incentivize lending to new, riskier borrowers
- Ecosystem actors have created initiatives such as the African Fertilizer Financing Mechanism (AFFM) and the African Fertilizer and Agribusiness Partnership (AFAP) Trade Credit Guarantee (TCG) , which provide guarantees to catalyze the flow of supply credit in the fertilizer industry. These guarantees typically cover up to 50% of the losses suppliers incur if a borrower defaults (credit risk), limiting adverse financial impacts and making it more feasible to extend credit.
- To date, these initiatives have had a notable impact. The AFFM catalyzed USD 30.5 Mn of supplier credit in Nigeria and Tanzania, respectively. Furthermore, AFAP catalyzed a further USD 26 Mn in Tanzania.
- While these initiatives have made measurable impacts in various African countries, the structures of these mechanisms make it easier for established players to access them, excluding less established actors. This results from the current value chain dynamics where suppliers are more inclined to extend credit to borrowers they are already familiar with, perceiving the guarantees as partial insurance. While effective in reducing losses associated with lending, this approach does not sufficiently incentivize lending to new, riskier borrowers.
- Non-bank financers may have the financing ability (balance sheet capacity etc.) but lack the staff, systems and experience to implement lending programmes for farmers and agrodealers.
Proposed interventions
- Intervention 1 proposes modifying the trade design from a 50% pari passu[1] arrangement to a structure that includes first-loss coverage, origination incentives, and impact bonuses (FLOII). These design changes can provide additional coverage for initial portfolio losses while incentivizing suppliers to reach underserved, high-impact segments such as women-owned businesses. Additionally, currency compensations and conditional agreements can be incorporated into the design, providing additional coverage to currency and sovereign risk challenges impacting the industry.
- Two variants within Intervention 1 involve a revolving fund that deploys financing either to blenders and large-scale distributors who, in turn, extend credit to agro-dealers and farmers or to farmer organisations, traders and aggregators in a full value-chain approach
- Intervention 2 is a Project Preparation Facility (PPF) tied to local currency finance can be a gateway to enhance local production and blending of fertilizers. The PPF can help accredited entities/investors prepare full proposals based on a concept note cleared for project preparation support. If a viable case exists, the PPF connects investors with financial institutions that provide local currency financing, which mitigates currency/FOREX risks. The PPF could also include provisions requiring accredited entities and investors to meet specific local and regional supply targets, mitigating the risk of exclusively exporting fertilizer to international markets.
[1] Pari passu means security interest that gives lenders an equal claim on the borrowers’ assets.
