4.4.1 Loan guarantees can be an effective instrument for youth start-ups
Loan guarantees are a form of insurance that protects the lender, in this case a commercial bank, against loan default. These guarantees serve to manage the increased risk of start-up businesses and to address lack of collateral, which are common particularly with low-income youth entrepreneurs. In order to determine the amount of each guarantee, PROBIDE and the IDB conducted an analysis to calculate the “gap” or the difference between the bank’s perceived risk and the real risk/return on the investment. Then, PROBIDE negotiated with the IDB, local commercial banks and private sector guarantors to create a US$1.04 million guarantee fund, comprised of 50 percent cash collateral from the IDB and 50 percent from private guarantors. The guarantee fund would ultimately cover 67 percent of the loan amounts, which were disbursed through the local commercial banks mentioned above and managed by PROBIDE.
To date, 121 loans have been disbursed to entrepreneurs operating in services/retail, manufacturing, tourism, fishery, agro-industry, and information and communication technology (ICT). Each entrepreneur is eligible for up to US$16,500 over 3 years at 15 percent annual effective interest, and receives a grace period ranging from three months to one year. The project has produced encouraging results. The business survival rate (more than three years) is an impressive 75 percent. The success of the businesses can be attributed to PROBIDE’s effective business planning courses in addition to ongoing monitoring throughout the course of the loan. The banks are pleased with the loan performance; the loan default rate, which is partially covered by the guarantee fund, ranges between 19-24 percent, and the total loss has only been US$97,000. These positive results have encouraged partner banks BBVA Banco Continental, Banco de Credito, and Scotiabank to continue lending to youth SME start-ups beyond the end of the project.