ReDesigning Development Finance Blended Finance: The Road to Addis and Beyond March 2015 Terri Toyota World Economic Forum

ReDesigning Development Finance Initiative (RDFI) The World Economic Forum and OECD-DAC are institutionally committed to advancing the Blended Finance ecosystem through a multi-year initiative Vision Blended finance is a systematic and structured approach to finance and investment in emerging and frontier markets Objectives Extend the reach and effectiveness of ODA through the complementary deployment of philanthropic and private capital investment Expand private investment in developing countries through the complementary deployment of risk mitigation and concessional finance tools by official and philanthropic institutions To this end, expand the pool of foreign and domestic capital available for economic development, including small and medium enterprises, agriculture, infrastructure and key public services A scaled-up market where… private investment flows beyond niche units A liquid market with… standardized products and investments A transparent market that… connects all players on a virtual active platform

Blended Finance The deliberate and strategic alignment of public-private capabilities and capital to accelerate social and economic growth in emerging and frontier markets Impact: investments in emerging and frontier markets that deliver transformative social and economic progress Impact Returns Leverage Returns: market-based, risk-adjusted returns that meet business goals and fiduciary duties Leverage: systematic and strategic use of development and philanthropic funds to mobilize and engage private capital at scale

Investment Barriers to Scale There are seven key reasons why supply of capital does not flow at scale to emerging and frontier markets Both public and private sector face challenges that hinder exponential capital from flowing to emerging markets and ultimately limit development impact and business goals Business Case Not Viable Not an intermediated market Limited local market knowledge Difficult local investment climate Lack of mandate and incentives Asset and capability gaps Development needs outpacing capital flows Private sector challenges largely stem from the difficulty to realize risk-adjusted returns… …while public sector challenges are largely due to mandate and funding constraints. Business Case Not Viable: Due to Fundamental unfavorable underlying economics. Nascent markets requiring subsidies, high transactions costs, no deal sourcing mechanisms, significant country risks, illiquidity of projects, etc. Development returns can be reached but requires blending resources to create a sustainable commercial business case. Market intermediation: Not enough local intermediaries in places with high domestic savings, lack of external fund managers with mandate to invest where capital currently does not flow, and lack of the right financial and non-financial products to package capital and connect the dots Local knowledge and skills: Includes sectors specific expertise, risk-return trade-offs, local knowledge, technical and operational skills, data around performance of SMEs in emerging markets, clear and standard measurement systems for social and financial returns, inability of frontier countries to make their case / justify why investment dollars should flow there Local investment climate: Capital can’t flow freely due to restrictions and capital controls including under developed capital markets, limited tax incentives, strict labor policies, inconsistent tariffs, visa challenges, etc. Challenges include both creating and implementing the enabling Investment Climate. Role of ODA: ODA has played an instrumental role in poverty reduction– having reduced poverty from 58% to 38% of the population in ODA recipient countries – however, ODA is an increasingly smaller percentage of total resources flowing to developing countries despite being at record levels. Asset and capability gaps: Lack of information and understanding, clear data and measurement systems and operational skills or expertise Mandate and incentives: With high competition for capital (across countries, sectors, etc.), capital won’t flow to certain places (e.g., frontier countries, BoP) without a clear mandate (e.g., invest in farming in Liberia). ODA reform is needed (i.e., doesn’t currently include guarantees, etc.). The private sector lacks mandate to do socially good projects. While DFIs are mandated to do business in frontier countries and reach BoP, internal incentives don’t align with this. They also face challenges of not preferentially working with the private sector. The public sector lacks flexibility and mandate to embrace working with the private sector. Note: While we recognize local investment climate as an important driver, this initiative focuses on the other four drivers that can be controlled by suppliers of capital. Other players such as the World Bank are very active in this area.

Variables Affecting Risk-Adjusted Returns The most significant barrier to private capital flow in emerging and frontier markets is that returns are often not commensurate with the high level of risk (real or perceived) Returns Returns in emerging and frontier markets are realised based on several variables: Seniority Tenor / Exit Credit Spread Liquidity Volatility Growth Rates Costs Sector performance Leverage Private capital providers have a fiduciary duty to maximize risk-adjusted returns…. Risks Emerging and frontier markets face a number of unique risks: Macroeconomic Political Regulatory Business Hard & Local Currency Liquidity Tax Conditions Market Segmentation ….if risk-adjusted returns are less attractive relative to other markets, investors will not allocate capital to emerging and frontier markets.

An Approach to Mitigating Risks and Managing Returns However, in blended finance, public capital can mitigate risk or manage returns bringing risk-adjusted returns in line with investor requirements Mitigating Risks Public investors can mitigate risks for the private sector Improving credit worthiness Limiting downside loss exposure Insuring against unforeseen market and catastrophic events Providing technical assistance and other advisory services Eliminating funding shortfalls Encouraging necessary risk taking Among others…. Managing Returns Public investors can also apply mechanisms that enhance returns for the private sector Absorbing transaction and project preparation costs ‘Topping-up’ returns by sharing or forgoing any returns to public capital Providing incentives for successful performance outcomes Providing low cost leverage Taking subordinate positions Among others…. RISK RETURN Note: Blended Finance does not seek to eliminate risks, but rather to encourage necessary risk taking at acceptable levels relative to opportunities in other markets and investor tolerance

Blended Finance currently lacks… …impacting success by… Five Institutional Barriers to Scaling RDFI has identified five key barriers that must be addressed in order to scale up blending finance as a core business for both public and private sector investors Blended Finance currently lacks… …impacting success by… Education and awareness of the potential for blended finance to meet return and impact goals, through evidence and analytics on results of existing models… …hindering adoption of best practices without a champion and evidence to support the business and impact case A common language and understanding between development and private funders… …missed opportunities and a steep learning curve for every new opportunity that slows down timeline …impeding ability to communicate and collaborate and the execution of investments in a streamlined, structured fashion Institutional readiness that provides a clear mandate to engage the private sector, along with internal assets and capabilities… Standardized deals and opportunities, as well as a pipeline of bankable projects… …limiting commitment of capital due to high transaction costs and limited opportunities to invest creating high competition for capital A platform to connect return- and impact-oriented capital providers for early co-design of structures and alignment on purpose… …leaving blended finance fragmented and duplicative and development challenges persistent

The RDFI Blended Finance Toolkit RDFI seeks to overcome these barriers by influencing policy, raising awareness, creating enabling assets & capabilities and curating a diverse community The RDFI seeks to overcome barriers to scaling blended finance… Education & Awareness Blended Finance Network Global Finance Exchange Concrete Opportunities Ecosystem Infrastructure Thought leadership provides evidence and high-profile forums generate commitment and spark big ideas Curated community of pioneers and influencers facilitates innovation, and new partnerships Provides a platform for diverse stakeholders to connect and deal facilitation Creates results and new partnerships by placing ideas and opportunities in front of investors Embedding blended finance in narrative for policy and reform and other ecosystem infrastructure …by providing stakeholders with a “blended finance toolkit” Primers for private capital and development investors Catalogue of existing models and analysis of results ‘How-To’ Roadmap for development funders Formalized Blended Finance Network with online collaboration space Webinars and knowledge sharing Pipeline of transactions and marketplace liquidity Incubator for new opportunities Development and maintenance of necessary systems Current ideas and opportunities for blended investment Large, signaling opportunities Scalable, replicable opportunities ‘Blended Finance Marketplace’ sessions GAC on Sustainable Development working papers Engagement on the 3rd International Conference on Financing for Development the Financing forcument

Supporting Mechanisms Scenarios for Applying Blended Finance Five identified scenarios for blending that vary based on the maturity of the challenge at hand are complemented by three supporting mechanisms across the lifecycle Explore Build Grow Mature Scenarios PREPARING High upfront costs and binary risk a project will not happen creates bottleneck. Grant funded upfront costs and activities reduce uncertainty by creating bankable projects PIONEERING Early stage, high business model risk and transaction costs. ‘Soft’ capital with little to no return expectations used for testing innovative products or business models, and advisory services in order to absorb the highest risks FACIILTATING High perceived sector or other risks and expected returns below market. Public capital will take a subordinate position and may top-up returns to attract commercial capital ANCHORING Some perceived macro or sector risk, funding needed to achieve a ‘first-close’ or demonstrate viability. Public needed to ‘crowd-in’ private fund Public capital seeks exit from mature investments to commercial actors, provides a pipeline TRANSITIONING Supporting Mechanisms TECHNICAL ASSISTANCE – New or distressed markets require incentives. Public investors attract private capital by offering incentives or contingent payment in exchange for upfront investment in new products and services RISK UNDERWRITING – credit-enhancing instruments that fully or partially protect investor capital against various forms of risk NEW MARKET INCENTIVES – New or distressed markets require incentives. Public investors attract private capital by offering incentives or contingent payment in exchange for upfront investment in new products and services

4. Assess gaps in capacity for blended finance A How-To Guide for Development Funders Seven steps to initiating or scaling blended finance 1 2 Benchmark your starting point in blended finance Build buy-in and awareness across the organization 3 Set goals for blended finance 7 Learn and scale up across the organization Each step has: Purpose—objectives to initiate or scale blended finance Principles—an approach to achieving these objectives Practical steps—a series of actions a blended finance ‘champion’ can carry out 4 4. Assess gaps in capacity for blended finance 5 Build capabilities 6 Partner and invest

Select, Concrete Examples from Davos Blended Finance Marketplace (1 of 2) Abraaj Growth Markets Healthcare Strategy Danish Climate Investment Fund (DCIF) Opportunity: While demand for affordable, high-quality, mass market healthcare in South Asia and sub-Saharan Africa is large and rapidly growing, supply lags and healthcare businesses require substantial capital, deep operational expertise, and access to high quality clinical staff. Structure: Purpose-built team to deliver strong financial and impact returns. Impact objectives integrated into the investment strategy and governance framework. Invest in scalable healthcare services models in low- to middle-income markets that provide measurable improvements in health status of the underserved low- to middle-income population segments. Work with various funders to maximize impact. Opportunity: While investment opportunities in renewable energy and energy efficiency in developing countries exists, few projects initially offer risk-return profiles in line with institutional investors’ investment criteria. Structure: DCIF provides risk capital, including a preferred return for institutional investors, for climate-related projects to mobilize further financing from both public and private investors. The fund will be an active minority investor and contributes only part of the total project financing in the individual projects. Mobilizing Institutional Investments in African Infrastructure Citibank and SMBC Infrastructure Investment Partnership Opportunity: Africa needs significant investments in energy and infrastructure but faces a significant investment shortfall. Pension funds have considerable capital but limited access to and knowledge of African infrastructure investment opportunities and risk-mitigation tools. Structure: A task force was created to address this investment shortfall through public private collaboration. Joint efforts by public and private institutional investors, donors providing risk mitigation tools, and multilateral agencies with access to project pipelines offer significant potential to lever up infrastructure investments and financing in Africa. Opportunity: In order to effectively implement infrastructure projects that promote real prosperity, quality of life, and opportunity for emerging market countries, players must utilize the best available expertise and arrange for the most cost-effective funding, credit enhancement and capital resources. Structure: The U.S. Government, in partnership with SIDA, Citi, SMBC, and Capitol Peak Asset Management, launched a $10B Infrastructure Investment Partnership to fund and fast-track critical infrastructure projects in emerging markets, with an initial focus on Africa and Asia as well as Latin America.

Select, Concrete Examples from Davos Blended Finance Marketplace (2 of 2) Bank of America (BofA) Catalytic Finance Initiative (CFI) Women Entrepreneurs Debt Fund (WEDF) Opportunity: BofA committed to help meet the challenge of scaling up investment in sustainable energy around the world. At the United Nations Climate Summit in September 2014, the bank launched its Catalytic Finance Initiative (CFI), designed to catalyse at least $10 billion of new investment into high-impact clean energy projects. Structure: BofA will commit $1 billion to investment structures that employ a range of de-risking tools, developed in conjunction with development finance institutions, insurance providers, foundations and institutional investors. The goal is to make clean energy investments more financeable, particularly in emerging markets where project impact is often amplified – addressing other large-scale issues like health, education and job creation. Opportunity: Women-owned SMEs are an untapped and attractive market in developing countries with a $300 billion estimated credit gap and as many as 70% having unserved or under-served credit needs. Working with lenders in developing countries, WEDF accesses a market segment with higher product cross-selling, deposit growth and loyalty, benefiting from the lower risk tolerance of women-owned SMEs. Structure: Seeks to empower women entrepreneurs in developing countries through investing in a portfolio of senior loans to commercial banks. It provides a platform for investing at scale in commercial banks in developing countries, playing a critical role in bridging the financing gap for women-owned SMEs and achieving a greater reach. The Patient Procurement Platform Atlas Mara (ATMA) Opportunity: Significant opportunities exist across agribusiness value chains in developing markets. In Africa alone, food systems currently valued at $313 billion are forecast to grow threefold to $1 trillion by 2030. Smallholder financing also represents a vast untapped market estimated at $450 billion, 80% of which is currently unmet. Structure: Addresses risks of all stakeholders, in particular inconsistent large buyer engagement and insufficient financing, through a multistakeholder consortium of input companies, distributors and dealers, traders, buyers, capital providers and smallholder farmers. The platform aggregates demand from large buyers using longer than typical forward contracts to secure access to finance and inputs. Opportunity: Opportunity to create a local financial institution that provides leadership, liquidity and technology. Combining global institutional knowledge with extensive local insights to create innovative, well-designed products can reach underserved customer segments (women, rural areas and youth) that represent a large commercial opportunity . Structure: Financial inclusion focus and goals align ATMA with development investors and suppliers of finance. Partnering with the private sector enables development finance institutions to mobilize large amounts of capital quickly for target markets in sub-Saharan Africa. Low-cost debt financing from development institutions catalyses product innovation in servicing SMEs, trade finance and mobile banking.

Blended Finance Coalition of the Committed The growing blended finance network includes diverse stakeholders who are pioneers in blended finance and actively applying blended finance in a mainstream fashion RDFI Steering Group Hon Christian Paradis (Chair) Canadian Minister for International Cooperation and La Francophonie Julie Sunderland (Vice Chair) Bill and Melinda Gates Foundation Dale Mathias Partners Forum for Private Capital Charlotte Petri Gornitzka Swedish International Development Cooperation Agency Tom Speechley Abraaj Group Gavin Wilson IFC Asset Management Corporation Private Sector Capital Providers Development and Philanthropic Funders Institutional Investors Donor Governments and Agencies Diversified Financial Institutions Development Finance Institutions Coalition of the Committed Financial Intermediaries Philanthropic Foundations Corporations & Operating Partners Developing country governments

Engaging in the Forum’s Blended Finance Initiative As Blended Finance gains momentum, there are numerous ways for players to get involved—and the Forum and OCED-DAC can help you get started For further information please contact: Terri Toyota, Director, Foundations and Development Community, World Economic Forum terri.toyota@weforum.org Jens Sedemund, Executive Advisor to the DAC Chair, OECD jens.sedemund@oecd.org

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