Forest-based small-scale enterprises for the purposes of this publication include enterprises whose economic activities are undertaken mainly at the individual or household level, usually employing members of the family or close relatives and neighbours, and where salaried labour is negligible. These are the forest enterprises that are most likely to face difficulties in accessing microfinance services, and would be the primary customers of microfinance, although larger enterprises may share similar constraints and needs.
Small-scale enterprises plant, purchase and process inputs, innovate, improve their productivity and modernize constantly. Their financial needs involve various microfinance services: short-term loans to finance inputs such as fertilizers and labour, storage and processing of products; medium- and long-term loans, equity finance and leasing for equipment and seedlings; savings to smoothen consumption and uneven cash flows, and to build assets to cover investment needs; insurance to protect their crops and insure loan repayment; and payment services. Most small-scale enterprises operate their forest-based activities jointly with other processing, service or agricultural activities, so they seldom occur as separate enterprises.
Limited access to microfinance services is a constraint to the development of small-scale enterprises. The riskier nature of their activities and the fact that they are generally located in areas of remote access make it particularly challenging and costly for microfinance institutions to reach out to them. Nonetheless, governments should restrain themselves from imposing ceilings on interest rates that limit the ability of microfinance institutions to attain viability and provide permanent access to their services to an increasing number of households. Subsidized targeted credit programmes, most often beset by poor loan collection rates, undermine the development of sustainable microfinance and distort the market. Rural institutions should not be forced to provide substandard financing products for smaller enterprises or to risk worsening their portfolio quality by imposing mandatory forest lending quotas. Sound financial procedures, cost-recovering rates and management autonomy of microfinance institutions should be respected.
Microfinance institutions should rather develop innovative ways to deliver their services and improve their capacity, in order to reduce transaction costs and serve their customers better. Worldwide experience shows that microfinance can be provided successfully even in remote rural areas and difficult environments.
Microfinance services can be delivered by different kinds of formal and semi-formal institutions (banks, NGOs, financial cooperatives), as well as non-financial sources (traders, buyers, etc.) and informal sources (relatives, money lenders). Different institutions carry different advantages and disadvantages in terms of outreach, governance and the services provided. When supporting the expansion of microfinance institutions into rural areas, government and donor programmes should consider the nature of the constraints faced, the existing financial infrastructure and the needs to be addressed, and adopt the approach that best suits the local situation.
Four case studies were carried out to look at different institutions providing microfinance services to small-scale enterprises, including:
In Parbat, Nepal, group lending in support of micro-enterprises (not exclusively forest-based) is provided through the Agriculture Development Bank of Nepal, under a government initiative with support from the United Nations Development Programme. The programme is successful both in terms of outreach and sustainability, exceeding its original target of customers, reaching excellent recovery rates and making a profit. The positive performance shows that using groups for the delivery of microfinance services to small enterprises can be done in a sustainable manner even in rural hilly areas with difficult access. Effective provision of business development services such as selection of good potential micro-entrepreneurs, development of entrepreneurship, technical and managerial skills, promotion of market linkages, and transfer of technology are essential for the success of small-scale enterprises, and therefore for credit repayment performance.
The case of community forest enterprises in Petén, Guatemala, shows how clear forest tenure rights and the legal establishment of forest concessions successfully drew two commercial banks, Banco de Desarollo Rural (BANRURAL) and Banco del Café (Bancafé), into servicing small-scale timber enterprises. Technical assistance and business development helped micro-entrepreneurs to prepare sound annual operating plans and consolidate their financial needs, thus facilitating their access to the banks.
In the Sudan, an inadequate legal framework hinders the development of a strong sustainable microfinance industry, and subsidized credit programmes encourage the wrong kind of borrowing patterns among customers. In such an environment, inadequate professional skills, difficulties accessing long-term funding, and lack of attractive financial services hamper the success of the Elmirehbiba Gum Arabic Producers Association as a savings and credit association. The producers see the association merely as a credit delivery mechanism, and the association has failed to mobilize savings from its members. At the same time, gum Arabic traders lend to the producers with high profit margins on the basis of personal guarantees, taking advantage of their knowledge of the sector and the lack of alternative microfinance institutions available.
Similarly, the case of Brazil nut harvesting in the Department of Madre de Diós, Peru, shows how in the absence of adequate awareness support and clear provisions regulating the forest concession system, specific economic activities requiring sectoral knowledge can discourage microfinance institutions from entering the small-scale enterprise market, even when supply chain actors are providing microcredit profitably.
Several government interventions can help microfinance services reach small-scale enterprises. These include establishing a policy framework and financial infrastructure conducive to microfinance, providing business development and market infrastructure in support of production, strengthening the economic potential of small enterprises and enhancing the capacity of microfinance institutions to serve them.
Firstly, a supportive policy environment ensuring macroeconomic stability is fundamental alongside an appropriate microfinance regulatory framework and adequate land tenure and property rights. Such an environment stimulates the development or continued availability of sound and reliable microfinance services targeted to small-scale enterprises, and promotes competition and market penetration of microfinance institutions while ensuring customer protection. Allowing for cost recovering prices and promoting competition and institutional efficiency, while focusing on transparency in pricing, will help interest rates to come down over time.
Secondly, when supporting the expansion of microfinance services to small-scale enterprises, governments and donors should never overlook the importance of accompanying microfinance facilitation with the necessary business and social backing. Small-scale enterprises must be economically viable and sound to be able to avail themselves profitably of microfinance services. This can be achieved through:
Social mobilization can support awareness-building for small-scale enterprises on microfinance services; dissemination of information about microfinance institutions; development of basic literacy, numeracy and skills training for women, indigenous people and other disadvantaged groups; mobilization and establishment of self-help groups to participate in microfinance markets.
Thirdly, high quality, targeted technical assistance can assist institutions in adopting appropriate microfinance technology and services to meet the needs of small-scale enterprises, and in improving their management and financial performance. Governments and donors can best focus their assistance in areas such as institutional and human capacity-building of microfinance institutions, including on smaller enterprises and their activities, improved financial infrastructure, promotion of best practices, transparent information, support for reducing transaction costs, product innovation and commercial mobilization of resources. Important interventions that can significantly increase the performance of the microfinance sector in a country or region include: upgrading and mainstreaming informal financial institutions (registration, reporting, legal status, prudential practices, supervision); supporting linkages and networks among institutions and establishing apex services; linking banks with local informal microfinance institutions; transforming agricultural development banks into sustainable providers of agricultural finance and other microfinance services.
Focus should be on providing microfinance services for rural households, and not credit for tree crops and forest production. The overall microfinance needs of rural household activities, their financing requirements and their repayment capacity should be looked at, and not only funding for specific small-scale enterprise investments. While the repayment schedule for loans for productive purposes should be based on the estimated cash flow generated by the investment, household cash flow from other activities can serve as an additional source of funds to repay the loan. Some microfinance institutions have responded to this problem by basing the lending decision on the existing repayment capacity of the rural household without making any appraisal of proposed new investments or activities. Loan appraisal methods taking into consideration the entire family business and household cash flow, rather than focusing only on the cash flow of the specific small-scale enterprise investment activities, can help expand credit opportunities.
Small-scale enterprises should be offered a choice of various financing options best adapted to possible heterogeneous investment and production strategies. For example, in marginal areas with a predominance of low return activities, self-help groups or credit cooperatives, which are savings-oriented and operate at nominal costs, or NGOs with a strong social emphasis and poverty outreach focus, may be more appropriate. In areas with high potential for good economic return and profitable smaller enterprises, larger credit cooperatives and banks (rural banks, commercial banks) with individual and group methodologies, professionally managed, may be more suitable.
Local institutions and authorities such as agriculture extension workers and foresters can play an important role in helping the microfinance institutions screen clients, understand the economic activities for which their clients intend to borrow and the risks involved, supervise loans and enforce repayment (thereby also contributing to the reduction of transaction costs and supporting the expansion of microfinance).