How does your proposed innovation leverage public intervention in catalyzing private SME finance?
The Fund envisages establishing a local currency SME financing window with seed capital of EUR 50 million. These donor funds will allow leveraging additional private capital of up to four times (EUR 200 million). The seed capital for establishing this new financing window under the well-tested and proven EFSE Fund of Fund structure would allow promoting local currency financing as well as financial instruments that are considered more risky (e.g. long-term loans, subscription of SME corporate bonds etc.).
Furthermore, the EFSE Development Facility would initially be funded by another EUR 5 million donated funds in order to finance technical assistance and capacity-building in partner financial institutions for promoting appropriate SME financing products.
The Fund is structured as an umbrella fund and, hence, allows for incorporating specific fund windows as the proposed SME financing facility. Against this background, each fund window can have its development purpose and be individually designed in terms of capital structure and offered services.
EFSE issues various classes of Shares and Notes (A Shares & Notes, B Shares and C Shares), each reflecting a different risk level. C Shares are exclusively reserved for donors. The C Shares bear the first loss. The B Shares will only suffer a net loss to the extent that the C Shares are depleted, being followed by the A Shares and Notes. This waterfall structure allows private capital to invest in emerging markets in Southeast Europe – and potentially new countries - while yielding attractive financial as well as social returns. While funds mobilized from the international capital markets by international finance institutions is mostly found in the mezzanine tranche (B-Shares), private investors are generally invested in the most senior capital tranches, i.e. A-Shares and Notes.
In the current EFSE structure, the leverage factor is seven, i.e. out of each EUR of public funding a total amount of EUR seven can be mobilized for development purposes. Regarding the proposed SME financing window, we suggest adjusting the leverage factor to four in order to cater for the considerably higher risks of local currency financing together with the innovative financial instruments to be offered (long-term loans, equity, quasi-equity etc.). However, the Fund strives hard to largely mitigate the currency risks by using hedging instruments provided by TCX and other innovative structures.
Due to this innovative approach, EFSE has been able to attract a significant number of reputable private investors. Out of the close to 30 investors, the majority are private investors. Against this success of the existing Fund, we expect that also the new SME financing window within the Fund will attract private capital.
The Advisory Group, comprised of 13 governors/representatives of central banks in the target region, is an informal consultative body of the Fund. It provides the fund management team with strategic guidance and strong linkages to local markets, which is particularly relevant for the proposed solution of local currency lending to SMEs.
In 2009, the Albanian government became the first public shareholder from the EFSE target region. This is particularly critical for promoting local currency lending as the donated capital from local governments should ideally be provided in local currency. Promising discussions in this perspective are under way with another local government, with the objective to attract private capital from the diaspora communities in a second stage.