Table of Contents

I. INTRODUCTION

II. THE ISSUE OF COLLATERAL

III. THE PROBLEM OF HIGH INTEREST RATES

IV. PERCEIVED RISKS OF AQUACULTURE VENTURES

V. THE ISSUE OF LACK OF KNOWLEDGE ON LOAN SEEKING

VI. CONCLUSION

VII. ACTION BY THE CONSULTATION

I. INTRODUCTION

1. Evidence has shown that a combination of factors block aquaculture development in sub-Saharan Africa. The main ones include absence or inaccessibility of capital, high cost of money, limited direct domestic and foreign investment in commercial aquaculture, lack of access to good quality feed, poor quantity and quality of seed production, inadequate extension services and training, unclear user rights or unavailability of suitable land in some countries, lack of or unclear policies for the development of business oriented aquaculture and lack of legislation specifically for aquaculture in most sub-Saharan Africa countries.

2. The policies aimed at addressing these problems are discussed in separate documents, except that of difficult access to capital, which is the focus of this paper. While the issue of capital seems, in a sense, outside that of aquaculture, it constitutes such a major impediment to the development of commercial aquaculture in the region that this paper is specifically devoted to the topic.

3. Entrepreneurs are often unable to raise the finance necessary to establish a commercial aquaculture business because of the lack of adequate collateral for the loans, prohibitively high interest rates being charged for loans, bankers' perceptions that commercial aquaculture carries a particularly high risk of failure and a lack of knowledge, on the part of farmers, of the modalities of approaching financial institutions for a loan.

II. THE ISSUE OF COLLATERAL

4. Collateral plays a central role in the lending function of banks in the formal sector. It is a well-established and sound mechanism for providing the lender with a form of guarantee that the borrower will not default on repayment of the loan and the interest it accrues. By offering collateral, the borrower risks the seizure and sale of property if he or she fails to repay the loan. The risk to the lender is thus reduced. The availability of collateral thus plays a major role in determining both the amount that a bank is willing to lend and the interest rates at which it might be lent.

5. If there is adequate collateral to cover the full extent of the loan, then the effect of the collateral is to shift much of the risk that the bank might otherwise have to carry to the borrower. The smaller the collateral, the greater the risk to the lender and the higher will be the interest rate charged by the bank.

6. A common difficulty faced by entrepreneurs, in sub-Saharan Africa, interested in seeking a loan for establishing an aquaculture business, is that they are unable to provide the collateral required by the banks. This may be because they simply do not have anything that they could offer as collateral or they may have assets that have a value but which the bank would have difficulty accepting as collateral. In both cases banks have tended to reject loan applications that are not accompanied by the offer of collateral acceptable to them.

7. Several strategies for alleviating the problem of collateral exist:

8. No collateral - alternative approaches: Recent decades have witnessed a rethinking of conventional banking practice in particular circumstances where it has become evident that there was market failure. The formal banking sector has long held to the assumption that credit risk is inversely related to asset ownership. The experience of the last three decades, however, suggests that lack of asset ownership does not necessarily mean that there exists a high risk of default on loans.

9. The Grameen Bank, established in the mid-1970s in Bangladesh, is widely cited as an example of innovative thinking about banking services for the poor people without assets. By 1998 micro credit banks, modelled on the Grameen Bank, had spread to 58 countries including Benin, Burkina Faso and Kenya.

10. The method used to ensure repayment relies on group lending which utilises peer pressure, small weekly repayments and personal contact with borrowers. In group lending, credit is made available for income-generating production operations selected by the borrower. Small informal groups coming from the same background and trusting each other, are formed. Loans to members of the group depend on repayment of loans by other members. Savings are a prerequisite for credit, providing a solid base for loan funds. Borrowers are closely monitored. This approach has led to a high rate of loan recovery. Interest rates are set to raise revenues that will cover costs, making the Grameen Bank a sustainable, commercial financial institution servicing the rural poor.

11. Although this example does not deal with the credit needs of potential commercial aquaculture ventures, it does establish that it is possible, though developing innovative approaches, to provide credit to poor people who are unable to provide collateral. The Grameen Bank has since established the Grameen Trust for the purpose of providing credit primarily to ventures that are "risky, technology-oriented and otherwise deprived of financing from existing formal lending institutions". This fund, operating on the same lending principles as the Bank, was covering all costs by 1999.

12. Land Bank of South Africa has launched financial services for more ambitious commercial ventures. It has launched a "silver range" of financial products, targeting farmers who have proven agricultural abilities and experience but no collateral, and a "bronze range" of products targeting people who have no track record or venture capital. The latter will be required to pay an additional "risk fund" levy in return for intensive after-loan support services. The performance of these services remains to be assessed.

13. Village banks and solidarity groups are the two other popular modes used to tackle the problem of collateral. In the village banking approach, an institution goes into a village and organizes a group of 20 to 50 members which then functions as a bank. Group members select a management committee, which is trained to run the bank. One loan is made to the village bank after the passage of some time. The bank must repay the whole loan with interest at the end of the term before it can receive a subsequent loan. In effect all members of the group are fully accountable for the loan.

14. The incapacity to offer collateral acceptable to a bank as security for a loan, may arise when the applicant for the loan has assets which have a value but which are in a form that makes it difficult, if not impossible, for a bank to accept them as collateral. This may arise in instances where the legal and regulative environment is inadequate to enable the use of certain assets such as land or a moveable property as collateral.

15. Among countries in sub-Saharan Africa, there is a large variation in the legal and regulatory regimes relating to land. However, in general, most countries in the region have a mix of land for which there is some form of firm title, and common land where legally enforceable rights are undefined or do not exist. If a farmer wishing to establish a commercial aquaculture venture holds full title to the land, and that title is transferable, then the farmer may offer the land as collateral.

16. If the land is government owned or common land, to which no individual or group of individuals holds title, then, although the land has a value, it cannot be used as collateral for raising a loan. An option that could be considered is the titling of land. It should be pointed out that such developments can be politically and socially sensitive as the change is likely to involve conflicts of interest, transaction costs and friction. Also, if land is held in common, and secure, clearly defined and defensible common property rights are established, then the group lending concept could theoretically be used with the commonly held land, or a portion thereof, offered as collateral. Clearly there would need to be a common interest in raising capital, with each having the opportunity to use the land in this way. The group would need to trust each other and be confident that the project will be successfully implemented and there would need to be a readiness to forfeit land in case of default.

17. Using moveable property as collateral is an additional option, but being able to do so depends on the legal and regulatory environment in each country. When a bank accepts an asset as collateral for a loan, it gains a "security interest" in the asset.

18. An asset must meet three requirements in order to be acceptable as collateral by a bank. It must be possible to create a security interest. That is, it should not be too difficult or costly to define what the asset is in accordance with legal requirements. It must be possible to establish confidence that no superior claims to the asset exist such as, for instance, if the asset had already being offered as collateral for another outstanding loan (perfect of the security interest). The legal requirements for the seizure and sale of the collateral must be simple and able to be done without too much delay or expense (enforcement of a security interest). If it is too costly or takes an excessive period of time to enforce the claim on the collateral, enforcement becomes a costly problem for the lender, diminishing or even negating its value as collateral.

19. Government loan guarantees: government loan guarantees were used to encourage the establishment of commercial aquaculture in many places, including several OECD countries. These offer a substitute for collateral, as the risk of the borrower defaulting is shifted to the government and, thus, to the taxpayer. However, a note of caution is necessary. If government is to be able to sustain such guarantees, then it must minimise the extent to which it is asked to honour its guarantees. This means that it would face the same trouble ensuring that loans are repaid as the banks would have collecting them. If it does not do so, the payments of guarantees to the banks become a drain on the public purse and subject to possible political attack. The existence of loan guarantees can undermine the determination of the borrower to repay the loan.

III. THE PROBLEM OF HIGH INTEREST RATES

20. High rates of interest charged to borrowers, a common disincentive to borrowing in sub-Saharan Africa, arise for a number of reasons. They include lack of collateral, lack of a properly functioning market in financial services, high rates of default on loans resulting in high costs of lending, inefficient means of outreach resulting in high transaction costs and high inflation rates, and perceived high risks of the venture being financed.

21. The lowest interest rates are generally associated with being able to offer assets as collateral in which the lender is able to establish the best security interests. As the risk to the lender of making the loan is smaller, lower interest rates are possible. Thus fixed assets offered as collateral will often be associated with lower interest rates. The better governments ensure that the legal and regulatory environments enable lenders to establish good security interests over a wide variety of assets offered as collateral, the lower interest rates are likely to be.

22. The market has failed to provide adequate financial services in much of rural sub-Saharan Africa. Banking facilities tend to be urban based where transaction costs are lower and outreach into rural areas is minimal or non-existent. In instances where banking facilities do exist, there is little or no competition allowing for inefficiency to creep in or for higher profits to be earned.

23. Loans not recovered by the bank are default costs to the lender and become part of the overall operational costs of the bank. When a bank sets interest rates so as to raise sufficient revenue to cover its costs, the higher the default rate on loans, the higher the interest rate needs to be. Thus it is essential to design banking services that achieve a high rate of loan recovery in order to keep default costs low. This again emphasises the need for innovative thinking in tackling the problem of providing adequate banking services to rural communities in sub-Saharan Africa.

24. In the examples of mircocredit institutions discussed above, a common problem has been to ensure that the delivery of financial services is done cost-effectively. Small loans made to a large number of people physically spread over a wider area than in urban areas, means upward pressure on transaction costs. These institutions have designed systems which have kept the cost of outreach relatively low, to a greater or lesser extent. The higher the cost of providing these services, the higher will need to be the interest rates to generate the revenue to cover costs. Again this emphasises the need for innovative thinking in designing financial services for rural sub-Saharan Africa.

25. Where inflation is high, nominal interest rates will be high. Even if real interest rates are relatively low, high nominal rates are a disincentive to borrowing. Inflation rates need to be managed through appropriate macro-economic policies.

26. The principal area of focus for reducing interest rates is to ensure that the factors influencing them discussed above are constructively addressed. However, where they can be afforded, subsidised interest rates and government loan guarantees are serious options employed by governments.

27. Interest rates subsidies have been used in other parts of the world to reduce the cost of borrowing for aquaculture production, thus promoting its development. As financial markets in some parts of sub-Saharan Africa are characterised by very high rates of interest, this option needs to be considered. However, while subsidised interest rates could be used to stimulate development of aquaculture in the region, any policy of this nature should be approached with caution.

28. There are few governments in the region which can afford interest rate subsidies in the face of fiscal retrenchment. In addition, interest rate subsidies may also induce more capital intensive technologies than would otherwise be selected. They can create supply-demand imbalances and may create opportunities for rent collection. Subsidised interest rates may also have a disincentive effect on banks to seek deposits as the subsidy facilitates cost recovery while raising funds for on-lending from the financial markets.

29. As government loan guarantees shift the risk of the borrower defaulting to the government, it could result in lower interest rates as the risk to the banks would be lower.

IV. PERCEIVED RISKS OF AQUACULTURE VENTURES

30. Lack of access to capital in general is a problem for development in sub-Saharan Africa, but it is acute for rural for enterprises, such as those in aquaculture, that are perceived to be high-risk ventures. Aquaculture ventures are widely perceived to be particularly high risk in part because of a lack of a track record of success in the region. Yet, there are many examples of successful commercial aquaculture in sub-Saharan Africa.

31. Examples of successful aquaculture ventures for each of the three species, shrimp, tilapia and catfish, are presented in Table 1. Their purpose is not to present a representative sample of commercial aquaculture businesses in sub-Saharan Africa, but they demonstrate that such enterprises can be successfully established and can be highly profitable businesses.

32. Table 1. Summary of preliminary results of the enterprise budgets for shrimp,
tilapia and catfish in sub-Saharan Africa, 2000.

33. The findings presented are preliminary; while the utmost care has been taken to present the results accurately, the processing of verification is not yet complete. They indicate that shrimp farmers make between US $26,000 and US $37,000 per hectare per year, excluding value added, which is equivalent to a rate of return on investment ranging from 95 to117%. Shrimp farms analysed would remain profitable even after a 50% drop in shrimp price. Tilapia and catfish farmers make between US $500 and US $12,000 per hectare per year, or a rate of return on investment varying from 13 to 88%.

34. The presentation of details of the performance of these highly profitable enterprises is not to suggest that there are no failures. Over the years there have been plenty of them, due to a wide range of reasons involving technical, financial, marketing and management failures. With well-planned and carefully considered enterprises, there is every reason to expect that failures can be minimised and that the larger percentage of aquaculture ventures could thrive and generate very healthy profits.

V. THE ISSUE OF LACK OF KNOWLEDGE ON LOAN SEEKING

35. A financial institution, whether it is a commercial bank, a state agency or a private investor, will lend money to a business only if it is convinced that it is a viable proposition. It is up to the entrepreneur to convince the financial institution that the proposal is economically feasible. An essential part of doing so is producing a concise but detailed business plan, capable of convincing a potential investor that the proposed venture is economically viable. However, most potential aquaculture farmers in sub-Saharan Africa lack the knowledge of how to prepare a business plan. A strategy would be organised regular training in this area.

36. A business plan is a detailed written document that addresses all the major aspects of the enterprise. A major reason for preparing a business plan is for it to serve as a guide for the business, providing a set of clearly articulated goals against which the performance can be measured. Committing plans for a business to writing, forces the entrepreneur to consider all factors which might affect the viability of the business.

37. The business plan, used as a tool for raising capital, should anticipate questions anyone considering risking his money in a business may ask. It offers to the entrepreneur an opportunity to make the best possible case for his company, his product and the personnel he has available for implementing the plan. It should describe, therefore, in a structured format, with a logical flow of information, the business, its operating environment, its short and long term goals and how it proposes to achieve these goals. It should demonstrate that entrepreneur has thought through the development of the business in terms of products, management, finances, markets and competition.

38. In addition to its importance as the principal means of convincing a financial institution of the viability of the proposed business and serving as a guide for the entrepreneur, preparation of a business plan has the beneficial impact of forcing the entrepreneur to identify more clearly his ideas and goals and the steps that need to be taken to achieve them. He will develop a better understanding of his own business as well as the industry as a whole. A business plan can play a vital role in helping to avoid mistakes or recognise hidden opportunities.

39. The business plan has such a pivotal role as the principal written statement of the viability of the proposed business that great care should be taken to produce a document that is attractive, clearly written, factual, comprehensive and concise. It should demonstrate that all factors that could influence the success of the business have been carefully considered and assessed. Thus, any weakness in the proposal should also be identified and discussed and not glossed over. Factual information should underpin the estimates of revenues; the costs and any assumptions that are made should also be explicitly identified and justified.

VI. CONCLUSION

40. With market failure of the magnitude experienced in the supply of financial services to rural enterprises in sub-Saharan Africa, it is necessary for governments to study the question very carefully and consider what ways might be most appropriate for overcoming these difficulties. The development of commercial aquaculture in the region is curtailed by the difficulty of gaining access to capital. This problem extends well beyond the development of aquaculture to other parts of the rural economy presenting itself as a fundamental problem inhibiting economic growth in the region.

41. Governments need to ensure that it is possible, within the legal environments of each country, to use a wide variety of assets as collateral, thus extending the possibilities for securing loans.

42. Evidence shows that innovative ideas have been used successfully to overcome the lack of collateral in providing mircocredit to poor rural people through methods that are self-sustaining. They show that poor people can and do save and that these savings can be mobilised for investment. It is possible to advance loans in rural areas to people who have few or no assets and recover them successfully. It ought to be possible to initiate programmes that extend these services to people wanting to launch more ambitious commercial projects and who have greater financial needs.

43. In some instances an adaptation of some form of group lending might be possible to support the development of commercial aquaculture in sub-Saharan Africa. The greater mobilisation of savings, to be used as collateral, is a further possibility. The use of specialised insurance products could also play a part in reducing risk arising from specified eventualities, as in the case of the Kenya Rural Enterprise Program.

44. It should be noted that in the case of the Grameen Bank, its operations were initially subsidised with donor funds. It took 5 years before it became self-sufficient. There is a strong case for subsidising the establishment of rural banking services in sub-Saharan Africa to enable them to design an efficient service and build up the number of clients needed for them to sustain self-sufficient operations.

45. Innovative thinking is needed to create banking services honed in each instance to the particular characteristics of the countries and communities they are created to serve.

VII. ACTION BY THE CONSULTATION

46. The Consultation is invited to:

• review thoughts discussed in this paper, exchange national experiences with respect to the subject;
• identify actions which, in the economic, social, cultural and political context of sub-Saharan Africa, could contribute to alleviating the problem of limited access to capital for the promotion of sustainable commercial aquaculture in the Region.