A practical guide to creating a revolving loan fund.

• Author: Davis, Bob

Many of today's rural electric systems must constantly explore methods to promote community and economic development and assist their community's development efforts. Our author provides us with a "how to" explanation for creating a revolving loan fund for such development efforts.

Directors reading this article will probably want to focus on the conceptual aspects of a RLF and how it facilities development, the legal and political facets. Managers, while concerned with these aspects, will also benefit from the business plan, lending and investing, staffing and other procedural components of the RLF addressed in the article.

FOREWORD

Sixty years ago rural Americans were in the dark - literally! They had very few of the conveniences that made life easier - conveniences their city cousins took for granted. Living and working on a farm was a back-breaking task. The daily chores of being a homemaker or family breadwinner were usually rewarded with an early trip to the grave.

When the federal government became a partner in rural electrification, our parents and grandparents set out to "light up" the countryside. Rural electrification of their country is probably the most successful social legislation ever enacted by the United States Congress. One of the reasons this program was so successful was that the people who worked so hard to make it a success were also the ones who benefited from it.

While we have made tremendous accomplishments in the last 60 years, there is still a great need to serve this same group of people who live on about 80% of the land of this great nation. If rural electric and telephone cooperatives are to survive and to fulfill their mission, they must continue to provide services that are needed to maintain and improve quality of life for rural America.

One such service which cooperatives can provide to their members is financing. Almost every community and economic development project requires funding. Without adequate financing, little gets done.

Throughout the nation, an increasing number of electric and telephone cooperatives are becoming involved in rural development finance activities through the Rural Business and Cooperative Development Service Zero Interest Loan and Grant Program, the Intermediary Relending Program, and other state, local, and private sources. They are creating new working relationships with generation and transmission cooperatives and statewide organizations, state economic development departments, universities and other rural development organizations.

New public/private partnerships between cooperatives and others can create many new marketing opportunities. A number of reasons are often cited to explain co-op involvement in development finance activities. The principle reason is improved sales, load factor and bottom-line economics. For example, one rural electric cooperative manager in Oklahoma stated, "a one percent increase or decrease in load factor would amount to a difference of a quart of a million dollars to the co-op's operations budget."

Other reasons include a perceived co-op responsibility to participate in efforts to improve rural infrastructure, the quality of life of members and improved community relations.

Another valuable rural development support service cooperatives can provide communities and businesses is technical assistance. Offering, considerable technical assistance to your members is essential if your cooperative expects to operate a successful lending program. Technical assistance should include (1) "match-making" - that is, introducing your member borrowers to other funding sources and resource providers; (2) using resource providers to help members prepare the application, which is often laborious; (3) working with other funding sources to mesh regulations and rules; and (4) working with project sponsors and lenders to assist you in the development of the overall financing structure. Providing various forms of technical assistance to communities and clients will help create significant goodwill and develop more bankable projects while reducing the risk of loss.

Most urban areas of the United States presently have an abundance of available capital for debt financing. Both rural and urban areas, however, have a shortage of development or gap financing. What is lacking particularly in the rural areas is a significant number of bankable projects.

The major problem affecting rural businesses, large and small, is lack of imagination or knowledge of available resources, not capital. The key to effective community lending lies in nurturing demand for credit, not just supply.

Cooperatives that decide to use RLF's to facilitate economic development should be extremely selective during the start-up phase. Cooperatives that undertake extensive due diligence, blend cooperative financing with other public and private dollars, and provide quality technical assistance and support to applicants will enjoy significant benefits including low loan losses, increased public relations and competitive marketing advantages.

This guide can be used to start developing local leadership and support for the establishment of a lending program at your cooperative. The guide can also assist your board in their decision-making and leadership roles as they continue discovering new ways to meet their members' needs.

INTRODUCTION

Cooperatives across the country are taking advantage of the numerous loan and grant programs available from the Rural Utilities Service (RUS), Rural Business and Cooperative Development Service and Rural Housing and Community Service. They are working closely with the state Rural Economic and Community Development office (RECD) and community institutions to develop rural infrastructure, create new jobs and face major challenges to improve education, health care, housing, water and sewer facilities and telecommunications services.

Wally Beyer, new administrator of the RUS, said recently, "We must change the way we do business. We are more than just an electric or telephone utility. The federal government is looking to us to help in the revitalization of rural America and building new infrastructure."

And that is exactly what many cooperatives have been doing. They are changing the way they do business by getting back to what made them great. While our federal government reinvents government, cooperatives are reinventing the way they do business. Cooperatives are investing their members' money back into their service areas in new and unique ways. These investments are creating new jobs, expanding the tax base and improving the quality of life in our rural areas.

Many rural areas are experiencing decline and disinvestment that threatens their vitality and quality of life. Perhaps the single most important need in many rural areas is the availability of adequate investment capital. Without adequate financing, community infrastructure projects such as the improvement of a volunteer fire department, expansion of an existing industry or the building of a new senior citizen center simply will not happen.

Revolving Loan Funds (RLFs) have become an increasingly popular business financing tool to help reverse this decline because of their ability to leverage public and private dollars and recycle funds as well as their flexible design and simple operation. The RLF supplies communities and firms with direct loans, loan guarantees and other financial and technical assistance. As the RLF receives the principal and interest from outstanding loans, the money is made available to another borrower. This recycling of funds makes RLFs particularly valuable in light of the growing scarcity of development funds in our rural areas.

Loan pools are not a new phenomenon. Beginning in the early 1950s, banks permitted to invest in corporations which issued stock were active in establishing business development corporations (BDCs). While individuals and businesses usually purchased stock, banks made unsecured loans to these state-chartered private BDCs, which in turn made loans to individual firms.

Today more than half the states have BDCs that provide loans to firms seeking capital for plant acquisition and expansion, working capital, inventory, leveraged buyouts, machinery and equipment purchases and related investments. These BDCs provide successful models to use in development of a detailed business plan outlining how to create and operate a RLF. A few aggressive banks have established special entities such as Community Development Corporations (CDCs) and other development subsidiaries to finance projects in coordination with local development efforts.

Numerous cooperatives have for decades offered lending programs to finance a wide range of consumer and community needs including the purchase of appliances and heat pumps, installation of septic systems, development of industrial parks and shell buildings, expansion of rural businesses and creating new rural water districts. Many cooperatives have significant experience in...