Episode 10: Understanding Income Share Agreements with Batya Blankers, CEO, CHANCEN International

Hello everyone, welcome to the 10th episode of the blended finance podcast brought to you by the blended finance company. At the blended finance company, our goal is to increase the flow of capital to the development sector and we do that by pioneering blended finance programs that enable investors to deploy significant capital while generating sustainable returns and donors to maximize their catalytic leverage. A lot of heavy words there I realize and that is precisely why we decided to start this podcast to demystify blended finance and to understand what it can and equally importantly cannot achieve. Through these podcast, we bring to you some of the foremost thinkers and practitioners of blended finance globally who would be sharing their insights and experiences with us. I am your host, Nirav Kambati, partner at the blended finance company and today we have with us Bhatia Blankas. Bhatia is co-founder and CEO of Johnson International and under her leadership, Johnson International has developed a unique fair finance model that ensures equal access to vocational and higher education programs for students from low income backgrounds in Africa. Having had the privilege of seeing Johnson International's work at close quarters, I must say I am very optimistic of the company's ability to contribute to the growth of African economies by scaling the next generation of workers there. Welcome to the blended finance podcast Bhatia. Thank you so much, Nirav, I am very excited to be here and this is my first podcast and I couldn't have thought of a better person to do this with. That's very kind of you, Bhatia. Before we come to the fascinating work that Johnson International does, tell us more about your education, your professional journey and tell us what led to the creation of Johnson International. So, Nirav, it goes back to Johannesburg, South Africa, which is where I was born and where I was raised. I come from what is referred to as the missing middle and despite having many opportunities I was not able to go to university or college because I come from a family with a single parent household and accessing bank loans requires collateral and interest payments, which wasn't an option for me, as well as government scholarships are available for very low income households, rightly so. So that's where my journey started with the world of education, finance and understanding the barriers. I spent my early 20s working in South Africa mainly in call centres and then was very lucky to end up in Germany, which is where I encountered income share agreements for the first time. And the story goes like this, so I was working in a call centre in Germany and I applied to some government universities that didn't accept me because they're quite stringent around accepting foreigners into government universities in Germany, but I got into a private institution and they basically offered me this contract that said I only need to worry about repaying or paying for my tuition fees once I have graduated and once I am employed. And at first I thought it was too good to be true. How is it possible that someone was willing to wait for me to find my first job post graduation before expecting repayments? And then I dug into this a little bit more and this is when I was introduced to the world of income share agreements, which has actually been alive and thriving since 1995 in Germany. And this is when my journey started in this space. Well, actually, I must say it does sound too good to be true, Vathya. I can tell you there are so many youngsters in India who can totally relate to the story that you've just narrated. So tell us, how do income share agreements work and how are they different from the traditional education loans that we're all familiar with? Yeah. So, I mean, if you wanted to study and take out a bank loan, you would go to the bank, most likely with a parent or a guardian and the bank would do an assessment on your current credit profile. Right? And at the age of 19, 20, we don't have credit profiles. We have no history with the banks and maybe our parents have some history. Maybe if they have taken out loans before, but the bank would then essentially make a decision based on your parents' financial situation and offer you a financing option where you get financing, but you have to start paying interest immediately. Now, a income share agreement is fundamentally different because when you look at giving financing or lending to a young person, you rather look at their future potential income. So instead of looking whether they have a credit profile on what their parents are earning, you look at where are they studying? What are they going to qualify as? In which market are they going to be working and what will they be earning? And you use that data to determine whether they can receive funding. And so the way that it works in practice, for instance, with me, I decided to study business economics, a bachelor in business economics in Germany. And so the contract that I signed says that I need to repay 9% of my income, of my gross income for 10 years, once I have graduated and once I am earning above a minimum income threshold. So I think in Germany, it's approximately 22,000 euros per annum, which is the minimum wage. And so what happens is that once you start earning above this minimum income threshold, you just repay 10%, or in my case, 9% of your income for 10 years. And once you have completed those 10 years, then you have completed your obligations of the income share agreement. I sometimes like to say it's like investing equity into a young person. Wow. How I wish all the underwriting in the world was based on future earning potential, whether it's of individuals or small businesses, instead of, you know, what their current ability to provide collateral is, the world would be of much better place. The problem I've seen financial intermediaries run into, but often times is there. Inability to predict what the future income of a youngster or a small business is likely to be given that that's not their area of expertise. So in your case, how do you encourage, motivate financial intermediaries to be able to, in some ways, take, like you said, an equity bet on a youngster? Yeah, that's a great question, Narav and I think that's the main focus of our mission right now. So in, you know, in economies like Germany, it's pretty easy to do. There's lots of data on what people earn and how sectors are developing and the future potential income of people, which is why the model has been successful here and even, you know, moved from being a subsidized model to a fully commercial model. When we are working in geographies like Africa or India, data on jobs, the development of particular sectors, et cetera is scarce. I mean, data is scarce in general in emerging economies. And so actually the task of an organization like Chance International is to build that data set and to show other financial institutions how this can be done, first and foremost. I think by building a really strong proof of concept and use case, then you can start to crowd in financial institutions and A, show that the data is available and B, then show them how to structure this kind of financing so that more young people can access income share agreements, which is also why we were very intentional when we set up Chance International. We launched in Rwanda in 2018 as a not-for-profit and at a group level, we have maintained a not-for-profit status because essentially what we are doing is research and development of an entirely new asset class, right? We are proving to the world that youth are investable and that if you have the time and financing to collect the data on how much young people earn when they go into specific industries and what their repayment behavior is like, then you are building the basis from which other financial institutions can eventually also adopt these products. And by being a not-for-profit, we have the runway and the bandwidth to be able to do this research and development that can potentially have an impact well beyond Chance in the future. That is amazing because you are absolutely right. Lack of data in emerging countries is a huge hindrance for many things, including unlocking credit. And then how granular is this data? Are you like collecting the data at a country level, industry level, or you go a level deeper and even interact with the actual trading providers to a certain if they are of the quality that would in some ways ensure job for the youngster? Yeah, that's a really great question. So before we launched Chance in International, we did a feasibility study and I did initial desktop research from Germany and I just looked at what kind of data is available remotely and at a macroeconomic level. And if you look at the data at an aggregated macroeconomic level, it can be quite concerning, right? You're looking at the use employment rates of 30% to 40%, you see not enough jobs being available, but I then decided to go in country and spend some time to really understand what the labour market dynamics are. And if you dig into it, there's a massive data disparity and this is why we've become very granular about the data we collect. So when you look at a specific sector, let's take for example, the hospitality sector in Rwanda. If you speak to and if you start collecting data from employers, they note consistently up to 54% of them will note that they cannot find the skills they need in the existing labour market. And then on the other hand, you go to education providers and you see that their graduates are unemployed. And so there's this skills mismatch and really what our data does is it connects or closes that gap in the skills mismatch. And so we have to be very granular on our data. And so today what our business looks like is if we finance students at any given institution, we will first survey their graduates and understand exactly where they're working and what they are earning and what their career directories have been. So we are extremely granular about data and we collect most of the data ourselves and have a very robust data analytics team, as well as a data quality assurance committee to verify all the data we collect. And then with time, as we finance more and more students, we will inherently collect this data, right? Because we see students are repaying, we can see where they are working, we have copies of their contracts, we can verify what they are earning with third party data collectors like the social security boards, et cetera. And this is how you can build out the data set. Well, sounds like a lot of hard work, Vathya. But once done, this data can be invaluable in creating opportunities for youngsters, particularly those that come from underserved, underprivileged families. So that's up to you, I must say. But tell me, doing all this hard work, tell us how fast something like this would scale in terms of, I don't know, what countries are you today present in, also give us a sense of how many years it has taken for you to achieve that scale, how many students are you covering, how many training providers you work with, just to sort of give our listeners an idea of how fast this can move. So it can move as fast as the money can. No, I mean, let me break it down a little bit. I think, so one of the first things that we proved really quickly was product market fit. When we launched and ran the pilot, we did a pilot with about 1000 students in Rwanda over two years. And for the 1000 spots that we could finance, which was with philanthropic dollars at the time, we received three times the amount of applications. So it was a very clear indication that there was a need for this from the sort of supply side from students who desperately were looking for a solution. And then what happened on the other side is the education providers. So this is the other key to scaling is having enough quality education providers. That pipeline filled up very quickly there too. So within three years of launching, we had a pipeline that would where we could reach at least 10,000 young people a year. And this is without any large marketing push or big awareness, right? This is just through word of mouth and sort of network effect of the work we did. The reason I say we can scale as fast as where the money is, is because we've proven them on on both sides. What I think has been a little bit more challenging is the financing for this, which is why we're on the blended company, company finance podcast, because blended finance has been fundamental for us in, in moving towards scale. Should I go into that a little bit more Narav and just talk about how we're going to use blended finance to scale? Absolutely. In fact, that was my next question. But before that, quickly tell us about the countries that you're present in today and also just broadly, how many training providers do you engage today? Yes. So very concretely, we are now in Rwanda, South Africa, Kenya, and Ghana. We have financed just under 5,000 students to date across 23 education providers. And this presents half of the demand to date. So again, linked to the amount of funding that was available. We have plans to grow beyond Africa and maybe we'll get to that later. But the fact that you're present in East Africa, West Africa, and South Africa, in some ways, in my mind at least, proves the versatility of the model that you've created and its strength in terms of being replicable across different contexts. So that's really, very heartening to hear about here. And now coming to the blended capital structure, right? So what I find very interesting about Johnson is that unlike what some of the other companies are doing, you're not just blending capital at a project level. But instead, you're blending capital at a much more fundamental level, at the level of the company's capital structure itself. So tell us more about how you're doing this, what kind of capital you're bringing together. And I know that you've got investors with very different kinds of risk return impact expectations. So walk us through the capital structure of Johnson. Great. Nirav, when we started, the pilot was financed through philanthropic dollars, and we had two impact notes. So we had sort of angel impact investors that gave us 250,000 US dollars and said, we want you to test this out and pay us back in 10 years time with a very low interest rate. And in fact, we've paid them back early, which is great. But this quickly made us realize that we need to understand what the pathway to scale is beyond impact dollars, because that's limited, and that is obviously commercial capital. And so then we worked backwards and tried to understand what the pathway to commercial capital is. And what we recognized as a fundamental step was to bring in development finance institution investment as a next step. And this is where Johnson's model took off a fundamental shift. So we decided to put all our income share agreements into special purpose vehicles, because then you can disperse for a set period of time. You close a special purpose vehicle, and then you have collections. And in a special purpose vehicle, you can bring in different types of capital. And so we have set up the first big vehicle, which is the Future of Work Fund. It's not a regulated fund per se, but rather a special purpose vehicle that has a capital stack of four layers. The first layer is a junior share tranche, which is where we've taken during the funding that we have raised as an organization, and we've put that in as shares. And so we carry the most risk in that structure, which gives clear sort of skin in the game, but also de-risk the structure. Then we brought in a couple of other shareholders, and these were venture philanthropic investors. So the UBS Optimus Foundation anchored that tranche, and that gives you sort of a clear indication of the type of investor that fits well into our share class there. What that did, it helped us to unlock development finance institution capital, because we had de-risk the stack sufficiently, so up to 43%, such that DFC, so the U.S. Government Development Finance Corporation said, "Great, you have de-risked us by 43%. We will lend you money for seven to 10 years at a slightly lower interest rate." And so we could bring them into the SPV, which is a very strong signal and important investor to bring into the space. So that is how we've structured from an ISA perspective. From an operating entity perspective, we receive revenues as a company. We receive partnership fees from our education providers. We also do some technical assistance in education-related projects, and we receive a management fee from managing income share agreements. But as I said earlier, we maintained a not-for-profit status, because up to 60% of our income is still through unrestricted grant funding, and what that allows us to do is to help build the market systems for income share agreements. So instead of being a for-profit entity where we would have gotten a large equity investment to build this product and probably have high returns quickly, we decided to bring in unrestricted donor funding to give us enough runway and time to build a product for the lowest income households. Amazing. But yeah, so let me just summarize my understanding of what you've said. So you've created a non-profit entity, which is building the market, growing the market, and also managing in some ways a blended finance fund, so that hopefully over a period of time, I'm assuming here that the income that comes to the non-profit from fund management actually allows the non-profit to, one, be sustainable, but also be able to keep growing its areas of operation, its ability to spread the message out in the world around why income share agreements are needed. Is that broadly right? Yes, exactly. I mean, at scale, if I may humbly say, I would like to sort of be the Grameen Bank of Student Finance, and really signal and have a best-in-class standard for lending to young people, and we will break even when we are managing a large amount of income share agreements, and until then, we need some subsidy. That is fantastic. I must mention this to Zubeda that you're drawing inspiration from Grameen. I'm sure she'll be very pleased considering how much she's interested in the welfare of our young. Okay, I get it. So now there is this blended finance structure, and let me compare that with what you mentioned earlier. You said that in Germany, for example, now this has become like a full-fledged, sustainable, viable, commercial product, and from what I recall from our previous conversations, even retail investors are participating in Germany's ISA products. In Africa, you've set out to build a market, and therefore, you're starting with a blended structure where you have investors at the junior which are more philanthropic in their orientation. Is it because everybody wants to understand the market better? There is a certain risk perception because the risk discovery has not happened, and therefore DFI's are seeking that comfort. And if so, if that's indeed the case, then how's the risk discovery coming along? What have been the initial results like in terms of repayment and so on and so forth? So our CEO Russ Nathan has worked in the microfinance sector for over 20 years, and he always shares with me that lending to youth and doing uncollateralized lending is probably two of the riskiest things one can do, and that's at its essence what we are doing. So there is this massive risk return, risk perception that is tied to the target market that we are working with as well as the type of product that we're providing, because there's essentially no collateral tied to it. And so I always like to say we're going to prove that youth are investable, we're going to prove them wrong, and I think this is what we need to do within our capital structure. So we needed to give DFC comfort. No one has done this before, but we will provide some downside protection by bringing in these philanthropic investors, and at the same time, we will start showing that you can invest in young people. I'm really pleased to say that we are showing that we have our portfolio at risk so that the number of people that are defaulting is on par with microfinance institutions. It's currently at 4%, and we're talking about 1,500 young people who are in repayments in Rwanda, and they repay us every month. And you saw 96% just to emphasize that are in good standing. And what's even better is that they are earning more than what we had projected. They are going into great jobs five times more than the country median income is what an average graduate earns with us, which means that not only are they are sort of lifting their families out of poverty, many of them come from $2 a day households. They are also repaying such that we are providing our investors with a decent return. It is not a commercial return yet, to be fair. It's too early to show that, but it is a low double digit return, which is very good for this kind of product. So I think we have some strong indicators that show that this definitely is a group of people that you can invest in. And then we can take the next step with our next SPV, maybe have more institutional investors come in. The perfect profile here would be a pension fund, right? Because it's very long term patient capital that is needed. And in Germany, this was proven, or the retail investments were through a bond that was sold by a commercial bank. So that's an option too. But I think we need about another three or four more years of solid data to start assessing the asset class at a commercial level. Yeah, fairly fascinating statistics, Bhatia, that you're quoting. I mean, 4% non-repayment only and five times the median income. That's pretty amazing, right? I'd love for us to have statistics like these in India as well. But you're clearly charting some uncharted territories here and creating some great case studies for all of us to emulate it. In some ways, this reminds me of the returnable grants experiment in India, where again, without any kind of legal obligation, those who availed of those grants, 90% of them and beyond actually paid them back. So clearly this is an investable segment as you are demonstrating. What were your key sort of in some ways, experiences and therefore, what are the learnings that you'd like to share with our listeners in terms of just putting together this blended finance capital stack as you dealt with different kinds of investors. Is there any advice that you'd like to share with other social entrepreneurs who sort of wish to use a similar blended finance capital stack for building or scaling their venture? Yes. So I think my first response would be make friends with Nirav and UBS because everything I learned of blended finance have learned from you and the UBS Optimist Foundation. But I would say that our capital stack was built in partnership with the investors. It's really, really understanding the type of investors, A, that you want to bring in. So I think maybe one step back, I would say the first is in this round, when you raise money, what do you want to prove? What is your proof point? For us, it was a very clear decision. We need to be able to bring in a development finance institution because that is a very strong signal to the market that this is investable beyond just philanthropic dollars, right? And then worked backwards from there and understood what they were looking for, what their risk return profile was, what was important to them, and in conversation, then started creating the capital stack. And then it's a bit of a chicken and egg, right? So then you go back to the philanthropic investors and you understand what they're looking for, what is important to them. And slowly you arrive at a stack that works for everybody. Now this might not be necessary in markets where there is a lot more capital, I think in climate, there are a lot more use cases of blended finance and then coming up with another example now. But in education, there are very, very few examples of blended finance. So it was really building the plan as we were flying it, yeah, but together with the investors which was helpful. The other learnings that we have had are even, so I say it like this, I say we can think like an impact organization, but we have to act like a bank. And that is even if you are subsidized and even if you have free or cheap capital anywhere in your organizational structure, ensure that you still align to sort of commercial standards and commercial ways of operating. The reasons young people are repaying us are twofold. The first is consistency and good operational setup. So really just making sure that we send an email at exactly the same time or an SMS every month and we consistently follow up. That has been the biggest reason people repay. And the second is ensuring that you are providing value to your clients. So I think I like the example of the returnable grant and what we've seen is if people feel like they've really gotten value out of the opportunity that was provided to them, then they are willing to give back no matter what. And so that is why the quality education institutions that we select relative to someone's future potential income. So if their income really increases significantly, then the willingness to repay us increases too. And I think that returnable grants example is similar. People's lives were significantly improved and so they were happy to give back or repay. And so I think that's been my biggest learning is aligning that sort of return on investment for the individual and making sure that they really derive value from the intervention. And this is something that we're learning consistently in projects after projects that when we address segments that are in the lower half of the income pyramid, it's usually the ability to pay that is a problem, not the willingness. So if you help them in prove their ability to pay, the default rates are going to be super low. So thank you for that, Bhatia. You are a great brand ambassador for ISAs globally, you've set up the global ISA Alliance. Could you tell us more about that? How's that going? What all countries are you seeing interest in ISAs for? Yes, the global ISA Alliance plays a very important role in the development of a market system. So again, drawing inspiration from the microfinance sector and my hero is like Rameen Bank. For the microfinance sector to really develop and excel, we saw a couple of key things happen. The ecosystem development around the individual microfinance institutions was critical and this was not only doing shared learnings, but technology, policy as well as standards is what really helped the microfinance sector to thrive. And so drawing inspiration from that, we recognized about three years ago that there were income share agreement organizations in South America, Lumni, a couple in the US, many in Europe, and a small provider in Southeast Asia that were all doing great work, but we weren't talking to each other. And so we just started coming together and learning. And out of that formed the global ISA Alliance with the sole purpose of developing standards and policy for best practice use of income share agreements. So like with any new financial product, there is the danger that it can be used in a predatory manner. And again, learning from the microfinance sector like the smart campaign, we are developing standards for the use of income share agreements. Income share agreements are at various stages of development across the jurisdictions I've mentioned. And I would say largely speaking that we haven't fully proven the model anyway or scaled the model anywhere yet, Narav. I would say this is like the 70, maybe the 80s or early 90s of microfinance, yeah. And that to me is why ISAs are so exciting, right? And talking about going global, tell us about India, my favorite topic, as you can imagine. But yeah, what are your plans for India? This is potentially one of the largest markets for income share agreements. So what are you thinking? Yes, also very excited. I think so, as you said so well earlier, we are in East, West and Southern Africa. So at a high level, we've proven that the model is replicable. And we've spent a little bit of time in India at the beginning of this year to understand what had been done with income share agreements to date in India. And it's been quite, it's quite a nascent space. Actually, it's extremely nascent. There have been a couple of ISA experiments or products provided, mostly tied to education institutions directly. And so we identified an opportunity to explore whether our model of providing ISAs could work in India. And so our approach to anything is to be additional and to make sure we understand the problem really, really well so we can design the solution. And so we're starting with a feasibility study in India and mapping out what I like to call the learning to earning journey, which is really what I was describing earlier around this mismatch between skills and what is needed in the private sector, understanding that mismatch and then seeing if an income share agreement can help to close that gap and ultimately ensure that people from the lowest income households have access to opportunities where they can move into great employment. So starting next week, we will embark on a feasibility study and hope to have the first results at the beginning of next year so we can design a pilot and quickly test whether this is a good product for India. My gut says yes, and the market opportunity is extremely exciting, but we're a data driven organization and so maybe we'll need to have a follow up podcast to tell you what the data says. Well, I'm sure the data will point in the right direction, but you know intuitively how bullish I am about the potential that ISAs offer in a country like India. And honestly, I also feel that you know, once ISAs have stabilized in India, we could potentially create a platform out of India for the rest of Asia because the countries that I have seen in Asia, they all would love to have a product which empowers in some ways their youth to take charge of their own destiny. So well, I must say, I'm super bullish and can't wait for you and Chancellor International and ISAs to come to India. But tell me what's next for you now? I mean, you've been changing the world with everything that you're doing in Africa and now globally, but what else keeps you awake in the night? What else makes you jump out of the bed every morning? So what keeps me up at night is the demand. There are as I think you've highlighted the opportunities and the need from young people is huge. We could just at the drop of the hat finance, you know, 10,000 students a month just based on our current pipeline. So I'm responsible for raising capital for this and we're making good progress. We're about to close a $40 million fund or SPV, but the need is much greater than that. It's in billions of dollars. And so I think I'll lie awake at night and think about where those billions will come from. And I'm pretty sure we're going to find them because youth are investable and they're showing us that this is a great solution. I think the thing that's next for Johnson and for the community at large is to scale this and to really prove that this is a great way to get young people skills and employed. But I think even beyond that, what does it mean for micro entrepreneurs? We have just done a small experiment in South Africa where we've taken plumbers who have micro enterprises and they've gone through a upskilling program where they've learned business skills for six months and we have financed that with an income share agreement and based on our data, their businesses should grow five to 10 times and they should start hiring more people and then they will repay us based on the income share agreement principles. So there we see the opportunities are beyond just direct education or what we understand is traditional education, but really how do we unlock opportunities through financing for young people? So that's that's the future I'm excited about. I can't tell you how optimistic I'm feeling after this conversation, you know, as a father of two young boys, one of whom has just entered the workforce and the about the other one about to, I think it's individuals like yourselves, but yeah, who who are really making the world a much better place for them. So thank you for all the amazing and exciting work that you're doing and thank you so much for joining us today for this podcast. Thanks Nareef, but I have to say it's not just me, it's a team of 70 people and it's all our supporters and stakeholders. Yeah, it's it really feels like a really big community effort, but that is that is makes me feel optimistic too is how people can come together and create change. Well, God bless you, God bless chance and all your supporters. Thank you listeners for joining us. Please let us know your thoughts and also the topics that you would like to see covered in future episodes. You'll find details in the podcast description on how to get in touch with us. Meanwhile, we'll be back again next month with yet another stalwart of blended finance. Till then, here's me, Naref and the team at the blended finance company signing off.