At COP28, Convergence announced the award of a proof-of-concept grant to NBSV Worldwide (sister entity of Fairventures Social Forestry) from the Asia Climate Solutions Design Grant to design a blended finance structure to support regenerative agroforestry and social forestry projects at scale in Indonesia.
Convergence’s Design Funding and Market Acceleration (DFMA) Manager, Krishna Malhotra, spoke with Paul Schüller, CEO of Fairventures Social Forestry and NBSV Worldwide, about what the organization aims to accomplish in designing their blended finance vehicle and their experience as a two-time Convergence grantee.
Conversation has been edited and condensed. Find the recording of the full interview here.
Tell us about Fairventures Social Forestry’s story. Can you talk about the blended finance vehicle you are designing and the development challenge you are looking to address?
Very happy to tell a bit about our business and how we have experienced the whole process of this very exciting window.
I want to kick it off by sharing a bit about Fairventures. We are a developer of agroforestry projects active in Indonesia. The total team is around 40 people, of which 35 are based in Indonesia, with a relatively small team working from Europe. And that also shows our philosophy—that we really believe that in order to succeed as a project developer in Indonesia you really need to build and develop a local team which has the expertise and the skills to be successful as a developer in the mid to long run.
We started our business at the end of 2018, with a pilot project in Central Kalimantan. We are now in an exciting phase, because we are about to commence work on two new projects, one located in Eastern Java and another in Jambi.
As an agroforestry developer in Indonesia, we actually focus on the social forestry program. The social forestry program is a very ambitious program from the government of Indonesia. In order to issue long-term 35 year land leases to local communities who live on or nearby forest lands. Around 90% of the forest land is held by the state in Indonesia.
Up until now, 6.4 million hectares have been issued under this social forestry program, and it's a target to double towards 30 million by 2030. So it's quite a big area of potential—social forestry. 12 to 30 million [hectares] is about one-third the size of Germany, so you can imagine that it's significant.
Social forestry—how it works is that local communities or smallholders can set up an entity, and become a member of that entity. It could be a farmer group or it could be a cooperative, that entity applies for the social forestry permit, allowing its members to utilize the land that is owned by the state.
We have been active in social forestry permits since the end of 2018. We have also carefully followed the sector over the years, and explored empirical research related to social forestry, identifying some areas for improvement. For example, some entities holding these social forestry permits are quite weak in terms of governance. There's not a clear management structure within these entities. As a result, quite often the [local community] members are not selling [agroforestry products] to the entity, but they are just selling it themselves to middlemen. Also, there's often no clear allocation of tasks and responsibilities within those entities.
Some other observations relate to the fact that public sales are quite unstable. In Indonesia, there is a multilayer middleman structure. If you analyze the supply chain, the first one to two layers of middlemen quite often act extremely opportunistically, which means that the small holders get certain indications regarding species and quantities that the middlemen are looking to buy, but then, a year or two later, the picture suddenly looks quite different. That is very harmful to the smallholders because they are really eager to have a long-term stable offtaker for their products.
Another observation relates to the reforestation obligations. According to Indonesian law, at least 50% of a permit area needs to consist of forests. However, in practice, that's only 10% up to 20% maximum, because, as you can imagine, if you plant timber seedlings, it takes a long time before income is generated. So instead of planting timber, the members often plant crops, or non-timber forest products, which generate faster revenues, but in the end they don't comply with the legislation around social forestry.
We believe with our model that we have found a way to tackle some of these challenges. The key to our approach is that we support the co-ops or the entities holding the social forestry permits to strengthen their governance. We cooperate with local NGOs in order to achieve that strengthening and we operate as a long-term offtaker of the products. That also quite often includes a pre-financing element because we have good connections to process or end offtakers of certain products. In that way, we can better predict what the mid to long-term demands will look like out of the private markets.
By pre-financing seedlings and all the inputs, we can achieve a better match between the production by the smallholders and the demands out of the markets. So in the end, we are simplifying and professionalizing the supply chain. A very important note is that you cannot try to completely leave out the middleman in this structure, because the first two-layers of middlemen often have an important function in their communities as well. You need to make them part of the solution. That can be done by actively involving them at the co-op or at the farmer group level. I hope that gives a bit of an idea regarding our business.
A bit about our pilot project, we have 3,000 hectares in Central Kalimantan under a social forestry permit. There we closed a 30 year corporation contract with the co-op holding that social forestry permit, and we are active on around 1,600 hectares, with a combination of timber species, but also crops on around 450 hectares. We are also now actively rolling out contract farming on the rubber jungle part of that area. Regarding the rubber parts, we also help the farmers to professionalize their ways of working. For example the way they tap the trees and the equipment they use for tapping.
We have closed a carbon off-taking contract with Stihl in the past, a German multinational known from the gardening equipment they produce. That contract is based on a corporate social responsibility (CSR) program of Stihl’s, so there are no credits involved there. We have also closed an impact loan with the UBS Optimus Foundation where the interest rates are linked to certain target impact key performance indicators (KPIs), such as local employment, gender equality and carbon sequestration. We are also in the process of closing a contract with a German offtaker for the rubber parts.
I hope that gives a bit of an idea of what our business model is. This is our showcase project in Central Kalimantan. We are now about to start our new projects one and East Java, a social forestry permit, around 850 hectares and another similar permit in Jambi.
Can you tell us about your experience and learnings as a recipient of both a feasibility study grant and a proof-of-concept grant through Convergence’s Design Funding program.
I think what is extremely important not to do is make it too complicated in the beginning. I remember when I started designing the blended finance structure for our business, there was always a tendency to over design or over engineer at the beginning, with sophisticated fund ideas in mind. In the end, I think what's extremely important to keep in mind, and to acknowledge, is that investors have a certain preferred way of potentially investing into your business.
What kind of structure can you develop where you still have the most flexibility to serve those investors in an efficient way? At the same time you want to set next steps with your business, and with the funds that are available, make progress, because progress is also extremely important to show to the outside world. I think it's finding that balance, not making it overly complicated, keeping it efficient, low cost, and lean. At the same time you have it set up in such a way that hopefully, when you are able to secure big ticket [investments], you have the flexibility in the structure to accommodate that. I think that's extremely important.
What we did as well is read through the very interesting materials on the Convergence website regarding studies that were done by Convergence in the past. To give you an example, what you quite often see with blended finance vehicles is that the domestic investment market is not very involved in terms of investing into the structure. How we took that into account is including what you see as PT WLI in our structure, that's a 100% Indonesian holding entity. That entity opens the door for Indonesian investors to invest into our business, because Indonesian investors are not so eager to invest through Singapore, they would rather invest through an Indonesian holding entity with regulation and legislation they are familiar with. I would also advise that applicants look into the studies [on the Convergence website], and see how they could use them in their own situations.
Reflecting on your past success, what are some critical aspects that prospective grantees should be mindful of when applying to Convergence’s Design Funding program?
An obvious one is very good and sharp planning. You don't want to have to hurry and work day and night in the last few days before the deadline comes. I think the basis is very good planning.
What I also appreciated was involving different colleagues with different skills, so they can either contribute to the drafting process, do a bit of research or be involved in proofreading the notes. Really make it a team effort internally, I think that's also extremely important. Some other points that I noted from the process relate to due diligence interviews with externals. If you get to that stage it’s important to be extremely proactive and not wait too long, just start updating people about the interview process, and also make sure you have backups if someone cannot facilitate that interview for any reason, make sure you always have backups. I think that's also important.
Another one I would like to emphasize relates to Q&A with the Convergence team. I would say try to keep a good speed in that process, because the Convergence team, Krishna, and others are presenting your case internally, so the better, more convincing information you can share in the fastest way possible, the more it helps the team get to a very good understanding of the of the idea, and then be able to present it to the different decision making bodies.
So teamwork, a team approach, and then regarding the due diligence interviews with externals, be very strict and sharp on that. And then at the Q&A, keep a good speed in that process. That would be my three main points.
In the earlier stage of the process when developing your application, were there any elements that you focused on? Any insights from that stage you can share with prospective applicants?
I would like to highlight two points. For us we have been active since the end of 2018, five years of implementation experience. What have been our learnings during those five years? How does that influence our business model going forward? Any questions about the business model that need to be bought into by external investors. Key learnings, how does it impact your business model? That's one. A second one would be to show that you have had interaction with investors, so you can show that you’re continuing to talk to investors and discussing ideas. It's extremely important that you get input from the potential investors. To give you an example, maybe an investor is saying, first, we want to see you ticking off milestones, ABC, for example, because for them, that’s a sign that you have de-risked the business model sufficiently. That kind of information, showing that you are talking to investors, and that you take that information with you, and that you try to get closer to the needs from the market. That's also extremely important, because in the end it needs to become investable and bankable. Those would be my two key points for applicants in the early stage.
