leverage or loss? › ... · the guarantor may even carry out a full credit analysis before...

LEVERAGE OR LOSS?

GUARANTEE FUNDS

AND MICROENTERPRISE

Katherine Stearns

Monograph Series No. 8

LEVERAGE OR LOSS?

GUARANTEE FUNDS AND MICROENTERPRISE

Katherine Stearns

ACCION International

July 1993

2

Katherine Stearns is the Director of U.S. Operations for ACCION International.She previously worked as a Program Specialist for ACCION and, before that,as the Country Director in Costa Rica. She has consulted for microenterpriseprograms in Latin America, Asia, and North Africa, and has written severaldocuments on microenterprise issues.

3

ACKNOWLEDGEMENTS

This document would not have been possible without the generous financialsupport of the Ford Foundation, the Tinker Foundation, and the OverseasDevelopment Foundation (United Kingdom). The office of Private and VoluntaryCooperation at the Agency for International Development has also contributedto this monograph. I am grateful to all of them.

I am also grateful to the many people who assisted in the production of thisMaria Otero, Darcy Salinger, William Burrus, Gabriela Romanow, and studies.

Hank Jackelen, of the United Nations Capital Development Fund, and helpedme think through several important issues in the early stages. In addition,valuable comments were provided by Robert Blayney of Urban IncomeSystems, Inc. and John Porges, both of whom have consulted widely onguarantee funds. Mike O’Donnell of the Inter-American Development Bank,Lisa Mensah of the Ford Foundation, Janney Bretz-Carpenter of ShorebankAdvisory Services, and Kenneth Angell of Development Alternatives alsoprovided very helpful suggestions.

For editing support, I would like to thank Carole Thompson. Diego Guzmánof ACCION in Colombia coordinated the printing. And, a special thanks goesto Kimberly Smith, who has helped with everything that has come out of theWashington Office of ACCION over the past two years.

4

TABLE OF CONTENTS

ACKNOWLEDGEMENTS ....................................................................... 3

I. GUARANTEE FUNDS: AN OVERVIEW ............................................ 7

A. Objectives of Guarantee Funds ................................................... 10B. Criteria for Effective Guarantee Schemes.................................... 13

II. GUARANTEE FUNDS FOR SMALL BUSINESS ANDMICROENTERPRISE ...................................................................... 17

A. The Individual Model and Experiences ........................................ 21B. The Portfolio Model and Experiences .......................................... 31C. The Intermediary Model and Experiences .................................... 35D. Comparing Models and Experiences ............................................ 39

III. ACCION’S BRIDGE FUND............................................................... 49

A. Utilization of the Bridge Fund....................................................... 52B. The Letter of Credit Mechanism................................................... 54C. The Bridge Fund and Leverage .................................................... 56D. The Mechanics of the Bridge Fund .............................................. 58E. Implications of the Bridge Fund for ACCION and Its Affiliates ..... 66

IV.GUARANTEE FUNDS IN THE FIELD: CASE STUDIES .................. 69

A. Colombia ..................................................................................... 71B. Ecuador ....................................................................................... 80

V. DESIGNING EFFECTIVE GUARANTEE FUNDS ............................ 87A. Why Some Guarantee Funds Are Not Effective ........................... 89B. The Strengths of the Intermediary Model ..................................... 90C. The Challenges Facing the Intermediary Model ........................... 93D. Programmatic and Policy Issues ................................................. 94

BIBLIOGRAPHY ................................................................................... 97

5

CHARTS

CHART 1: Individual Guarantee Schemes Reviewed byLevitsky and Prasad .................................................... 23

CHART 2: FUNDES Activities in 1991 .......................................... 29

CHART 3: ACCION Bridge Fund Guarantees and CreditApproved ..................................................................... 39

CHART 4: A Comparison of Guarantee Models andExperiences................................................................. 40

CHART 5: Advantages and Disadvantages of Different LoanSources ....................................................................... 59

CHART 6: Bridge Fund Capitalization by Source .......................... 60

CHART 7: Areas Examined in ACCION’s Credit Evaluation .......... 67

CHART 8: Evolution of Loans to ACTUAR Bogotá ........................ 76

CHART 9: Portfolio Composition of FED, Ecuador ........................ 84

DIAGRAMS

DIAGRAM A: The Risk-Transaction Cost Frontier of Banks .............. 12

DIAGRAM B: Three Guarantee Fund Models ..................................... 20

DIAGRAM C: Layers of Protection of ACCION’s Bridge Fund............ 65

6

LIST OF ACRONYMS

ACP ACCION Comunitaria del Perú

AID The Agency for International Development

BARAF Bureau of Assistance for Displaced Public Workers

CD Certificate of Deposit

CFP Corporación Financiera Popular

CGC Credit Guarantee Corporation (Ecuador)

FED Fundación Ecuatoriana de Desarrollo

GAF Get Ahead Foundation

IDB Inter-American Development Bank

LPG Loan Portfolio Guarantee

NGO Nongovernmental Organization

PDV Voluntary Departure Program

PLP Preferred Lender Program

PRI Program Related Investment

SBA Small Business Administration

SRI Socially Responsible Investment

WWB Women’s World Banking

7

CHAPTER I

GUARANTEE FUNDS: AN OVERVIEW

9

Guarantee mechanisms continue to play a role in the development financestrategies of many developing countries. Guarantee mechanisms encouragebanks to lend to certain economic sectors, such as small businesses, byensuring that some of the banks’ losses will be paid by another entity in thecase of default. A guarantee entity, either government or private, pays thelending bank an agreed percentage of losses incurred on guaranteed loans.This “insurance” reduces the bank’s risk, thereby allowing the bank to lend toborrowers who, on their own, had insufficient collateral or guarantees to qualifyfor a bank loan.

Despite the potentially positive effect of guarantee mechanisms, guaranteeprograms appear to have produced mixed results. In some cases, high levelsof default decapitalized the fund, or delays in recovering defaulted loans fromthe guarantor caused banks to terminate their participation. Other guaranteefunds have survived, but it is not clear whether they actually increase the levelof finance going to the targeted sector. In other cases, guarantee funds helpthe targeted sector obtain bank financing. Documentation about the effect ofguarantee programs, whether positive or negative, is scarce. In this uncertaincontext, however, there is widespread interest in establishing guarantee fundmechanisms to increase the availability of finance to microentrepreneurs.

The current interest in using guarantee funds for microenterprise financestems from the successful evolution of microenterprise lending over the pastdecade. Several large microenterprise credit programs in Indonesia,Bangladesh, and Latin America have had a positive effect and have provedthat lending to microentrepreneurs on a large scale can be financially self-sufficient or even profitable. Institutions are lending successfully to tens ofthousands of microentrepreneurs. As these programs have grown, the needfor increased financing, at levels far beyond those available from donors, hasbecome critical. The formal financial system is becoming a source ofprogressively larger amounts of financing for microentrepreneurs, both directlyand indirectly.

This monograph examines the guarantee fund mechanism to determine itspotential to increase financing to microentrepreneurs in developing countries.

10

The document explores the design and effectiveness of guarantee schemesimplemented for both small businesses and microenterprises. Because fewmicroenterprise guarantee programs have been implemented, and fewer stilldocumented, the experiences of small-enterprise guarantee programs areexamined to extract relevant lessons. The monograph develops three guaranteefund models and uses actual experience to identify their weaknesses andstrengths.

ACCION International’s1 guarantee program is described in detail, and casestudies from Ecuador and Colombia show the positive effects that guaranteefunds can have. The document concludes that although there are numerousweaknesses with many guarantee fund mechanisms, an effective guaranteefund model exists that can increase financing to microentrepreneurs andperhaps small entrepreneurs as well.

A. THE OBJECTIVES OF GUARANTEE FUNDS

Guarantee funds are financial mechanisms used to increase formal-sectorfinancing to specific populations. Usually, they are designed to facilitate andencourage direct bank lending to those sectors. By ensuring repayment to thebank of some portion of the losses on guaranteed loans, guarantee mechanismsreduce the lending risk of the bank.

Some guarantees cover a percentage of loan principal lost by the bank, whileothers guarantee a percentage of principal and interest lost. Still othersguarantee a percentage of the amount lent. If a guarantee covers 50% of theamount lent, then the bank will suffer losses only when more than 50% of theloan is defaulted. If the guarantee covers 50% of the amount lost, however,the bank and the guarantor will share all losses. These risk-related designfeatures are some of the most important determinants of the acceptance anduse of a guarantee mechanism by banks.

Guarantee funds usually are designed to leverage resources for the targetedborrowers. For example, a guarantee fund of US$5 million may encouragebanks to lend US$10 million to the targeted sector, thereby leveraging thefunds’ resources 2 to 1 (with US$5 million in funds, the guarantee mechanismis facilitating US$10 million in loans to the targeted sector).

Often, the concept of leverage is tied to the amount of risk that the guaranteefund assumes. For example, if the fund is US$5 million and covers 50% oflosses, then it is highly unlikely that banks will lend more than US$10 million(leverage of 2 to 1). If the entire US$10 million is lost in bad loans, then bankswill recover the entire fund of US$5 million. No matter how much the banks

1 ACCION International is a U.S. non-profit organization dedicated to promotingmicroenterprise development throughout Latin America and the United States.

11

lend, the maximum they can recover through the guarantee is 50% of lossesup to US$5 million.

Most guarantee funds address only the collateral constraint of lending to thetargeted borrowers by guaranteeing loans to reduce the bank’s risk. Borrowerstargeted by guarantee fund programs, however, usually present a “transactioncost” constraint as well. Small businesses, for example, often lack experiencein dealing with banks, and vice versa. The businesses may have incompletefinancial records, making it more difficult and costly for the bank to determinetheir creditworthiness. Loans to small businesses also tend to be smaller thanthe bank’s normal loan size. Smaller loans have relatively higher transactioncosts for banks and are therefore less profitable. Even with guaranteemechanisms, customers who want larger loans are more attractive tocommercial banks than the smaller borrowers normally targeted by guaranteeprograms.

Some guarantee fund programs recognize the higher transaction costs to thebank of lending to smaller borrowers and try to minimize those costs toencourage bank lending. The guarantor may help the targeted borrower meetbank requirements by assisting in the production of an acceptable application,feasibility study, and business plan. The guarantor may even carry out a fullcredit analysis before approaching the bank with the application. In additionto reducing the risk of the bank, such support reduces the transaction coststo the bank of dealing with new, small borrowers. If the bank is willing (and able)to charge higher interest or fees for loans to the smaller borrowers, then itbecomes less important for the guarantor to reduce transaction costs.

By reducing risk and transaction costs, guarantee funds can function as“research and development” for banks considering entry into a new market(Landy and Rhyne). They give the bank an opportunity to test a new market,such as loans to small businesses, without assuming all the risk or transactioncosts that a new market normally implies. With satisfactory results, the bankmay develop the expertise to serve the market without the support of aguarantee fund mechanism and incorporate that sector into its normalclientele.

An effective guarantee mechanism has two major potential effects:

1. An increase in the level of bank financing reaching a targeted group by:

• assuming a portion of the losses incurred by banks when borrowers defaulton a loan, thereby reducing the risk of banks in lending to targetedborrowers;

• reducing the transaction costs of banks in lending to targeted borrowers.

12

2. The opening of financial markets by giving a new sector access to bankloans. By assuming risk, and perhaps reducing transaction costs, aguarantee mechanism can help banks lend profitably to a new sector.

Banks assume risks and transaction costs with every loan. As shown inDiagram A, banks have a range of acceptable levels of risk and transactioncosts. Guarantee funds are designed to encourage banks to lend beyond theirnormal frontier, or comfort zone, to borrowers who appear riskier to the bank.They are meant to push the frontier out (or bring potential borrowers in), so thatunbankable borrowers become bankable borrowers. “Unbankable borrowers,”in most cases, also present higher transaction costs, an issue that is oftenoverlooked by guarantee mechanisms.

The distance that targeted borrowers lie outside the risk-transaction costfrontier is a critical factor for designing an appropriate guarantee mechanism.

13

Sectors close to the frontier, such as well-established businesses withcreditworthy projects but slightly insufficient collateral, may require a schemethat only reduces the bank’s risk slightly. Sectors farther from the frontier mayrequire a significant reduction in risk, as well as a mechanism to reducetransaction costs. Such a mechanism might include providing rediscountedlines of credit2 that are cheaper for the bank, thereby enhancing the profitabilityof lending to the targeted borrowers; training bank staff to assess smallbusiness loans more efficiently; or providing consultants to help smallborrowers assemble the necessary documentation before approaching thebank, thus reducing the bank’s paperwork.

B. CRITERIA FOR EFFECTIVE GUARANTEE SCHEMES

Several general conditions must exist for guarantee funds to functioneffectively. First, there must be sufficient liquidity in the banking system. Inconditions of low liquidity, a guarantee fund has little chance of inducing banksto lend to a new sector because banks will concentrate limited availableresources on preferred and generally larger clients. Second, the participatingbanks must be responsible financial institutions. Many development banks,for example, have very high levels of arrears and are basically insolvent (WorldBank, 1989). No guarantee program can be effective if the bank is anirresponsible lender.

A long-term objective of a guarantee fund might be for banks to decrease theirdependence on the guarantee and eventually lend to the targeted sectorwithout the guarantee. In such cases, the banks’ perceived risks andtransaction costs of lending to the targeted sector must be reducible over time.On the other hand, if the guarantee mechanism is fully self-sufficient and iseffectively encouraging banks to lend to the targeted borrowers to whom theywould not otherwise lend, then there may be no reason to discontinue theguarantee mechanism.

The most critical design features for guarantee schemes involve theincentive structure between the bank, the guarantor, and the borrower. Theincentive structure must motivate banks to lend to the targeted sector.Otherwise, the guarantee fund will have no effect. It must also assign risks andrewards in proportion to the decision-making authority of each participant toensure responsible actions from all entities involved. To a large degree, thebehavior of the three principal actors (the bank, the guarantor, and theborrower) is motivated by the design of the guarantee scheme in four criticalareas.

2 Rediscounted lines of credit are subsidized credit lines provided to a country's bankingsector, usually by multilateral organizations such as the World Bank, the Inter-AmericanDevelopment Bank, or the Agency for International Development.

14

• Loan and guarantee approval process. Which entities approve loans andguarantees? Do the decision makers assume risks in proportion to theirresponsibility? Is the process efficient, or does it add to the bank’stransaction costs of making a loan? Does the process discourageborrowers (or banks) from participating because of the time and expenseinvolved?

• Risk sharing. Which entities assume what percentage of the risk? Doesthe bank assume enough risk to be a responsible lender and to pursue alloptions for recovering loans? Or, does the guarantee mechanism cover allthe risk? Is enough risk assumed by the guarantee mechanism toencourage banks to participate and lower their own collateral requirementsfor the targeted borrowers? Do the borrowers assume any risk, or do theyfeel little obligation to repay?

• Credibility of the guarantee. What must the bank do to “call on” aguarantee when loans are defaulted, and does the bank recover its fundsquickly? Are the bank and the guarantor in agreement as to whatconstitutes a default? Is the guarantee based on funds deposited in thelending bank, a stand-by letter of credit,3 or the creditworthiness of theguarantor? Is it so easy to “call on” a guarantee that the bank has littlemotivation to pursue collection from delinquent borrowers?

The long-term credibility of the guarantee scheme depends on its solvency.Is the fund adequately capitalized, and its value maintained through userfees or interest earned, so that it will be able to cover a loan that is defaultedin several years? Is the guarantee entity itself solvent, covering its costs,so that it will still be around in several years when loans made today mightdefault?

• Costs and fees. Can the bank make profitable loans to the targeted sectorusing the guarantee mechanism? Are the transaction costs of lending tothe targeted borrowers much higher than for the bank’s normal clientele,and does the guarantee scheme address this issue? Are there additionalcosts to the bank of using the guarantee mechanism? Does the guarantorreceive sufficient fees for its services, and who pays those fees? Is thecost to banks of using the guarantee so low that they guarantee their normalborrowers instead of making loans to the borrowers targeted by theprogram?

Many guarantee schemes are relatively successful at promoting widespreaduse by banks, but less successful at encouraging lending to the targetedborrowers. It is difficult to determine whether a guarantee mechanism causes

3 A stand-by letter of credit, used to guarantee loans, guarantees that the guarantor will paythe bank if the borrower does not. For the bank to accept a letter of credit, the bank mustbe convinced of the creditworthiness of the guarantor.

15

banks to lend to the new clientele, or simply reduces the bank’s risk of lendingto its normal clients. Guarantee schemes which ensure that each loan goesto a borrower who would not have received a loan without the guarantee arequite costly and labor intensive. Instead, most schemes develop basic criteriafor the targeted borrowers and approve guarantees based on those criteria,whether or not the bank would normally lend to those borrowers.

Banks will tend to use a guarantee mechanism for lending to a new clienteleonly when they are committed to reaching that new clientele, which could befor several different reasons. The bank may see the new clientele as apotentially profitable sector that they genuinely want to develop. There mayalso be political or social reasons that the bank wants to lend to a new sector.For example, the bank may want to curry government favor if the governmentis promoting lending to small borrowers. Or, bank management may feel thata portion of its loans should go to small business as a contribution to moreequitable development. Multilateral institutions may also encourage banks tolend to small borrowers by offering rediscounted lines of credit.

While bank participation is a prerequisite for an effective guarantee program,it is not sufficient. As explained above, the critical criteria for an effectiveguarantee mechanism include an incentive structure that motivates bankparticipation and responsible behavior of all participants; efficient and effectiveloan and guarantee approval processes; appropriate risk sharing among allparticipants; a credible guarantee; and a fair distribution of costs and fees thatenables the bank to make loans profitably. Last, to be considered successful,the mechanism must result in increased financing to the targeted sector.

CHAPTER II

GUARANTEE FUNDS FOR

SMALL BUSINESS

AND MICROENTERPRISE

19

Guarantee funds have been used by governments as a mechanism to directcredit since the late 1960s. Many guarantee funds have been established todirect credit to medium and small enterprises and, recently, some have beendesigned for microenterprises. Despite the relatively long tenure of guaranteefunds, there are few detailed evaluations of their effectiveness. Most studiesdescribing guarantee fund mechanisms are inconclusive as to whether themechanism actually increased funding to the targeted sector. The limitedevidence available, as described in this chapter, indicates that most guaranteefunds for small business and microenterprise have not been particularlyeffective at fulfilling their objectives.

Three basic guarantee fund models have been used to promote financing forsmall businesses and microenterprises. Diagram B shows the different models.

In the Individual Model, individual small business borrowers are approved fora guarantee from a guarantee entity, either public or private. Participating banksaccept this guarantee and, if borrowers fulfill their other criteria, approve a loanto the borrowers. The guarantee entity is paid a fee for the guarantee by theborrowers, although the bank may collect this fee and pay the guarantor.

The Portfolio Model reduces the involvement of the guarantee entity with eachborrower. Instead of approving guarantees for each loan, the guarantor negotiatesportfolio criteria with the bank. If the program is for small-business borrowers,these criteria might include a maximum level of assets, a maximum loan size,and other limitations to ensure that the borrower is part of the targeted sector.Loans disbursed by the bank that meet the criteria are automatically guaranteed.

For microenterprise financing, the Intermediary Model has been developed. TheIntermediary Model recognizes that microentrepreneurs are so far from thebank’s normal risk/transaction cost frontier that a specialized organization,usually a nongovernmental organization (NGO), should act as an intermediarybetween the bank and the final borrower. The NGO assumes the appraisal,approval, monitoring, and supervision of the loans to the microentrepreneurbecause its procedures are developed specifically for that clientele. Bank loanappraisal and approval procedures are developed for large borrowers and aregenerally inappropriate for assessing the creditworthiness of microentrepreneurs.

21

A. THE INDIVIDUAL MODEL AND EXPERIENCES

The Individual Model is the most common and traditional model for encouragingbanks to lend to small businesses. Typically, a potential small-businessborrower with insufficient collateral is referred to a guarantee organization.After an analysis of the creditworthiness of the borrower and the project, theguarantee organization agrees to provide a guarantee worth a certain percentageof the loan value. In most cases, the borrower must provide sufficient collateralto cover the remaining percentage of the loan, often in excess of 100%. Theborrower (or the bank, which then usually charges the borrower) pays theguarantor a fee, and the bank approves and disburses the loan.

If the borrower defaults on the loan, then the guarantor must pay the amountguaranteed, depending on the agreement between the bank and the guaranteeentity. Most guarantees only cover principal although some cover interest fora limited time as well. If the borrower pays the loan back without any problem,he or she begins to establish a credit history with the bank that should facilitatefuture loans. In this case, just by reducing the bank’s risk, the guarantee fundhas given an otherwise unbankable borrower access to bank finance.

The guarantor under these schemes is usually either a separate corporationestablished specifically for that purpose, or the Central Bank. The guaranteefund is usually capitalized through multilateral sources such as the WorldBank or the Inter-American Development Bank; the Agency for InternationalDevelopment; the local government; or participating banks and privateinvestors. Operational costs of the fund, decapitalization through inflation, andlosses paid out, are supposed to be covered by fees from the borrowers orparticipating banks and interest earned on the fund itself. Often, however,these funds are not sufficient, and either the fund loses value as interest orcapital is used for operational expenses, or the government or internationalagencies subsidize the program.

Under some schemes, the guarantee entity provides more than just aguarantee. Some guarantee entities assume a technical assistance role tohelp the borrower meet all the bank’s requirements or to help the bank learnhow to deal most efficiently with this new clientele. Assistance to the borrowermight include producing a detailed business plan or financial statements;assistance to the bank might include training credit officers in the assessmentof small businesses. Under other schemes, however, the guarantor may baseits approval on the bank’s recommendation after only a cursory evaluation ofthe loan application to ensure that the borrower meets the program participationrequirements.

22

Experiences with the Individual Model

1. Programs Reviewed by the World Bank

Numerous individual guarantee programs for small and medium enterprisesin developing countries were begun in the 1970s and 1980s and reviewed ina 1989 World Bank Technical Paper by Jacob Levitsky and Ranga N. Prasad.Of the 18 programs in developing countries, 13 followed the Individual Modeland the rest the Portfolio Model. Unfortunately, because of insufficient data,the critical question of whether these funds actually increased financing to thetargeted sector is unanswered in most of the cases. In only one case, that ofKorea, is it clearly stated that the scheme was effective at guaranteeing loansto small- and medium-sized firms. Even in that case, however, the schemewas primarily used by government banks, not private, commercial banks.

As Chart A shows, the majority of the Individual Model programs examinedby Levitsky and Prasad show mixed or poor results. The Volume of Loans/Guarantees column quantifies the scale of the program, while the Characteristicscolumn points out several features described in the Technical Paper. The lastcolumn of the chart classifies the weaknesses of each program, as describedby Levitsky and Prasad, according to the criteria for effective programsdiscussed in the first chapter of this monograph.

A World Bank study (Webster 1989) examined the Bank’s experience inlending for small and medium enterprises by looking at 70 projects from aroundthe world. Of the total, 33 projects had been completed, 23 of which had usedguarantee mechanisms. The analysis looks at the results by region, and notby project. Therefore, it is impossible to determine whether the 23 projectsused the Individual Model or were some of the same ones discussed in thePrasad and Levitsky document, although both possibilities seem likely.

According to Webster, the guarantee schemes in about half the projectsfailed, and in the other half they operated “with some degree of success.” Thesuccessful schemes operated where there were strong financial institutionswith high repayment rates. The unsuccessful schemes were often carried outby institutions with chronic repayment problems. Webster identifies severalconditions that the unsuccessful schemes failed to establish: the lendingbanks were publicly owned and not as responsible as private banks might be;the guarantees or guarantee entities were not credible to the banks; and theincentives for banks to participate were not sufficient.

28

2. Structural Readjustment Programs in Africa

Several guarantee schemes have been initiated in Africa to ameliorate thedevastating effect of massive government layoffs during structural readjustment(Schacter, 1991). The two experiences described below reiterate that aguarantee scheme cannot be successful if the lending scheme itself is poorlystructured. In both cases, the loans were too risky for the type of credit andguarantee arrangement implemented.

In Guinea, several banks were induced to participate in the Bureau ofAssistance for Displaced Public Workers (BARAF) program, which began inmid-1987 with an 80% guarantee. By October 1990, 800 projects had beendeemed suitable for commercial bank financing, and 400 of them had receivedfinancing. The default rate of program clients was 55% of the total portfolio(March 1989), and commercial banks had virtually stopped lending to BARAFclients by mid-1989. The banks quickly realized that the program was a losingproposition because of the high administrative costs and level of default.

In Mali, the low level of guarantee (50%) prompted banks to lend to a fewselect clients of the total pool of potential borrowers affected by the VoluntaryDeparture Program (PDV). By 1988, after two years of operation, only 14 ofthe participants surveyed for an evaluation had applied for bank financing, andnone had actually received a loan. By the end of 1990, 40 (6%) of the programparticipants had applied for loans, and 12 of them (1.9%) had received bankloans. Even with the 50% guarantee, the banks wanted a sizable equitycontribution from the borrowers and collateral in the form of real estate or othersecurities. Other reasons cited for the banks’ reluctance to lend to participantsincluded lack of confidence in the feasibility studies, unbankable projects,poor financial plans, project location too far from the bank’s easy supervision,guaranteed percentage too low for risk, doubts about procedures to recoverfunds upon loan default, and low liquidity in the banking system (Metametrics,Inc.,1988).

3. Private Guarantee Schemes

In Latin America, several private guarantee programs use the IndividualModel to facilitate loans to small entrepreneurs.4 FUNDES, a Swiss Foundation,established private foundations in Panama, Costa Rica, Guatemala, Colombia,and Bolivia. The FUNDES Foundations are dedicated to helping industriousindividuals establish or expand small businesses by providing access to thecredit market, business management training, continuing advice and support,

4 Women's World Banking (WWB), a network of non-profit organizations dedicated toincreasing women's access to credit, has an individual guarantee scheme. Unfortunately,sufficient data was not available to include WWB's experiences in this study.

29

and a supportive business environment (FUNDES, 1992). Each foundation iscapitalized with at least US$500,000 for guarantees and has a local advisorycommittee made up of national and international donors and commercialbanks. In addition to individual guarantees, the foundation in Colombiaguarantees some loans to intermediaries who lend to microentrepreneurs, anactivity described in the case study on Colombia.

FUNDES guarantees address both the risk and administrative cost constraintsby providing extensive services to the bank and the potential borrowers.FUNDES assumes much of the loan application preparation and appraisal andprovides training and advice to the borrower before and after loan disbursal.The bank’s risk is reduced not just by the guarantee, but also by FUNDES’careful appraisal and training of borrowers. Borrowers pay FUNDES 1% of theloan amount for the applications process, a commission of 1.5-4% each yearfor the guarantee, and market interest on the loans from banks. In some cases,subsidized bank loans are available through rediscounted lines of credit.

The guarantee covers up to 50% of the loan amount. Both the borrower andthe bank also assume a substantial portion of the risk. The borrower mustmortgage all business assets and often put up personal guarantees as well.In the case of default, the security provided by the borrower and any personalguarantor is enforced first; FUNDES pays the agreed percentage of theamount lost, and the bank must cover the rest. In 1991, FUNDES paid out .6%of the amount outstanding in guarantees to cover defaults (FUNDES, 1991).As Chart 2 shows, FUNDES guaranteed over US$6 million in loans to smallenterprises in 1991.

CHART 2FUNDES ACTIVITIES IN 1991

(1991 FUNDES Annual Report)

Country Number of Amount Total Volume Number of Number ofAssisted of FUNDES of Partially Businesses Businesses

Businesses Guarantees Guaranteed Receiving ReceivingCredit Training Individual

US$ US$ Counseling

Guatemala 72 209,000 596,000 71 95

Costa Rica 32 165,000 383,000 70 49

Panama 496 878,000 2,120,000 670 546

Colombia 94 1,139,000 2,210,000 - 21

Bolivia 65 357,000 931,000 - 131

TOTALS 759 2,748,000 6,240,000 811 842

30

In South Africa, the Get Ahead Foundation (GAF) deposited a collateral fundin the Standard Bank, and the Standard Bank agreed to lend tomicroentrepreneurs appraised and approved by GAF (Christen, et al. 1992).This case is different from most individual guarantee programs because theguarantor assumed 100% of the risk, as well as most of the usual tasks of thelender: locating borrowers, assessing and approving loans, and providingfollow-up support. Although the bank lends its own money, it holds on depositan equal amount from GAF. The bank pays GAF a 10% fee for its services,and retains 22% in interest income. GAF receives the interest earned on thecollateral fund. If pleased with the quality of the portfolio, the bank agreed toleverage the collateral fund, lending up to five times the amount in the collateralfund to GAF borrowers.

The guarantee arrangement is for GAF’s Business Loan Program, designedas an innovative complement to GAF’s highly successful Stokvel program,which lends amounts of US$100 to US$350 to microentrepreneurs who formborrower groups. The Business Loan Program is intended to serve largerentrepreneurs on an individual basis with loans of US$350 to several thousanddollars and would introduce these entrepreneurs to the banks.

Lending under GAF’s Business Loan Program began in mid-1990. By the endof 1991, 373 borrowers had received loans with an average size of aboutUS$1,500. The quality of the portfolio has been quite poor, however, and thebank has drawn down on the collateral fund an amount equal to about 18% ofthe total amount disbursed under the program. GAF has been able to makethese payments with the interest earned on the collateral account. Delinquenciesremain high, however, and the bank estimates that it will continue to drawdown, making the portion lost equal to about 25% of the total amount loaned.Because of the poor quality of the portfolio, Standard Bank is unwilling to lendmore than the amount on deposit in the collateral fund.

The reasons cited for the poor performance of the Business Loan Programrelate to both the lending methodology itself and the relationship between GAFand the bank. First of all, GAF staff were not adequately trained to assess thecreditworthiness of the clients, who were not required to offer any type ofcollateral. Further, there was little follow-up or monitoring after a loan wasmade, even in the case of delinquent borrowers. Neither the bank nor GAF paidsufficient attention to the management of information, which made timelyfollow-up of late loans difficult.

It is difficult to determine to what degree the guarantee model contributed tothe outcomes of the Business Loan Program. It appears that there was not anadequate incentive system in place to encourage the borrowers to pay on time,or to motivate the bank to supply timely and appropriate information on thestatus of loans and support loan recovery efforts.

31

B. THE PORTFOLIO MODEL AND EXPERIENCES

The Portfolio Model reduces the participation of the guarantor in the loan andguarantee approval process. Theoretically, it is more efficient than theIndividual Model because individual borrowers are assessed only by the bank,not by the bank and the guarantor. Instead of assessing each borrower, theguarantee entity negotiates specific criteria with the lending institution, suchas loan size and terms; level of assets, income, employees, and profits ofborrower; and type of business. All borrowers who meet those criteria can beapproved by the bank for the loan and the guarantee. The bank and guarantoralso negotiate the conditions of the guarantee, such as percentage guaranteed,fees, reporting requirements from the bank to the guarantor, and proceduresfor calling the guarantee.

The Portfolio Model can address some of the weaknesses of the IndividualModel. It clearly puts the responsibility for loan and guarantee approval on thebank and reduces the administrative costs of the guarantee mechanism. Onthe other hand, it is difficult for the guarantor to ensure that the borrowers fitthe program’s purposes. Monitoring on the part of the guarantor, and fees forthe use of the guarantee, can help ensure that the bank does not use theguarantee for its normal clientele.

Experiences with the Portfolio Model

1. India and Nepal

Two of the schemes reviewed by Levitsky and Prasad fall clearly into thePortfolio Model category. Both India and Nepal instituted programs thatautomatically guaranteed all loans below a defined size and for specifiedpurposes, made by participating banks. Levitsky and Prasad describe theIndia program as fairly successful, although the guarantee corporation has lostcredibility because of the slow settlement of claims since financial institutionsin India are required by law to lend a portion of their portfolios to small-scaleindustry, it is impossible to determine whether the guarantee or the law hasincreased lending to this priority sector. Either way, the guarantee program hasprobably reduced losses to banks on loans to the sector, and perhaps madelending to small-scale industry profitable. The long-term financial viability ofthe guarantee scheme itself, however, does not appear firm.

As described by Levitsky and Prasad, the Nepal program suffered from manyof the same weaknesses that have plagued individual schemes. Banks wererequired to lend to small industry, yet they did not have efficient systems fordoing so. They suffered high default rates, but could not be thorough enoughin their loan appraisal because the costs were too high. This system left toonarrow a margin under the maximum interest rate they could charge. The onlyway they found to reduce their risk was to require full collateral coverage from

32

the borrower in addition to the automatic guarantee. The program’s impact isnot discussed in the technical report, but the implication is that there has beenno significant increase in financing to the targeted sector.

2. The Botswana Loan Guarantee Facility

The most thorough evaluation available of a portfolio guarantee scheme isprovided by Management Systems International, which assessed a facilityestablished by AID in Botswana (Lintz, et al. 1990). The project was to providefinancing to small- and medium-sized productive enterprises in Botswana, andenable commercial banks to expand their lending initiatives to the sector.Botswana has several government-sponsored, subsidized credit programs forsmaller enterprises. This program was to promote the graduation of beneficiariesof those programs to commercial financing.

In August 1988, AID lent Security Pacific Bank (in the United States) US$1.6million to guarantee loans that commercial banks in Botswana could issue toqualifying small- and medium-sized borrowers. Security Pacific Bank issuedstand-by letters of credit to participating Botswana banks. The lettersguaranteed that Security Pacific could pay 50% of the losses incurred on loansto the targeted borrowers. Targeted borrowers were those who received loansof less than approximately US$75,000, had 50 or fewer employees and assetsless than US$125,000 (excluding value of land and buildings), and wereinvolved in viable productive activities with the potential to expand.

The guarantee was not designed to encourage banks to loosen their loanassessment criteria, but to remove a perceived collateral constraint so thatmore small borrowers could receive commercial credit. The banks maintainedfull authority over loan approval and the decision of which loans (of those thatmet the basic criteria) to place under the guarantee facility. At the time, therewas excessive liquidity in the Botswana banking system.

Three local commercial banks paid a facility fee of .5% of the guaranteecoverage and signed agreements with AID: Barclays Bank for US$750,000 inguarantee coverage; Standard Chartered Bank for US$500,000 in coverage;and Bank of Credit and Commerce for US$350,000. According to theevaluators, the banks agreed to participate more because of political pressurefrom the government, than because they wanted to increase their activitieswith small businesses. From August 1988 through September 1990, fortyloans were issued using the guarantee facility. Only 18% of the US$1.6 millionavailable in guarantees was used. While the project goal was to disburseUS$3.2 million in credit to the sector, less than US$600,000 had beendisbursed after two years. As of September 1989, one year after the programbegan, only Barclays was still issuing loans covered by the guarantee.

33

The evaluators discuss several reasons for the program’s low utilization rate:

• Lack of collateral is not a primary constraint on credit to the small businesssector. According to the banks and data from the banking sector, mostproposals are rejected because of weak business planning and insufficientmanagerial skills, not insufficient collateral.

• The program is viewed by the banks as an insurance scheme, rather thanas an incentive to increase lending to riskier borrowers. Banks have notloosened the requirements for commercial viability and management skillsin order to lend to small borrowers. Banks use the guarantee solely tostrengthen the collateral of borrowers who otherwise quailify for their loans.This was the original objective of the program, which has not encouragedthe banks to take more risks, despite the 50% guarantee.

• The targeted sector, and demand for credit from that sector, is muchsmaller than perceived by the project designers.

• Banks have insufficient incentive to incorporate more small borrowers (aless profitable group) into their client base. Despite a situation of excessliquidity, a shortage of qualified banking staff means that commercialbanks have their hands full catering to their traditional, highly profitableclients.

Therefore, there is no perceived need to spend “a lot of money” (as oneexecutive characterized Barclays’ Small Business Unit) pursuing newbusiness when they (the banks) are already doing quite well. Barclays’Small Business Unit appears to be politically driven rather thanoperating out of any true sense of social responsibility or a concertedeffort toward broadening the banks’ customer base ( Lintz et al. p. 74).

3. AID’s Small Business Loan Portfolio Guarantee Program

In 1988, Congress gave AID the authority to issue loan guarantees backedby the “full faith and credit of the U.S. government.” AID’s Small BusinessLoan Portfolio Guarantee Program (LPG) provides guarantees made toqualifying banks in developing countries for their portfolio of loans to smallbusinesses.

The LPG Program guarantees up to 50% of the amount of principal lost fromeligible loans made by a participating financial institution. In order to participate,the institution must be a private financing entity; no government-owned banksare eligible. AID evaluates for financial soundness, and then signs anagreement that outlines the conditions of the guarantee and the types ofeligible loans (all under $150,000). Banks pay a facility fee (.25% of the

34

maximum covered portfolio) to participate in the program and a utilization feeevery 6 months based on the amount being covered by guarantees. If a loanpasses 180 days of non performance, the bank can call the guarantee and AIDwill reimburse the bank up to 50% of the principal outstanding (USAID, 1992).

By the end of 1991, AID had signed portfolio guarantee agreements with 45banks in Africa, Asia, and Latin America for a total commitment of over US$61million. Only 7% of the amount committed (US$4.2 million), however, wasactually being used by the banks (USAID, 1992a). In other words, even thoughthe banks had paid the facility fee and signed up to be eligible for a certainamount in guarantees, they had disbursed only enough loans to be using 7%of the amount available in guarantees. Agreements signed in fiscal year 1989showed a utilization rate of 10%, those signed in 1990 showed 7% utilization,and only 1% of those formalized in 1991 were being utilized.

AID staff identify the low utilization rate as the program’s principal challengeand mention several possible reasons, some of which are similar to those citedabove in the Botswana case. In some cases, banks may not be genuinelyinterested in lending to small businesses; they pay the facility fee and sign theagreement because collaboration with AID is encouraged by the governmentand may bring other benefits. Once in the program, however, the banks are notmotivated to use the guarantees. The 50% guarantee may not reduce thebanks’ perceived risk enough to convince them to lend to eligible borrowers.Using the guarantee is also costly to the bank. The eligible borrowers probablysignify higher transaction costs for the bank; the bank must pay a utilizationfee to activate the guarantee; and the bank must also meet AID’s informationand reporting requirements.

In other cases, the macroeconomic system in the country changes after thesigning of the agreement. Reduced liquidity or credit constraints imposed bythe government may limit lending by banks that had planned on increasingtheir lending with the AID guarantee. In still other cases, the bank simply doesnot know how to approach or lend to small businesses, and the smallbusinesses do not know how to approach the banks. To address thisconstraint, AID has implemented a training program for participating banksand potential borrowers.

4. The U.S. Small Business Administration

The U.S. Small Business Administration’s (SBA) extensive experience withguarantees for small businesses provides relevant lessons for guaranteefunds in developing countries. In 1982, the SBA began a portfolio guaranteeprogram as a way to reward banks that were performing well using theindividual guarantees (Rhyne, 1988a). The Preferred Lender Program (PLP)allows banks to approve SBA-guaranteed loans without prior SBA approval,

35

but guarantees 75% of the approved loans instead of the 90% under the normalguarantee program. That the PLP is offered as a reward for banks indicatesthat banks would rather use a portfolio guarantee than an individual guarantee.

The administrative cost of making a loan under the PLP is lower for banksbecause they do not have to await SBA approval. Because of the lowerguarantee amount, however, the default costs of banks tend to be higher,unless banks use the PLP for less risky borrowers. The default rate of loansunder the PLP is actually substantially lower than that of the other programs,indicating that as banks assume more of the default risk, they make saferloans. As Rhyne explains, this tendency is potentially, but not automatically,a positive sign.

While a reduction in the default rate is desirable, it is not beneficial ifachieved primarily by increasing the number of guarantees going toalready bankable clients. The best way to protect against suchduplication is to charge a fee that makes it unattractive to apply theguarantee to already creditworthy loans. (Rhyne, 1988a, p.115)

The SBA example clearly shows the preference that banks have for aportfolio guarantee rather than an individual guarantee. It also highlights thecritical relationship between fees, percentage guaranteed, and bank response.As banks assume more risk (the guarantor guarantees a lower percentage),they tend to make safer loans. Moreover, unless they are charged a fee for theuse of the guarantee mechanism, they will be tempted to use the guaranteeto reduce their own risk on loans to their normal borrowers, as opposed to thoseborrowers targeted by the guarantee program.

C. THE INTERMEDIARY MODEL AND EXPERIENCES

In the Intermediary Model, the bank does not lend to the final borrower, butlends to an intermediary organization, usually a non profit (NGO). Whiledifferences with the Portfolio Model may appear minimal at first glance, theyare actually quite dramatic. Three of these differences enable the IntermediaryModel to channel significant amounts of bank financing to microentrepreneurswho lie very far from the bank’s normal risk-transaction cost frontier.

For a bank, lending to an intermediary avoids the additional costs of makingsmaller than normal loans. An NGO lending to microentrepreneurs can borrowloans similar in size, terms, and transaction costs to those that a bank makesto its normal clientele. Unlike the other models, the Intermediary Modeladdresses the transaction cost constraint that discourages banks fromlending to smaller borrowers. Responsibility for utilization of the guarantee forlending to the targeted borrowers is transferred from the bank, which isreluctant to lend to the targeted borrowers, to the intermediary, which isdedicated to lending to the targeted borrowers.

36

The second critical difference with this model is that it does not guaranteeeach loan to the final borrower (a microentrepreneur), but instead it guaranteesone loan to an established institution, an NGO. It is a catastrophic guarantee.It is catastrophic because the guarantee is not called when individualentrepreneurs default, but only when the intermediary defaults. The intermediarywill cover losses from individual defaults with its own resources, and notdefault on its loan to the bank unless it suffers massive defaults byentrepreneurs and has no alternative. This catastrophic feature concentratesthe risk of the bank, but also reduces it. In addition, it prevents the guaranteefund from being “nickled and dimed to death” from individual loans tomicroentrepreneurs that go bad.

Another feature that differentiates the Intermediary Model from other guaranteemodels is that it can encourage the creation of new types of financialinstitutions. Instead of sharing control and responsibility with the bank, asGAF does in the Portfolio Model, the NGO becomes a true financialintermediary. The NGO borrows money from the formal financial sector, lendsit to microentrepreneurs using its own methodology, and repays the bank withinterest. This intermediary role can have a profound effect on the NGO, helpingto change its orientation from a donor-dependent organization to a financialintermediary, and, in some cases, to a formal financial institution (Drake andOtero, 1992).

Experiences with the Intermediary Model 5

1. The Small Business and Microenterprise Project in Egypt

The AID Mission in Egypt designed a credit program for small businessesand microentrepreneurs based entirely on an Intermediary Model. However, todate, it functions as a collateral fund rather than a guarantee fund. AID funds(in U.S. dollars) are donated to the two implementing foundations (one in Cairoand one in Alexandria), which deposit them in dollar accounts in the Egyptianbank(s) of their choosing. The bank opens an overdraft account for an amountequal in local currency to the dollar amount on deposit. Each foundationnegotiates the terms of the overdraft account with the bank and has obtainedslightly preferential interest rates because the bank assumes no risk and hasthe dollar collateral fund on deposit. To date, neither foundation has attemptedto leverage additional funds from the bank because the amount provided byAID has been sufficient to capitalize the portfolios with no leverage.

The foundations began lending in 1990, and by the end of 1991 had madeloans to over 4,000 enterprises. Neither has had to draw down on the collateral

5 Solidarios, a consortium of Latin American foundations based in the Dominican Republicinitiated one of the first Intermediary Model guarantee programs for financingmicroenterpreneurs. Unfortunately, there in insufficient information available to includeSolidarios' experience in this study.

37

funds, and the mechanism has proved effective at encouraging the developmentof financially sound credit institutions in three important ways (Stearns, 1992):

• The institutions pay a cost for their portfolio funds from the very beginning,which instills a sense of financial discipline and an awareness of the needto charge higher-than-commercial rates of interest.

• The value of the collateral fund is protected from the effects of inflation andcurrency devaluation by being kept in dollars and earning interest (whichis reinvested in the account) in dollars. It increases in value in relation tothe local currency, enabling growth of the overdraft account that providesportfolio funds.

• The collateral fund is long-term equity for the institutions; their access toportfolio funds will not diminish when the project reaches its completiondate. The collateral funds have actually been donated to the foundations,but under conditions that restrict their use to the collateral fund during thelife of the project.

This arrangement has been beneficial to both the banks and the foundations(Angell and Porges, 1992). Because the foundations are free to negotiate withbanks of their choosing, they can always look for the best interest rates andservices. Several participating banks have indicated a potential willingness toleverage, providing 1.5 to 2 times the amount of credit as that on deposit, whenthe foundations have fully established their credibility over several years withthe banking system.

Banks have considerable incentive to participate in the arrangement becausetheir transaction costs and risk are minimized, and the dollar deposits makethe arrangement quite profitable. Banks find the arrangement beneficial for thefollowing reasons:

• Lending to the foundations is risk free for the banks because the collateralfund is on deposit. Theoretically, this arrangement limits the bank’smotivation to pursue the foundations if they fall behind on their payments.The very existence of the foundations, however, depends on their credithistory with the banks. Moreover, the collateral fund is the future equity ofthe foundations, making them reluctant to lose it. Thus far, theseincentives have been sufficient for the foundations to maintain high qualityportfolios which ensure their ability to repay the bank loans.

• The dollar collateral funds are used by the banks for a variety of high-yielding transactions, generating more for the banks than the interest paidto the NGOs for the deposit.

38

• Banks currently have excess liquidity in Egyptian pounds. While interestpaid by the NGOs is only marginally profitable to the banks, it is reasonablegiven the alternative investments of pounds.

• The banks are perceived as aiding the economic development of thecountry, enhancing their image with the government and public.

2. ACCION International in Latin America

In late 1987, ACCION International received a US$1 million loan from AID’sBureau for Private Enterprise to leverage Latin American bank resources forloans to microenterprises. A three-party agreement was signed with ChemicalBank to enable irrevocable stand-by letters of credit to be issued in favor ofparticipating Latin American banks. Funds disbursed by AID were invested incertificates of deposit (CDs) at Chemical Bank. Since its formation, theguarantee fund, known as the Bridge Fund, has been augmented through loansfrom private individuals, churches, and Program Related Investments (PRIs)from foundations.

ACCION works with a close-knit network of affiliates in 14 countries in LatinAmerica, and in the United States. The affiliates can apply for guarantees thatback the principal amount of loans from local commercial banks to theaffiliates. Unless rediscounted lines of credit are available from the banks,affiliates pay commercial rates of interest for these loans. Borrowed funds arethen on-lent to microentrepreneurs by the local affiliate.

The percent of principal loss guaranteed varies from 33 - 90%, depending onthe negotiations between the bank and the affiliate and on the affiliate’sexperience with the guarantee mechanism. Most affiliates begin with a 90%guarantee which they attempt to negotiate downward with each subsequentbank loan. By the end of 1992, the ACCION affiliates had over US$10 millionof credit (one third of the global portfolio of all affiliates) backed by US$4 millionin Bridge Fund guarantees (less than 40% guaranteed). The Bridge Fund’scapital was being leveraged at a ratio of 2.7 to 1.

Chart 3 shows the amount in guarantees and the amount of approved creditbased on those guarantees, as of the end of each year. To date, none of theguarantees have been called. Loan losses experienced by the affiliates usingthe Bridge Fund have been absorbed by the loan loss provisions of the affiliate.As the figures show, the use of guarantees has been steadily increasing, ashas the amount of leverage. The degree of leverage obtained in each countryvaries considerably depending upon the program’s relationship with theparticipating banks and other factors that are discussed in Chapter III. TheBridge Fund has proved to be a critical financing mechanism for many ofACCION’s affiliates, enabling them to rely on commercial loans for increasingamounts of portfolio capital.

39

In 1991, ACCION began charging an annual fee based on the amountcommitted in guarantees, payable quarterly by the affiliates. Approximatelyhalf of that amount covers costs that ACCION must pay to the U.S. banksissuing the letters of credit. The other half helps defray ACCION’s managementcosts of the fund. In 1991, approximately half the department’s costs werecovered by income from fees and interest on the deposited funds.

D. COMPARING MODELS AND EXPERIENCES

It is difficult to extract conclusive lessons from the experiences describedabove because of the different target groups, features, contexts, and levelsof information about each guarantee program.6 Examining each program interms of the critical criteria of guarantee mechanisms, however, leads to someinstructive observations. Chart 4 summarizes each guarantee program interms of the four critical criteria identified in the first chapter: loan andguarantee approval process, risk sharing, credibility of guarantee, and costsand fees. The last column, the “Capacity to Reach Targeted Sector,” providesan indication of the degree to which the program contributes to increasedfinancing to the targeted borrowers.

6 None of the documents reviewed specifically discussed the issue of leverage. It is probablysafe to assume that leverage objectives were directly related to percentaje guaranteed:a 50% guarantee implied a leverage goal of 2 to 1, an 80% guarantee implied a leveragegoal of 1.25 to 1, and so forth.

44

The last column of the Individual and Portfolio Model programs in Chart 4indicates that most of these guarantee programs have had limited success atactually increasing the amount of financing going to the targeted sector. Of theindividual programs, only the FUNDES program appears to have the capacityto reach the targeted sector on a sustained basis, and it is working on a verysmall scale. Of the portfolio programs, the India program appears to beworking, in combination with other government initiatives that require banksto lend to the targeted sector. The AID and Botswana programs are hamperedby low utilization rates, and the Nepal program is threatened by high levels ofdefault, which are causing banks to restrict their lending.

Looking at the four criteria provides some insight as to why the Individual andPortfolio Models have not been particularly successful.

Loan and Guarantee Approval and Risk Sharing: In the individual andportfolio programs, the loan and guarantee approval processes often resultedin high levels of default (BARAF, Levitsky and Prasad programs, GAF) whenthe banks assumed 20% of the risk or less. When the bank had to assumesubstantial risk (PDV, FUNDES, AID, Botswana), then bank lending waslimited to a relatively small number of borrowers. The SBA example describedin the previous section corroborates this tendency for banks to make saferloans as they assume more risk. In addition, a 50% guarantee does not seemto be sufficient incentive to get banks to lend to a new sector on a large scalewith either model. Only when guarantees covered 60% or more did banks lendon a relatively large scale.

Credibility of Guarantee: If a guarantee is not credible to the banks, thenthey will not lend widely to the targeted sector. Several of the Levitsky andPrasad programs showed that banks either did not lend, or suspended lending,if the guarantor did not appear capable of quickly meeting claims for defaultedloans. In many cases, those doubts were well founded, as the reimbursementprocess was slow, tedious, and sometimes unsuccessful (of the programsreviewed by Levitsky and Prasad: Malaysia, Cameroon, Ghana, Liberia,Morocco, and Jamaica). If a guarantor loses credibility because of delays inmeeting obligations, then banks will quickly curtail their lending under theguarantee program.

Costs and Fees: Commercial banks will only use a guarantee mechanismif it enables them to lend profitably. Higher transaction costs for lending totargeted borrowers contribute to low levels of bank lending. Costs becomemore of a problem as the distance between the targeted borrowers and the risk-transaction cost frontier increases. Increased costs are not an issue for thebanks with the FUNDES or GAF programs because these two guarantorsbasically assume many of the transaction costs. High transaction costs andlower profitability probably discouraged lending in the Mali, BARAF, Nepal,AID, and Botswana programs, however. The available information on the role

45

of fees in the guarantee models is particularly sparse. When banks have to paya fee to use the guarantee, as in the AID model, then that is one moredisincentive to lend to the targeted borrowers. However, as the brief discussionof the SBA program illustrated, fees can be an important mechanism fordiscouraging banks from using guarantees for their normal clientele under theportfolio model. The long-term viability of many of the individual and portfolioguarantee programs described by Levitsky and Prasad is doubtful eitherbecause they were not well-capitalized and could not cover their expenseswith their fees, or because the levels of default were higher than expected(Korea, Malaysia, Cameroon, Morocco, India, and Nepal).

1. The Intermediary Model Programs and Microenterprise

The two Intermediary Model programs included in the chart show generallypositive results. Like FUNDES, in terms of the amount guaranteed or theamount lent, both programs are working on a relatively small scale. Becausethe programs lend small amounts to microentrepreneurs, however, they areactually making credit available to a relatively large number of enterprises(over 4,000 in Egypt and over 30,000 by ACCION in Latin America).

In Egypt, part of the success of the collateral fund can be attributed to thehigh level of capitalization of the program. The participating banks have no realrisk nor responsibility. The true test for the Egypt program will be when thefoundations need to leverage funds, and whether participating banks willassume risk in order to lend to the foundations. Until that time, the Egyptianmodel is interesting because it promotes the development of financially soundmicroenterprise foundations. However, its potential to leverage commercialbank financing for the microenterprise sector is not yet proved.

As Chart 4 shows, the Intermediary Model has the potential to satisfy theimportant criteria. With a sound intermediary, and a letter of credit or collateralfund mechanism, the loan and guarantee approval process can be efficient forthe bank, the intermediary, and the final borrowers (microentrepreneurs). Thebank can assume very little or no risk initially, and then gradually assume morerisk as it becomes comfortable lending to a non-profit organization. Under theIndividual and Portfolio models, a low level of risk assumed by the bankgenerally leads to a high level of loan loss. With the Intermediary Model,however, an intermediary dedicated to serving the credit needs ofmicroentrepreneurs has very strong incentives to repay the bank, reducing thelikelihood of default.7

Both a collateral fund and a letter-of-credit mechanism are credible and easilyaccepted by banks. With the proper paperwork, banks are confident that they

7 The Following chapter, wich discusses ACCION's Bridge Fund, addresses this issue inmore detail

46

can quickly recover their funds if the loan is not repaid on time. A collateral fundcan be used easily under all three guarantee models. The letter-of-creditmechanism is facilitated by the Intermediary Model because one letter ofcredit backs one relatively large loan to the intermediary. As the loan sizedecreases, such as to back individual loans to small or microentrepreneurs,the transaction costs of the letter-of-credit mechanism increase.

Lending to a microenterprise intermediary does not imply higher transactioncosts for the bank. The loan size can be similar to the bank’s normal loan size,and the application and information gathering processes should be comparableto those of normal bank clients. Lending to microenterprise intermediaries canbe just as profitable for the bank as its other lending activities.

Both the bank and the intermediary have incentives to fully use the guaranteeto provide finance to the targeted sector. For the bank, lending to theintermediary is a profitable operation with an acceptable level of risk becauseof the guarantee. For the intermediary, lending to microentrepreneurs is theprimary mission. Furthermore, the intermediary must generate a return on itsbank loan in order to pay the financial costs of the loan.

The Intermediary Model programs have several features that make themparticularly attractive for microenterprise lending. Even though the finalborrowers, microentrepreneurs, are very far from the bank’s normal risk-transaction cost frontier, the loan that the bank actually makes to theintermediary is close to its frontier. Moreover, the intermediary is often a bankclient already, using deposit, checking, and other services.8 NGOs areperceived as potential long-term clients of the bank, unlike most of the smallbusinesses targeted by guarantee programs, and the guarantee allows thebank to experiment with lending to NGOs without assuming too much risk.

The experiences discussed thus far lead to several important lessons thatprovide guidance for assessing the different models and characteristics ofguarantee schemes.

• A guarantee mechanism will only be widely used by banks if banks canmake profitable loans to the target population. If reaching the targetpopulation implies higher transaction costs, then the bank must be able toearn a higher return, or another entity (the guarantor or borrower) mustassume those costs. If the bank participates in a guarantee facility forpolitical reasons, it will probably be underutilized.

8 In some cases, the NGO may have already negotiated "special services from the bank,such as facilities to enable microenterprise borrowers to save in the bank or make loanpayments directly into the program's account at the bank.

47

• The responsibilities of all participants in the guarantee scheme must beclear, and risk should be shared by all parties who have a responsibility.

• The percent guaranteed should reflect the level of risk perceived by thebank. The percent guaranteed should not be so high that the bank becomeslax in its loan approval or recovery process, unless other incentives canensure high levels of repayment (as in the Intermediary Model). Indicationsare that, with the Portfolio and Individual Models, guarantees of above 80%may deter banks from aggressively pursuing late loans from individualborrowers.

• The fee charged by the guarantor should be high enough to deter use of theguarantee for loans that would be granted without the guarantee facility.

• For banks to use the guarantee, it must be credible, clearly specifying asimple and efficient process for calling the guarantee and receivingpayment for loan losses.

• If the guarantee facility is to be sustainable, fee and interest income mustcover operating expenses, losses paid out, and devaluations.

• The Intermediary Model appears most efficient for reaching a targetpopulation that lies far from the bank’s risk-transaction cost frontier. ThePortfolio Model appears more efficient and appealing to banks than theIndividual Model, although the guarantor has less control over the approvalof individual loans and guarantees.

The next section begins a more detailed analysis of ACCION’s experienceusing the Intermediary Model. It describes the evolution of ACCION’sguarantee facility to show the numerous considerations required for establishingsuch a facility. The case studies that follow, from Colombia and Ecuador,directly address the issue of increased access to credit for microentrepreneursin those countries. They also show how the economic context, such asliquidity in the financial system, the presence of other guarantee mechanisms,and the availability of rediscounted lines of credit, affect the use of a guaranteefacility.

CHAPTER III

ACCION’s BRIDGE FUND

51

ACCION International is a U.S. non-profit organization dedicated to servingmicroentrepreneurs in Latin America and the United States. In Latin America,ACCION works through a network of affiliate organizations that provide creditand training to microentrepreneurs. In most cases, these affiliates areautonomous, local, non-profit organizations committed to providing financialservices and training to the microenterprise sector.9 They share ACCION’sdedication to reaching large numbers of microentrepreneurs and achievingfinancial self-sufficiency. Operational methodologies, innovations, andexperiences are shared among the affiliated organizations, which operate in14 countries in Latin America,10 as well as in the United States. In 1992,ACCION affiliates lent over US$113 million to over 146,000 microentrepreneurswith an overall average loan size of US$430.

The establishment of a guarantee fund mechanism for ACCION affiliatesbegan in late 1985 with a three-year grant from the Bureau of Private Enterpriseof the Agency for International Development to cover start-up costs. AID alsoprovided a one million dollar loan to ACCION as initial capitalization of the fund.The fund is also capitalized with loans from churches and individuals, andprogram related investments from foundations. Borrowed funds (AID andprivate) are deposited in a U.S. bank in the form of CDs or other low-riskdeposits. The bank then issues an irrevocable stand-by letter of credit to abank in Latin America which then lends local currency to an ACCION affiliate.The affiliate lends to microentrepreneurs. If the affiliate fails to repay the bankon time, and the conditions in the letter of credit are met, the U.S. bankautomatically repays the Latin American bank the percentage of the lossnegotiated in the letter of credit.

10 Programs affiliated to ACCION operate in Argentina, Bolivia, Brazil, Chile, Colombia, CostaRica, the Dominican Republic, Ecuador, Guatemala, Mexico, Nicaragua, Panama,Paraguay, and Peru.

9 ACCION has recently become affiliated with two for-profit banks that provide financialservices to microentrepreneurs, Multi-Credit Bank in Panama and BancoSol in Bolivia.

52

A. UTILIZATION OF THE BRIDGE FUND

When ACCION initiated the Bridge Fund, only one of the affiliates had anyexperience borrowing from commercial banks. ADEMI, in the DominicanRepublic, had already obtained bank financing with the assistance of its boardof directors. Several board members had close relations with the lending bank,and one member was willing to co-sign the initial loan. Other ACCION affiliatesrelied on grant funding and highly subsidized loans from the Inter-AmericanDevelopment Bank (IDB) to capitalize their portfolios.

During the late 1980s, several ACCION affiliates experienced rapid growthof their portfolios and number of borrowers, but had to stem that growthbecause of insufficient capital. It became obvious that, as the programsbecame capable of managing portfolios of thousands of borrowers and severalmillion dollars, donor or highly subsidized funds would not be available insufficient quantities. In two countries where ACCION was opening newprograms, Paraguay and Chile, there was very limited donor funding available.The idea of borrowing funds from commercial banks became appealingbecause of the potentially large quantity of funds available in every country.Borrowing appeared quite risky to the affiliates, however, because of thefinancial responsibility and costs it implied.

The first ACCION Bridge Fund guarantee was issued in 1987 to back a loanfrom a private bank in Costa Rica, COFISA, to AVANCE Microempresarial.Several AVANCE board members had close ties with COFISA, and COFISAhad a rediscounted line of credit specifically for development purposes, bothof which facilitated the loan. The guarantee consisted of a US$100,000irrevocable stand-by letter of credit from Chemical Bank, written to meet therequirements of AID. AVANCE obtained a US$111,111 line of credit (theguarantee covered 90% of the loan) that was used to meet short-term cashrequirements in the loan fund until less expensive funds became available.The loan was used primarily as a liquidity management tool for the portfolio,instead of as a mechanism to fund its growth.

At about the same time, affiliates in Paraguay and Colombia obtainedcommercial loans without using the Bridge Fund guarantee. As in the casesof ADEMI and AVANCE, there were strong ties between the boards of theaffiliates and the lending banks. Board members provided personal guaranteesfor the small initial loans. As soon as Paraguay and Colombia obtained lettersof credit, they vastly increased their amount of borrowed funds. By the end of1988, there were letters of credit outstanding in Chile, Colombia, Ecuador,Paraguay, and Peru.

As the ACCION affiliates grew, and developed the capacity to pay marketrates for loan funds, the need for the resources that the guarantee fund couldfacilitate also grew. As Chart C showed (in previous section) the amountissued in guarantees increased by 291% from 1988 to 1990, and by another

53

100% from 1990 to 1992. Utilization of the guarantee fund was slightly less than70% at the end of 1988, but has been above 80% since 1989. Eighty percentis considered full utilization because of the liquidity reserves that must bemaintained, and the commitments for letters of credit that are in process butnot yet formalized. Demand for guarantees from the affiliates has exceededsupply since 1990, and guarantees have had to be rationed among theaffiliates. By the end of 1992, affiliates in all but two countries had usedACCION guarantees, and the Bridge Fund was backing US$10.5 million incredits to ACCION affiliates, an amount equal to nearly one-third of the globalportfolio of all affiliates.

The Bridge Fund has played, and continues to play, a different role for thedifferent affiliates. In countries where donor funding has been particularlyscarce, such as Paraguay and Chile, the Bridge Fund was a critical source ofcapital for program start-up. Without commercial sources of capital, theseprograms could not have established portfolios capable of serving severalthousand borrowers.

For expanding programs, such as ACTUAR/Bogotá in Colombia, bankfinancing with the guarantee mechanism has been the major source ofcapitalization for the rapidly growing portfolio. Lack of donor funds and theaggressive and commercial orientation of ACTUAR/Bogotá quickly led ACTUARto commercial sources of financing. The level of bank funding which theyachieved in their first few years would not have been possible without theBridge Fund guarantees.

For other countries, such as Costa Rica and Peru, the Bridge Fund has beenan important resource for meeting capital shortages and financing gradualgrowth in the portfolio. And, for some of the affiliates with a less commercialorientation, such as CORFEC in Ecuador and several affiliates of WWB(Fundación Mundial de la Mujer) in Colombia, the availability of the BridgeFund encouraged them to test the use of commercial bank financing to meetsome of their capital needs.

A program’s use of the Bridge Fund depends on its capital needs andpotential sources of capital. If a program has access to sufficient capital fromother, cheaper sources, then it is unlikely to aggressively pursue bank loanswith the Bridge Fund mechanism. If a program is new, or growing quickly, andneeds considerable capital but has no subsidized source, then it may becomeheavily dependent on the Bridge Fund.

As with any guarantee mechanism, the Bridge Fund can work only if thereis sufficient liquidity in the banking system for banks to make local currencyloans to a “new” clientele, non-profit organizations. Liquidity constraints haveoccasionally plagued the affiliates in both Ecuador and Peru, causing banksto postpone lending commitments because of a lack of capital. These

54

temporary liquidity shortages, affecting the entire financial system in Ecuadorand Peru, show the impotence of guarantee mechanisms in situations of lowliquidity.

If there is sufficient liquidity in a country, then a program’s ability to use theBridge Fund depends on two factors: its cost structure and its access to theformal financial sector. First, the program must have a cost structure thatenables it to pay market rates of interest for loan fund capital. The coststructure must show a high level of operational self-sufficiency, where theprogram can cover its operational costs (including cost of funds) with its ownoperational income. While this is a very basic point, it is often overlooked bynon-profit organizations investigating the potential of guarantee mechanisms.Most ACCION programs mix expensive borrowed funds in their portfolios withlow-cost funds (donations, equity, or subsidized loans) to develop an averagecost of portfolio funds that enables them to maintain a high level of operationalself-sufficiency.

Second, the program must have access to the formal financial sector, whichis not automatic even with a guarantee mechanism. As Drake and Otero pointout, financial systems in Latin America are relatively closed, with commercialbanks concentrating their loans in certain favored sectors with which theyhave personal relations and a previous credit history. Non-profit organizationsdo not form part of that favored sector and are an unfamiliar clientele.ACCION’s experience has shown that high-level private sector boards, withmembers who have personal and business relations with the financial sector,play a critical role in opening the bank doors to the ACCION affiliates. In somecases, board members even co-sign the initial loans to the NGO, making thempersonally liable if the NGO does not pay. Once a credit relationship isformalized between the NGO and the bank, and the NGO begins to establishits own credit history, the direct responsibility of individual board membersdecreases dramatically.

While high-level contacts enable program directors to begin talking with bankofficials, the affiliates still have to negotiate loan and guarantee terms thatmeet the bank’s requirements. Most banks have insisted on a 90% level ofguarantee for their initial loans to ACCION affiliates, and many have alsoinsisted on a “clean” letter of credit. The text of the initial letter of credit actuallybecame a stumbling block for several ACCION affiliates. To understand thisdifficulty, it is important to understand the bank’s perspective on letters ofcredit.

B. THE LETTER OF CREDIT MECHANISM

Stand-by letters of credit are instruments commonly used in the formalfinancial sector to guarantee payment when certain conditions are met. Witha stand-by letter of credit, the beneficiary (the lending bank) receives payment

55

(draws on the letter of credit) from the bank that issued the letter as soon asthe underlying contract is disputed or not fulfilled. For example, with ACCIONletters of credit, the bank in Latin America that lends to an affiliate can drawdown on the letter of credit from the U.S. bank upon default by the ACCIONaffiliate.

The text of ACCION’s initial letter of credit was negotiated by ACCION,Chemical Bank (the U.S. bank in which AID’s funds were deposited), and AID.Because AID wanted to protect its loan to ACCION, it added several clausesto the standard “clean” letter of credit that is internationally recognized andaccepted. For example, the banks in Latin America had to wait 180 days afternon payment, and pursue a number of steps to try to recover the loan beforeclaiming payment from the U.S. bank. These clauses made the letter of credit,and thereby the guarantee arrangement itself, unattractive to many banks.The banks were considering lending to a new client in a sector to which theynormally did not lend (non-profit organizations), and they were being asked toaccept a letter of credit that differed from the banking industry norm byrequiring more concessions on their part.

In several countries, negotiations over the letter of credit were long anddisappointing. In Paraguay, the guarantee fund was one of the few alternativesfor capitalizing the loan portfolio because of a lack of donor funds. TheFundación Paraguaya began negotiating with banks soon after ACCION madeletters of credit available. After two years of negotiating, some Paraguayanbanks refused to agree to the terms of the AID letter of credit. To relieve theFoundation’s critical funding shortage, ACCION issued a “clean” letter ofcredit, backed by its unrestricted funds instead of by AID funds. A similarsituation occurred in Ecuador. Through negotiations between AID, ACCION,and Chemical Bank, the letters of credit were modified to make them moreacceptable to banks. For example, the required waiting time for calling a letterof credit was reduced from 180 to 90 days. Banks in Paraguay and Ecuadoreventually accepted the AID letters of credit, as did banks in Chile, Mexico,and Costa Rica. Some banks, however, continued to object to the requirementsfor calling the guarantee, which they felt were too time-consuming andonerous. As with other guarantee mechanisms, ACCION’s was effective onlywhen banks felt that the mechanism was credible, assuring them that theywould be able to recover their losses quickly and efficiently.

AID’s initial funding was critical for establishing the Bridge Fund mechanismand providing ACCION with the opportunity to establish a workable andeffective guarantee program. The enormous demand for funds that the BridgeFund generated led ACCION to aggressively pursue additional sources ofcapital for the Bridge Fund. As the upcoming section on capitalization of theBridge Fund details, the amount of private capital in the Bridge Fund hasrapidly increased and surpassed the AID loan funds.

56

C. THE BRIDGE FUND AND LEVERAGE

One of the measures of success of a guarantee mechanism is that itincreases the level of bank financing reaching the targeted sector. Leverageis achieved when the bank is willing to lend more than the amount guaranteed.Most of the guarantee mechanisms described in Chapter II appeared to pursueleverage by guaranteeing different percentages of the loans (or loan losses).For example, a 50% guarantee was implemented to achieve 2 to 1 leverage(a US$1 million fund could guarantee up to US$2 million in loans). If the loansto the final borrower appear risky to the bank, however, then having 50%guaranteed may not be sufficient to encourage it to lend.

Instead of requiring high amounts of leverage from the beginning, ACCIONadopted a strategy of gradual leverage, with the banks assuming graduallyincreasing levels of risk. ACCION’s policy is to begin with a maximumguarantee of up to 90% of losses, and then work with the affiliate to negotiatedecreasing guarantee amounts (increasing leverage) as the affiliate proves itscreditworthiness to the bank. Bridge Fund guidelines stipulate that, by the endof the third year of borrowing from a specific bank, affiliates should negotiatea maximum guarantee of 80%, which should go down to 60% by the end of thefifth year and 50% by the end of the seventh year.

This strategy of gradual leverage has proved successful at enticing banksto lend to the NGO affiliates. Every affiliate that has attempted to borrow, hasbeen able to secure a loan commitment with the support of the Bridge Fund.The degree of leverage actually achieved, however, varies considerably fromcountry to country. It is dependent on the financial sector and its resources,the program’s experience and relations with the bank, and the program’saccess to other acceptable guarantees.

Collateral is a persistent issue for NGOs, even after a credit relationship hasbeen established. Many banks require collateral in addition to the letter ofcredit. Notes payable, in the form of promissory notes from microentrepreneurs,are often combined with the letter of credit to increase the collateral to well over100% of the amount lent.11 As the bank gains confidence in the NGO, it beginsto accept a lower percentage guaranteed by the letter of credit, and a higherpercentage guaranteed by the NGO’s own resources or payables. As Chart 3showed, by the end of 1992, ACCION had US$4 million in letter of creditguarantees backing more than US$10.5 million in credit to affiliates, for aleverage ratio of 2.7 to 1 (or a guaranteed amount of 37%).

11 While promissory notes from borrowers are being accepted by some banks, they are moresymbolic guarantees than real. It would be extremely costly for a commercial bank topursue microentrepreneurs that have defaulted on loans.

57

The countries that have achieved the highest leverage include Colombia,Mexico, Guatemala, and Peru. In Colombia, approximately US$1 million inletters of credit supported US$3.4 million in outstanding loans in 1992. TheColombian situation is examined in the case study in the following section, buttwo factors have played an important role in increasing Colombia’s leverage.First, the government has implemented a National Microenterprise Plan witha large rediscounted line of credit channeled to banks from the Inter-AmericanDevelopment Bank. Second, the Colombian affiliates have combined ACCIONletters of credit with other guarantees, (such as counter-guarantees fromFUNDES, their own promissory notes, and savings accounts of programclients) to achieve higher leverage of ACCION’s guarantee.

The high leverage obtained by ADMIC in Mexico can also be attributed to theMexican government’s commitment to microenterprise. In mid-1992 ADMIChad US$4.4 million in credit lines, backed by only US$600,000 in guarantees,for a leverage of more than 7 to 1. The bulk of the credit was provided byNacional Financiera, the federal government’s development bank. The MexicanGovernment essentially contracted ADMIC to implement its microenterpriseplan in the states where ADMIC has offices, and negotiated high levels ofleverage from Nacional Financiera for this implementation.

In Guatemala as well, government policy towards the microenterprise sectorcontributed to the program’s ability to leverage commercial bank funds. TheGuatemalan government adapted a policy of democratizing credit, and newpolicies enabled creditworthy non-profit organizations to borrow without realguarantees. The Guatemala program, GENESIS Empresarial, used theBridge Fund to initiate a borrowing relationship with two banks, each of whichlent GENESIS US$35,000 with a 100% guarantee (an exception to ACCION’s90% maximum guarantee policy). After the credit term of one year, both banks(as well as eight additional ones) agreed to lend a total of US$740,000 toGENESIS without letters of credit.

In Peru, Banco Wiese had been supporting ACCION Communitaria del Peru(ACP) for many years. The Bridge Fund enabled the bank to increase its creditline to ACP to US$200,000 supported by a US$100,000 letter of credit.

In other countries, leverage has been more difficult to obtain. In somecountries, banks are closely regulated as to the amount they can lend withoutbacking from “real” guarantees, such as real estate, letters of credit, or otherphysical guarantees. In other cases, banks simply do not have sufficientincentive to lend to ACCION affiliates with less than a 90% guarantee.Convincing them to take more risk, appears to be a longer process thanpreviously envisioned.

58

D. THE MECHANICS OF THE BRIDGE FUND 12

Establishing an international guarantee fund requires expertise in severalareas. This section details ACCION’s strategy for managing three criticalareas of the Bridge Fund: the capitalization of the Bridge Fund, includingfinding potential investors; an investment strategy for the fund, which isclosely tied to the strategy for moving the fund towards self-sufficiency; andrisk management, specifically exchange-rate risk and the risk of loan default.

Capitalization

The Bridge Fund was initially capitalized through a one million dollar long-term loan from AID. The increasing demand for guarantees from affiliates, andthe limitations of the AID letter of credit (as previously discussed), ledACCION to turn to private sources of capital to augment the guarantee fund.

One important source of capital was the Socially Responsible Investment(SRI) community. Socially responsible investors are those who considersocial issues as well as return when they make their investments. Someinvestors “screen” companies to avoid those that violate certain personalvalues, such as weapons production, nuclear energy, and business in SouthAfrica. Other investors look for companies that show specific attributes theyconsider desirable, such as environmentally sound practices or labor policiesthat favor women and minorities. Still other investors look for investments thatwill have what they consider a high social impact, such as creating jobs orhousing in poor neighborhoods.

While socially responsible investing has been around since the early 1900swhen church groups declined to invest in companies that produced alcohol ortobacco, it did not gain national attention until the 1970s, when investorsorganized against companies doing business in South Africa. Since that time,socially screened investments have grown to well over US$600 billion(Shapiro, 1992). Although the SRI community includes many individuals,much of the capital in SRI investments is from church groups. Many churchgroups base their investment strategy on preserving the value of their capitaland on having a high positive social impact, but not necessarily on earning thehighest return.

Churches and individuals from the SRI community have provided ACCIONwith a growing source of unrestricted capital for the guarantee fund. Privatelenders make loans of US$10,000 or more to the Bridge Fund for 18 monthsand receive a return slightly lower than the market rate. These lenders, for themost part, can be relied upon to renew their loan commitments after the

12 Much of this section was writeen by Deborah Drake, ACCION's Director of New FinancialInstruments.

59

initial 18 months, thus ensuring the Bridge Fund a stable and long-term capitalbase. Experience thus far has shown that about 90% of loans that mature arerolled over for another period.

Program-related investments (PRIs) from foundations,13 like the Ford andMacArthur Foundations, are another critical source of capital. They providelong-term loan capital in large amounts at very low interest rates. The spreadbetween what ACCION pays the foundations and what it earns on that capitalassists the Bridge Fund in covering its costs. Despite the obvious advantageof having such inexpensive capital, PRIs often come with “strings attached”in the form of specific conditions regarding the use of the funds. For example,a PRI lender may require that ACCION establish a specific loan loss reservefor the loan. There may also be complicated reporting requirements that canmake the administration of PRIs time-consuming.

Capitalizing the guarantee fund from different sources enables the Fund toachieve a blended interest rate and a positive spread that defrays operatingcosts. Diversification also prevents the guarantee fund from being totallydependent on one source of funding, which may or may not be renewable.Balancing the different interests of the lenders, and managing the logisticalaspects of varying loan tenors, interest rates, amortization schedules, andreporting requirements, is a considerable challenge, however. Chart 5summarizes some of the advantages and disadvantages of the three sourcesof capital of ACCION’s Bridge Fund.

CHART 5

ADVANTAGES AND DISADVANTAGES OF DIFFERENT LOAN SOURCES

Source Potential Advantages Potential Disadvantages

Program Related • Large sums. • Complex negotiationsInvestments from • Low cost (high spreads). with legal requirements.Foundations • Long-term with scheduled amortizations • Reporting requirements.

• Conditions simplify planning. • No roll overs.• Limited number of sources.

Private Loans • Large pool of potential lenders. •Small amounts.• Limited reporting requirements. • High cost (low spreads).• No negotiations. • Short-term.• Simple paperwork. • Substantial marketing and• High rate of roll-over. administrativecosts.• No restrictions on use.

Agency for • Included grant component for start-up. • No interest rate spread.International • Provided critical start-up capitalization. • Cumbersome letterDevelopment of credit.

• Required exceptions touse innon-AIDassisted

countries.

13 Endowed foundations use income from their investments to make grants. PRIs, on theother hand, generally come from a foundation's equity, and are consequently not granted,but lent to organizations that can pay them back and preserve their value.

60

Combining different sources of capital has led to steady growth of the BridgeFund since its inception. Chart 6 shows the growth in Bridge Fund capitalizationby source of funds. Although capital growth has been impressive, it remainsa challenge. Beginning in 1993, the Fund must begin to make principalpayments on some of its larger loans. ACCION will have to raise considerablecapital just for the Fund to maintain its current level of capitalization.

61

Investment Strategy, Rate of Return, and Self-Sufficiency

Initially, capital from loans to the Bridge Fund was deposited in a commercialbank in the form of CDs. Rates earned on these CDs were the base upon whichACCION determined what rate to pay the private lenders to the Bridge Fund.At one time, the lenders received the CD rate less a certain percentage, whichprovided the Bridge Fund with a small “spread” to cover its costs. That methodquickly proved to be very labor intensive and difficult to manage because ofthe daily changes of CD rates and the banks’ operational administration of theirCDs (e.g., one bank paid interest only at maturity while another would pay outsemi-annually).

After enduring a few years of paying interest pegged to the varying CD rates,Bridge Fund staff decided to set independently an interest rate that would fairlycompensate the lenders, but would alleviate the administrative burden of theoriginal system. Following an analysis of the Bridge Fund’s sources of funding,ACCION set a predetermined interest rate on a semi-annual basis forpayments to lenders. The rate is below the rate earned on ACCION’sinvestments, producing a margin that helps ACCION cover some of theoperating costs of the Bridge Fund.

An essential element for determining the proper interest rate to pay lendersis the rate that the Bridge Fund receives on its bank investments. At thebeginning, the Bridge Fund operated solely with monies from the AID loan.Interest earned on those bank deposits went directly to AID thereby eliminatinga spread for the Bridge Fund to cover operational costs. Once private lenders(including foundations) were introduced as a source of funding, there were fewrestrictions regarding the composition of the investment portfolio except thatthe monies had to remain in U.S. dollars in order to eliminate any exchangerisk.

ACCION continued to invest the proceeds from loans to the Bridge Fund inCDs until it received a PRI from the Ford Foundation in 1991. With the longertenor and lower interest rate, the PRI presented ACCION with an importantopportunity to earn more. There was no direct correlation between the rateearned on a CD and what the Bridge Fund paid the Foundation for its funds.Consequently, as the composition of lenders and their instruments becamemore varied, ACCION began to diversify its investment portfolio away fromone made up exclusively of CDs.

To change its strategy of investing in bank CDs, ACCION had to considerseveral factors: (1) ACCION’s tolerance for interest rate and principal risk; (2)the Bridge Fund’s liquidity requirements for potential lender withdrawals and

62

loan losses; (3) the Bridge Fund’s cost structure and the additional cost ofmanaging a diversified investment portfolio; and (4) the collateral requirementsof the banks issuing letters of credit, because ACCION’s investments backthose letters.

After lengthy analysis and negotiation, ACCION decided to diversify theportfolio to include high quality bonds, U.S. Government obligations andbankers acceptances, and other money market instruments. Tenors of theinstruments were varied to permit a certain portion of the portfolio to remainliquid. In addition, ACCION decided to transfer the daily management of theinvestment portfolio to professional money managers.

As the Fund grew, private lenders, particularly those from the sociallyresponsible investment community, became increasingly interested in thecomposition of the Bridge Fund’s investment portfolio and strategy. BridgeFund management also wanted to influence directly the selection of investments.Because of these considerations, ACCION employed the services of acompany specializing in socially screened investments. This arrangementallows ACCION to diversify the types of instruments, the tenors and risk/reward potentials, and to direct Bridge Fund monies toward sectors of theeconomy that ACCION wants to support.

With a diversified investment portfolio and a defined investment strategy, theBridge Fund management determines the interest rate to pay private lendersby analyzing projected earnings from interest and fees in view of projectedoperational and financial costs. AID and PRI lenders receive interest basedon predetermined rates. Since the Bridge Fund promises to pay lenders a fixedrate of interest over a specified period (18 months), there must be carefulasset/liability management to avoid a mismatch of loan tenors and interestrates. The rate ACCION earns on its deposits and investments could fluctuatedramatically over the tenor of a private investor’s loan, thus resulting in anegative spread or margin for the Bridge Fund.

A stated long-term goal of the Bridge Fund is self-sufficiency; that is, to coverfinancial and operating costs from fees and income earned on investments.ACCION charges an annual fee to the affiliates using the Fund, which helpsdefray a portion of the financial and operating costs. In turn, ACCION must paythe participating U.S. bank a fee for processing guarantees. Other incomecomes from the margin between what ACCION pays lenders to the fund, andreturns from ACCION’s investment of the funds. As interest rates in the U.S.have dropped, this margin has narrowed.

63

Presently, the Bridge Fund covers slightly more than half of all of its operatingand financial costs (including overhead costs to ACCION) with its earnings.For 1993, ACCION estimates that the Fund will be 70% self-sufficient. Theimprovement will come primarily from increased interest income on investmentsbecause of the diversification of the maturity and risk profile of the investmentportfolio. Self-sufficiency is a long-term goal that will be achieved by propermanagement of the investment portfolio, careful control of expenses, ongoinganalysis of fee structure to ensure that costs are properly reflected, and thedevelopment of new financial products that will generate additional feeincome.

Risk Management: Exchange Rates and Credit Risk

As discussed above, interest rate and investment risks are two of the riskswhich Bridge Fund staff must manage. Two additional potential risks includeexchange rate risk and the credit risk involved in guaranteeing loans to theACCION affiliates. Because the guarantee fund remains in the United Statesand in dollars and the guarantee agreements stipulate a U.S. dollar amount,exchange rate risk for the Bridge Fund is virtually eliminated.

If the dollar increases in value against the local currency (which is usuallythe case), then either the bank should increase the amount of local currencyavailable to the affiliate or the guarantee amount in U.S. dollars should bereduced. The affiliates generally have to negotiate with the banks for them toincrease the local currency loan. There is often a considerable delay betweena devaluation of the local currency and an increased loan amount for theaffiliate. During that delay, the local currency loan is over-guaranteed by theletter of credit.

If the dollar devalues against the local currency, which is quite unusual inLatin America, then the local bank suffers the consequences. In effect, itslevel of risk is increased because, in the case of default, the bank will not bepaid more than the U.S. dollar amount agreed upon in the letter of credit. Afterthe devaluation of the dollar, that amount will be worth less (in local currency)than it was when the letter of credit was negotiated.

The credit risk incurred by the Bridge Fund is a much more difficult risk forACCION to manage. It is not donor funds at risk in the guarantee fund, butborrowed funds from private individuals, churches, foundations, and AID thatmust be repaid. ACCION tries to minimize the risk of loss to the guarantee fundby constructing several layers that protect the fund from losses even whenindividual microentrepreneurs default, and by carefully assessing and monitoringthe risk of each guarantee.

64

Unlike the individual and portfolio guarantee funds described in Chapter II,ACCION’s fund is protected from losses by several layers. If an individualborrower in an ACCION program using the guarantee fund defaults on a loan,then the first loss would be taken by the program’s loan loss reserve, whichis held in local currency.14 According to guarantee fund regulations, theprogram must maintain a reserve of from 2-5%. This reserve gives the affiliatethe capacity to absorb losses of 2-5% of its portfolio without affecting its equityor putting the repayment of the bank loan at risk.

If a program suffers losses exceeding its reserve, then it must choosebetween two options. The program can either default on the bank loan (or partof the loan), thereby triggering a claim against the guarantee, or the programcan delve into its own equity to repay the bank loan. All ACCION programshave a portion of their portfolio composed of donated funds and retainedearnings, which have become part of the institution’s own equity. To date, thatportion is still over half the portfolio in nearly all the programs. This enablesthe programs to pay their bank loans even if they suffer an extremely high rateof default.

For several reasons, programs will choose to pay out of their own equityrather than default on the bank loan. First, the close relationship betweenACCION and its affiliates generates a considerable amount of commitment onboth sides. The affiliates are aware of the risks that ACCION is taking on theirbehalf with the guarantees and feel an obligation to live up to their ownresponsibility in the relationship. Second, many of the relationships betweenthe local bank and the affiliates were established with the support of theaffiliate’s board members. The credibility of the affiliate’s board, who generallyhave important personal and commercial relations with the bank and theprivate sector, is also at stake. Board members will do everything within theirpower to ensure that the affiliates do not default on their bank loans.

If the affiliate does default and the guarantee is called, then ACCION mustpay the lending bank the agreed upon percentage of lost principal. ACCIONalso maintains a loan loss reserve, held in dollars in the United States, equalto 10% of the AID funds and 5% of the private funds. ACCION can cover asignificant amount of losses from donated funds that have capitalized the loanloss reserve, without accessing funds borrowed from Bridge Fund lenders.Diagram C shows these many layers of protection.

14 In programs using the solidarity group mechanism, the group is actually the first layer ofprotection, covering for individual members with repayment problems. Some programs alsohave individual or group savings accounts that help prevent payment problems.

66

Strengthening these layers of protection is the selection and monitoringprocess that ACCION has implemented as the Bridge Fund has grown. First,the guarantee fund is available only to ACCION affiliates. Second, care istaken to not concentrate risk by issuing a large percentage of the Bridge Fundguarantees in one program or country. Third, the affiliates must meet specificcriteria and show financial soundness to benefit from a letter of credit. ACCIONaffiliates must apply to the guarantee fund, submitting:

• annual, audited financial statements from the program and the lendingbank;

• a detailed list of bank loans of the previous three months;

• a portfolio report, showing loan losses, past due loans, and refinanced andrestructured loans.

In addition to carefully reviewing these reports, which must be updatedquarterly, Bridge Fund staff conduct a personal evaluation of each program atleast once every two years. The purpose of the evaluation is to perform a creditanalysis of the affiliate and document the evolution and current status of therelationship between the bank and the affiliate. There are four major areasexamined, as described in Chart 7.

General standards for the indicators in Chart 7 do not exist for microenterprisecredit organizations. As ACCION conducts more and more of these analyses,it is establishing required administrative and policy standards, and acceptablefinancial ranges. Experience is leading to better criteria upon which to evaluatepotential users of the guarantee fund.

This system of assessment and monitoring, coupled with ACCION’sestablished working relationship with the affiliates, has enabled ACCION to beconfident that affiliates using the guarantee will repay their loans. In thosecases where the affiliate has experienced financial problems, ACCION hasworked with the affiliate and its board to resolve the problems as quickly aspossible, and return the affiliate to sound financial footing. With over 92guarantees issued (including 21 renewals) over six years, no ACCIONguarantee has been called.

E. IMPLICATIONS OF THE BRIDGE FUND FOR ACCION AND ITSAFFILIATES

The Bridge Fund currently enables ACCION’s affiliates to borrow over US$10million to lend to microentrepreneurs, an amount that continues to increaseeach year. Without the Bridge Fund, it is doubtful that the affiliates would havebeen able to access bank funding totaling US$2-$4 million. The Bridge Fundhas effectively increased formal sector financing to the microenterprise sectorin Latin America.

68

The Bridge Fund has also had a profound effect on ACCION and its affiliates.Both have had to become financial intermediaries, a rather unusual role fornon-profit organizations (Drake and Otero, 1992). While grant funding continuesto be important for ACCION, increasing resources are being invested in thesearch for new “commercial” sources of capital for the portfolios of theaffiliates. The level of capitalization needed throughout the network ofaffiliates (a projected global portfolio of over US$173 million dollars by 1995),requires innovative financial intermediation.

ACCION is currently working with other institutions to actively pursue twopotential mechanisms: (1) the establishment of a high-impact, sociallyresponsible investment fund that would lend some of its capital to ACCIONaffiliates (and other institutions), and (2) the formation of a consortium thatwould lend investors’ funds directly to ACCION (and other institutions).ACCION has also established the Gateway Fund, which is dedicated to raisingcapital that will then be invested by ACCION as equity capital in newly createdfinancial intermediaries, such as BancoSol in Bolivia. ACCION is pursuingthese new initiatives because of the success of the Bridge Fund. The BridgeFund has confirmed the potential of financial intermediation for raising largeamounts of capital for microenterprise lending. It has also enabled ACCIONto begin to develop the expertise needed to pursue other innovative financingmechanisms.

ACCION’s affiliates have gone through a similar transformation with the helpof the Bridge Fund. In 1986, total commercial bank financing to ACCIONaffiliates was less than US$700,000 in the hands of four affiliates. By 1992,affiliates in 11 of 15 countries (including the United States) were borrowing overUS$11 million to capitalize their portfolios. The Bridge Fund helped open thedoors of the formal financial sector to the ACCION affiliates, and enabledthose few affiliates that already had bank loans to increase the amounts ofthose loans. As Drake and Otero explain, this transformation has a profoundeffect on all aspects of the affiliates’ operations. Concepts that were originallyalien to the affiliates as typical non-profit organizations (such as interest ratespread, counter-guarantee, and average cost of funds) have become criticalissues for day-to-day program management.

While some affiliates have found that the Bridge Fund mechanism itselfmeets their current funding needs, others have used the Bridge Fund as astarting point for transforming themselves into increasingly sophisticatedfinancial intermediaries. The affiliate in Bolivia formed a bank (see Drake andOtero, 1992); affiliates in both Colombia and Ecuador are in the process offorming formal financial institutions. The affiliate in Chile, PROPESA, isexploring two innovative possibilities: using an equity fund to guarantee a lineof credit, and “securitizing” the PROPESA portfolio to then sell shares infinancial markets of Chile, Europe, or the United States. The two case studiesin the next chapter detail the effect that the Bridge Fund has had on theACCION affiliates in Colombia and Ecuador.

69

CHAPTER IV

GUARANTEE FUNDS IN THE FIELD:

CASE STUDIES

71

Thus far, this monograph has focused on the guarantee mechanism itself,and not on the use of the guarantees and their effect on the small businessand microenterprise sector. As the analysis thus far has shown, it is verydifficult to determine whether or not a guarantee mechanism has actuallyincreased the provision of formal sector finance to the targeted sector,especially from secondary sources of information. The two case studiespresented below describe the effect and use of the ACCION guaranteemechanism in both Colombia and Ecuador. They also describe the small andmicroenterprise environment in each country, the availability of rediscountedlines of credit, and the availability and use of other guarantee mechanisms.

As the case studies show, one of the most far-reaching effects of theguarantee mechanism has been its role in the changing outlook of themicroenterprise lending agency. While many factors contribute to the processof transforming a non-profit microenterprise lending program into a financialintermediary (Drake and Otero, 1992), access to bank credit is a critical factor.

A. COLOMBIA

Colombia has a mosaic of microenterprise agencies, guarantee entities, andrediscounted lines of credit specifically for microenterprises, much of itmotivated by the government’s National Plans for Microenterprise, whichbegan in 1983. In 1987, the Inter-American Development Bank (IDB) provideda US$7 million loan (IDB-I) to Colombia for lending to microenterprises thatwere participating in programs of microenterprise entities approved by theNational Plan. Participating microenterprise support agencies provided pre-and post-credit training and technical assistance, and would then either helptheir clients access the rediscounted lines of credit or make the loansthemselves. Few private commercial banks used the IDB line; most of theloans were made by cooperative banks, the Corporación Financiera Popular(CFP, a Government bank created to provide financing to micro-, small-andmedium-sized enterprises), and other financial institutions with a socialmandate.

72

In mid-1991 the second rediscounted line of credit from IDB (IDB-II) beganto be disbursed in Colombia. Under IDB-I, the funds were lent from the CentralBank to a formal financial intermediary (a cooperative bank or the CFP) to lendto microentrepreneurs who had passed through the training program of anapproved microenterprise entity. One major change under IDB-II was thatfunds could be lent from the Central Bank to a formal financial intermediary toa microenterprise foundation, which would then lend to the microentrepreneur.In addition, the many programs doing “solidarity group” loans15 becameapproved microenterprise entities, whereas under IDB-I only those offeringindividual loans and providing extensive training had qualified.

The IDB lines of credit have been a critical source of capital, especially during1991 when there was low liquidity in the banking system and banks wereseverely constrained by law in their ability to make loans. Without the IDB line,there would have been no credit from the financial system available formicroenterprise lending during that period. Even with the IDB line, commercialbanks have only gotten involved with microenterprise lending in two veryrecent cases. The IDB credit has been channeled through the CFP, thecooperative banks, and the Caja Social (a Jesuit bank with social objectives)to the specialized microenterprise entities and microentrepreneurs.

Three of the institutions that provide guarantees for loans to microenterprisesin Colombia are described below. They include FOMENTAR, FUNDES, andACCION. Colombia also has a National Guarantee Fund, which targets small-and medium-sized manufacturing enterprises, but has not been widelyaccepted by banks (Davila et. al. 1991). In addition, the Carvajal Foundationprovides guarantees for small businesses.

THE FOMENTAR PROGRAM

FOMENTAR (Fundación Fondo de Garantias Para el Desarrollo de laEconomia Social y Solidaria) was established in Colombia in 1988 as a private,non-profit foundation with the objective of guaranteeing credit tomicroentrepreneurs. Founding members included the Friedrich Ebert Foundationof Germany and several Colombian foundations and cooperative banks. In1988, FOMENTAR began issuing loan guarantees. To receive a guarantee, anentrepreneur had to pass through the training program of one of themicroenterprise support agencies associated with FOMENTAR and approvedby Colombia’s National Plan for Microenterprise. With the approval of themicroenterprise agency, the microentrepreneur was eligible for a loan fromFOMENTAR’s member agency and a guarantee from FOMENTAR.

15 The "solidarity group" methodology requires that borrowers form groups that co-guarantee loans. For details, see Berenbach and Guzman, 1992

73

FOMENTAR’s experiences over its first three years were not particularlypositive, although 460 microentrepreneurs did receive FOMENTAR guarantees.By July 1991 FOMENTAR had less than US$200,000 for backing guaranteesand was generating income from commissions to cover less than 8% of itsoperating costs. The bulk of its costs were being paid from interest ondeposited funds, which greatly constrained the institution’s ability to increaseits capital base. Only four of FOMENTAR’s founding agencies were actuallymaking loans using the FOMENTAR guarantee, and about 4% of the amountguaranteed had to be paid out to cover loan losses (FOMENTAR, 1992a).Indications are that the lending foundations suffered high levels of delinquencyand default because of their lack of experience in lending to microentrepreneursand their inadequate follow-up on loans. Furthermore, the relationshipbetween FOMENTAR and the lending agencies was not clearly defined,leaving some doubt as to which agency was responsible.

A 1991 survey of 20 financial institutions in Colombia indicated that none ofthe institutions surveyed were familiar with the FOMENTAR guarantee. Oncethe mechanism was explained, they expressed the following opinions:

• 100% felt that an 80% guarantee was insufficient.

• 100% expressed that the level of patrimony and financial solidity ofFOMENTAR would be critical in deciding whether or not they wouldconsider the use of a FOMENTAR guarantee.

• 100% said that FOMENTAR would also have to cover some portion ofoperating costs for them to lend to microenterprises.

In 1992, FOMENTAR initiated a series of changes to increase its capacityto guarantee loans and to improve the quality of its portfolio. These changeshave focused on increasing FOMENTAR’s capital base through membershipof additional financial intermediaries, offering more flexible guarantees toattract more participation from financial intermediaries, being more rigorousabout loan follow-up, expanding the program to guarantee loans to cooperativesand NGOs (intermediary model) instead of only to individual borrowers, andgenerating more income.

These changes have produced very positive results for the first half of 1992.Even compensating for inflation, comparing January-July 1991 to January-July 1992, income from commissions increased by about 10 times. FromJanuary-July 1992, FOMENTAR issued 181 guarantees worth over US$600,000(including guarantees for loans to intermediaries). During all of 1991,FOMENTAR had issued 242 guarantees worth just over US$300,000(FOMENTAR, 1992a). The balance sheet of July 1992 also shows dramaticchanges from July, 1991, showing a nearly 50% increase in patrimony and a60% increase in the amount available for guaranteeing loans (FOMENTAR,1992).

74

FUNDES FOUNDATION OF COLOMBIA

The FUNDES Foundation of Colombia, known as FUNDESCOL, wasestablished in 1988 with the same mission and basic structure as otherFUNDES foundations in Latin America (see section on Individual Guarantees).FUNDESCOL guarantees a maximum of 50% of any loan (plus interest) andcharges a commission of 3% per year on the amount guaranteed. The lendinginstitutions require that the exposed portion of the loan be covered byadditional guarantees of the borrower.

From mid-1988 through mid-1992, FUNDESCOL issued portfolio guaranteesfor over 250 microenterprises16, backing 48% of over US$1 million disbursedin loans with an average size of over US$4,000. In addition, since 1991FUNDESCOL has guaranteed 40% of 35 loans (averaging US$35,000) worthUS$1.3 million to small businesses. According to FUNDESCOL staff, smallbusiness borrowers that benefit from FUNDESCOL guarantees are similar tothe type of borrowers that the lending institutions normally finance, except thatthey do not have adequate collateral. In some cases, the borrower mightqualify on his or her own for a loan, but wants a longer term loan which thelending institution is unwilling to supply without an additional guarantee.

While FUNDESCOL is committed to the small enterprise sector, the staffmembers recognize the challenge they face in providing individual guaranteesto large numbers of entrepreneurs. Though the mechanisms are effective, theintense staff time used to assist each borrower (see FUNDES description insection on Individual Guarantees) greatly reduces their capacity to serve largenumbers of small businesses. This challenge, and the huge demand for creditfrom even smaller enterprises, has led FUNDESCOL to use the intermediarymodel to reach what it calls “family enterprises.”

Unlike FUNDES in other countries, FUNDESCOL guarantees loans tofoundations that provide loans to these “family enterprises” or microenterprises.Because of the IDB lines of credit and the presence of several strongmicroenterprise credit organizations, there is considerable demand forintermediary credit guarantees. In an innovative collaboration with ACCION,FUNDESCOL has guaranteed several bank loans to ACTUAR/Bogotá andseveral other ACCION affiliates. FUNDESCOL charges a 2% fee and theguarantee covers only principal. The arrangement makes good businesssense for FUNDESCOL because their guarantee capacity had beenunderutilized. Furthermore the transaction costs are low, the risks are shared,and many microentrepreneurs gain access to credit. This mechanism isexplained in more detail in the following section on ACCION.

16 FUNDES uses the term family enterprise for smaller businesses that are similar in sizeto those served by ACCION.

75

ACCION International in Colombia

The vast majority of ACCION guarantees issued in Colombia have benefitedthe Corporación ACTUAR por Bogotá (ACTUAR/Bogota), which has built itselfinto one of the largest microenterprise lending institutions in Latin America.ACTUAR uses the solidarity group model of lending and provides loans ofseveral hundred dollars. They began lending in September 1988 and haveexperienced extraordinary growth, as shown below:

DATE ACTIVE PORTFOLIO ACTIVE BORROWERS($US)

Dec. 1989 187,356 1,728Dec. 1990 580,764 6,243Dec. 1991 1,408,752 14,464June 1992 1,943,589 19,147

Because ACTUAR has had very little access to donated funds, it has fundednearly all of its portfolio growth through loans. As of July 1992, ACTUAR hadan active portfolio of over US$2 million, and US$2.1 million in long-term debt,most of it guaranteed by ACCION and FUNDESCOL. Most of ACTUAR’sborrowed funds are from the IDB rediscount line, which is subsidized with anaverage cost of about 18% (during the first six months of 1992), about 6 to 10points below commercial rates and well below inflation17.

Initially, loans to ACTUAR were supported by personal guarantees ofACTUAR board members who had close relations with the lending bank.Several of the loans were also from financial institutions dedicated tomicroenterprise, or with a social mandate. Recently, however, as ACTUARhas built its credit history, it has been able to use promissory notes from itsown borrowers as collateral. Chart H shows the progression of loans toACTUAR, indicating the type of lending institution, the loan amount, and therequired guarantee.

The most interesting aspect of the chart is the relationship between the typeof lending institution and the guarantee accepted over time. For the first threeloans, the personal guarantee from an ACTUAR board member was critical.The fourth loan, from a foundation, was backed 100% by letters of credit, onefrom ACCION and one from Solidarios. It is not until the fifth and sixth loans,both from financial institutions with social mandates, that the promissorynotes of ACTUAR borrowers begin to be accepted as collateral.

Although the promissory notes begin to be accepted by banks, it must berecognized that they are actually of very little value to the bank in case of adefault by ACTUAR. The cost to the bank of recovering tens or hundreds of

17 Inflation in Colombia in the first six months of 1992 averaged about 27%.

77

thousands of dollars in one to three hundred dollar loans from thousands ofmicroentrepreneurs in the poor barrios of Bogotá would be overwhelming. Thebanks accept the promissory notes as a formality that shows the goodintentions of ACTUAR, helps them meet regulatory standards for guarantees,and indicates their trust that they will never have to collect them.

The two loans from the Corporación Financiera Popular show an innovativecombination of guarantees. The first one is backed by a certificate fromFUNDESCOL, not considered a real guarantee by the Superintendency ofBanks18. To strengthen that 66% of the guarantee, half of it is counter-guaranteed with a letter of credit from ACCION, which is a real guarantee.Because of the restrictions on banks as to the amount of personal guaranteesthey can accept, the second loan from CFP could not be supported with acertificate from FUNDESCOL. Therefore, it was fully backed by a combinationof three real guarantees: letters of credit from ACCION and FUNDES, andpromissory notes.

The Banco Union loan in December 1991 was the first loan that ACTUARreceived from a private commercial bank for a large amount, without anypersonal guarantee of board members. It also signified the first time that aprivate, commercial bank (without any kind of social mandate) used the IDBrediscount line, and accepted promissory notes from microentrepreneurs asvalid collateral. It is the most recent loan, however, that really shows thecredibility that ACTUAR has established with the commercial banking sector.The Bank of Colombia, one of the largest banks in the country, has agreed tolend ACTUAR over US$1 million based on only a US$330,000 letter of creditfrom ACCION and promissory notes worth US$871,000.

As banks give greater value to promissory notes, they dramatically increasethe capital potentially available to microenterprise intermediaries. Promissorynotes are one of the few guarantees that a microenterprise program can offerwithout external support. The acceptance of promissory notes reduces theamount of guarantee needed through letters of credit or other mechanisms. ForACTUAR, the percentage of loan loss guaranteed by ACCION letters of credithas varied from 80-25%, with a marked tendency to decrease as ACTUARbuilds its credit history.

A decrease in the percentage guaranteed by letters of credit benefits not onlyACTUAR, but also ACCION. As ACTUAR obtains greater leverage of ACCIONguarantees, Bridge Fund resources are freed up for other countries andprograms. In 1989, ACCION had to commit nearly US$250,000 for ACTUARto receive loans of $335,000 (leverage of 1.3 to 1). In 1992, ACTUAR used a

18 The FUNDESCOL certificates are considered "personal" guarantees by theSuperintendency, wich are less secure than "real" guarantees such as letters of credit,fixed assets, or real estate. The Superintendency requires that the outstanding portfolioof each bank be covered by an established percentage of "real" guarantees.

78

US$330,000 letter of credit to obtain a loan of over US$1 million, for leverageof 3 to 1. ACTUAR is confident that it will soon be able to guarantee loans witha 25% letter of credit and 75% in promissory notes, leveraging ACCIONguarantee funds 4 to 1.

The experience that ACTUAR has accumulated as a financial intermediarydistinguishes it from the majority of non-profit organizations lending tomicroenterprises. Relying on borrowed funds to capitalize the portfolio, albeitat subsidized rates because of the IDB rediscount line, has forced ACTUARinto aggressive financial management from the beginning. It has alsoconvinced ACTUAR of the feasibility and desirability of converting itself intoa bank to better meet the financial needs of the microenterprise sector inColombia. ACTUAR has been carrying out feasibility studies and is beginningto look for the US$15 million in capital it will need to establish itself as a bank.

Other ACCION Affiliates

ACTUAR/Bogotá is not the only ACCION affiliate to use the letter-of-creditmechanism in Colombia. Its growing credibility has facilitated bank credit forsome of the smaller ACCION affiliates. The Corporación ACTUAR por Tolima,which had over 3,500 borrowers and an active portfolio of nearly US$600,000by the end of 1991, obtained its first two bank loans from the CorporaciónFinanciera Popular in June 1992 for a total of US$400,000. In addition topromissory notes, the loans are backed by a certificate from FUNDESCOL for66% of the loan amount, which is counter-guaranteed with an ACCION letterof credit worth 33% of the 66%. Four other affiliates of ACCION (Women’sWorld Banking in Cali, Medellín, Bucaramanga, and Popoyán) received a loanfrom the Fundación Restrepo Barco worth a total of US$44,000, backed by acertificate from FUNDESCOL worth 100% of the amount and an ACCION letterof credit counter-guaranteeing 50%.

An increasing number of ACCION affiliates in Colombia are interested inusing the letter-of-credit mechanism to augment their portfolios. Threeadditional affiliates, as well as the new Solidarity Group Cooperative, are in theprocess of negotiating loans with an ACCION guarantee. By the end of 1992,Colombia was using over 25% of the amount available in letters of credit fromACCION, with affiliates in eight other countries using the remaining 75%.

Learning from the Colombia Case

Colombia presents a unique environment for the microenterprise sector,primarily because the government has had a formalized commitment tosupport the sector since 1983. The government’s National Plans forMicroenterprise have encouraged banks, non-profit institutions, and multilateralorganizations like the Inter-American Development Bank to dedicate

79

considerable resources to support the microenterprise sector. Three criticalfactors arising from this situation have enabled the intermediary guaranteemechanisms to be used effectively in Colombia.

First, the availability of rediscounted lines of credit from the IDB helpedencourage banks to lend to microenterprise intermediaries. Without thoselines of credit, it would have been difficult, if not impossible, for microenterpriseintermediaries to access formal sector financing.

Second, the availability of intermediary guarantees from ACCION,FUNDESCOL, and recently FOMENTAR, has enabled intermediaryorganizations to access the IDB lines of credit to capitalize their portfolios.Without guarantees, the IDB lines of credit would not have been available tomost non-profit organizations lending to microentrepreneurs.

Last, the presence of several efficient microenterprise intermediaries,capable of borrowing money to on-lend to microentrepreneurs, provides thecritical demand for the IDB lines of credit. While ACTUAR Bogotá is the largestof these intermediaries, there are numerous others that are also intermediatingcredit for microentrepreneurs in Colombia. They have all reached a level ofself-sufficiency that enables them to pay financial costs for their portfoliofunds.

The many credit and guarantee arrangements that have flourished inColombia provide supporting evidence for several of the issues discussed inthis document.

• Guarantee fund mechanisms can play a critical role in effectivelyincreasing the flow of formal sector financing to the microenterprisesector. In just the case of ACTUAR, over 20,000 microentrepreneurs arereceiving loans financed through borrowed monies that would not havebeen available without an effective guarantee fund mechanism.

• The guarantee fund mechanism can help a non-profit organizationadapt a commercial perspective that may enable it to become a formalfinancial intermediary, such as a bank. Dependent on borrowed moneyfrom its inception, ACTUAR developed an aggressive strategy gearedtoward expansion and financial self-sufficiency. Its relative success inthese areas has led ACTUAR management to pursue the possibility offorming a commercial bank for the microenterprise sector.

• The intermediary guarantee mechanism can enable non-profitorganizations to access bank financing for the first time and begin toconsider themselves financial intermediaries.

• Individual guarantees do not appear effective for microenterprisefinancing. Because of relatively poor results with individual guarantees for

80

microentrepreneurs, FOMENTAR began to provide intermediary guarantees.While this shift is too recent to be conclusive, it seems to corroborate theincreased efficiency of intermediary guarantees as compared to individualguarantees for microenterprise financing. FUNDESCOL also adopted theIntermediary Model to reach the smallest of microentrepreneurs.

B. ECUADOR19

According to a recent study of guarantees for the microenterprise sector inEcuador (ASOMICRO, 1992), most of the financial providers interviewed20

lend to microentrepreneurs. Of the institutions surveyed, 51 made fewer than100 loans to microentrepreneurs in 1991, 18 made between 101 to 400 loans,and 10 made more than 400 loans. This level of lending, however, appearsinsufficient to meet the demand. There are approximately 250,000 to 350,000microenterprises in Ecuador (Magill and Swanson, 1991), and a survey of 582microentrepreneurs found that 61% listed access to capital as their mostimportant problem (Magill, Blayney, et. al. 1991). One study estimates thatglobal resources destined for microenterprises in Ecuador will reach only 10-20% of the microenterprise population, and satisfy 5% of the demand for credit(Fraser, et. al.).

The study confirms several of the arguments put forward in this monograph.Finance institutions find the microenterprise sector to be low-profit and highrisk. Moreover, 25% of the institutions indicated that they did not know howto reach and lend effectively to microentrepreneurs, or that microentrepreneursdid not approach them for loans. Although the institutions claimed thatguarantees were not a principal constraint to lending to the sector, most requiremortgages, fixed assets, or co-signers worth an average of 80% of the loanvalue. More than half the institutions interviewed indicated that they would beinterested in some kind of guarantee arrangement.

Liquidity also emerges as a problem. Nearly one-third of the intervieweesmentioned increased capitalization, rediscounted lines of credit, or othersources of financing as input needed to increase financing to the microenterprisesector. Because of credit constraints, banks have tended to concentrate theirlimited liquidity on larger or preferred customers (Herrick, et. al. 1991 ).

20 For the study, 93 providers of finance were interviewed, including banks (56), suppliers(7), cooperatives and credit unions (11), foundations (2), finance companies, (6) andmoneylenders (11).

19 This case study was developed with the assistance of Rodrigo López, ACCION's Directorin Ecuador.

81

Microenterprise Initiatives in Ecuador

Two major government initiatives have involved financial institutions withmicroenterprise lending. The National Microenterprise Program (UNEPROM)was established in January 1986 by the Ministry of Labor and HumanResources (Carrasco, 1990). As part of UNEPROM, a fund was establishedthat channels resources through public and private banks to microentrepreneursselected and trained by approved foundations and other NGOs. From 1986 to1988, there was very little loan activity under this system (Carrasco, 1990) andby 1991, only one commercial bank was actively participating (Fraser,et. al.1991).

In August 1989, the National Corporation of Support to Small Economic Units(CONAUPE) was established by the Ministry of Social Welfare. A specialcredit fund of US$4.7 million was established by the Central Bank to bechanneled to microentrepreneurs through commercial banks under arediscounting system. As with UNEPROM, the microentrepreneurs areselected and trained by approved NGOs.

The CONAUPE credit program disbursed over US$3.6 million in more than6,000 loans to microentrepreneurs by mid-1992, but suffered from seriousdelinquency and default problems (Morillo, 1992). Because of repaymentproblems, banks became very reluctant to participate in the program andinsisted that CONAUPE provide some type of guarantee for loans made tomicroentrepreneurs. In 1991, CONAUPE established a Credit GuaranteeCorporation to guarantee the bank loans to microentrepreneurs under theprogram. The experience of the Credit Guarantee Corporation is discussed inthe following section.

Three factors seem to have limited the success of the government programs.First, the financial system has suffered from low levels of liquidity throughoutthe late 1980s, which has led them to concentrate their limited resources onlarger or preferred clients21 (Herrick, et.al. 1991). Second, banks havegenerally concluded that the microenterprise sector is not a profitable sectorof activity for them (ASOMICRO, 1992; Herrick, et. al 1991.). Third, bankshave suffered from poor repayment rates on loans made through the systems,which has made them skeptical of the ability of the participating foundationsto assess loan applications and provide follow-up (Fraser, et. al. 1991).

The Credit Guarantee Corporation System

Ecuador’s Credit Guarantee Corporation (CGC) System has formed a part ofthe government’s strategy to give microentrepreneurs access to credit. By

21 The rediscounted lines of credit have been partial, obligating the banks to contribute 50%of the loan capital from their own resources.

82

law, non-profit guarantee corporations can be established to guarantee loansfrom the commercial banking system to those small industries, artisans,fishermen, and farmers who lack sufficient guarantees (Sistema Nacional deGarantia Crediticia 1992). The Credit Guarantee Corporations are supportedby the Corporation of Re-insurance which assumes 65% of the risk. The CGCassumes 20%, and the bank must assume 15%. The Corporation of Re-insurance was capitalized by the Central Bank, the National DevelopmentBank, the member guarantee corporations, and other sources.

The credit guarantee corporations are limited to using the Individual GuaranteeModel; loans to intermediary institutions that lend to those final borrowers donot qualify for guarantees. The CGCs are formed by organized groups of thetarget population (e.g., small businesses, artisans, and farmers) or other nonprofits that assist these groups. They can guarantee up to 10 times theirequity. The corporations sign agreements with banks interested in participating,and then send qualifying borrowers to the bank with the corporation’sguarantee.

By 1992, there were nine guarantee corporations functioning in Ecuador.From 1990 through September 1992, they had guaranteed over 1,000 loans tosmall businesses, agriculturalists, fishermen, and artisans with guaranteeamounts averaging between US$500 and US$1,000 (Corporación deRetrogarantia Crediticia, 1992).

Despite the favorable legal setting, the credit guarantee corporation systemin Ecuador has not channeled a significant amount of credit to the targetedsectors. Besides CONAUPE, which was formed and capitalized by thegovernment, the guarantee corporations have been established by small non-profit groups with low levels of capitalization. In 1990, all but one of them hadequity of less than US$30,000, meaning that the most each could possiblyguarantee was US$300,000 (Superintendencia de Bancos de Ecuador, 1992).Low levels of capitalization do not seem to be the principal constraint,however, as six of the eight had less than their own equity outstanding inguarantees, and none were leveraging their equity 10 to 1, the maximumleverage permitted by law. Although not documented, other possible reasonsfor low utilization include low liquidity in the financial system, which hasplagued Ecuador recently, coupled with an unwillingness of banks to lend totargeted borrowers even with the guarantees.

Since its inception, CONAUPE has been the most active guaranteecorporation, issuing 156 guarantees worth approximately US$100,000 from1991 through September 1992 (Corporación de Retrogarantia Crediticia,1992). CONAUPE was capitalized to guarantee more than twice that amount,however. The CONAUPE guarantee system has not been fully utilizedbecause of the negative experience that banks had previously suffered withthe CONAUPE program.

83

In 1992, CONAUPE focused on improving its internal systems, formalizingits relationships with the participating NGOs, and changing the image of theprogram, particularly in the formal banking sector. These efforts are crucial asthe Inter-American Development Bank global project is scheduled to begindisbursing US$16.2 million in rediscounted credit lines for microentrepreneursthrough the banking system. That money will only be disbursed if an effectiveguarantee mechanism is in place.

ACCION International in Ecuador

In 1990, the five ACCION affiliates in Ecuador formed the Asociación deCorporaciones de Desarrollo de la Microempresa (ASOMICRO)22. ASOMICROmembers initially perceived ACCION’s Bridge Fund as a mechanism thatcould help them access funds to meet short-term needs during periods of lowliquidity, when grants were slow in being disbursed. As donor funds becamemore scarce and the capital needs of the programs grew, however, the BridgeFund became a mechanism used to access funds on a more permanent basis.

While some of the ACCION affiliates initially participated in the UNEPROMand CONAUPE programs, the poor repayment experience from those programsnegatively affected the relations of all affiliates with the banking sector. On thebasis of the CONAUPE and UNEPROM experiences, NGOs were not seen aseffective credit intermediaries, and microentrepreneurs did not appearparticularly creditworthy.

In this negative context, it took persistence, negotiation, and high-levelpersonal contacts for several ACCION affiliates to begin to access bank loansin 1990. Initially, banks were reluctant to lend more than the value of the letterof credit although they gradually assumed very limited risk. By the end of 1992,ACCION affiliates in Ecuador had US$875,000 in ACCION letters of credit,which was backing US$880,000 in bank loans. The global portfolio of theEcuadorian affiliates was US$3.7 million, and there were approximately10,000 active borrowers.

The Fundación Ecuatoriana de Desarrollo (FED) is ACCION’s oldest affiliatein Ecuador, and the affiliate that has most used the guarantee fund. As ofNovember 1992, it was using US$350,000 in letters of credit, which backedUS$448,000 in bank loans. These loans make up more than 30% of FED’sactive portfolio, and finance approximately 1,800 active borrowers.

FED received its first bank loan, with an ACCION guarantee, in December1990. At about the same time, FED began to generate an operational surplusfrom its lending activities. Initially, this surplus was reinvested directly in the

22 By the end of 1992, ASOMICRO had 9 NGO members, with offices in 15 cities throughoutthe country.

84

lending portfolio to enable FED to reach more borrowers. On the basis ofexperience with the Bridge Fund, however, FED realized that the surplus couldbe more productive if it was used to leverage additional bank funds. In 1991,FED began to convert its surplus into dollars, and then deposit it in a dollaraccount. Using this account as a collateral fund, FED negotiated sucre loansfrom the banks. Depending on the bank, with this guarantee fund held directlyby the bank in dollars, FED receives loans worth anywhere from 1.3 to 2 timesthe dollar amount on deposit. In addition to leveraging capital, this mechanismenables FED to preserve the value of its own equity from currency devaluationsby maintaining its funds in dollars.

The chart below shows the composition of the FED portfolio as of November1992, and the role that these two guarantee mechanisms have played.

CHART 9PORTFOLIO COMPOSITION OF FED, ECUADOR

FED active portfolio: US$1,089,719

of which

Bank loans backed by FED dollar deposits: 42%

Bank loans backed by ACCION guarantees: 32%

Equity, built through donations and surplus: 26%

Demand for Bridge Fund guarantees in Ecuador has been steadily increasing.In addition, the Inter-American Development Bank has approved a globalproject for Ecuador that will begin disbursing US$16.2 million in rediscountedlines of credit for microenterprises to commercial banks in 1993. Thiscapitalization will help alleviate the tight liquidity situation that has constrainedcredit for microenterprise from the commercial banking system. Access to theIDB lines from commercial banks will require guarantees, however, and it isdoubtful that this need can be met solely by ACCION’s Bridge Fund. For 1993,ASOMICRO projects that its affiliates will need approximately US$3 million inguarantees, as opposed to the US$875,000 received from the Bridge Fund1992. With these concerns in mind, ASOMICRO launched the Credit GuaranteeCorporation for the Development of Microenterprise (CORPOMICRO) in 1992.

THE CORPOMICRO DESIGN

CORPOMICRO’s statutes were approved in 1992, and it should receive itsauthorization to operate from the Superintendency of Banks in 1993.CORPOMICRO is a non-profit organization created by ASOMICRO and itsmember foundations that will form part of the Credit Guarantee Corporation

85

System of Ecuador. As such, it will be able to issue guarantees tomicroentrepreneurs who are clients of the affiliated institutions. CORPOMICRO,with the help of ACCION, is in the process of raising equity investments anddonations to capitalize the fund in dollars. The savings of participatingmicroentrepreneurs will also form part of the fund. For the first year ofoperation, CORPOMICRO hopes to raise US$800,000 which will leverage anestimated US$2.4 million in loans for microentrepreneurs. In addition to theguarantee fund, CORPOMICRO plans to establish an equity fund capitalizedwith donations, deposits of membership organizations, and deposits of themicroentrepreneurs themselves.

CORPOMICRO’s design specifically addresses some of the weaknesses ofthe Credit Guarantee Corporation System in Ecuador, with the hope ofestablishing a guarantee corporation that can gain the trust of the bankingsystem and benefit a large number of microentrepreneurs. First, with an initialguarantee fund of US$800,000, CORPOMICRO will be almost twice as large,in terms of assets, as the entire CGC System and will be able to issue fourtimes as many guarantees. Second, as guarantee funds will be maintained inhard currency and loan funds will be in local currency, the dangers ofdecapitalization of the guarantee fund are minimized. Third, the volume ofloans to be guaranteed through the system should enable CORPOMICRO togenerate sufficient income through commissions to cover its operating costswithin two to three years.

In addition, CORPOMICRO is being established by organizations withpositive track records of lending to microentrepreneurs and, in many cases,with positive credit histories with local banks. These two factors should helpCORPOMICRO overcome the credibility problem that has affected NGOs andtheir microenterprise clientele because of past programs with high levels ofarrears and default. Furthermore, risk to the banks can be minimized byestablishing a system of counter-guarantees that will use ACCION letters ofcredit, guarantees from the Corporation of Re-insurance, and the loan lossreserves of the local organizations.

Last, and most importantly, CORPOMICRO’s design differs from theindividual guarantee mechanisms used by Ecuador’s existing CGCs. TheCGC system allows guarantees to be issued only for borrowers that form partof specific populations. NGOs do not fall within that category and, at present,cannot benefit from the guarantees of an Ecuadorian CGC. WhileCORPOMICRO would prefer to operate as an intermediary guarantee system,guaranteeing loans to its member organizations rather than tomicroentrepreneurs directly, it will have to function as an individual guaranteeprogram until the law is changed. CORPOMICRO has recognized the potentialrisks of the individual guarantee mechanism and has studied the poor resultsof the other programs that have directed bank loans to microentrepreneurs. Inan attempt to avoid the poor payback experience of those programs,

86

CORPOMICRO designed a mechanism that incorporates some of the criticalcharacteristics of the Intermediary Guarantee Model.

Under the CORPOMICRO design, the intermediary NGO will have theresponsibility for the bank loan to the final borrower, and the bank will be re-insured by the guarantee issued for the borrower by CORPOMICRO. WithUNEPROM and CONAUPE, even though the intermediary selected andapproved the borrowers, the intermediary had no responsibility (beyond amoral one) to ensure repayment of the loan. Under the CORPOMICRO design,the NGO will have a contractual responsibility with the bank to ensurerepayment, and the NGO will receive a fee for its services. The NGO willassume the repayment responsibility as if the bank loan had gone to the NGO.In this way, CORPOMICRO is applying some of the strengths of theintermediary guarantee model to the Individual Guarantee Model that it mustuse because of Ecuadorian law.

Lessons from Ecuador

As in Colombia, the Bridge Fund mechanism has had two distinct andimportant effects on the microenterprise sector in Ecuador. First, letters ofcredit from ACCION enabled several NGOs in Ecuador to successfully borrowfunds from local banks. These funds increased portfolios and directly financedmore loans to more entrepreneurs. By the end of 1992, of the US$3.7 millionin the portfolio of all of the ACCION affiliates in Ecuador, US$880,000 was frombank loans backed by ACCION letters of credit.

Second, successful use of the Bridge Fund encouraged ACCION affiliatesto develop additional financial mechanisms that could help them access morefunds from the financial system. Several affiliates began to establish dollaraccounts and borrow against those accounts. Leverage from this mechanismhas proved better than leverage obtained with letters of credit because thebank has the dollar-denominated fund on deposit.

Last, the success of the Bridge Fund mechanism, and the increase in thedemand for guarantees in Ecuador, motivated the creation of a new creditguarantee corporation, CORPOMICRO. The design of CORPOMICROincorporates the important characteristics of the Intermediary GuaranteeModel into the Individual Guarantee Model that must be implemented inEcuador. Although it is far too early to comment on CORPOMICRO’spotential, its creation is evidence of the profound change in thinking that theBridge Fund has promoted. Even though donations are still in high demand bythe ACCION affiliates in Ecuador, the affiliates have realized that capital forany large expansion will have to come through the financial sector, and theyare making arrangements to facilitate access to capital from the bankingsector.

87

CHAPTER V

DESIGNING EFFECTIVE

GUARANTEE FUNDS

89

The effectiveness of guarantee funds for small business and microenterprisein developing countries has been mixed. Guarantee programs that use theIndividual and Portfolio Models have often suffered from low utilization bybanks, high loss rates, or both. Most did not appear to increase financing tothe targeted sector substantially. The Intermediary Guarantee Model, on theother hand, presents a design that promotes high levels of utilization, low lossrates, and evidence of increased financing to the targeted sector.

A. WHY SOME GUARANTEE FUNDS ARE NOT EFFECTIVE

As suggested above, the principal problems with many of the guaranteeprograms studied in this monograph were either low utilization or high lossrates. In most cases, low utilization was due to one or several of the followingreasons:

• Lack of incentives for banks. Commercial banks are profit-orientedinstitutions. Loans to small and microentrepreneurs are relatively morecostly to banks, and therefore less profitable, than loans to the banks’traditional clientele. Banks’ operating procedures are not geared towardsmall borrowers and are relatively inefficient for handling small borrowers.Even with a guarantee, commercial banks in most developing countrieshave insufficient incentive to aggressively integrate small borrowers intotheir lending portfolio.

• Insufficient level of guarantee coverage. In some cases, the banksperceived that the target sector represented a marginally higher level of riskthan the percentage being covered by the guarantor. If the guarantee isinsufficient to cover the additional perceived risk of the target sector, thenbanks will not increase their lending to the target sector.

• Low credibility of guarantee. In many of the government-sponsoredguarantee programs, commercial banks were not confident that theirlosses would be quickly and efficiently covered by the guarantor. If theguarantee is not credible, then commercial banks will not use the guaranteefacility.

90

• Low liquidity. If there is low liquidity in the financial system, the firstpriority of commercial banks is to continue meeting the credit needs of theirtraditional clients, not to expand their client base to a riskier, less profitablesector.

• Inexperience. Some banks did not know how to reach and work with thetargeted borrowers.

Many of the guarantee funds did not function effectively because theysuffered unexpectedly high levels of loan defaults. Losses were absorbed bythe guarantee entity, which then decapitalized, and/or by the commerciallender, which then stopped using the guarantee facility. High loss levels canbe attributed to poor credit appraisal and/or follow-up. There are severalpossible reasons for poor credit appraisal or follow-up. Some of them aredirectly related to the design of the guarantee mechanism.

• High guarantee coverage. In many cases, high levels of guaranteecoverage lessened the importance of good credit appraisal and recoveryby the lender.

• Political pressure and irresponsible lending. In a few cases, especiallyin the case of government banks, the banks appeared obligated to use theguarantee facility. They made the loans, suffered losses, and thendecreased their utilization.

• Poor division of risk and responsibility. In some cases, the entityappraising and approving loans was not assuming the related risk of thoseloans. There were insufficient incentives for the decision maker to makeprudent lending decisions and actively pursue repayment on problemloans.

• Inexperience. Some banks had limited or no experience with the targetedborrowers and therefore did not make good lending decisions.

B. THE STRENGTHS OF THE INTERMEDIARY MODEL

Of the three models discussed in this monograph, the Intermediary Modelhas the most potential to produce high levels of utilization and low levels oflosses. In the Individual and Portfolio Models, the bank, covered by aguarantee, lends to individuals. In the Intermediary Model, the bank, coveredby a guarantee, lends to an intermediary institution which, in turn, on-lends toindividuals. Under the Intermediary Model, the credit risk to the bank shiftsfrom individuals to an intermediary institution. Even with a high guaranteelevel, and political pressure on the banks to lend, several factors make theIntermediary Model less prone to high loss rates than the other models.

• There is a clear division of risk and responsibility, with the intermediary(supported by a guarantee) fully responsible for the loan to the bank. The

91

intermediary is also fully responsible for recovering the loans to the finalborrowers so that it can repay the bank loan.

• Inexperience on the bank’s part is less of a problem because the bank canassess the intermediary’s financial situation and portfolio quality beforemaking the loan. Intermediaries are similar to the bank’s typical clients,making it easier for the bank to assess their creditworthiness than that ofa microentrepreneur.

• It is easier for the guarantor to assess the risk of and monitor one loan toan intermediary, than the many loans to small borrowers.

• An intermediary with credit experience has more potential to manage therisks involved in borrowing than do individual entrepreneurs, and theintermediary can spread the risks across a portfolio of loans.

• Intermediaries providing credit to small businesses and microentrepreneurscan use specialized methodologies for these sectors that minimize thelevel of arrears and defaults.

• Intermediaries can absorb some of the losses themselves, withoutdefaulting on the bank loan.

• The intermediary and its board of directors are more visible members in thelocal community than individual small entrepreneurs. The importance oftheir reputation within the financial sector, the business community andamong the donor community, can be a strong motivation for preventing adefault by the intermediary.

• There may be aspects of the intermediary’s relationship with the guarantorthat discourage loan default. For example, in the case of ACCION, theintermediaries have a close working relationship and institutionalcommitment to ACCION and its affiliated programs. This commitmentmakes loan default to the bank, which would trigger a call on ACCION’sguarantee by the bank, an extremely unappealing option.

For the above reasons, the Intermediary Model can offer banks a highguarantee percentage to induce them to lend, but still maintain low loss levelson loans from the bank to the intermediary. As the intermediary proves itscreditworthiness, the guarantee percentage can be reduced and replaced withother forms of collateral, and the guarantor can increase the leverage of itsfunds.

The intermediary model can also correct for most of the factors thatcontribute to low levels of utilization of the other guarantee models: lack ofincentives, insufficient guarantee, low credibility, low liquidity, and inexperience.Low liquidity in the financial system cannot be solved by any of the models.The credibility of the guarantee is not model-specific either.

92

There are examples of credible guarantees in the Individual, Portfolio, andIntermediary Models. The other three factors can be effectively addressed bythe Intermediary Model.

A well-designed Intermediary Guarantee Model can include an incentivesystem that motivates high utilization. The intermediary credit organizationwill be motivated to lend to the targeted sector because, in most cases, thatis its primary mission. This mission not only motivates the intermediary to lendto the targeted sector, but also motivates the intermediary to pursueaggressively bank financing in order to be able to lend to microentrepreneurs.

It is easier for a bank to use a guarantee to lend to intermediaries rather thanto small businesses or microenterprises. Loans to intermediaries may be ofapproximately the same size, and with the same transaction costs, as loansto the bank’s traditional clients, and therefore just as profitable. The intermediaryis also a potentially important long-term client of the bank, with a growing needfor financial services. Moreover, the bank may already be familiar with theintermediary through other transactions (checking or other services).

Intermediary organizations also can put more effective pressure on thebanks to participate actively in a guarantee scheme, than can individual smallbusinesses or microentrepreneurs. A high level private sector board ofdirectors, particularly one with extensive business dealings with the bank, canplay a critical role in encouraging the bank to accept the guarantee and lendto the intermediary. Of course, the intermediaries’ financial statements,portfolio quality, and other signs of creditworthiness are also important. Withthe Individual and Portfolio Models, banks often signed guarantee agreementsto appease government or international officials, but were then reluctant to usethe guarantee to make loans to the targeted borrowers. The targeted borrowersthemselves could not exert any pressure on the banks to convince them toutilize the guarantee and make loans.

In addition to its virtues as a guarantee mechanism for microenterprisecredit, the Intermediary Model has important benefits for the implementationof microenterprise credit programs. As exemplified by the Egypt project, theIntermediary Model can play a critical role in inculcating sound financialpractices in new microenterprise credit organizations. Organizations thatbegin with a commercial cost of capital, instead of donated funds, are forcedto focus on sound financial management and self-sufficiency from thebeginning. Moreover, access to bank loans enables microenterpriseintermediaries to expand their portfolios considerably and serve thousandsmore entrepreneurs than they could serve otherwise.

As the intermediaries become more sophisticated financial intermediaries,instead of donor-funded organizations, they may begin to develop innovativefinancial mechanisms for capitalizing their portfolios. This process may result

93

in the transformation of the intermediary into a new type of financial institution,or may result in the creation of a new financial institution. In both cases,microentrepreneurs enjoy increased access to financial services.

C. THE CHALLENGES FACING THE INTERMEDIARY MODEL

The Intermediary Model is not without its weaknesses. There are threefactors that can actually discourage utilization under the Intermediary Model.The first factor is a scarcity of effective credit intermediaries. If there are nointermediary institutions capable of borrowing funds at commercial rates to on-lend, then there will be little demand for loans from intermediaries, with orwithout a guarantee mechanism. Many microenterprise credit programs haveevolved with such heavily subsidized funding that their cost and managementstructures are unprepared to pay commercial rates for borrowed funds. Thelack of effective intermediaries may be a critical problem for funders trying tochannel rediscounted lines of credit to the small business and microenterprisesector through the commercial banking system with a guarantee mechanism.

Similarly, if the existing intermediary organizations suffer from high arrearsor default rates, then the Intermediary Model cannot be effective. Responsiblebanks will not use the guarantee to lend to intermediaries with a poor qualityportfolio or a weak financial position. If they do lend, the guarantee programwill experience high loan losses, like many of the individual and portfolioprograms.

The second factor is the availability of less expensive funds than thoseavailable through the guarantee mechanism. If donor or heavily subsidizedfunds are available for credit intermediaries, then they have little incentive topursue bank credit. ACCION affiliates do not use the Bridge Fund mechanismuntil donor and highly subsidized funds cannot meet their needs. Finally, if thetargeted borrowers are not prepared to pay higher-than-commercial bank ratesfor loans, then the Intermediary Model cannot be effective. The IntermediaryModel implies a higher cost of loans to the end borrower than the other twomodels. With the Individual and Portfolio Models, the final borrower pays thecommercial rate for the loan, and a guarantee fee. With the IntermediaryModel, the intermediary pays the commercial rate for the loan. The finalborrower must pay enough to cover the intermediary’s cost of capital, plus theguarantee fee, PLUS a margin for the intermediary. In both the Egypt case andthe ACCION examples, the final borrowers pay effective rates of interestconsiderably higher than prevailing commercial interest rates in the country.

This last issue raises some of the tough questions still confronting the fieldof small business and microenterprise finance. It is well documented thatmicroentrepreneurs can and do pay higher than commercial rates of interest

94

for loans that meet their needs (Castello,et al. 1991). Whether smallentrepreneurs, with larger and longer term loans, can pay higher rates ofinterest is not so clear.23 Both effective Intermediary Models described in thispaper serve microentrepreneurs with, generally, working capital loans forfewer than 12 months. Can the intermediary model be effective at channelingcredit to small entrepreneurs with credit needs of US$10,000 or more overseveral years?

C. PROGRAMMATIC AND POLICY ISSUES

There are several clear programmatic lessons that emerge from this studythat can assist institutions involved in the design and implementation ofguarantee mechanisms.

1. The Intermediary Model is clearly more effective than the Portfolio orIndividual Models if the targeted sector is composed of numerous verysmall borrowers far from the banks’ risk-transaction cost frontier.

2. In situations of low liquidity, a guarantee fund can only work if it isassociated with targeted, rediscounted lines of credit.

3. An intermediary guarantee mechanism will not be widely used if lessexpensive sources of funds are available to the intermediaries.

4. With any guarantee model, use of the guarantee must be profitable tobanks, and the incentive structure must motivate responsible lending andborrowing behavior by all parties. This is achieved by careful design of theguarantee mechanism with regard to: risk allocation, costs (includingtransaction costs) and fees, and type of guarantee.

5. The guarantor must be credible, with sufficient capital to respond to claims.There should be a clear contractual arrangement as to when the guaranteecan be called and how payment will take place.

6. The lending entity (bank and/or intermediary) and guarantor must becapable of assessing risk and making good credit decisions.

7. The entities (lenders and guarantors) responsible for credit and guaranteedecisions should assume levels of risk commensurate with their decision-making responsibility.

8. Borrowers using the guarantee mechanism (either intermediaries orindividual end borrowers) must be willing and able to pay the cost of thecredit and the cost of the guarantee. With the Intermediary Model, the finalborrowers will also have to pay the margin needed by the intermediary.

23 Reed and Befus imply that businesses in "transformation" are capable of paying a costof borrowing higher than commercial rates.

95

Considering the fairly widespread use of guarantee fund mechanisms, it issurprising to find that only a few studies analyze their effectiveness.Moreover, these studies do not examine adequately the critical question ofwhether guarantee funds increase the financing to the targeted sector and, ifnot, why not.

The first recommendation to donors and governments is that they sponsorsome thorough evaluations of existing guarantee programs. Such studieswould help prevent the widespread use of less effective designs, and increasedramatically the level of knowledge about guarantee mechanisms in the smallbusiness and microenterprise finance communities.

There are other research questions that need to be addressed as well. Canan intermediary guarantee mechanism work as effectively for the smallbusiness sector as it does for the microenterprise sector? Are there otherpotentially effective guarantee designs besides the three models examined inthis monograph? How can a guarantee program promote maximum utilizationand leverage of its funds? Are there guarantee programs that have successfullyintegrated a new clientele into the customer base of the commercial bankingsector to such a degree that the guarantee is no longer needed?

Last, international aid agencies, governments, and donors should pay closeattention to the many and occasionally unexpected effects of different typesof funding. If donations or subsidized funds are widely available formicroenterprise lending, then a large investment in a guarantee mechanismand rediscounted lines of credit for the same sector will not be effective.Likewise, a huge influx of donated or heavily subsidized funds in a situationwhere guarantees are already leveraging commercial financing for themicroenterprise sector can have a negative impact. Donors and governmentsneed to coordinate assistance in a productive manner that minimizes thewasteful use of resources.

Guarantee funds are useful mechanisms for microenterprise finance. Applyinglessons from actual experiences, as described in this document, can makefuture funds more effective. Increased documentation and analysis of guaranteefund experiences should enable practitioners, donors, and governments todesign and implement guarantee mechanisms that promote responsiblebehavior by banks, borrowers, and intermediaries. Such mechanisms havethe potential to increase dramatically the level of financing available tomicroenterprises and small businesses around the world.

97

BIBLIOGRAPHY

Anderson, Dennis and Farida Khambata. 1982. “Financing Small-ScaleIndustry and Agriculture in Developing Countries: The Merits andLimitations of Commercial Policies.” World Bank Staff Working PapersNo. 519. Washington, DC: World Bank.

Angell, Kenneth J. and John M. Porges. 1992. “Analysis of FundingMechanisms for the Small and Micro-Enterprise Development ProjectEgypt.” GEMINI Technical Report No.43. Bethesda, MD: DevelopmentAlternatives, Inc.

ASOMICRO. 1992. “Informe de Actividades Proyecto de Investigación ‘LasGarantías y Mecanismos Exigidos Al Sector Microempresarial.’”Quito, Ecuador: Unpublished study.

ASOMICRO. 1992a. “Proposal for Inter-American Foundation GuaranteeFund Mechanism Proposed Project: `The Creation of the CreditGuarantee Corporation: CORPOMICRO.’” Quito, Ecuador: Unpublishedproposal.

Balkenhol, Bernard. 1991. “Small-Scale Savings and Credit Schemes forIncome Generation, Enterprise Promotion and Self-Reliant Development,a Review of ILO Projects with Financial Components.” Unpublishedpaper.

Berenbach, Shari and Diego Guzman. 1992. The Solidarity Group ExperienceWorldwide. Cambridge, MA: ACCION International.

Carrasco, Santiago. 1990. “Ecuador: Government and Private Projects forMicroenterprise Development.” In The Critical Connection:Governments, Private Institutions, and the Informal Sector inLatin America. Edited by Katherine Stearns and María Otero.Cambridge, MA: ACCION International.

Castello, Carlos, Katherine Stearns, and Robert Peck Christen.1991.Exposing Interest Rates:Their True Significance forMicroentrepreneurs and Credit Programs. Cambridge, MA: ACCIONInternational.

Christen, Robert, Elisabeth Rhyne, Doug Salloum, and Jennefer Sebstad.1992. “Get Ahead Foundation Credit Programs in South Africa: FinalEvaluation.” GEMINI Technical Report No.45. Bethesda, MD:Development Alternatives, Inc.

Corporación de Retrogarantia Crediticia. 1992. “Informe Mensual de laCorporación de Retrogarantia Crediticia a Septiembre de 1992.” Quito,Ecuador: Unpublished monthly report.

Corporación Financiera Popular S.A. 1991. Informe Anual 1991.

98

Davila, Enrique Beltran, Lilia Beatriz Sanchez, and Carlos Dario Barrera.1991. “Sistema de Garantias para FOMENTAR: Analisis, Estudio yDiseño.” Bogotá, Colombia: Banco Interamericano de Desarrollo.

Drake, Deborah and Maria Otero. 1992. Alchemists for the Poor: NGOs asFinancial Institutions. Cambridge, MA: ACCION International.

Fraser, Peter, Arelis Gomez Alfonso, Miguel A. Rivarola, Donald A. Swanson,and Fernando Cruz-Villalba. 1991. “Ecuador Micro-Enterprise SectorAssessment: Institutional Analysis.” GEMINI Technical Report No.11. Bethesda, MD: Development Alternatives, Inc.

FOMENTAR. 1992. “Balance de Prueba a Julio 31 de 1992.” Bogotá,Colombia: Unaudited internal financial statements.

FOMENTAR. 1992a. “Informe de Garantias Julio 31 de 1992.” Bogotá,Colombia: Unpublished internal report.

FUNDES. 1991. “Memoria Anual 1991.” Switzerland.

____. 1992. Switzerland: Brochure.

Herrick, Bruce H., Gustavo A. Marquez, and Joseph F. Burke. 1991.”EcuadorMicro-Enterprise Sector Assessment: Policy Framework.” GEMINITechnical Report No.10. Bethesda, MD: Development Alternatives,Inc.

Landy, Laurie and Elisabeth Rhyne. “The Economic Basis of the OmnibusGuaranty Program.” Unpublished paper.

Larfeuil, B. 1989. “Premier Bilan d’une Experience de Reconversion d’Agentsde la Fonction Publique en Guinee: Le BARAF.” Conakry, Guinea:Caisse Centrale de Cooperation Economique.

Levitsky, Jacob and Ranga N. Prasad. 1989. “Credit Guarantee Schemes forSmall and Medium Enterprises.”World Bank Technical Paper No. 58,Industry and Finance Series. Washington, DC: World Bank.

Lintz, Randolph S., Johan Verheij, and Yvon L. Brunet. 1990. "StrategicAssessment of the Availablity of Commercial Financing for Small-andMedium-Scale Enterprises in Botswana and Evaluation of the Bureaufor Private Enterprise's Loan Guaranty Facility." Washington, DC:Management Systems International.

London Business School. 1986. “Summary Record of the InternationalWorkshop on Commercial Bank Lending for Small Enterprises andOperation of Credit Guarantee Schemes.” Washington, DC: FinancialDevelopment Division, World Bank.

99

Long, Millard. 1986. “The Economics of Commercial Bank Lending to Small-Scale Industry and Credit Guarantee Schemes.” Paper prepared for theInternational Workshop on Commercial Bank Lending for SmallEnterprises And Operation of Credit Guarantee Schemes. Washington,DC: Financial Development Division, World Bank.

Magill, John H. and Donald A. Swanson. 1991. “Ecuador Micro-EnterpriseSector Assessment: Summary Report.”GEMINI Technical Report No.8. Bethesda, MD: Development Alternatives, Inc.

Magill, John H., Robert G. Blayney, Rae L. Blumberg, Joseph Burke, PeterD. Livingston and Jennifer L. Santer. 1991. “Ecuador Micro-EnterpriseSector Assessment: Key Characteristics of the Micro-EnterpriseSector.” GEMINI Technical Report No.12. Bethesda, MD: DevelopmentAlternatives, Inc.

Metametrics, Inc. 1988. “Rapport d’Evaluation de Programme de DépartVoluntaire de Fonctionnaires á la Retraite Anticipée.” Unpublishedreport.

Meyer , Richard, John Porges, Martha Rose and Jean Gilson. 1991. “EcuadorMicro-Enterprise Sector Assessment: Financial Markets and theMicro- and Small-scale Enterprise Sector.” GEMINI Technical ReportNo.9. Bethesda, Md: Development Alternatives, Inc.

Ministère de l’Economie et des Finances, Republique de Guinée. “Conclusionset Recommandations, Fonds de Garantie.” 1990. Bureau d’Aide à laReconversion des Agents de la Fonction publique (BARAF). Conakry,Guinea: Unpublished draft report.

Morillo, Jose. 1992. “Segundo Informe Semestral Sobre el Avance de laEjecución del Programa BID (de Marzo 1 a Agosto 31 de 1992).”Unpublished report.

Naranjo López and Co. 1991. “Informe Sobre el Examen de Los EstadosFinancieros de la Fundación Ecuatoriana de Desarrollo (FED): AñosTerminados el 31 de Diciembre de 1991 y 1990.” Guayaquil, Ecuador:Audited financial statements.

Oehring, Eckart. 1990. “FUNDES - An Attempt to Establish Loan GuaranteeSchemes through Private Foundations in Latin America.” In SmallEnterprise Development. Vol.1: No.2, pp.27-33.

Reed, Larry and David Befus. “Transformation Lending:HelpingMicroenterprises Become Small Businesses.” In Banking and Poverty,The New World of Microenterprise Finance,” Edited by Maria Oteroand Elisabeth Rhyne. Kumarian Press: Forthcoming.

100

Rhyne, Elisabeth H. 1988. “The Economic Effects of USAID’s Private SectorRevolving Fund.” Paper prepared for a panel on Federal Credit Programsand the Budget.

Rhyne, Elisabeth H. 1988a. Small Business, Banks, and SBA LoanGuarantees: Subsidizing the Weak or Bridging a Credit Gap?Greenwood Press, Inc.: Westport, CT.

Schacter, M. 1991. “Redeployment of Laid-Off Public Sector Employees.”Preliminary draft of paper.

Shapiro, Joan. 1992. “The movement since 1970.” In The Social InvestmentAlmanac. New York, NY: Henry Holt and Co.

Sistema Nacional de Garantia Crediticia. 1992. “Manual Juridico.” Quito,Ecuador: Sistema Nacional de Garantia Crediticia.

Stearns, Katherine. 1992. “Small and Microenterprise Development ProjectNo.262-0212 Egypt Midterm Evaluation.” GEMINI Technical ReportNo.30. Bethesda, MD: Development Alternatives, Inc.

Superintendencia de Bancos de Ecuador. 1992. “Boletín Anuario de laSuperintendencia de Bancos.” Quito, Ecuador.

United States Agency For International Development. 1992. “Application ForSmall Business Loan Portfolio Guarantee.” Washington, DC: USAID.

____. 1992a. “Investment Opportunity Proposal/Investment Proposal ForFY 1992 and 1993 Small Business Loan Portfolio Guarantee Program.”Washington, DC: USAID.

____. 1992b. “Private Enterprise Private Sector Investment Program,Quarterly Report 3/31/92.” Washington, DC: USAID.

____. 1991. Private Sector Investment Program. 1991. “Annual Report1991.” Washington, DC: USAID.

Walsh, Sean P. 1986. “USAID Programs for Promoting Commercial BankFinancing of Small Enterprise Development.” Paper prepared for theInternational Workshop on Commercial Bank Lending for SmallEnterprises and Operation of Credit Guarantee Schemes. Washington,DC: Financial Development Division, World Bank.

Webster, Leila. 1989. “World Bank Lending for Small and Medium Enterprises:Fifteen Years of Experience.” Industry Series Paper No. 20. Washington,DC: World Bank.

World Bank. 1989. World Development Report 1989. New York: OxfordUniversity Press.

101

Monographs in this Series:

1. The Solidarity Group Concept: Its Characteristics and Significance forUrban Informal Sector Activities, by Maria Otero, 1986. Published by PACT.

2. A Question of Impact: Solidarity Group Programs and Their Approach toEvaluation, by Maria Otero, 1987.

3. A Handful of Rice: Savings Mobilization by Micro-enterprise Programsand Perspectives for the Future, by Maria Otero, 1989.

4. Breaking Through: The Expansion of Micro-enterprise Programs As aChallenge for Non-Profit Institutions, by Maria Otero, 1989.

5. The Critical Connection: Governments, Private Institutions, and theInformal Sector in Latin America, editors, Katherine Stearns and MariaOtero, 1990.

6. Alchemists for the Poor: NGOs as Financial Institutions, by Deborah Drakeand Maria Otero, 1992.

7. The Solidarity Group Experience Worldwide, by Shari Berenbach andDiego Guzmán, 1992.

8. Leverage or Loss? Guarantee Funds and Microenterprise, by KatherineStearns, 1993.

ACCION International is an independent non-profit organization whosebusiness development programs create employment opportunities and incomefor poor families in teh Americas. Over the past 30 years, ACCION has workedto promote self-help economic development activities among tiny urbanbusinesses and rural farmers. During 1991, ACCION sponsored short-termcredit and training for over 52.000 self-employment producers and throughthem reached more than 290.000 people in the neediest communities of LatinAmerica and the Caribbean.

Tens of thousands of people in the Third World seek a livelihood either in thesmall-scale farming sector as tenants or casual farm laborers or in theinformal off-farm rural and urban mosaic or micro-enterprise activities. Theseindependent producers are too small for traditional governemtn of bankingassistance, yet their businesses provide a vital source of goods, jobs andincomes for the poor in developing areas.

ACCION believes that even on the smallest scale, one's micro-enterprise canbe a passport out of poverty and on to economic self-sufficiency. ACCIONInternational has its headquarters in Cambridge, Massachusetts.

130 Prospect Street Cambridge, MA 02139Tel: (607) 492-4930 • Fax: (617) 876-9509

ISBN XXX-XXXX-XX-XPrinted in Colombia, S.A.

leverage or loss? › ... · the guarantor may even carry out a full credit analysis before...

Documents