Investing in SMEs in raw materials outside the banking market and in emerging economies
06 Oct 2016 by Ivan Agabekov, CFO, INOKS
How did INOKS become one of the largest investors in raw materials?
INOKS Capital does not invest in raw materials through traditional markets as such, (futures or physical). INOKS is an independent asset manager which manages its own investment vehicles. First of all, our strategy involved the supply of short term working capital to SME’s in emerging countries. We are mostly interested in sub-Saharan Africa and the countries of the former Soviet Union, but we have also invested in South America and South-east Asia. We target non speculative companies which are active in the raw materials sector, notably those involved in agricultural commodities (grains, softs or vegetable oils) and certain animal proteins, as well as metals (non-precious) and energy. We have one prerequisite: the added value chains of these commodities must respect clearly defined criteria for durability and impact.
When we launched this strategy, we noticed that numerous companies which had been established for several generations were situated outside the banking market and lacked working capital. These companies possess expertise, what they lacked was the capital required for purchasing the inputs and to plant, harvest and transform. Unfortunately, the banking market is often deficient when it comes to SME’s, particularly in emerging countries. It primarily targets and prioritises mature businesses, which are already well capitalised. We do not compete in the local banking sector and our financial input is positioned where needs are greatest: in terms of production, transformation, logistics – upstream or downstream of international trading.
The strategies we manage do not seek to generate profit from arbitrage on the cost of raw materials. To put it simply, raw materials are not where we make our money. We generate profit by remunerating capital invested which enables SME’s excluded from the banking market to access the financing and capital stock they need to grow – within a sustainable and ethical framework.
How do you generate a portfolio of SME’s working on raw materials?
This question is fundamental to companies like ours which are experiencing sustained growth. The more investors you have, the bigger your pipeline becomes. A company’s balance sheet is important, but what we need to know when we begin working with small companies is whether they will be able to transform the capital we give them first of all into a product, then create added value on this same product.
Most of the steps are managed internally: the sourcing, due diligence, structuring, investment, risk management and divestment. In terms of sourcing, we adopt a systematic approach. We analyse the markets that are most in need of capital and seek to understand the intrinsic mechanisms of the countries in which we are interested. In Burkina Faso, we have implemented a value chain for rice by creating and aggregating small cooperatives by means of an aggregator. The latter provided them with the technical assistance and knowledge they required to achieve a given yield. Next, they put the merchandise produced on sale in local distribution circuits before enabling access to the international market.
Concerning sourcing, we currently have offices which perform market analysis in Abidjan, Dubai, as well as São Paulo and Uruguay in South America. Teams there develop our business activities and select the counterparties who will profit from our investments. During selection, we analyse the country where demand originates, the company structure and the raw material concerned. We perform a financial, legal and transactional analysis of the company and the impact of the investment. Once this analysis is performed, our investment committee in Geneva approves the file. Then, an operational visit takes place in the field in order to verify that the structure, treatment methods, storage and transport used by the company are suitably aligned with our analyses. During the second visit, our managers check that the company’s management is capable of handling our financial input.
Have you created partnerships with one or more large international organisations?
Some international organisations actually work on the same value chains and offer technical assistance and training courses. The size of our company does not allows us to provide this type of operational support. On the other hand, we aim to create synergies between our counterparties and local partners, foundations or international organisations.
It is not always easy to work with development stakeholders because if we work on the same value chains, our interests and agendas diverge. We occasionally work with the European Development Bank and the Islamic Development Bank. We have common counterparties and we communicate intelligently together.
Additionally, we have initiated discussions to cooperate with some of the other development banks. These discussions concerned the banks providing five year loans to the companies in order for them to develop their industrial apparatus for local transformation or logistics (such as setting up silos or storage areas) and we will provide the working capital to guarantee efficient financing for these types of infrastructure.
Everyone seems to create their pipeline separately. Could we achieve economies of scale by setting up a pipeline aggregator to common standards?
Everyone has their own strategy and specific agenda, so it is difficult to agree on standardised criteria. Outsourcing a “custom” pipeline without diluting these criteria appears to be relatively complicated. As a result, we prefer to maintain our own expertise “in-house” to analyse the market. What is most important with regards to internalisation – and it is our fiduciary duty towards the investors – is the ability to control the totality of our processes and also to avoid all conflict of interest or risk of corruption around the creation of the pipeline and ultimately in the selection of the investments.
Does Inoks do impact investing?
We invest in sustainable development and all our activities incorporate SRI and ESG criteria. INOKS is committed to all these strategies and as a result does not collaborate with any company from sectors such as alcohol, arms, tobacco, gambling, or GMO. We condemn human rights violations and cruelty to animals as well as environmental degradation.
Beyond these disqualifying criteria, we have qualifying criteria in terms of poverty reduction and the fight against local food insecurity, while protecting the environment and promoting best practice and governance. Building on our activity since 2006, we are now focused on quantifying the impact of our investments in these domains.
We have therefore created an Impact committee which will shortly be made public through the production of a trimestral report summarising the quality of our impact in the field. Mr Dominique Bourg, a member of the ecological intelligence committee at Nicolas Hulot Fondation, is participating in this committee and is assisting us in the efficient integration of today’s most important stakes into our investment strategies. This first report should be available during the last trimester of 2016 or the first semester of 2017.
Although we occupy a strong position in our sector, our impact is insignificant on a global level. Commercial exchanges of raw materials currently account for $18 trillion annually. In comparison, our investment has reached more than US$3 billion since its creation. In spite of everything, we believe that our investment system brings a significant and veritable contribution to local businesses and communities at an economic and social level. Subsequently, this demonstrates that it is possible for things to be done differently in raw materials, with as big an impact as the industrial giants.