NextThought Monday: Creative Ways to Boost Youth Entrepreneurship
The risks of investing in young entrepreneurs are well known: Inexperienced management, murky business plans, overly optimistic views of the market, etc., etc. But the old suppositions only go so far, especially when creative partnerships with financers and young startups weave in training and mentorship. Building on previous research, Youth Business International (YBI) recently issued Closing the Gap, a report that pulled together several case studies demonstrating how the finance gap can be bridged for young entrepreneurs. Each example shows how nonfinancial support decreases the risk of investing in young entrepreneurs and their ideas.
I spoke with Helen Gale?, YBI research and policy manager, about what the case studies revealed.
NextBillion.net: Can you explain what trends you were trying to identify and understand when your organization embarked on ’Closing the Gap’? How did this build on previous research?
Gale: Closing the Gap demonstrates through case studies how to increase access to capital for young entrepreneurs through integrated lending: combining finance with non-financial support. Non-financial support includes training, mentoring, networking, and all other entrepreneur capacity development services.
YBI’s core proposition is that this integrated approach reduces the risk of lending to underserved demographics, so the value of the non-financial support should be recognized as a substitute for collateral and other types of guarantee. The range of innovative lending partnerships from around the world showcased in the report testifies to growing recognition by all sectors, the financial sector in particular.
YBI first made this case in a thought piece entitled, Beyond Collateral (published November 2010), in turn building on YBI’s previous research presented in our ’Making Entrepreneurship Work’ policy series. The first report made recommendations to promote youth entrepreneurship, including:
“Banks and microfinance institutions should partner with community organizations to improve young people’s access to financing” because, “by working with local organizations that better understand the risk profile of young people, financial institutions become able to extend services to new sections of society.”
The case studies in Closing the Gap unpack and illustrate this best practice. As a next step YBI will assess the impact of non-financial support on entrepreneurs’ success through randomized and non-randomized studies.
NextBillion.net: Can you please explain your methodology, i.e. how the case studies you explored informed your conclusions?
Gale: Closing the Gap includes nine case studies: six from across the YBI network; and one each from three sector partners, International Youth Foundation (IYF), TechnoServe and Silatech.
Primarily they each identify partnerships between NGOs and financial institutions, where the financial institutions reevaluate the risk of lending to young or other entrepreneurs typically considered unviable as commercial clients, based on their improved performance through the combined provision of financial and non-financial support.
Each of the partnerships was brokered locally and is tailored to local context, dependent on various factors such as lending cultures, financial sector structures, and institutional arrangements. However, analysis of the body of evidence generated by the nine comparative studies revealed clear trends in what it takes to enable and establish an effective lending partnership to reach underserved entrepreneurs (explored in the final question/answer, below). Conclusions were developed in collaboration with the practitioners responsible for the partnerships. The focus was on:
- Need: how best to address the reasons why the financial institutions were not lending independently;
- Structure: how the partnership terms were negotiated;
- Value: how the non-financial support provided makes the at-risk entrepreneurs bankable.
NextBillion.net: When you looked at successful partnerships between youth-generated startups/entrepreneurs, did any patterns emerge in terms of success rates? And how did you measure that success?
Gale: The report focuses on lending partnerships between financial institutions and NGOs that provide non-financial support (and in some cases, also access to capital).
The key to success in the partnerships is the non-financial support being recognized by the financial institutions for its value in turning start-up entrepreneurs into viable clients, young entrepreneurs in particular. It is (relatively) well-documented that young people face more barriers to starting up in business, in particular because of their lack of any established form of security.
The reduction in the risk of lending (or on the other hand, the improvement in the borrowers’ track record) was measured principally in business performance terms, using indicators including loan repayments rates; increase in turnover/profit; business sustainability rates.
For example, since mentoring became mandatory for all entrepreneurs by YBI’s Canadian member, CYBF, their annual loan write-off rate decreased steadily from 11.4 per cent in 2004 to 5.8 per cent in 2010.
The partnerships were also successful in changing attitudes among lenders. According to the CEO of Al-Amal Microfinance Bank, Silatech’s partner in Yemen: “The youth we loan to have proven to be excellent, reliable clients, something which has changed perceptions amongst our staff and the wider community about the responsibility and maturity of young people in Yemen.”
NextBillion.net: Let’s focus on a few case studies. First, the partnership between Bharatiya Yuva Shakti Trust (BYST) and two national banks, Bank of Baroda and Indian Bank, to increase lending to young Indians. How were these financing options different than other offerings and what was the ultimate result in terms of repayment?
Gale: In India young people in particular face a financing gap between microfinance and the products available through purely commercial finance. In part to meet the needs of this “missing middle”, in 2000 the government launched a credit guarantee scheme to make available collateral-free credit to the MSE sector. Under the terms of this scheme, Indian NGO and YBI member Bharatiya Yuva Shakti Trust (BYST) established lending partnerships with two national banks in 2007-08, Bank of Baroda and Indian Bank.
The crux of this financing option is the combination with BYST’s non-financial support, compulsory in order to access the banks’ loans. The non-financial support spans training, mentoring, networking and further financing referrals for the entrepreneurs. Loan repayments rates are on average 95 per cent, and, as a result of the joint offering, BYST was able to support 500 young entrepreneurs per year, compared with 100 prior to the establishment of the partnerships.
NextBillion.net: I also wanted to ask about TechnoServe, which is a Content Partner for NextBillion. Your report examined the effectiveness of TechnoServe (a Content Partner for NextBillion) managed business plan competitions to channel capital to young entrepreneurs. Please explain how this intangible (non financial) support helped attract financiers to new ventures that may have been otherwise overlooked?
Gale: The first point here is that, although some aspects of the non-financial support are intangible, the effects they have on the success of an entrepreneur’s financial capability are tangible indeed!
To enable access to investments and loans for high-performing candidates in its business plan competition, Technoserve developed a series of bilateral partnerships with lenders and investors. The suppliers, typically risk-averse, have different motivations, but the common denominator in partnering with Technoserve is the recognition of the value of the non-financial support. Participants receive a range of training and networking opportunities, and, relative to non-participants (based on a study of 13 Central America competitions):
- generated 2x the one-year sales growth and 2.5x the two-year sales growth;
- created nearly 2.5x more jobs over two years;
- mobilised nearly 3x as much capital;
- were 1.5x more likely to follow through on their plans to start or expand their business, and then much more likely to formalise it; and
- (amongst new businesses) were nearly twice as likely to survive two years
Yet there remains a financing gap: for example, across four Andean competitions, almost a third (31 per cent) of participants were still excluded, even after receiving the non-financial support from the competition’s training and networking program.
NextBillion.net: Lastly, there certainly are many takeaways from these studies. But if you had to consolidate your top five that could be applied to other deals between younger entrepreneurs and financiers, what would they be?
- Partnerships between commercial lenders or investors and non-profit organizations can overcome information and profit disincentives, and offer effective ways to meet expected returns on lending to clients perceived as risky, for example young entrepreneurs.
- Guarantee mechanisms can be critical to enabling partnerships between commercial lenders or investors and non-profit organizations that increase access to capital to underserved entrepreneurs.
- In order to expand access to finance for hard-to-reach entrepreneurs through lending or investing partnerships, non-financial support should be formally recognized in the same way that collateral and other guarantee requirements are.
- Recognizing non-financial support as an alternative to traditional forms of collateral and guarantee for youth enterprise lending depends on the delivery of quality services. Depending whether the services and/or the provider is registered, agreed measures of quality control would systematize recognition by financial institutions.
- It is the responsibility of civil society organizations involved in entrepreneurship finance to be proactive in helping overcome the information deficit of banks and other financers and demonstrate the cost effectiveness of nonfinancial services in reducing the risk of supporting young and other hard-to-serve people into business.