Coffee producers around the world have long been faced with a raft of financial challenges. Many of these can be traced back to low or unstable coffee prices, but unfortunately, it is not always as simple as just paying farmers more. 

The world of finance is complex enough before we consider the fact that coffee is a seasonal crop that requires investment in labour and equipment to harvest and sell. Further still, producers often have to contend with prolonged payment terms, a lack of available collateral, and high interest rates.

To learn more about finance and its relationship with coffee production, I spoke to industry experts from across the supply chain. Read on to learn why they believe access to cash and affordable credit is crucial for coffee producers.

You may also like our article on how overcoming logistical hurdles can strengthen direct trade relationships.

The issue: Why do coffee producers often need finance?

Like many other agricultural products, coffee is seasonal. It is harvested at a certain time every year. As such, producers generally get paid in one lump sum at a particular point in the year when their harvest is sold.

This model creates instability. Managing annual periods with a single lump sum is difficult when producers can’t predict what the next 12 months might hold.

For example, a producer’s farm may come to need major, unforeseen improvements or repairs. Alongside this, harvest costs could increase, or getting coffee to market might suddenly get more expensive for any one of a number of reasons. 

Matti Foncha is the President of the African Coffee Trading Group and a producer at Cameroon Boyo. “The money that producers receive for the harvest [in Cameroon] often does not even pay for labour costs throughout the whole year,” he says.

However, Matti notes that alongside the running costs that a farm entails, people also forget about living expenses. There are a number of significant upfront living costs that often require financing.

“School fees and holiday gifts in particular are some of the more crucial areas of life that require financing after labour costs on the farm,” he tells me. 

Another issue arises when producers who operate on subsistence-level income seek to invest in their farm and improve their crop yield or quality. For some coffee farmers, the amount of capital required for fertiliser or new equipment may simply be infeasible based on what they receive in harvest income.

Altogether, this means that affordable, accessible finance is not just something producers would benefit from. For many, it is something that they desperately need. 

The Institute for Agriculture & Trade Policy estimates that the demand for “sustainable trade financing” for smallholder coffee producers is around US $3 billion. Only around 10% of that (US $300 million) is available worldwide.

Securing farm-level finance: The obstacles

So, we know that farm-level finance is crucial for many coffee producers. But if this is the case, why is it so difficult for them to access?

Interest rates

For many farmers, the main obstacle is high interest rates, which effectively price them out of securing a loan. 

As interest rates increase, farm profits decrease for the borrower. Subsequently, farmers spend less of their money paying back the capital that they have borrowed, and more to the lender.

Interest rates can increase for a number of reasons, but one of the major factors is risk. The riskier a lender deems a loan to be, the more they will charge for it. As the International Trade Centre’s Coffee Guide puts it, “credit and risk mitigation are irrevocably linked”.

“In Cameroon, the rates are often ridiculously expensive,” Matti says. “They can be between 20 to 24% a year, or 1.5% to 2% a month. And sometimes for not enough money to do what you want to.”

Collateral

Another key issue is collateral. Many coffee farmers lack forms of conventional collateral (an asset to secure the loan against), which makes banks and other lenders less willing to loan to farmers.

However, if farmers do manage to secure finance, then this lack of collateral means that the lender is more likely to require a higher interest rate.

In some cases, coffee farmers may be able to secure their loan against future harvests or land. However, any default means the producer could lose their farm or end up in a constant cycle of repayments.

Payment terms

Around the world, coffee buyers typically pay once a bill of lading has been issued. This is a document which confirms the receipt of cargo once it is cleared for export by customs. 

The bill of lading both serves as confirmation that the coffee in question has been received at the port, and is used as a document of title for the shipment (much like the deed to a house or a parcel of land).

While this model works in principle, it takes a significant amount of time for coffee to move from farm to port. Given that producers are already working on an annual cycle for payments, any further delay can be devastating. 

“Cash flow is very important,” Matti notes. “If producers sell it on their doorstep, they can be paid in 12 months, but otherwise it can be another three to six months before they receive the funds.”

Mary Beth Côté-Jenssen is the Chief Partnerships Officer at Root Capital. Root Capital offers loans to small to medium-sized coffee producing organisations, such as co-operatives and farmer associations. 

Mary Beth says that the hope is that by operating in this way, Root Capital can assist more producers at scale. 

“Buyers typically set payment terms,” she explains. “In some cases, the buyer can choose to extend payment terms from a net 30 days to a net 90 days.

“However, this can cause significant strain on the co-operative or association in question and, by extension, all of the producer families that are involved. So, access to credit essentially enables [an earlier] cash payment to the farmer. 

By mitigating any further payment delays, she explains that producers can avoid operational headaches and cover their costs in a timely and efficient manner. 

Financial literacy

Matti also adds that financial literacy is a barrier. Smallholder farmers’ expertise typically lies in agriculture and coffee cultivation, not finance.

This makes it difficult for producers to secure loans in the first place, but he says that education continues to be an issue into the future if finance is secured.

“If farmers aren’t getting good financial advice, there is a risk that they’ll borrow and spend more than their ability to produce,” he says.

Analysing risk: The lender perspective

It’s easy enough to say that lenders should simply be more “fair” and equitable as far as coffee production is considered. But as the ITC’s Coffee Guide points out, risk and finance are inherently linked.

Alessandro Chavez is the Economic Development Manager at SEBRAE Minas Gerais in Brazil. “Each financial institution uses a range of mechanisms to reduce their risk of operations,” he tells me. “These include interest rates.”

The “mechanisms” that Alessandro describes are used as a form of security against this increased risk. Coffee production can be viewed as a risky investment for a number of reasons. Alongside a lack of collateral (meaning less lender security) weather and climatic issues are a concern.

Matti says: “Alongside the climate and nature, there are diseases that affect production [like coffee leaf rust and so on]. This means that funding or credit too early in the growing season can be an extremely risky decision.”

In Brazil, Alessandro explains that the government-backed “Harvest Plan” (sometimes also known as the “Safra Plan”) mitigates risk and supports low-cost lending to farmers.

Through this plan, the Brazilian government has offered around R$236.3 billion (approx US $41 billion) in low-cost loans throughout the 2020/21 crop year. The interest rates for these products range from 3% to 10.5% (compared to a median average of 19.9% in the private sector).

“Climate and weather issues are often considered in Harvest Plan loans,” Alessandro says. “Lenders then renegotiate debts and extend repayment terms. This allows financial institutions to fund with slightly fewer risks.

“In turn, the producer needs access to this finance to produce and market their coffees.”

As for Root Capital, Mary Beth says: “With market risks in mind, we lend against forward contracts; that is one of the ways that we mitigate risk. Once a co-operative has a contract with a buyer then we lend against that contract.” 

This mitigates risk through the form of an established agreement that coffee will be purchased and that summarily loans will be repaid. This effectively removes the need for physical collateral (land or other assets) and secures the lending process.

However, Mary Beth adds that there are other ways that lenders can support producers. “Credit alone isn’t always enough,” she says. “In response to Covid-19, we’ve deployed ‘Resilience Grants’ which alleviate operational headaches [for co-ops] who need to adapt their operations, supply PPE to producers, and so on.

“Alongside tailoring loan terms, these cash grants support co-operatives (and by extension, producers) to stay afloat during market disruptions like the pandemic.” 

Coffee production is fraught with challenges, and difficulties accessing affordable credit only add to that. Access to cash is necessary for many producers if they are to invest in their farm and become more financially sustainable in the long term.

As with many things in the coffee sector, this is not an issue that can be solved simply. However, government-backed lending initiatives like the Harvest Plan in Brazil are a step in the right direction. 

For the hundreds of thousands of smallholder coffee farmers looking to move beyond subsistence living, sustainable and attainable finance options are not just helpful; they are necessary.

Enjoyed this? Then read our article on whether or not we need to redefine the phrase “specialty coffee”.

Photo credits: Root Capital

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