Asymmetry of info: The PDM projects already focus on this by providing international procurement officers with information on the local marketplace, and local vendors with information on how to win international tenders. The addition of 3FP would address the adverse selection risk of asymmetric information by providing data on the viability of local SMEs who have won an international contract.
Informality: For local SMEs bidding on international contracts, most of their existing credit comes from informal family loans. This project would help shift this to the banks.
Lack of collateral: In “factor finance” the collateral is provided by the invoice from the contract the SME has won.
Lack of financial capacity: 3FP project teams will increase and deepen the current financial literacy assistance being provided to local SMEs by the PDM projects.
Lack of access to knowledge /markets: This is the core of the 3FP concept. It helps local SMEs access the billions in international aid money that is already being spent, just not locally.
Unavailability of financial products tailored to SMEs: Our surveys of local entrepreneurs bidding on international contracts in Haiti, Timor, and Afghanistan show that the financial product they need the most, which is not available, is short term operating lines of credit as being proposed by the 3FP concept.
Institutional capacity: Local banks have the administrative capacity to provide operating lines of credit, but lack exposure or understanding to more advanced financial instruments such as factor finance. This project will help introduce it.
High transaction costs: The 3FP concept will reduce some of this cost by lowering the default rate due to adverse selection risk and to a certain extent the moral hazard risk. By providing a contract-specific LoC to the SMEs, the borrowers would only be able to draw upon it with proof of outstanding bills to deliver on the contract being executed. For example, SME wins a contract to build a road and the 3FP project guarantees a LoC at the local bank. The SME then brings a bill for gravel to the bank, which would then either provide the funds for that bill, or pay the gravel supplier directly. This reduces the borrowers cash in hand and thus the moral hazard risk.
Incentives for financial intermediaries: The “missing middle” is a large untapped market for local banks. 3FP will demonstrate that LoCs can be profitably be provided to local SMEs.
Women entrepreneurs: The PDM projects prioritize female owned SMEs, especially in Afghanistan. The 3FP concept would mirror this approach.
Specific barriers: This project focuses on nations that are the larger recipients of aid, and thus tend to be fragile states.