The 21st annual Southern African Finance Association (SAFA) Conference Cape Town, January, 2012

1. The 21st annual Southern African Finance Association (SAFA) Conference Cape Town, January, 2012 An Appraisal of Agricultural Financing Models in South Africa(work in progress) Retha Du Randt and Daniel Makina Department of Finance, Risk Management and BankingUniversity of South Africa

2. Presentation outline • Background to the research. • The pivotal role of agriculture in the economy. • The rationale for government intervention in agricultural/rural financial markets. • The case of South Africa: The Land Bank • Historical context • Changing mandates • The triple objective dilemma. • The envisaged research approach.

3. The pivotal role of agriculture • Agriculture commands the largest share of Gross Domestic Product (GDP) for the rural economies. • Most rural households derive the largest part of their income from farming and its related input and output industries and services known as agribusiness. (Zeller, 2003) • The agricultural sector is a major employer in the South African economy. Although agriculture in the primary sector contributes less than 3% of GDP of South Africa, it has the highest employment per unit of GDP. It contributes around 10% of formal employment. • The World Bank Development Report (2008) also suggests that a unit of output of agriculture has a greater poverty impact than a unit of output of another sector.

4. The supply of credit to the agricultural sector • The supply of credit to the agricultural sector and the financing models do not reflect the pivotal role of agriculture in Southern Africa.  • Market failures in the provision of finance to the agricultural sector due to its special circumstances resulted in government intervention in the form of establishing development agricultural banks (Patrick, 1966) • The roles played by a development finance institution (DFI): • It provides long-term funds that the capital market cannot. • It serves particular categories of borrowers, for example farmers, where credit rationing exists. • It involves an element of government participation, and often state ownership. • Its main task is to identify, appraise, promote, finance, implement and monitor investment projects in line with development goals and priorities.

5. The problem statement • Operations of these development banks have, however, come under severe criticism and scrutiny in recent years. • The role of DFIs in developing countries has gone beyond addressing market failure to, more broadly, addressing development failure. As such they are expected to address broader development policy objectives such as employment creation, income redistribution and the development of poor groups or regions. • The new focus is particularly because of the inability to measure their developmental impact as well as the effective use of State funds invested in these organisations. (Francisco et al, 2008 and Yaron, 2005) • Our research should be viewed against these principles and the focus will be on the Land Bank of South Africa.

6. The historical perspective of the Land Bank • Founded in 1912 by Act of Parliament, the Land Bank, was charged with the role to finance the emerging agricultural economy. The dominant sector then was the mining sector whose funding needs had led to the establishment of the Johannesburg Stock Exchange in 1887. • Capital markets were still in their infancy in South Africa then and from a theoretical perspective this justified the establishment of a development bank to cater for the agricultural sector funding needs (Kitchen,1986) • When capital markets became more developed, it could be argued that development banks still have a role because: • there may be some borrowers who lack the necessary collateral or track record as creditworthy borrowers to satisfy the private sector banks • there may be projects which a government would like to pursue as part of its development strategy.

7. Historical context timeline • 1980 – Deregulation of financial markets Funding concessions for Land Bank phased out and it had to raise funds at market related interest rates. • 1994 – open to world markets Profitability of farmers were no longer assured due to the disbandment of agricultural control boards 1994-97. • 1998 – Agricultural Credit Board abolished. Increase in impairments and bad debts on the Land Bank’s books • 2002 – Change in Mandate following the Strauss Commission Report. New legislation was implemented from June 2002. Land Bank was now tasked to support government’s agricultural policies and objectives by encouraging PDIs to participate in the sector, supporting PDI groups and increasing their land ownership. This added a third dimension to the existing 2 objectives of the Land Bank, namely commercial and developmental.

8. Impact of changes on the agricultural debt distribution (Department of Agriculture, Forestry and Fisheries, 2009)

9. Relevance of this research • According to government documents and annual reports, the Land Bank has since 2004 been under review for reasons including; • Financial irregularities, corruption and mismanagement – forensic investigations • Rising cost to income ratio • Going concern and sustainability issues resulting from an increase in bad debt provisions and loss of clients • The appropriateness of its current financing model – no longer a comparative advance to source funds • Serious concerns over its ability deliver on its mandate • The reduction of the Land Bank’s share towards agricultural financing. • In 2007, 2010 and 2011 received extensive budgetary allocations.

10. The triple objective dilemma of the Land Bank • From analysis we observe three objectives: • Commercial • Developmental • BEE • The objectives appear to be mutually exclusive and are therefore found to be difficult to achieve. • From the financial statements we conclude that in the years when the focus have been on providing developmental loans, the results were unimpressive while at the same time the commercial side have been impacted negatively. • In an attempt to increase BEE loans the Land Bank sacrificed the commercial objectives by relaxation of lending criteria. • By their own admission the Land Bank admits to not achieving its objectives in terms of development and BEE. However the attempts have also impacted negatively on the commercial objectives. • The Land Bank is now saddled with an impossible trinity of objectives.

11. Measurement issues • Commercial objectives are easily measureable. • Development objectives lack standards (Francisco et al (2008). In an attempt to report on these objectives, the Land Bank has in 2011 introduced the Social Accounting Matrix methodology to assess the impact of funding. Unfortunately there is still not general accepted accounting standards for this methodology and the reporting is highly subjective and arbitrary • BEE objectives – again performance measurement is problematic. Should the success be measured in terms of black ownership, amounts of loans, number of individuals or the number of BEE deals?

12. Research approach • We intend to analyse the following: • The sustainability of the current Land Bank financing model as an input to policy advice. • The compatibility of the Land Bank objectives. • Data: • Annual financial statements from 1980 to 2011 • Reports by National Treasury and the Department of Agriculture • Consultant reports • Management reports • Methodologies (depending on availability of data collected): • Regression analysis • Content analysis • Trend analysis • Impact analysis • Non-parametric analysis

13. Conclusion • Inviting comments and suggestions. Thank you