Shrimp farming finance: is it impossible to get an affordable loan?

Shrimp aquaculture is still a profitable activity. Production costs are still low (although increasing), and selling price tends to be upon the higher values within food commodities. This gives a sense of high profitability, which should make this activity very attractive for investors along with loans and insurance, helping it bloom and grow at an even higher rate. But there is a critical catch hiding in this activity that constrains its expansion: the enormous risk associated with shrimp aquaculture.

Over the following lines, we will talk a little about the main financial products tools and aspects surrounding shrimp aquaculture and why this activity is very different from other industrial productions out there, including other agriculture activities, and even different from some aquaculture species production.

How does a financial loan work?

A financial loan, or more simply a loan, is a straightforward financial concept, and its function is based on the idea of the value of capital in time; this is easier to explain through an example. Say I have 1 million dollars available to invest, and someone asks me for a 1 million dollar loan right now, stating that the money will be given back to me in 1 year. The thing is, if I put that money somewhere else, I can invest it, say in the bank, and over the course of that year, I could get my million dollars plus some earnings; therefore, I will ask the borrower to give me back my million dollars plus the earnings that the other investment would have given me, in other words, I will charge the borrower an interest, in this case, equal to the investment I had in mind.

This is the first step of the loan, setting an interest rate. Now let’s imagine that the borrower feels that, by the time he has disbursed 1 million dollars, he has covered his part and refuses to pay what was established at the beginning of the loan. To avoid this, I (the lender) will ask the borrower to provide some sort of tool that gives me the security that my money will get back to me, plus my interest. There are different tools for this, being the most common ones asking for some financial guarantee that, in the case of a business, can be the business itself, part of its infrastructure, or any other valuable asset that the borrower possesses.

Now that interest rates and financial guarantees have been established, one might think it’s enough. But now imagine that the borrower somehow loses his job or his business, or he even dies and therefore is incapable of paying me my money back; debts can’t and shouldn’t be passed from father to son or between spouses; therefore, the loaner needs something that will guarantee that, under certain circumstances out of any of the two concerned parties’ control, his money will be paid. These guarantees can be provided in the form of insurance.

The first two aspects of the loan (the interest rate and the financial guarantee) are no problem for a shrimp farmer. The interest loan can be negotiated, and it’s up to both parties to get to an agreement, and the financial guarantee can be the farm itself. The real problem is in the third component of the loan structure, the insurance. To explain why it is a problem, we need to talk a little about how insurance work.

How does insurance work?

At a basic level, all insurance products have the same bases; the insurance company will secure either all the farm or parts of it against any unexpected event and under certain conditions, meaning that if said unexpected event covered by the insurance happened, the beneficiary (in this case the farmer) would be compensated by the insurance company at a previously agreed amount.

In other words, the farmer pays the insurance company to absorb the risk of something unexpected happening, giving certainty to the farmer and, in our example to the loaner, that if something happened, the insurance company would compensate the farmer, enabling him to repay his debt.

In order to provide this service, the insurance company needs to assess the probabilities of all the unexpected things covered in their policy happening, allowing it to establish the insurance premiums that the farmer needs to pay for them to absorb said risk. This opens the panorama for a series of different coverages, also known as different products. Any unexpected event that could have a negative impact on a farm can be considered a risk and, therefore, is susceptible to insurance. Today, most insurance companies can provide coverage for infrastructure, biomass, or other essential aspects of production like labor. Almost anything on the farm or that affects it can be subject to insurance; the catch is not what can be insured but against what.

Almost all insurance companies can cover production against natural disasters such as typhoons, hurricanes, earthquakes, tornados, etc. because they are easier to predict, are uncommon, or give the farmer time to act before they occur; this offers the insurance company some space to ask the farmer to take cautions if he wants the insurance policy to become effective.

The reality is that, although natural disasters are a significant risk in aquaculture, they are more likely to have a considerable impact on other species’ productions, like marine fish or any other floating cage system; and even though they do affect shrimp ponds and shrimp farming, it is certainly not the main risk to shrimp aquaculture.

There are other interesting concepts covered by insurance, like significant or sudden changes in water quality parameters like temperature or salinity. Even though this is an exciting product, the single most important risk in shrimp aquaculture is disease outbreaks. A disease outbreak can wipe out 100% of the production in a matter of days, and if the disease is not caught in a timely manner, it is impossible to take action, which can lead to the loss of millions of dollars and the impossibility of recovering some of it through a premature harvest for example.

And now we might be thinking, “then, we only need to make an insurance product for diseases, and off we go”, but it’s not that simple. The thing with disease outbreaks is that their appearance and impacts are highly linked to different aspects of production, including seed origin, feed used, contact with vectors like birds or animals, and farm management; and shrimp aquaculture is well known for being a closed environment regarding data sharing, meaning that farmers are not willing (or able) to provide accurate data to the insurance companies, which in turn makes it difficult to create a risk profile.

Furthermore, since management strategies and style influence the probability of disease outbreaks, insurance companies need to have trained personnel that visits the farms to make sure the correct measures are taken to prevent diseases; this results in a high cost of maintenance, which will lead to very costly insurance premiums, discouraging the farmers from engaging in any insurance plan.

Shrimp aquaculture insurance products, when available, are expensive due to the high risk and uncertainty surrounding shrimp farms; this impacts the structure and cost of a loan directly, making the availability of cheap loans extremely complicated to obtain, more so with farms that don’t have a good data storage and management system in place. There are two main different possible approaches to face this problem.

The first approach is out of the producer’s control and involves the State. Since aquaculture is a key industry in some countries and directly impacts food security, some governments are willing to provide subsidies in the shape of cheap loans or insurance structures specific to the production practices common in the country, with a more than likely significant cost to the public treasury.

The second approach is through a data-sharing system that allows the insurance and financial companies to observe the behavior of the farm. Making it possible to put in place some management strategies such as biosecurity schemes, early disease management protocols, and input optimization so that risk profiles are individual to each farm, and good management can be awarded cheap insurance primes and hence affordable loans.

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