On October 1, 2019 the new U.S. Development Finance Corporation (DFC) will open its doors. The DFC is a modernized version of the U.S. Overseas Private Investment Corporation (OPIC) that consolidates the agency with USAID’s Development Credit Authority, and provides new financing tools to catalyze private investment in developing economies.
The new tools granted to the DFC have the potential to be powerful for the developing world. OPIC’s operations already have impact. In Kenya, a $5 million OPIC loan to a startup formed by graduate students at MIT is addressing sanitation through a toilet and fertilizer business which is providing modern sanitation to thousands. A series of OPIC loans totaling $5.7 million allowed American Wool & Cashmere Inc. of Takoma Park, Maryland to create delivery infrastructure for raw wool and cashmere produced in western Afghanistan, contributing to a flourishing cashmere industry employing more than 1,500 women and older men who would otherwise have difficulty finding work.
One of the most important additions to OPIC’s existing toolkit is the creation of equity authority. Allowing the DFC to make limited equity investments, the Corporation will be able to drastically expand on its existing loan activities to directly invest in businesses or through funds that will generate development impact in support of U.S. foreign policy.
OPIC’s existing debt investments have historically performed well, and for the past 39 years OPIC has returned money to the U.S. government. Investments, by definition, are expected to be returned, ideally with earnings. In the case of OPIC’s existing loans, OPIC provides debt financing to an entity that is then expected to be repaid over a period of years with interest. This is wildly different from grants, which is money spent on a project with no expected repayment.
In its FY20 budget request, however, the Trump administration proposed treating equity investments in the same way it treats grant assistance: on a dollar-for-dollar basis, assuming that each dollar will be spent and lost – not invested with the expectation of a return.
Budgeting equity investments with an expectation of 100% loss is not only nonsensical in that no investor would do so, but it severely limits the ability of the new DFC to leverage investment dollars. Even existing U.S. agencies do not issue debt at a dollar-for-dollar rate; OPIC is not appropriated $4 billion per year to pay for the new projects it does annually, but rather uses leverage to cover that amount of new obligations. If the DFC is required to have one dollar in its budget in order to invest one dollar in a low-risk fund, the Corporation will not be able to leverage investments in the same way that peer institutions do.
What’s the alternative? Equity investments of the DFC should be budgeted based upon the probability of a return and a projection of a percentage loss. That can be determined through decades of OPIC experience participating in private equity funds in the form of senior secured debt. Based upon that experience, the agency can represent that the profits and losses of a portfolio of $1 billion of investments would require no more than a 5% reserve or subsidy to support that $1 billion of investment, or $50 million of appropriated funds. A net present value approach like this is similar to the treatment of debt under the Federal Credit Reform Act of 1990 (FCRA).
Net present value is one way to approach scoring the equity budget for the DFC. There may be other methods as identified by OMB, CBO, or Congress. What is clear is that dollar-for-dollar scoring will place an unreasonable restriction on the new DFC before it even has a chance to prove its value. For this reason, MFAN is encouraging Congress to explore all legislative options to fix this issue and to allow the U.S. Development Finance Corporation to thrive.