Millions of dollars in bad loans have driven E+Co, one of the pioneers of impact investing, effectively out of business, offering a cautionary tale for those seeking to provide financing for large numbers of small and growing businesses as a strategy to accelerate sustainable development in low-income countries.
After months of difficult negotiations with its own lenders, E+Co as a nonprofit financial institution will largely cease operations and transfer what remains of an approximately $30 million loan portfolio to private-equity fund managers. The rump of E+Co's African investments, totaling about $5 million, will be managed by a for-profit spinoff of E+Co, to be called Persistent Energy Partners, with offices in Ghana and Tanzania as well as New York.
"It's been a very, very tough slog to restructure E+Co and negotiate with the creditors and avoid a complete liquidation, which was in the cards for awhile," Bruce Usher, Persistent's incoming executive chairman and formerly an E+Co board member, told Impact IQ.
The restructuring has approval by five major institutional investors, led by the International Finance Corp., that hold 80 percent of E+Co's debt, and is being reviewed by more than 30 smaller holders of E+Co notes, including foundations, churches and individual impact investors. About half of the value of E+Co's portfolio has been written off or written down. Under the restructuring plan, creditors will cancel E+Co's debts in return for a stake in the remaining assets and a portion of any loan payments collected.
After the close, the nonprofit E+Co will become a shell of its former self, holding a stake in Persistent and some philanthropic assets, but with no operating capacity. "At some point in the future, E+Co will not have any employees," Usher said. There were 19 employees in 2010.
Chris Aidun, a longtime venture capital and private equity attorney with Weil Gotshal & Manges who came in last year and is now E+Co's managing director, will become CEO of Persistent. Aidun and Usher, co-director of the Social Enterprise Program at the Columbia Business School, will continue to work for Persistent pro bono.
E+Co's portfolio, Aidun says, "was looked at from a social investing perspective, not a serious financial one. My team is committed to the mission, but we believe you get better results by applying rigor to them."
For E+Co, it's an unceremonial end after 18 years as a leading practitioner of financing that blends financial, social and environmental returns. Since it was launched out of the Rockefeller Foundation in 1994 by Phil LaRocco and Christine Eibs Singer, E+Co has provided not only capital but technical assistance to sustainable energy entrepreneurs in Central America, Southeast Asia and Sub-Saharan Africa. In its tax return for 2010, E+Co reported it had supported 194 enterprises, leading to clean energy access to 78 million people and carbon offsets of 48 million tons.
Before the restructuring, E+Co had 140 investments in 90 companies in 20 countries, managed from offices in San Jose, Costa Rica, Bangkok, Dar es Salaam, Tanzania and Accra, Ghana. The farflung portfolio of mostly small investments was impossible for E+Co's to manage effectively, both Usher and Aidun say.
E+Co's unwinding has played out in public for much of this year, with the departure of co-founder Christine Eibs Singer in January, the announcement of a new management team in February, the closure of its Costa Rica office in May and the ongoing loss of much of its senior staff. The basics of the restructuring agreement were announced in July.
"It did not have to be this way," Singer told Impact IQ. She said the core issue was how to finance the technical assistance that entrepreneurial ventures in developing countries need to be successful and repay their bills. Of the unwinding of E+Co and the transfer of the assets to private equity firms she said, "This was not the only option."
She said E+Co was in many ways a victim of its own success, in that its access to capital for lending allowed it to finance ever-larger numbers of small and growing businesses, just as grant or other funding for technical assistance was growing more scarce. "The portfolio had grown in volume, but it was a lot of startup entrepreneurs and they needed hand-holding," she said. "The challenge is how do you fund the technical assistance to de-risk these investments?"
It will likely take awhile before the full story comes out. "It´s a very touchy subject, seeing the company you believe in transform into something entirely different," one former staffer wrote in an email exchange.
Even before the extent of problems with E+Co's loan portfolio became evident, the organization's new strategy called for channeling most of the new investments through for-profit private equity fund spinoffs, leaving the nonprofit E+Co to focus on training and policy. Singer had laid out the strategy in a case study in MIT's Innovations journal last year. "Let's hope that the grand finale of this play E+Co is universal energy access being delivered by tens of thousands of energy entrepreneurs," she wrote.
That finale will now be in others' hands. In Costa Rica, E+Co had already helped establish the Central American Renewable Energy and Cleaner Production Facility, or Carec, which will now take over the remainder of E+Co's Latin American portfolio, which had performed the best among the three geographic regions. Negotiations continue with a southeast Asia fund manager to take over the loans managed by E+Co's Bangkok office, which were considered in the worst shape.
The arrival of Aidun, who had been E+Co's pro bono attorney, coincided with increasing concern on E+Co's board. Red flags had arisen in the form of high staff turnover, low loan repayment rates and a lack of visibility into the reasons why, said Usher, who joined the board in 2010. Dirk Muench, a former investment banker with JP Morgan who had joined E+Co to raise its first private-equity fund in Asia, raised concerns about the portfolio before resigning in the summer of 2011. Under the new management, Muench rejoined E+Co as chief investment officer.
A 45-day review of the portfolio undertaken in the fall of 2011 found that approximately half of E+Co loans, by value, were not performing. Worse, the board couldn't be sure which borrowers were unable to pay, which ones were unwilling to pay, and which ones might eventually start paying again. Singer disputes that the portfolio was in such bad shape. She said a handful of large, truly nonperforming loans in Asia skewed the overall portfolio results. An earlier review showed that 75 percent of the borrowers were likely to eventually repay their loans, she said.
The problems do not appear to be a function of macro factors such as the global financial crisis, nor were they an indication of problems in the clean energy sector. Rather, they were a result of E+Co's overstretched staff and inadequate oversight systems, which let some borrowers decide they could with few consequences make repayment to E+Co a lower priority than their other bills.
"Some of the borrowers really felt like we were a non-profit and didn't have to be paid back," Aidun says. "I've started legal proceedings in a number of countries, because people didn't take me seriously. People were very surprised I would do that."
The new management team concluded E+Co was stuck in a "liquidity trap." Cash flow from the portfolio was deteriorating as the staff was leaving; without staff, it was impossible to stabilize the portfolio. "They did not default, but it eventually would have led to a default," Usher said.
By the fall, the board had concluded that E+Co had breached covenants of its agreements with its own investors and was required to disclose the problems to its five largest creditors, including International Finance Corp., an affiliate of the World Bank.
The problems came as a surprise to the creditors. As Usher says. "Investors don't like to be surprised."
Their first reaction was to call for the liquidation of E+Co. The new team managed to convince the lenders that restructuring would be more beneficial than outright liquidation, arguing, "A shutdown will get you almost nothing back and will end the mission, and we're all in this for the mission," Usher recounted. "Over several years -- it will take five to six years before the loans pay off -- they will do much better than if they gave up the ghost today."
E+Co also shut down a training and entrepreneurship support project, which had been touted as a way to seed the pipeline with ventures in which E+Co could then invest.
Aidun said Persistent will instead seek to find "champions," who can grow from small borrowers to absorb successive rounds of financing, lowering long-term transaction costs.
Once the restructuring closes, Persistent will start to raise additional money, with the goal of closing financing for a new fund next year, Aidun said. In addition to geographic focus, Persistent will also focus on three areas, solar electricity, clean cookstoves and propane (as a substitute for wood and charcoal). That should enable it to stay closer to borrowers and offer them more strategic assistance.
"We're trying to figure out how to crack the market open," Aidun says. In Tanzania for example, E+Co has had 10 investments in solar companies. "We want to find the three leaders and get them to where they can make the market move."
Bruce Usher will discuss E+Co's restructuring in a presentation at this week's SOCAP conference in San Francisco.
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