The smallholder farmer finance challenge

For companies that buy commodities such as cocoa and coffee from developing countries, dealing direct with smallholders, or at least producer organisations and cooperatives, is increasingly essential.

This is a vital relationship for both sides. Companies can contribute to better livelihoods for farmers and their families by cutting out working with buyers in the middle, who might be taking most of their profit by bearing down on the prices they pay to smallholders. It is not for nothing that such middlemen are colloquially known as coyotes in central America.

Western brands can also help smallholders improve their productivity and the quality of their crops, ensuring a more sustainable supply of raw materials. They can promote more sustainable practices and can help smallholders meet challenges – not least that of climate change, which is likely to have the most severe impacts in some of the more vulnerable countries from which key agricultural commodities are sourced.

But working with smallholders presents significant challenges, and these have made many brands wary. Smallholders, by definition, work on a very small scale, with farms of typically up to seven acres, according to a July 2015 report from sustainability consultants Hystra. Smallholders also commonly have low capacities to deal direct with western mega-corporations.

And the financial capabilities of smallholders are typically very low, with no money to invest in new equipment or crops. Companies that want to work with smallholders must therefore, one way or another, get into the business of providing finance to them, often in challenging circumstances with limited safeguards to ensure that loans are repaid.

The good news is, however, that financing smallholders is getting easier.

Dan Zook, manager of the initiative for smallholder finance at Global Development Incubator, says companies looking to deal more directly with smallholders should be aware of three trends, all of which are moving in the direction of making it easier to finance smallholders.

First, financing initiatives are becoming more transparent and cheaper, thanks to digital technologies. Data is also being built up that enables better risk management and is leading to lower default rates. Better communication technologies mean it is easier to exchange information directly with farmers.

Second, more financial institutions and buyers are establishing teams to manage their relationships with smallholders. Progressively, more expertise is being gained, giving buyers the “ability to adapt their business models to suit smallholder engagement,” Zook says.

Third, there is more collaboration. Companies are “more comfortable with development agencies and NGOs”, which can smooth the process of working with and financing smallholders, Zook says. There is “lots more coordination between institutions, including partnerships and pre-competitive alliances”. Zook adds, however, that there is “a need for much more of this”.

So companies should not hold back. A better understanding of the challenges around financing smallholders is building up, and better tools are available to improve two-way communication.

Consequently an a increasing trend is seen in the most valuable commodity for effective financing of smallholders: trust.