International : Niche within a Niche: Investing in Profitable Environment Enterprises in Latin America –

Start-ups and technology are usually buzzwords for anything Internet-related. However in Latin American private equity investing, they also apply to a new trend: financing environmentally responsible – but profitable – entrepreneurs.

As Donald Terry, manager of the Multilateral Investment Fund (MIF) of the Inter-American Development Bank (IDB), a major investor in many of these funds, said, “sometimes there’s a false dichotomy put forward of either jobs or growth versus the environment.” In addition to promoting small business development, an MIF mandate, Terry said the MIF invests in environmental projects “because we also want to demonstrate that economic growth and good jobs can be generated by promoting the environment. We want to get away from the idea that promoting the environment is costly, and in fact, can be profitable.”

The IDB created the $1.3 billion MIF in 1993. Its main donors are Japan, the U.S., Spain and Italy. It is administered by the IDB, but distinguished from it, since the IDB usually makes large loans to governments.

Terry said, “It’s our belief that equity is an important development tool. It’s not a charity, it’s [also] not venture capital U.S.A. circa 1998-1999, with technology[-oriented] returns of 20%. We look for a minimum of 5% in returns and hope for 10%.” MIF generally co-invests with other developmentally oriented organizations, such as development institutions, NGOs or strategic private investors, and generally requires that recipient companies have sales of no more than $3 million to $5 million, and fewer than 100 employees. MIF will invest anywhere from $100,000 to $1 million.

Both the IDB and the International Finance Corporation (IFC), the largest multilateral source of loan and equity financing for private sector projects in the developing world, and a member of The World Bank Group, “have been so valuable in accelerating the [use of private equity as a development tool] by putting up the grant money and buying down some of the risk associated with investing in environmental projects,” said Sandra Doliner, vice president of the ten-year-old Environmental Enterprises Assistance Fund (EEAF).

Mobilizing Investment

EEAF was created in 1990 specifically to mobilize venture capital for environmental businesses. Today it has nearly $100 million in capital under management or co-management, and has made about 20 direct investments from $100,000 to $750,000 each in either equity, debt, or a combination of both. Officials at the IFC could not be reached for comment by press time.

Winrock International, created by Winthrop Rockefeller, is a nonprofit organization whose mandate is to increase economic opportunity while sustaining natural resources and protecting the environment. “We couldn’t get capital in the early 90s and needed a mechanism,” said Frank Tugwell, president of Winrock, and former president of EEAF, which he helped to launch. “Venture capital didn’t exist. Banks don’t take risks with new technology. I saw investment opportunities neglected because of the size of the companies, which are small and medium, and the newness of the technologies. The philosophy was this is an unoccupied niche.”

“I approached Winrock,” he continued, “and said I wanted to create a venture capital fund.” Winrock demurred, but allowed Tugwell to launch the fund separately and helped support it through The Rockefeller Foundation. USAID also contributed, although there was no specific amount originally.

EEAF then created the first local emerging markets VC fund for the environment-the $10 million Corporacin Financiera Ambiental SA (CFA). Costa Rican-based Empresas Ambientales de CentroAmerica co-manages the fund with EEAF.

EEAF followed this up with two more specialized environmental funds: Terra Capital Investors Limited, which focuses on biodiversity industries in Latin America, and the Renewable Energy and Energy Efficiency Fund for Emerging Markets. A fourth fund that will focus on rural solar photovoltaics is in development.

Doliner continued, “The goal was to bring transactional skills to environmental NGOs, and [current EEAF president] Brooks Browne is credited with doing a lot of that. EEAF is a non profit that is run as a true, for-profit venture capital fund,” she said.

Brooks Browne has been with EEAF from its inception, first serving as the founding board chair and then as president. Previously he worked for several years at Allied Capital Corporation, where he was promoted to chief operating officer and president of its publicly traded advisory company, Allied Capital Advisers, in 1992.

Browne calls the small and medium-sized enterprises (SME) focus “a severe burden.” “Very few understand it,” he said, “and that sector may spook them.”

Good Deals are Hard to Find

For Leonardo Ramirez, general manager of Costa Rican-based Empresas Ambientales de CentroAmerica, “finding environmental deals that meet environmental criteria and are profitable is the main limitation. I can usually find one or the other but finding companies that meet both criteria is a challenge. Also, we are investing in dollars,” he continued, “so projects need to generate dollars. [Therefore] a tourist sight that is not international will not be able to generate hard currency.” He said the third challenge is “finding appropriate managerial ability, such as people who are fluent in English, and understand the Internet.”

CFA invests at the stage of project execution, with investments ranging from $100,000 to $800,000, though Ramirez said $500,000 is the average investment amount.

“It’s the first and only VC fund from Belize to Panama, total capital is $10 million, so far we have committed $6 million in 15 investments, two of which already repaid, so our currently portfolio [contains] 13 companies. We invest in sectors that have relevance in Central America,” he said. These include such sectors as organic agriculture, renewable energy, recycling and reduction and treatment of pollution and sustainable forestry.

Among its investments are a business in Honduras established to collect, consolidate and export aluminum waste products for recycling in the U.S., and a producer and exporter of upscale home furnishings that uses wood from sustainable plantations of teak and gmelina in Costa Rica. Ramirez said CFA is also planning to develop new funds over the next few years in both clean technologies and one that targets the food industry.

Equity is Still a New Concept

Businesses that are involved in sustainable forestry or organic farming thus face the same obstacles that other small and medium-sized companies face in Latin America: a lack of access to capital, economic volatility and an increasingly competitive environment. On top of that, although it is becoming recognized as one of the most effective tools to finance startups or companies that are rapidly expanding, equity investing is still new, especially in Central America.

Browne, added, “Except for huge M&A deals, it’s difficult to exit. In conducting due diligence, you don’t have the level of transparency you’re used to in the U.S. Additionally, there’s a lot of hidden liabilities involved, such as taxes, and deal structuring can be a problem-a company that used to be in the family now has people on the board from the U.S. [for example].”

“The result,” he said, “is you end up teaming with very strategic partners, people who want more than IRR. It focuses us on our need to build relationships and add value by bringing [these companies] new customers, putting the books in order and providing new financing alternatives.”

Jeff Leonard, president of the Global Environment Fund Group (GEF), sees “a huge demand for basic environmental services and sustainable development” in Latin America. He said in general infrastructure is still in poor shape, there’s a huge need for potable water in certain regions and he sees a large consolidation opportunity in health care regionally, to name but a few examples. GEF was the first to create a health-care fund for the region.

Created in 1989, GEF is an international investment firm with five equity investment funds currently under management whose aggregate capital is $500 million. These include the $70 million Global Environment Emerging Markets Fund LP; the $120 million Global Environment Emerging Markets Fund II LP; the $250 million Atlantis Water Fund; the Global Environment Fund LP, an open-end, public securities fund that was launched 10 years ago to invest in publicly traded securities of companies that improve environmental quality; and the $50 million Latin Healthcare Fund LP.

“Mainstream NGOs are becoming very aware of the need to integrate private sector activities because there’s not enough money to go around,” said Browne. “If you work with the private sector you get a lot done.”

A Natural Venture

The Nature Conservancy has lately created its own venture capital fund, “proving that business and the environment can advance common goals,” as it states in its literature.

Tammy Newmark, manager of the fund, Fondo EcoEmpreses, at The Nature Conservancy, said, “In the past five or six years NGOs have become more sophisticated and realized they need to diversify their fund base and get into business. And in the private sector, [SMEs] need access to capital and advice. It’s a very creative exchange.”

Newmark, who has worked both at the EEAF, the IFC and “spent several years on Wall Street,” said the whole concept of venture capital is new at The Nature Conservancy, and to SMEs in Latin America. But, she said, “We are aiming to achieve returns. All the companies we invest in have to be financially viable.”

She said the EcoEnterprises Fund was created with the help of MIF to provide venture capital and advisory services to commercially viable companies working in alternative agriculture, sustainable forestry, ecotourism, and other environmentally compatible businesses. The Nature Conservancy calls it “a venture fund for nature, uniting the disciplines of business and conservation.”

The EcoEnterprises Fund includes a $6.5 million Venture Fund that provides up to 50% financing in environmentally compatible enterprises, and a $3.5 million Technical Assistance Fund that covers fund management costs and provides limited business advisory services to prospective projects.

The EcoEnterprises Fund invests in companies at all stages of development with revenues up to $3 million. Investments range from $50,000 to $800,000, with an average investment of $100,000 to $250,000. EcoEnterprises plans to invest in about 30 business ventures by 2010.

“In the U.S., the market solution is to buy land,” said Newmark in explaining part of the reason for creating a fund. “In Latin America we can’t do this. We needed to find other types of tools to achieve our goals.”

EcoEntrprises has not invested in a company yet, but is focusing on five possible companies now, according to Newmark, who added, the companies themselves are required to collaborate with a non-profit conservation or community partner, either by paying fees for monitoring services, sharing profits or other financial arrangements. In this way, EcoEnterprises ensures that business success promotes conservation progress.

The Nature Conservancy is using this fund as a model and eventually wants to expand into the U.S. and Asia-Pacific with it.