The Natural Farmer - The Carrot Project

The Carrot Project
Fall, 2012
The Natural Farmer
B-23
Agricultural Microlending: Investing in a Sustainable Future
by Dorothy Suput and Kristen Saulnier
in the diagram below:
Small-to-midsize farms form the backbone of a
sustainable food chain. Large funding gaps exist,
however, where traditional lenders pass over farmers in need of a loan. Massachusetts nonprofit The
Carrot Project works to cover these funding gaps
and support local agriculture through microlending. The organization partners with a small pool of
investors and lenders to make loans that give smallto-midsize farms, and farm-related businesses, the
boost they need to expand and succeed. The use of
microlending to address gap financing has a unique
set of costs and risks, and each microfinancing program has to decide how to balance the needs of the
borrower, the investor, and the lender. This article
describes The Carrot Project’s approach.
• Loan Loss Reserve (or Risk) Capital: The loan
loss reserve account acts as a first-loss pool and
carries at least 10 times its value in lending capacity.
These funds are usually donated.
Farm Funding Gaps Present Hurdles
Financing continues to be a challenge for small-tomedium-sized farms and farm-related businesses. In
a 2011 report, the National Young Farmers Association called access to capital a “major obstacle” for
young and beginning farmers.
A number of other reports (including some that we
co-authored) show inadequate access to capital for
beginning, expanding, or transitioning farms. This
situation can make it difficult for these farmers to
use innovative production and marketing techniques
to meet increasing consumer demand for sustainably
raised food.
The Carrot Project is focused on meeting the needs
of these farms through gap financing. For most of
our applicants, this is a temporary situation; perhaps
they are a new business, or perhaps they’ve run a
profitable farm but have run into difficulties accessing more traditional forms of credit.
For example, one of our first loan recipients was
a beginning farmer/owner from a certified organic
farm in Vermont. When she approached The Carrot
Project, she had already established a growing and
profitable Community Supported Agriculture project
of nearly 200 members. Her organic produce was
popular at local farmers’ markets. She had valuable
relationships with nearby restaurants, as well as a
history of increasing profits, market opportunities,
and membership. The farmer was ready to expand
her farm and tried to access credit through credit
cards and bank loans. But without much credit history, she was unable to secure the needed capital
to continue to grow her successful business. This
is just the type of business with which The Carrot
Project works.
Jumping the Hurdles: Microlending
The Carrot Project supports sustainable farmers and
farm-related businesses through alternative financing programs combined with business technical
assistance. We also work to increase the availability
of financing, document and share what we learn, and
conduct collaborative research. Financing, which is
our chief focus, makes this work possible.
We see our work as making long-term investments
in the building blocks of our food and agriculture
economy – the farmers – in order to provide healthful food for consumers, replenish the environment,
and contribute to regional and local economies.
Right now we, along with our lending and investing partners, are making loans to small farms in
Massachusetts. In Vermont, Maine, and the Greater
Berkshires (including Berkshire County, Mass.,
Litchfield County, Conn., and Dutchess and Columbia Counties, New York) we are providing services
to small and midsized farms and farm-related
businesses. We are also exploring other ways that
financing can be used to support farms and changes
in our food and agriculture system and participating in collaborative research to increase the sector’s
knowledge base.
• Investments: These funds, provided by investors,
are used as guarantees for the loans made to borrowers and placed in an interest bearing account. The
investment funds are accessed only in the event that
the loan loss reserve is depleted.
photo courtesy Dorothy Suput
Lisa MacDougall of Pownal, Vermont’s
Mighty Food Farm has been helped by
The Carrot Project.
The Nuts and Bolts of The Carrot Project’s Loan
Programs
The Carrot Project’s lending programs would be
impossible without our partners – investors and
lenders. Together, we bring to each program:
• Knowledge of, and connections to, the targeted
farming population
• Access to capital
• Provision of financial and business technical assistance
• The ability of lenders to make loans
Loan Operating Models
The Carrot Project’s loan programs include two
distinct operating models. The first model involves
providing capital to a lender, who in turn issues
a promissory note and commits to lend out the
borrowed capital. In the second model, money is
posted as collateral to a lending partner, who in turn
uses their own capital for the loan.
Availability of Capital
There are three types of capital needed to operate a
loan program: operating, lending, and risk.
• Operating capital is generated from business
activities. (For non-profits, charitable contributions play a significant role in generating operating
capital, although there are opportunities to generate
some revenue when providing financing.)
• Lending capital describes the funds lent to the borrower.
• Risk capital is essentially a guarantee pool; it provides cash security or collateral in case of default.
Depending on the lender and a program’s history,
risk capital can range from 5% to 100% of the total
loan amount. If different risk tolerances are needed,
risk capital may be further subdivided into two categories: first loss and second loss. First loss refers
to the first funds accessed in the event of default.
Second loss refers to backup funds that are only
accessed if the first loss funds are depleted. The first
loss funds act as a cushion to increase the security
of the second loss funds.
Investment Models
In our most common investment model – used with
our partners the Vermont Community Loan Fund,
Salisbury Bank and Trust Company, and MassDevelopment – lending is made possible by two types
of risk capital: loan loss reserves and investments.
Together, they build lending capacity, as illustrated
In our second model – used with Coastal Enterprises, Inc. in Maine – The Carrot Project gathers
capital from multiple investors and lends it to the
lender, who in turn manages the pool to make loans,
and decides how to cover for losses.
The Investors
Investments come from individuals and foundations interested in investing and supporting local,
regional, organic, or sustainable agriculture. Some
are long-time supporters of community investment
opportunities, or are established socially responsible investors. Others have been inspired by ideas
and projects that focus on investing locally, such
as Slow Money. Their motivation is not just the
financial returns – which in the case of The Carrot
Project falls into the “community investment” financial return range of 0 - 3% – but the non-financial
returns: contributing to a more sustainable food and
agriculture system.
Investing in Success
Since we started making loans in 2009, The Carrot
Project has made 25 loans totaling almost $300,000.
Our average loan size has been just shy of $12,000;
however, we now offer loans up to $75,000 in the
Greater Berkshires and $35,000 in all other programs, so we expect the average loan amount to
increase over time. The use of our loans, along with
a tremendous amount of hard work from the borrower, has begun to lead to improvements in borrowers’ operations. Borrowers are paying off their
loans, and in some cases are now working with traditional agricultural or commercial lenders. Perhaps
most importantly, they are beginning to realize their
dreams for their businesses through expansion, land
purchases, or paying themselves a wage.
These successes are made possible by the combined
efforts of the business owner, The Carrot Project,
the lender, and the investor. The Carrot Project’s
target investors have always been community investors: those looking for a way to support their values,
maintain their principal, keep up with inflation and,
if at all possible, make a little money. Our programs
are not for everyone; there is the possibility of loss,
and the minimum initial investment is $25,000.
We’ve chosen to limit the type of investor we work
with because at this stage, our focus is on the borrower. Our relationships with our borrowers require
a significant investment of time, which limits our
availability to work with investors. Having as few
investors as possible, while spreading the risk
among them, is the best way to work efficiently with
investors while applying our limited resources to the
borrowers.
B-24
Fall, 2012
The Natural Farmer
The Unique Costs of Microlending
It’s also important to note that it is difficult to cover
the full costs of lending with microloans. All else
being equal, it requires a similar amount of time for
a lender to evaluate and make a $10,000 loan as it
does to make a $500,000 loan. In the latter case, the
lender will more than cover the costs of the loan; in
the former case, it is difficult to cover costs unless
the interest rate paid by the borrower is very high
(See box).
Consider the example of a $10,000 and $500,000
loan. On a $10,000 loan for 3-years at 6.5%, the
borrower will pay a little more than $1,000 in interest. If the borrower had a loan for $500,000 for 3
years at 6.5%, the total interest over the life of the
loan would be over $50,000. The larger loan size
with the same terms allows for greater flexibility to
balance the needs of the borrower, lender, and investor by a combination of lowering the interest rate
to the borrower, increasing the return on investment
to the investor, or covering the costs of the lender.
For The Carrot Project, in addition to making
smaller loans there are other expenses incurred
because we are making loans to a wide range of borrowers that are not easily assessed by a credit score,
a balance sheet, or historical numbers. We frequently make assessments on what is possible with the
resources at hand.
As an alternative assessment tool, we look at a business’ goals and projections, the applicant’s personal
skills and experience, and their system of support.
How they think and how they make decisions is extremely important. This type of evaluation requires
time from the applicant to prepare his or her materials. It also requires, in most cases, a greater amount
of time and effort from our staff, partners, and loan
review committee members to assist, understand,
and then evaluate the applicant.
Balancing Borrower, Investor and Lender Needs
In essence, these loans are built on establishing a
relationship with the borrower. The most straightforward applications involve a basic level of monitoring after closing of the loan, and the borrower’s
business thrives. Other situations we handle are
more complicated and can require greater attention and care. This can range from a friendly ear to
bounce ideas off of, to assistance with revamping
books, to reconsideration of projections. In some
cases, borrowers need monitoring and technical assistance during the life of the loan. Additionally, unexpected events can throw a business into turmoil;
illness, accidents, or other emergencies can result in
credit counseling or changing loan terms, requiring
a re-evaluation of the business at a difficult time.
These are all costs that need to be considered when
lending, especially given that the cost of the loan to
the borrower – the interest rate – does not cover the
cost of making a microloan. A non-profit that makes
microloans needs to cover its costs, and usually does
so with a combination of grants, gifts, and revenue
from financing.
Balancing the needs of the borrower (who needs
as low an interest rate as possible) with the needs
of the investor (who wants as high an interest rate
as possible) and the non-profit lender (who wants
to cover costs) can be difficult. Reducing costs to
the borrower generally means raising them for the
lender, which makes it difficult for a nonprofit to
offer investors a higher return in the case of microloans.
So, is investing in small farms and farm-related
businesses right for you? That is up to you and your
desire and ability to balance financial return with
non-financial returns. For some people it will be
desirable and possible, for others it won’t be. Is it
worth it for the borrower, for the greater community,
and growth of a sustainable food and agriculture
sector? Yes. If borrowers can get the support they
need to reach their business goals while contributing
to their communities and the larger food and agriculture economy, it makes us all stronger.
If you would like more information about The
Carrot Project’s please visit our website at www.
thecarrotproject.org. More information about how
our programs are set up is described in ‘Setting Up
Microloans in Three States’ at: http://thecarrotproject.org/programs/report.
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