Two major challenges in agrifoodtech dominate discussions right now: the flatlining of venture capital in the space and the recognition that many agrifood technologies need longer timelines than is common in the VC world. This is especially true for projects taking place in developing markets, where currency volatility, underdeveloped infrastructure, and limited farmer access to markets abound.
“Blended finance” — loosely defined as the combination of public and private funds — is frequently thrown into this discussion as a solution to both problems.
In theory, it could go far in closing the agrifood financing gap in developing countries, where smallholder farmer needs total around $170 billion, with another $106 billion needed for SMEs handling the agrifood value chain, according to a new report from FAO Investment Centre.
But that same report also cautions the investment community that blended finance is not the silver-bullet solution many would hope. It remains a sliver of the overall agrifood investment pie, and it’s a highly complex area of investing full of different stakeholders with varying objectives, backgrounds, and mentalities.
Addressing those complexities would surface some valuable lessons for investors interested in blended financing, and help them make the best use of this type of capital, says Alexandre Kaufmann an agribusiness finance officer at Investment Centre who helped author the new research.
Making sense of these “dos and dont’s,” as the report calls them, could help to enhance the risk-return profile of agrifood financing and in doing so boost funding from financial institutions beyond what already exists.
Defining ‘blended finance’ in agrifood
Investment Centre’s report defines blended finance as “the use of catalytic capital from public or philanthropic sources to increase private sector investment in sustainable development.”
Citing a paper from Tideline, Kaufmann refers to catalytic capital as “debt, equity, guarantees, and other investments that accept disproportionate risk and/or concessionary returns relative to a conventional investment in order to generate positive impact and enable third-party investment that otherwise would not be possible.”
In other words, catalytic capital can take on higher-risk projects compared to conventional capital because there is an expectation of below-market risk-adjusted returns. Once a project is sufficiently de-risked with that catalytic capital, private investors can finance it on more conventional commercial terms.
The term “catalytic capital” is sometimes used interchangeably with concessional capital, but Kaufmann says there are some differences to note: “Catalytical capital puts more emphasis on capital mobilization, whereas concessional capital says something about your risk appetite.”
Some of the most common examples of catalytic capital include:
- First-loss capital: investment that absorbs initial losses, protecting senior investors from downside risk
- Guarantees: a commitment to cover losses or repayments if a borrower defaults, mobilizing capital without deploying it upfront
- Subordinated debt: debt that ranks below senior lenders for repayment, absorbing losses first in exchange for higher risk tolerance
- Concessional loans: loans with below-market terms such as lower interest rates, longer tenors, or grace periods
- Patient equity: equity investments with extended timelines and more flexibility around returns
Making sense of the variety
The sheer variety of blended finance initiatives can overwhelm. As the report notes, the size of a project, its investment strategy, and intent all vary considerably.
This is especially true in agrifood, says Kaufmann, “given the heterogeneity of agrifood systems.”
“Funds will differ widely depending on which segments they are targeting (agritech start-ups, cooperatives, SMEs, multinationals, etc.) and which value chains (coffee, cocoa, livestock, rice, cassava, etc.).”
He adds that investors wanting exposure to the sector should first talk to “neutral brokers” such as Convergence, which bills itself “the global network for blended finance,” organizations like FAO Investment Centre, international finance institutions (e.g., World Bank, European Investment Bank) and development finance institutions (e.g., FMO).
Key lessons for investors
Speaking to AgFunderNews, Kaufmann provided five major takeaways for those interested in blended finance:
1. Get your expectations right. Blended finance is not a silver bullet. We remain far away from the “billions to trillions” goal. As far as agrifood systems are concerned, we see a multitude of heterogenous and relatively small blended funds. In terms of volume [these] remain small compared with the overall agrifood financing globally, without even mentioning the hundreds of billions of investments needs to transform agrifood systems.
Having said that, the application of blended finance principles to investment funds can be a powerful approach to test innovative solutions, venture into segments perceived as more risky, and mobilize more capital.
2. When you invest in a fund, you invest in a fund manager.
3. Too much emphasis on first loss capital can hamper the mobilization of commercial capital, sending the message that the sector targeted is not financially viable. De-risking is not sufficient to attract capital. Guaranteeing that potential losses won’t be so big does not make a great sales pitch. Commercial investors expect a return. They also pay a lot of attention to other features (management team, management fees, corporate governance, legal structure of the fund, etc.).
4. Blended funds gather different stakeholders, with different objectives, cultures and modus operandi. Do not underestimate the potential cultural shock. Mitigate this risk by mobilizing “neutral brokers,” potentially through the set of advisory boards. Keep it simple when it comes to structuring and execution.
5. Technical assistance (TA) is a key de-risking factor. “Risk comes from not knowing what you are doing.” [A famous Warren Buffett quote.]. Coupling your investment with TA is important to share knowledge, both at the level of the fund and its investees.
TA can also be used to build and share a learning agenda. Blended finance can help to generate data and lessons learned to the benefit of the entire agri-finance community. There are many valuable lessons to be learned from the numerous funds around and their different attempts at investing in agrifood companies in various geographies. The allocation of concessional capital should go together with a certain level of transparency. Do not shy away from sharing these lessons.
