In the early 1990s, following the return of peace, many local Cambodian private entrepreneurs spontaneously invested in the development of water supply infrastructures, particularly in small urban centres. These services were unique insofar as they were created without any planning, contractualisation or even regulation by public institutions. They were entirely private, made up of complex network infrastructures, and marked out by their sophisticated commercial management (home metering), adapted to demand and to users’ ability to pay. In the space of a decade (2000-2010), according to several studies financed by the World Bank and Agence Française de Développement (AFD), around 400 local businesses emerged across the country, accounting for almost 50% of water connections nationally. These private services have gradually been formally structured and regulated by the Cambodian government, with the introduction of a licensing system (2006), followed by various regulations (2017) covering the scope of concessions, compliance with technical standards and quality of service.
SECTOR DEVELOPMENT: THE MISSING LINK IN ACCESS TO FINANCE
In 2010, despite the efforts to provide a framework, many sectoral constraints remained, particularly in relation to service quality. Financial backers have been supporting entrepreneurs for more than a decade, through investment grants and capacity building, without really managing to impose minimum quality standards. Consequently, the infrastructure was often poorly designed, resulting in poor quality water services. From a financial perspective, there were also a number o barriers to investment. Network infrastructure requires high levels of initial investment, which are often beyond the borrowing capacity of Cambodian businesses from the traditional banking sector. As a result, they have become accustomed to small-scale, ‘sequential’ investments, raising funds either from family or informal lenders. Access to finance for Cambodian businesses in the formal sector therefore remained embryonic and limited in its amount. Indeed, Cambodian commercial banks were not very active in asset financing, particularly for small and medium-sized enterprises (SMEs). The Cambodian banking sector, which was rebuilt in the mid-1990s, gave priority to the corporate market in the country’s main cities, while Cambodia’s many, highly developed microfinance institutions (MFIs) focused on financing VSEs and individuals in rural areas. Therefore, the intermediate meso-finance segment was not covered. Moreover, in 2010, the water sector was perceived as especially risky and financial institutions lacked the in-house expertise required to assess the business models of complex, long-term projects. The financial conditions on offer were therefore very conservative, making the related products unattractive and wholly unsuited to the water sector, characterised by the large amounts of collateral demanded (up to 200% of the total amount of the loan), made up almost exclusively of mortgages, resulting in low loan amounts, with excessively short maturities (limited to 5 years).
In response to these constraints, AFD and the European Union have been working with Cambodian commercial banks since 2010 to develop credit facilities dedicated to private water and electricity businesses. These facilities were to be combined with a risk-sharing arrangement and a grant from the European Union, reducing collateral requirements and helping to minimise technical and financial risks.
AN INNOVATIVE PROJECT BUILT AROUND THREE INTERDEPENDENT TOOLS
After a lengthy structuring phase needed to identify the ‘right’ banking partner, Foreign Trade Bank (FTB), a Cambodian commercial bank, came forward in 2012 and met AFD’s conditions for providing this type of credit facility. The project was designed around: i) a $15 million non-sovereign subsidised line of credit (without a government guarantee) (including $5 million for the water sector, with the remainder earmarked for electricity) to finance investment projects (infrastructure and engineering); ii) a risk-sharing arrangement (ARIZ) in the form of a €10 million portfolio/individual guarantee aimed at reducing the Bank’s collateral requirements from its future customers; and iii) a €3.5 million subsidy from EU funds to finance two technical assistance projects, one for the bank (to bring its teams up to speed with commercial aspects, project vetting and the use of new guarantee evaluation methods), the other to provide businesses with support in preparing loan application files, designing and managing infrastructure, and capacity-building measures. A consultancy, ENCLUDE was to provide technical assistance to the bank, while a consortium made up of GRET / ARTELIA / iSEA / SEE-SAW would provide technical assistance to contractors.
RESULTS AND IMPACTS: A DEMAND FOR FUNDING THAT EXCEEDED EXPECTATIONS
The programme was rolled out beginning in August 2014. It would help drive the growth and development in financial products tailored to Cambodian SMEs, with an attractive rate of interest of around 6% (compared with 12%), maturities of up to 10 years (compared with 5 years previously), a one-year grace period (compared with 6 months) and – most importantly – bank guarantees limited to 100% of the loan amount that take account of the valuation of the business’s productive assets and net present value over 10 years. This system has also standardised credit applications, which has improved loan application processing times, information sharing and the quality of applications. Lastly, the technical assistance component has resulted in the emergence of iSEA, a consultancy paid for by borrower businesses, specialising in intermediation, support and preparing applications, while also managing projects and training businesses in project sustainability. All this has helped to reduce both the technical and financial risks, and information asymmetry between lender and the borrower.
Between 2015 and 2019, 68 loan applications (representing a volume of $19 million) were submitted to FTB; 56 applications were accepted (for an amount of $17 million); 47 pre-financing studies were carried out (for $13 million), and 40 business plans were produced ($10 million). Finally, 31 loans were granted by FTB for a total of $7.3 million (compared with the $5 million programmed initially). An analysis of the portfolio of approved loans reveals a very wide range of loan authorisations that reached targets that were previously outside the banking system, in phase with the goal of developing ‘meso-finance’. The amounts of loans granted ranged from $16,000 to $780,000, with an average amount of $259,300. In particular, this funding has facilitated 33,000 additional connections (133,000 people) to the drinking water network and, most importantly, improved service quality for more than 430,000 people. Meng Sengkry, Director of Loans at FTB for this project, believes that “the main successes were reduced guarantees, bigger loan amounts, the attractive interest rates and longer maturities.”
KEY TAKEAWAYS
As the first programme of its kind in the water sector on an international scale, its deployment has provided important insights for designing and implementing projects in the ‘meso-finance’ segment. First, the project was a success thanks to the close involvement of FTB, a proactive and forward-looking bank, in all stages of the project, from co-designing to implementing the tools. From a financial perspective, the arrangements and nature of the guarantees selected played a central role in facilitating access to suitable loans. In addition to the lower subsidised interest rate, businesses were able to borrow on average almost four times more than under existing financial arrangements, thanks to the co-creation of a method for valuing assets and accounting for economic flows. As regards non-financial resources, combining two types of technical assistance has been crucial in creating trust between stakeholders, thereby reducing technical and financial risks.
Other, more unexpected effects were also observed following the deployment of this sector-specific credit facility, such as a mature ecosystem of technical and financial players (particularly research offices) and an improvement in infrastructure and service quality. These dual effects are undoubtedly linked to the fact that the sequential disbursement of loans was contingent on the presence of an accredited project manager. Sear Sengheap, a local businessman believes that, “It is now essential to guarantee water quality through adequate treatment facilities, sufficient distribution and maintaining water pressure. The Ministry’s operating certificate is approved solely on the basis of the project’s results.” Finally, it is worth highlighting one frequently overlooked aspect of ‘blended finance’ projects, namely the role played by specialised and accredited referral agents, entrusted in this case to a consortium member company, iSEA. Despite their close involvement, it is difficult for commercial banks to be specialised in highly technical sectors such as water and electricity, as their core business is financing. Therefore, the presence of one or more referral agents, initially paid out of subsidies and accredited by the project, enables the bank to ensure the quality of the loan applications (particularly the valuation of assets), the quality of project design (adapted to the investment capacity) and the subsequent completion of the infrastructure. However, the question of how to pay these agents, operating at the interface between the bank and the business, remains key and it was not resolved in the initial project phase.
These lessons and experiences were factored into a new phase of the project, this time supported by Proparco, beginning in 2022. This second phase includes the creation of a research fund to subsidise the costs of using local experts acting as referral agents and technical design offices (under the supervision of technical assistance, which strengthens the capacities of all players involved). This approach further consolidates the ecosystem of players and overall project sustainability and unlocks synergies with other financial backers or similar initiatives deployed by the Cambodian authorities.