INNOVATIONS IN RURAL AND AGRICULTURE FINANCE


Bundling Development Services with Agricultural Finance: The Experience of DrumNet JONATHAN CAMPAIGNE AND TOM RAUSCH


FOCUS 18 • BRIEF 14 • JULY 2010 A


griculture is the largest economic sector in most African countries and remains the best opportunity for economic


growth and poverty alleviation on the continent. Yet, sadly, the sector has been in decline over the past 40 years, and poor farmers have largely remained poor. This failure is due to many factors, including collapsed agricultural development banks, corruption, inadequate infrastructure, and poor soils and seeds. It has also occurred because smallholder farmers lack access to critical information, market facilitation, and financial intermediation services. This brief reviews the DrumNet Project and its approach to


improving farmers’ access to finance in Kenya. The project has found that financing small-scale farmers is challenging given the cost and risk associated with serving rural, relatively isolated clients. Lending becomes increasingly feasible, however, in a supply-chain approach in which farmers are connected to a formal network of buyers, retailers, and financiers.


The DrumNet Project


Financing farmers is a difficult proposition in Africa. African farmers tend to be geographically dispersed, resource poor, and undereducated—all traits that amplify the costs and risks involved with lending. Other characteristics related to the agricultural sector, such as unpredictable weather patterns, long crop cycles, irregular market access, and volatile or high farm input costs, make the proposition even more unappealing to financial institutions. Consequently, agricultural lending constitutes less than 1 percent of the commercial lending taking place on the continent. The DrumNet Project has operated in Kenya since 2005


and employs proven microfinance principals and a supply-chain approach to promote agricultural lending (Figure 1). The project establishes relationships with key actors along a supply chain—a buyer, a bank, and several farm input retailers—and links them to smallholder farmers through a dedicated transaction platform and a fully integrated finance, production, delivery, and payment process. The targeted use of information and communication technologies


Figure 1—DrumNet farm input loan and payment flow Bank Farm group


Input retailer


Buyer


(ICTs) across the platform makes the process efficient, cost-effective, and practical in the African context. The process begins when farmers (organized into farmer


groups) sign a fixed-price purchase contract with an agricultural buyer. The contract allows farmers to approach a partner bank, obtain credit, and get farming inputs from a local, certified retailer. At harvest, the contracted produce is collected, graded, and sold to the buyer at designated collection points. A successful transaction triggers a cashless payment through a bank transfer. DrumNet serves as the intermediary in the flow of payment to ensure that credit is repaid before earnings reach farmers’ accounts. A master contract governs the entire process, and DrumNet’s information technology (IT) system monitors compliance. The process creates an enabling environment for agricultural


finance in several ways. First, banks are assured at the time of lending that farmers have a market for their produce and the means to adequately serve that market—two building blocks of a healthy revenue stream. Second, banks minimize the problem of loan diversion by offering in-kind credit to farmers for inputs and directly paying certified (and monitored) input retailers after distribution of the inputs. Finally, cashless payment through bank transfers reduces strategic default, since farmers cannot obtain revenue until their outstanding loans are fully repaid. DrumNet has piloted its approach in Kenya’s horticultural and oilseed sectors, serving more than 3,000 farmers across five provinces.


Lessons learned, challenges faced Since its start in 2005, the DrumNet Project has learned many lessons and undergone continual testing and redesign. DrumNet has found that by bundling services at various stages in the supply chain, its approach can enhance efficiency and build trust between actors in the chain. Together, that efficiency and trust help resolve many of the problems that historically discourage smallholder financing. At the same time, DrumNet has encountered many challenges during implementation, particularly related to partner noncompliance and poor agricultural yields. In both situations, the outcome has been a substantial number of farmer loan defaults that eroded the interest of DrumNet’s crop-buying partner and the goodwill of its banking partner. These remaining challenges show that the package of services must be adjusted and enhanced as the project moves forward.


Partner noncompliance


Flow of produce payment Flow of farm inputs Flow of farm input loan


Source: Authors.


For this approach to function properly, each supply-chain partner must abide by an established set of procedures and rules. Therefore, supply-chain actors must find value in and benefit from the arrangement at all times. In theory, this is the case. Farmers get to produce goods under structured agreements and obtain inputs that help them boost farm productivity. The buyer receives greater quantities of higher-quality product with limited field mobilization. Input retailers realize increased sales without taking on the burden


FOR FOOD, AGRICULTURE, AND THE ENVIRONMENT


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