Reducing Default in Contract
Farming Arrangements
June 25, 2013
Bronwyn Irwin
Senior Technical Director
Enterprise Development
Objectives of this Session
Desired Outcomes:
1. Better understand how incentives can
drive side-selling
2. Have practical tools to strengthen the
design of contract farming programs
Contract farming is not always best
Contract Farming is…
any agricultural production that takes place
under an agreement (written or verbal) between
a buyer and seller that provides conditions for
the production and sale of the commodity.
When Does Contract Farming Make
Sense?
• Better fit when:
» Strong vertical coordination
is needed
» Higher value crop
» Barriers to entry
Benefits of Contract Farming
Firms
•
•
•
•
•
•
Farmers
Risk
decreases
Benefits
Consistent quality and volume of
supply
Reduced transaction costs
Don't have to invest in land or
fixed labor for own production
•
•
•
Risks
Production failure
Inefficient management that
results in lost sales
Corruption from the firm
•
•
•
Returns
increase
Benefits
Consistent market with a
known floor price
Embedded services
(information, training, finance)
Risks
Insecure tenure of contracted
farmers
Dispute with farmers
Side-marketing
Input diversion
Benefits of Contract Farming
Firms
•
•
•
•
Farmers
Risk
decreases
Benefits
Consistent quality and volume of
supply
Reduced transaction costs
Don't have to invest in land or
fixed labor for own production
•
•
•
Risks
Production failure
•
• Inefficient management that
Benefits
Consistent market with a
known floor price
Embedded services
(information, training, finance)
Risks
Insecure tenure of contracted
farmers
Dispute with farmers
• Side-marketing
• Input diversion
results in lost sales
• Corruption from the firm
Returns
increase
Contract Default
Farmer Default
Firm Default
Side selling
Late Supply of Inputs
Side harvesting
Input shortage
Input diversion/ selling
Collection delay/failure
Price terms
Side-Selling
Low
Yields
Payment
Delay
Transport
issues
Collection
delay
Greed
Low
Prices
Inventory of Smallholder Contract Farming Practices: Revised Final Report, December 2009. SNV
Netherlands Development Organisation.
Side-Selling
Low
Yields
Payment
Delay
Transport
issues
Collection
delay
Greed
Low
Prices
Inventory of Smallholder Contract Farming Practices: Revised Final Report, December 2009. SNV
Netherlands Development Organisation.
Impact of Contract Default
Impact of
Farmer Default
Impact of
Firm Default
Failure to Repay Loans
Reduced yields
Lower prices
Reduced yields
Reduced firms’ trust
Reduced quality of crop
Reduced farmers’ trust
Video
Perspectives on Contract Farming From
Farmers and Firms in Zimbabwe
http://www.youtube.com/watch?v=x4JIZjzbUWI
Case Study
Discussion Questions:
• What are the clauses that could create
issues and lead to contract default?
• What are the underlying causes of that
potential contract default?
• What are potential strategies to mitigate
side-selling in this particular case?
Strategies to Mitigate Default: Carrot
• Build Trust (Good Management by Firm)
• Payment Terms
• Incentive Payment
Structures
• Preferred Supplier
Program
Strategies to Mitigate Default: Stick
•
•
•
•
•
Farmer Selection
Firm Coordination
Joint Liability
Suing Farmers in Court
Debt Collection
REALIZ Contract Farming Data
Crop
Contracted
Farmers
Repayment
Rate
Actual vs.
Budgeted
Inputs
Actual Delivery
vs. Budgeted
Yield
Gooseberry
34
64%
48%
18%
Cosmos seed
296
55%
96%
27%
Paprika
424
43%
53%
15%
Cowpea
700
72%
100%
41%
Emerging Strategies to Mitigate
Default
• Improve efficiency and relationships with
technology (SMS, direct deposits, barcodes,
management systems)
• Biometrics
Results of Good Contract Farming
Northern Tobacco
Smallholder Farmers’
Yield
Northern Tobacco
Smallholder Production
Share
Results of Good Contract Farming
Zimbabwe Cotton
Yields
Cotton Sector
Repayment Rates
Closing the Yield Gap
Actual
Yield (kg)
Tobacco
Potential
Yield Gap
Yield (kg)
Current
Profit
1,200
3,000
150%
3,401
Cotton
580
1,500
159%
(2)
Coffee
500
2,000
300%
420
Sugarcane
7,430
14,160
91%
481
Paprika
1,150
5,000
335%
556
690
8,000
1,059%
24
Maize
Source: 2010 data from AMA; potential yield from FAO Handbook; calculations use budgets in Annex III.
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