At Root Capital, we have always viewed social and environmental due diligence as critical to our mission. Until recently, we also perceived it as an additional cost that might reduce profitability or our ability to compete with other lenders. However, as we have taken a closer look – to date through several case studies, with plans for more rigorous quantitative analysis – we have started to think about it as a competitive advantage that at least partially pays for itself, and may even bolster the bottom line.
In our first Issue Brief (accompanied by our Scorecards and Methodology Guide), we explore the alignment between social, environmental and financial interests. We believe that environmental due diligence is particularly relevant for identifying and mitigating risks, as well as generating new business.
For instance, several years ago we financed a Kenyan enterprise that aggregated and exported smallholder-grown green beans. Despite providing initial farmer training, the business failed to properly monitor producers’ ongoing pesticide use, and its first product shipment to Europe was rejected due to pesticide levels that violated buyer requirements. In turn, the business defaulted on its loan to Root Capital.
The business responded by hiring a team, supervised by its own agronomists, to perform pesticide application on behalf of its growers. At Root Capital, we incorporated a valuable lesson about the environmental management systems that must be in place in order to manage the risk of aggregating the production of hundreds and sometimes thousands of smallholders.
Across the Atlantic Ocean, our local team visited an agroforestry coffee farm in Colombia’s Sierra Nevada mountains. The farm holds organic, Rainforest Alliance and Smithsonian Migratory Bird Center Bird eco-certifications, conserves 65 hectares of virgin rainforest, and operates its own organic composting plant. Two natural springs on the farm provide water to the local community.
Loan officer Renzo Verne spent a day walking the farm with the owners and learning about their operation. He did not interrogate them on environmental issues – our goal with due diligence is to generate honest and constructive dialogue – but asked thoughtful questions that the producers appreciated. As Renzo reflected, “It was apparent to them that we shared their passion for the environment. They are mission-driven, and they want a financial partner that shares their values.” The farm became a client, and is now considering consolidating additional debt with Root Capital.
These are just two anecdotes, and more analysis will be required to quantitatively prove the business case. However, in publishing this Issue Brief, we hope to begin a discussion around the business case for social and environmental due diligence. In the interest of dialogue, we invite your responses to the following questions:
Question #1: How can we—Root Capital, and the financial sector at large—get more data to build the business case for financial institutions to consider social and environmental factors in their lending? Where have you seen compelling data or analysis on this topic?
Question #2: Which commercial financial institutions are already using similar tools and approaches, and what can we learn from them? What can organizations like Root Capital, working alongside peers and partners, do to encourage other financial institutions to incorporate social and environmental due diligence into their credit underwriting?
Please share your thoughts in the comments below!
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