Financing typically comes in two sizes for businesses: very large or very small. Large-scale financing caters to the needs of large businesses, while small-scale financing answers the needs of tiny enterprises. In a manner reminiscent of Goldilocks’ perfect fit, Root Capital — a nonprofit social investment fund based in Cambridge, Mass. — aims to provide much-needed capital to help such medium-sized businesses grow.
Last night, students and faculty alike gathered in the Plant Science Building for a lecture entitled “Beyond Microfinance: Finance for the ‘Missing Middle’ in Africa and Latin America” to learn more about the financing avenues made available to medium-sized enterprises through Root Capital.
The lecture, sponsored by the Cornell Institute for Public Affairs as part of its Spring 2009 Colloquium Series, featured Root Capital’s Director of Strategy and Innovation Brian Milder.
The “missing middle,” Milder said, alludes to those businesses that are too large to qualify for microfinance — loans given to very small enterprises — but too small and risky to attract commercial investors such as banks and venture capitalists.
Milder explained the role that Root Capital plays in addressing the scarcity of access to reliable credit that afflicts small and growing grassroots businesses in “rural and remote areas” of developing countries. The regions of the world in which Root Capital operates include Latin America and sub-Saharan Africa.
According to Milder, the nonprofit uniquely uses future sales contracts between the potential loan recipient and the companies that buy its products as loan collateral. Root Capital makes loans to businesses based on existing contracts that, in essence, guarantee certain purchases. As long as buyers do not back out of contracts, loans will be repaid. Citing an instance of a Guatemalan coffee cooperative, Manos Campesinas, Milder explained that coffee buyers will sign and confirm sales contracts around the time of the coffee beans’ harvest. Depending on the size of these sales contracts, Root Capital will disburse a certain short-term loan to the cooperative.
Cooperatives and small businesses can then use these short-term loans to pay their individual workers.
When buyers receive their goods — in the case of Manos Campesinas, coffee — they repay the loan, including interest, to Root Capital in U.S. dollars. Root Capital then transfers that payment, minus the loan and interest, to the grassroots enterprise.
Root Capital also provides long-term investments for capital growth and expansion for those businesses that need it.
Since its launch by CEO and founder William Foote in 2000, Root Capital has attracted such corporate investors as Starbucks and Whole Foods.
According to Milder, Root Capital currently manages approximately $26.5 million in funds. It disbursed $41.2 million in lending last year, compared to about $4 million in 2003. Milder also cited the organization’s 99 percent repayment rate as proof of its success.
Responding to an inquiry into its interest rate which ranges from 10 to 12 percent, Milder reminded the audience that Root Capital is not only a nonprofit organization but also a financial institution. Milder explained that in the areas where Root Capital operates, the local interest rates are often higher than that.
“We don’t want to subsidize the loans [we make],” he said. “We don’t want to distort the local markets [of our borrowers]. What we’re trying to be is a bank for these businesses, at least until they can stand up on their own two legs.”
Milder also addressed the issue of risk in lending to small and medium-sized businesses and cooperatives, explaining that transparency is a key component of the relationships that Root Capital creates.
“We rely primarily on our knowledge of the supply chain and what’s going on,” he said.
Prof. Melvin Goldman, Johnson Graduate School of Management, posited the possibility of Root Capital’s spawning institutions on a local level, in order to create a broader base from which to expand.
Milder responded that Root Capital hopes to work alongside microfinance institutions and local banks to lay the “pipeline” for financing the rural “missing middle.”
“It’s definitely worth pursuing whether or not it makes more sense to work with existing conservative institutions in those areas or to start new ones,” Goldman said.
Henrik Storm grad. commented on the holistic approach that Root Capital aims to take with their borrowers. “It’s impressive how [Root Capital] is really working to integrate their social goals with a desire to make an impact,” he said. “They’re really making headway as social entrepreneurs.”