FinDev Blog

Why Smallholder Finance Isn’t Getting the Investment It Needs

And what financial service providers and investors can do about it
Repayment in Kasosi, Kenya. Photo by Hailey Tucker, One Acre Fund.

The financial inclusion sector is failing to meet the needs of the world’s poorest. About two-thirds of the World’s poor are farmers, yet only a quarter of their estimated $200 billion financing needs are currently being met by financial service providers (FSPs).

Additionally, agricultural growth is one of the most powerful tools to help end poverty: growth in the agricultural sector is two to four times more effective in raising incomes among the poorest compared to other sectors.

Although financial inclusion continues to grow at a global level, it is doing so more slowly than before. About 1.7 billion adults remained unbanked in 2017, many of them farmers.

For these reasons, we believe smallholder finance (SHF) represents the biggest opportunity for scale and impact in financial inclusion today. To make a lasting impact on poverty, financial service providers (FSPs) must pioneer services and explore new markets to meet the needs of smallholder farmers.

There are a number of broad challenges facing SHF, such as integrating services along the value chain, building partnerships, and managing weather risk. However, the need for more innovative financing to support product development and scale is the most critical and will be our focus for this blog.

The lack of suitable investment options is holding back smallholder finance growth and impact.

FSPs serving the smallholder segment are struggling to expand their reach and reduce the financing gap due to limited availability of appropriately priced and structured capital. The price, risk evaluation and structure of debt funding currently available often does not align with the costs and realities of rural expansion. This prevents FSPs from expanding SHF and disproportionately excludes smallholder​ ​farmers​ ​from​ ​access​ ​to​ ​financing​ ​that​ ​could​ ​improve​ ​their​ ​lives.

Investors are missing out on one of the greatest impact opportunities in financial inclusion today.

As a coalition of smallholder finance practitioners, Propagate members often provide additional, non-financial services that enhance productivity, increase farmer sales prices or reduce risk, from improved seeds to crop insurance. However, on core financing, we have identified two common challenges faced by FSPs.

First of all, funding is not available in local currency, and major financial inclusion investors neither wish to take on currency risk, nor provide effective and innovative means of helping to open up local markets. Furthermore, currency hedging is prohibitively expensive. As a result, FSPs are disincentivized from investing in smallholder finance, in favor of higher returns on larger transactions and proven, traditional lending models and urban areas.

Second of all, the structure of funding (e.g. tenor, repayment frequency, collateral and loan covenants) is not aligned with the realities of agricultural lending, and continues to be focused on ‘traditional’ microfinance models providing short term debt to peri-urban client segments. This may be driven by investor restrictions to FSPs on portfolio exposure to smallholder farmers or the type of term and covenants deemed acceptable.

By overlooking investment opportunities in smallholder finance in favor of serving less risky client segments that are easier to reach, investors are missing out on one of the greatest impact opportunities in financial inclusion today.

Why is there a deficiency in investor funding for smallholder financing?

The Propagate Coalition has identified three reasons behind these challenges:

  1. Perception of risk - Any agricultural lending entails risk, but in Africa risks can be higher because of climate variables.
  2. Need to support scalable models - Another challenge for investors is that they are seeking programs that will serve large numbers of smallholder farmers and that are rapidly scalable. There is a chicken-and-egg situation here where scalability for the FSPs is partly dependent on having access to appropriate long-term financing. 
  3. Need to demonstrate impact – Investors are also looking for programs that can show impact; however, to date the main focus for SHF product development has been on reaching scale, without sufficient focus on measuring and showing the impact of smallholder financing. FSPs lack opportunities and patient capital (another chicken-and-egg situation!) to test, innovate and prove the impact of SHF products and services, in order to build a strong impact narrative which attracts investment for the right reasons.

What can be done about it?

At the Propagate Coalition, here’s what we think needs to be done:

  1. More funds - We believe there is a need for more intermediary funds and innovative blended capital investments. For example, smallholder-focused investment funds supported with substantial philanthropic capital to help underwrite foreign exchange risk, or to improve liquidity of local currency investments through genuinely effective guarantees, could have a significant impact on FSPs, and ultimately, farmers.
  2. More and better data - The Propagate coalition members also support the improvement of the quality, availability and transparency of SHF data. There are three key types of data that can unlock market growth: demand, supply and impact. Existing initiatives have focused primarily on demand-side data, and there is now a growing body of impact data.

    However, there remains a gap in the availability of supply-side data, and there is limited access to operationally useful information on SHF product development. The Smallholder Finance Product Explorer, a MIX initiative, aims to address this barrier by catalyzing the development of impactful smallholder finance products across hundreds of financial service providers and helping funders to identify new and innovative providers of smallholder finance to improve capital flows. Propagate members are all submitting data to MIX Market, and supporting the Smallholder Finance Product Explorer.
  3. Risk mitigation – Many organizations, including Propagate members, are piloting risk mitigation approaches with partners that bring the risks down considerably. FSPs need to continue the testing and evidencing of approaches that mitigate risk and lenders need to be prepared to have some element of risk share alongside the FSPs.
  4. Better communication - As smallholder finance practitioners with strong relationships with investors, Propagate members are also willing to reinforce the communication between FSPs and investors. We believe that, by increasing the quantity and quality of feedback, FSPs could influence the creation of better lending structures for smallholder investment.

    As a first step, we are inviting the investor community to share their thoughts and respond directly to this blog post. Join the debate by contributing to the comments section below.


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Tatiana Mata
09 April 2019

As a woman agrienterpreneur that owns two rural inputs and service shops in northern Mozambique. Despite our initial and current investments to serve almos 30.000 previously underserved smallholder farmers, who today have access to certified seeds, agrochemicals, free extension services, insurance for their maze and sesame crops and a secure market for these crops, for us, finding finance partners is difficult. Commercial finance is out of question with interest around 20-26%.
The most appaulling are the donor and development organizations with grants that are supposed to be financing interventions like ours. We hire youth and women as agriculture extension officers. We want to expand to other areas using a franchise system. Yet these programs find us too small, too risky.
They are looking at risk in the traditional way.
They are looking for no risk investments
They are looking for foreign investors expanding locally
They are looking for large businesses above $1M of matching grant.
Bottom line, they are not looking for local entrepreneurs wantin to find local sustainable solutions to help farmers increase productivity from 500kg to 1.3T per hectare or insure crops to reduce the risk of climate change events like Cyclobe IDAI that recently affected Mozambique.
It’s all about the big $$$$ not about the social impact that will eventually lead to the $$$. This takes time and they don’t have time for it. Results need to be shown within 6 months and the projects are 3 years so, rather look for those they can leverage already invested capital and claim attribution for what they didn’t do.
Therefore, we don’t need more money, we need it to be better invested and adjust the eligibility criteria to the local context.

Hedwig Siewertsen
26 April 2019

Hi Tatiana, Where are you working? AGRA invests a lot of funds in agro dealer development in Northern Mozambique, are we not reaching you?

Ascanio Graziosi
10 April 2019

The three identified risks are part of the problem and don't mention the managerial capability on production and marketing, which can be sorted out with ad-hoc interventions accelerators, a truly support from farmers associations, etc. ; besides, the risks connected to the unpredictable weather could be overcome with the crop insurance and other schemes well-known in Africa. Moreover, there is the investors' prejudice about the farmers' unreliability to face the repayment schedule.
Once above deficiencies have been mitigated, the need for more funding could met; in our book we have, among other issues, made a proposal to face both managerial and financing challenges: POVERTY – An Alternative Paradigm: MOVING FROM CREDIT-BASED ECONOMY to COMMUNITY BASED ECONOMY…

Mike Warmington
17 April 2019

If I'm understanding you correctly, you're suggesting that improvements to the underlying agricultural productivity and marketing are also required. I'd completely agree with this - and point to the type of bundled service One Acre Fund has pioneered as a good example of addressing those challenges. However, I still believe investors perception of the risks (one of the challenges we identify above) is inaccurate and underestimate farmers' capacity. Particularly so when its coupled with the types of services you're rightly advocating.

Bruce Cameron
15 April 2019

I believe the article is spot on and we need more strategic partners focusing in on these points. The points on FX are spot on. The only two nuance points I would add are the importance of the charge that MacArthur Foundation is leading on the nuance of catalytic capital within the overall blended capital arena. And I would also emphasize the importance of mobile and digital tech, including mobile money and capture of geodata incorporation into the strategic approaches to sustainable solutions targeted for small holder servicing.
- Bruce Cameron, Director of Agriculture and Project Finance at Overseas Private Investment Corporation (OPIC)

Simon Calvert
15 April 2019

I fully agree with the dual challenges identified of the lack of local currency financing and inappropriate structure of lending to the smallholder agriculture sector.
On local currency there are some strong approaches (like that of the TCX Fund) which have begun to address the lack of local currency financing in emerging and frontier markets - we should build on and extend these models to support funding to the farmer finance market.
On lending structures, it would be good to see more models which promote lending to agricultural SMEs and emerging commercial smallholders - adopting a more targeted approach to smallholder lending that focuses on farmers that have (or can) step up to meet the demands of commercial markets and accepting that not everyone's financing needs can be sustainably met. These small agriculture businesses play an important role in driving productivity and inclusive growth and recent research has shown that lending to the sector can be commercially sustainable under the right conditions. These models can improve the structure of funding provided through improved data on borrower characteristics, improved borrower collateral (e.g. through geo-mapping and land registration) and greater transparency on the potential commercial returns from investing in this sector.
- Simon Calvert, Senior Commercial Agriculture Adviser at Department for International Development (DFID)

Harry Davies
15 April 2019

Investment opportunities in smallholder finance are often overlooked by impact investors in favour of serving less risky client segments that are easier and currently more profitable to reach. Despite the twin challenges of high transaction costs operating in rural areas and high risks in the agricultural sector, the prevalence of smallholder farming as the predominant activity for 450m farming families globally means mobilising more resources is essential if we are to effectively deploy market-based mechanisms which can benefit some of the world's most underserved populations. There is a need to fund innovation that can reduce both costs and risk in smallholder finance, but also to replicate existing success stories of smallholder finance by Propagate members and others. Alongside increased smallholder investment, complimentary increases in investment in agricultural SMEs will further enable improved access to valuable goods, services and markets for smallholder producers.
- Harry Davies, Manager of Program Investments at Ceniarth

Hedwig Siewertsen
26 April 2019

Hi Mike, thanks for this blog and Simon for the valuable comment.
I would like to focus on staples and make a distinction between farmers that produce for a known market and farmers that do not. For the second category, AGRA focuses on making farmers more resilient to shocks (market, income, weather). Giving farmers credit is in that case not part of the priorities because a crop or market failure will mean over-indebtedness and farmers becoming more vulnerable. Instead we have focused on improving uptake of insurance against weather hazards, digital payments to reduce risk of using cash, more rural touch points (agency banking, mobile money agents) to reduce cost of financial services delivery and prepayment or lay away schemes to help farmers manage their cash flows better.
For farmers that do produce for a known market we look much more at how the SMEs that benefit from that market can partake in the risk and costs of producing crops. SMEs like seed and fertilizer companies, input dealers, aggregators and processors all have an interest in crops being produced. So they should carry part of the risk of financing that crop production. If risks of crop production is shared only between a smallholder farmer and a financial institution, the economics will never work : agricultural production is too high risk - low margin business so we need all actors along the value chain to share costs and risks to produce the crops that are essential to their businesses. Green grocers, maize millers, input dealers, fertilizer companies, they are all out of business if there is no agricultural production, so let them co-invest in the value chain alongside farmers and financial institutions.
This idea is not new and already happening but I often see too much focus on getting finance to farmers while I think farmers need inputs and markets which come from SMEs. So my take is more focus on agri-SME finance, risk sharing among value chain actors and understanding of the agricultural sector by financiers.

Mike Warmington
13 May 2019

Hi Hedwig - thanks for joining the conversation!
Yes, great point on the risk sharing with other actors in the value chain. I think this carries not just for SME financing, but can work well for direct-to-farmer lending as well. I've seen examples in tight value chains (e.g. cocoa) being tested, but would be great to see more in staples too.
In terms of increasing the flow of capital into smallholder finance, this is certainly a source of capital and risk sharing that should be explored more ambitiously!

Clement Munsele Nsandula
07 May 2019

How can we implement and finance self- reliance on developing economies?

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