Case Study B: A Better Financial Product

for Young Entrepreneurs Micro and Small

Enterprises

A Wedding Cake Model for

Togolese Entrepreneurs

Team : Laughing Buddha

Executive Summary ........................................................................................................................... 2

Project Context ................................................................................................................................. 3
Product Development Objectives ...................................................................................................... 4
Our Solution ...................................................................................................................................... 4
Strategic Alignment & USP (unique selling point) ........................................................................... 5
I. Our Product ................................................................................................................................ 5
II. Criteria for evaluating loan proposals......................................................................................... 7
III. Repayment mechanisms ........................................................................................................... 8
Incentive Plan ................................................................................................................................ 8
IV. What if analysis ........................................................................................................................ 8
VI. Target audience for our product ............................................................................................... 8
VII. Sustainable outcomes of the solution and operational impacts ................................................ 8
Market readiness ........................................................................................................................... 9
Measurement of Social Impact ...................................................................................................... 9
Monitoring and Evaluation .......................................................................................................... 10
Way Forward ............................................................................................................................... 11

Executive Summary
The Youth to Youth Fund (Y2Y Fund) is one of YENs (Youth Employment Network, an
interagency initiative of the UN, ILO and World Bank) key products. When the Y2Y Fund
launches in Togo, it has to be launched with a better financing product which seeks to address
the issues with existing micro-fund based products and is suitable for young Togolese
entrepreneurs, (cooperatives) to start or expand a business.
The solution proposed here is the wedding cake mezzanine debt model which provides the
entrepreneurs with a combination of debt and equity funds along with managerial support. It
takes away the best from practices followed by current impact-based funds (Such as the
Grassroots Business Fund) and the Islamic banking models. Besides addressing the current
limitations of the existing micro finance products, our product will more closely link lenders
repayment with the success and growth of the business, incorporate a collection system for
repayments that is time and cost efficient for micro payments in rural and urban contexts, is
appropriate for use in Togo; adapted to the local challenges and opportunities and in-fact uses
the natural drives for consumption smoothing to act as a positive driving force for reduction
in the chance of the misuse of funds for non-business costs. A series of milestones will mark
opportunities for rewards intended to meet both needs of repayment and consumption
smoothing. These rewards will only be given assuming successful and timely loan repayments.
In addition to providing the efficiency in administrative mechanisms, the product links the
efforts to performance and the performance to outcomes for the entrepreneur thereby helping
develop early warning systems (DEWS). The product lays the foundation for development of
the product for mounting complex enterprises and for further trading on SME exchanges
(such as the one developed by Bombay Stock Exchange).

Project Context
The Youth to Youth Fund (Y2Y Fund) is one of YENs (Youth Employment Network, an
interagency initiative of the UN, ILO and World Bank) key products. It aims to create decent
and productive jobs through entrepreneurship. It is a competitive grant and capacity building
scheme that enables youth-led non-profit organizations to pilot and replicate innovative
projects that create employment for young people by helping them set up small and micro
enterprises in niche markets. Key features of the Y2Y fund are
Material Support
1. Funds
2. Physical infrastructure machinery, building, etc.
Service Support
1.
2.
3.
4.
5.
6.

Business skills training,

Soft skills training, and
Technical skills,
Practical learning experience,
Mentorship
Improve market access

Key Issue Provision of Start-up capital

The current set of products offered to finance the youth-led ventures have had their own set of
operational issues (as described as under). When the Fund launches in Togo, it has to be
launched with a better financing product. The challenge is to design a financial product that is
suitable for young Togolese entrepreneurs, (cooperatives) to start or expand a business. The
financial product could be administered in cooperation with a local financial institute.
Operational Issues
Micro Credit

Many
businesses
dont
survive over longer periods of
time and the few that do tend
to stay small.
Loans
often
used
for
consumption smoothing
Debt traps
Reduced Motivation to repay
Consumption smoothing
No repayment obligation

In-kind support

Musharaka

Financial losses born entirely

by the financier

Mudaraba

Financial losses born entirely

by the financier

Monetary Grants

Necessary conditions for success

Repayment of loans strongly linked to
the growth of the business.

Savings Plan attached to the grant

Good Knowledge of material and
equipment
Require a high level of transparency for
profits and losses to be distributed fairly
Require a high level of transparency for
profits and losses to be distributed fairly

Product Development Objectives

Allow young entrepreneurs to mount enterprises more complex than basic retail
More closely link lenders repayment with the success and growth of the business
u Incorporate a collection system for repayments that is time and cost efficient for micro
payments in rural and urban contexts
u Appropriate for use in Togo; adapted to the local challenges and opportunities
u Reduce the chance of the misuse of funds for non-business costs (such as consumption
smoothing
Downstream objectives
u

Complex
enterprises

Resource
development

Socio-political
Success

Greater
employment

Economic
Success

Our Solution
The nature of this product is essentially to provide the entrepreneurs with a combination of
debt and equity funds. Our product has been designed on the basis of a suitable needs analysis
so as to facilitate access to finance for young entrepreneurs and is set against the current SME
landscape of Togo and internalizes the services and facilities being offered by the competitors.
In the context of Togo, it is important to note that the market is ideally positioned for
aggregators to provide such service offerings. The product will be piloted and its services will be
subsequently so as to ensure that the final product/service provided in the market is ideal for
addressing the requirements of the target audience.

Ensures Sustainablity
of business

Reduce the chance

of the misuse of
funds for nonbusiness costs
Time and cost
efficient collection
system

& is adapted to local

opportunities &
challenges

Provides patient
growth capital and is
scalable

Successful
Financial
Product

More closely link

lenders repayment
with the success and
growth of the
business

A successful financial product is the one which offers all the following advantages
1.
2.
3.
4.
5.

Improve transactional efficiency on transactions such as collection issues, duediligence before giving out the loans, monitoring & evaluation,
Plug misuse and leakage of funds
Encourage repayment create a self-fulfilling cycle, take advantage of natural drives
creating explicit E to P and P to O expectancy linkages
Provide incentives: What is in it for each party? The financier, the manager, the
entrepreneur, the community, the consumers and the government
Ensure sustainability

The following issues will be averted by use of our financial product:

1.
2.
3.
4.

Non-repayment in case business fails

Debt traps leading to entrepreneur suicides
Misuse of funds
Lack of motivation on the part of the entrepreneur to pay back the loan in case of
grant funding
5. Inability to grow beyond the basic retail establishments
Strategic Alignment & USP (unique selling point)

I. Our Product
Quasi-debt instruments (a mix of debt and equity) will be used to provide start-up capital.
Equity investment (Profit & Loss sharing mechanism)

1.

Management support (much like the Mudaraba product of Islamic Banking)

provided by aggregator
2. Preference and Common stock (given to entrepreneurs and aggregators)
3. Employee stock options (Encourage employees to invest their earnings in the
organization)

Debt investment
1. Sovereign bonds / Country Investment bonds (Government participation)
2. Corporate bonds (Aggregator participation)
3. Business loan (Entrepreneur participation)
Conditions in the disbursal of funds
1.

Start-up capital expenditure will be debt funded through wet leases (wherever
possible)
2. Start-up working capital expenditure will be completely equity funded
3. Equity investment by aggregators can be up to 50% of the total equity investment
required (unless approved by YEN and national govt. body)
Allocation of Mezzanine debt

Probability of default
Low
Medium
High

Instability of business
Low

Medium

High

% Debt

80

70

60

% Equity
% Debt

20
60

30
50

40
40

% Equity
% Debt
% Equity

40
40
60

50
30
70

60
20
80

Parameters for measuring possibility of default

We can use existing parameters used
institutional/corporate loans.

by commercial

banks for evaluation

Parameters for measuring instability of business

Parameters

Instability of business
LOW
MEDIUM

HIGH

Capital expenditure
Employment of manpower
Stability of Product demand
Stability of Supply source

High
High
High
High

Low
Low
Low
Low

Medium
Medium
Medium
Medium

of

The wedding cake model will be used where on an annualized basis the interest income in this
case will be 7.5%.

Year
1st year
2nd year
3rd year
4th year
5th year
Total

% of Principal
recovered
20%
20%
20%
20%
20%
100%

amount Income as percentage of

initial loan amount
8% of 100% = 8%
16% of 80% = 12.8%
24% of 60% = 14.4%
16% of 40% = 6.4%
8% of 20% = 1.6%
43.2%

The USP of the financial product is its emphasis on the role of aggregators. This prevents the
debt traps as the amount of default over a longer period of time is reduced considerably when
the loan is channelized through the aggregator. It has double channel control system which
prevents the growth of a number of micro and small enterprises in the same domain. Also, the
aggregators provide special incentives to spur family business.
By doing this our proposed product provides a capital structure that ensures a balance
between the ideal debt-to-equity ratios and minimizes the firm's cost of capital.
II. Criteria for evaluating loan proposals
1. Job creation potential & Social Return over investment
2. Projected incremental capex to output ratio
3. Alignment with stakeholder interests
4. Net community score, Psychometric tests for entrepreneurs (measure of credibility)
5. Recommendations from successful peer groups (if any)
6. Project appraisal (Technical, Financial, Economic & Commercial Viability)

III. Repayment mechanisms

1. Default Early warning systems (DEWS) develop mechanisms that detect a default
possibility and provide a plan to doctor these potential NPAs and restore them back to
good health through pre-defined managerial intervention and fund support.
2. Repayment of loans to be an incentive for growth - funds for consumption smoothing
(take this as the natural driving force)
3. Enforcement by governments since government is involved & legal enforcement of
contracts
4. Dividend pay-out mechanisms wherein funds are transferred to a dividend pay-out
account on an annual basis. The pay-outs for aggregators can also come in the form of
additional services and goods provided in-lieu of cash dividend pay-out.
5. Mobile based money transfers to quicken the repayment process
Incentive Plan
A series of milestones will mark opportunities for rewards intended to meet both needs of
repayment and consumption smoothing. These rewards will only be given assuming successful
and timely loan repayments. The incentivisation will be provident fund based or monthly cash
rewards.
IV. What if analysis
A. Normal phase (Average profitability as per industry standard)
Entrepreneur services 80% of the debt repayment amount due
Aggregator services 20% of the debt repayment amount due
The profits will be shared in the pre-determined ratio of equity investment
B. Good Phase (15% above average profits)
Entrepreneur services 100% of the debt repayment amount due
Aggregator services 0% of the debt repayment amount due
The profits will be shared in the pre-determined ratio of equity investment
C. Bad phase (Losses)
Entrepreneur services 20% of the debt repayment amount due
Aggregator services 80% of the debt repayment amount due
The profits will be shared in the pre-determined ratio of equity investment
VI. Target audience for our product
Our audience is young entrepreneurs who are propose business plans to mount more complex
enterprises than basic retail.
VII. Sustainable outcomes of the solution and operational impacts
1. Converting mezzanine debt into complete equity participation of the aggregators or
other corporates
2. Potential acquisition possibility
3. Capital protection product securitization
4. Developing indicators for monitoring end-use of funds such as re-investment rate, etc.

VIII. Whats in it for the stakeholders?

I. Entrepreneur

Setup the business

Profit
Prosperity scaling up the business

II. Financier (Y2Y fund, Grant making agents, External Financial Institutions)

Fixed income
Risk based income
Stability of income source
Marketing the use of funds for social good done by them
Entering nascent markets
Networking opportunities (with governments, socio-political concerns, etc.)

III. Aggregators (Sellers of goods and services, provided by entrepreneurs, in foreign

markets)

Market entry in Togolese market

New supply source (supply stability, cost efficiency)
Additional income source with opportunity to convert investment into equity

IV. Government

Market Development
Opportunity to obtain election funding from aggregators

Market readiness
As pointed out in the 2012 edition of the World Bank report Doing Business, which ranks Togo
162nd out of 183 countries, the business climate remains problematic. The financial product in
difficulty will help restore investor confidence and improve the capacity of the banking
sector/Government to finance the young entrepreneurs.
Measurement of Social Impact
While the methods vary from group to group, all lenders have voiced the need for incentives
to repay through interest and support groups. Several other methods of accountability will be
enforced prior to the disbursement and throughout the loan process. They are as follows:
Market Assessments: At this time, a market assessment will be conducted to determine the
feasibility of the proposed plan.
Purchase Monitoring: The aggregator will work closely with the entrepreneur when the
money is received to ensure that it is spent in the way in which it was proposed. A list of all

items purchased with the loan money will be maintained for each entrepreneur so that in the
unfortunate case of repossession, only the items directly purchased with the loan money will
be taken.
Recommendation: A letter of recommendation will be signed by the aggregator or Y2Y fund
to confirm the entrepreneurs residency, location of business and provide an additional level of
accountability.
Peer Pressure: Three to five entrepreneurs will form self-selected groups. The members of
these groups will be required to sign an agreement to be responsible for the others in their
group. Although the loans will be given on an individual basis, the group structure will
provide support and accountability.
Savings Groups: Those who participate in the groups must agree to take part in a savings
program among themselves with a minimum contribution of $0.50 per person per week. Peer
pressure and support has proven to be an extremely powerful method of accountability in
most well-known models of micro-lending.
Interest: An interest rate of 7.5 percent will be applied to all loans. This will act as an
incentive to borrowers to pay back the loan in a timely fashion and a way to teach the
entrepreneurs to function in a formal system.
Repossession of Capital Equipment: If a recipient defaults completely for three months
(non-consecutive) then the materials and equipment that were purchased for their businesses
will be repossessed and given to another entrepreneur who has proven himself more worthy of
the opportunity. The beneficiary will be given extra-needed support and counselling in the
hopes of avoiding this repossession.
Inability to Re-apply: If the loan is not repaid, there will be no further loans issued for that
individual in the future.
Monitoring and Evaluation
In order to determine the programs level of success, frequent monitoring and evaluation will
be performed and support will be offered throughout the post-start-up phase. If a recipient is
starting to fall behind, the follow-up person will be able to recognize that earlier on and help
the recipient to avoid failure. Therefore, frequent and consistent presence through follow-ups
will be a major driver of the loan process to ensure successful loan repayment.
Bi-Monthly Monitoring: The enterprises in the post-residential phase will be monitored at
once a week in the first few months and at least twice a month in the months to follow. The
staff member will collect the loan money to return to the investor through an online account.
Bi-Monthly Counseling and Support: The young entrepreneurs will receive ongoing
support from the identified staff as well as vocational training staff in the form of counselling
and business advice during these follow-up trips. This is particularly crucial in the first few
months.

Group Support: Support systems may be arranged among the entrepreneurs if the proximity
to other entrepreneurs allows for it. They can determine when and where to meet and share
ideas and advice.
Investor Reports: Bimonthly reports will be taken and shared with the investors. This way,
the investor will be made aware of the enterprises progress and the entrepreneur will be held
accountable throughout the repayment period.
Program Evaluation: Evaluation will take place both formally and informally.
Way Forward:
The USP of the product is the incentive based repayment mechanism which will result in
consumption smoothing and will ensure the sustainability of the product. There will be a
psychometric testing to determine the scale of the MSME market and prevent the
oversupply/growth of SMEs in the each domain of the market. The emphasis on the
aggregator ensures a double channel control mechanism.

References
http://articles.economictimes.indiatimes.com/2012-04-29/news/31477502_1_sme-project-lakshmangugulothu-sme-sector
http://www.pwc.in/en_IN/in/assets/pdfs/publications/2013/msme.pdf http://www.dcmsme.gov.in/sche
mes/sfnsb02z.htm
Banking Practice: Micro-, small and medium-sized enterprises in emerging markets, Mckinsey & co.