Transformation Challenges and Opportunities for Bangladesh Garments Industry

Transformation Challenges and Opportunities for BangladeshGarments Industry

Bangladesh Development Conference 2015at Harvard University, South Asia Institute

Financing the Transformation of BangladeshGarments IndustrySESSION 6

June 6, 2015

Anis A. KhanManaging Director & CEOMutual Trust Bank Limited

Dhaka, Bangladesh

Presented by

SWIFT Member and User Group of

BangladeshChairperson

2014 – Present

Primary Dealers Bangladesh

LimitedChairman

2014 – Present

Association of Bankers,

BangladeshVice Chairman2014-present

Metropolitan Chamber of Commerce & Industry, Dhaka

Vice President2013-present

The road to US $50b industry

is exciting and challenging if

an enabling environment is

created

Financing the Transformation of Bangladesh Garments Industry

IntroductionThe phenomenal growth, over the last few decades, has

inspired the Bangladesh Readymade Garments (RMG) industry to set its export target at USD 50 billion by the end

of the year 2021.

In the backdrop of pronounced skepticism of some quarters, the wise thing would be to eliminate the existing

roadblocks, and thereby facilitate the smoothening process towards attaining the target.

To achieve a target of this magnitude in only seven years, will require a steady growth of around 11% in export income every year.

Bangladesh exported readymade garments worth US $24.5b during the last financial year. A growth of 11% in one year means an average of US $3.75b year on year growth.

2014 2015 2016 2017 2018 2019 2020 2021

24.5b 27.2b 30.2b 33.5b 37.2b41.3b45.8b50.9b

"We consider Bangladesh free from major macroeconomic imbalance despite several fiscal constraints, a low income economy

and heavy development needs."Standard and Poor (S&P)

FINANCING STRATEGY

What is urgentvs.

What is important

A two-stage strategy is proposed to finance the RMG sector of the country

Identify

Remove bottlenecks in our path to reform the RMG

industry

Stage 1 Strategy

A domestically led targeted financing initiative, aided by development partners, aimed at fostering sustainable growth in the RMG sector

Stage 2 Strategy

FINANCING STRATEGY

Urgent NeedsConsolidate the industry

towards self-sufficiency by 2018, so we can take over the

reform work from Alliance and Accord, and keep the

momentum going.

Protect the naturally developed capabilities.

Stage 1 Strategy

Long-term NeedsDiversify and expand to secure a strong footprint in the global market

Promote capabilities to thrive amidst global competition

Stage 2 Strategy

Continued

Strategy:

Expand &

Diversify

Strategy:

Consolidate

Strength

Thrive in Global MarketBy 2025

We are Here2015

Important

Urgent

Attain Self-sufficiencyBy 2018

In the medium term, Bangladesh looks to be the sourcing country of choice

Mckinsey & Company


Stage

1Invest in Realizing Short Term

Strategy


in investment is what the RMG industry needs over five years, to make long-

term improvements needed to effectively support its

reform process and achieve self-sustainability

US $Stage1.Invest in achievingShort Term Goals >1b

www.actiongrouprmg.com - Jul 22, 2013


3 YEAR ACTION-PLAN• State support for factory relocations

• Allow concessional interest rates the during the reform period

• Make local capital market more efficient• Remove obstacles from FC borrowing• Policy amendments to support reform

• Ensure Cotton Price Stability

Meeting Urgent Needs

Soft Loan by JICA

The aim of the fund from Japan International Cooperation Agency (JICA) is to provide financial support to the RMG enterprises for conducting safety assessment of their buildings under the supervision of JICA experts businessnews-bd.com – March 21, 2014

BDT1B VF-IFC to InvestVF teamed up with IFC to provide US

$10 million for financing fire and building safety improvements in the RMG sector. Three RMG units got US $1.3m in fist round of disbursements www.vfc.com

US$10M

RMG remediation finance guidelines developed by AccordAccord has developed a new remediation financing guidance for its members and the local manufacturers, outlining key steps for both sides to make sure remediation is financially feasible.www.thefinancialexpress-bd.com - Mar 9, 2015

Credit Facility by Alliance

The retailers’ platform aims to create a credit facility of US $20-35m, via five local banks, to extend low-cost loans to factories they source from, especially the small and medium enterprises for remediation works.www.dhakatribune.com - Mar 11, 2015

US$35M

Remediation Financing: Developments

http://www.thefinancialexpress-bd.com/

http://www.dhakatribune.com/


Support RMG Village ProjectBGMEA and Orient International Holding Company are jointly spearheading the initiative to setup garments village at Munshigonj.The US $1Bn project is set to accommodate apparel manufacturing units that comply with global factory laws and standards.

This project is set to be completed by the end of the fiscal year 2018.

The infrastructure development will require US $2.3bn.

1

RMG Sector 10-Point Plan | ACTion Group RMG

Hurdles

RMG Clustering Initiative (Continued)

Proposed Measures

http://businessoutlookbd.com – June 3, 2014

• Response from the small factories is not yet satisfactory mainly due to lack of funding, though they are on the top priority regarding allocation of plots in the garment village.

• Many of the entrepreneurs expressed their frustration over high prices of the land, which they have to pay off from their export proceeds.

• Since green buildings save expenses in the long run, the relocated factories should also have the option of being “green”.

• The government should seriously consider a number of ‘state aid’ measures as a kind of economic aid package.

• Invest in providing workers with preferential treatments in the likes of privileges given to EPZ workers.

http://businessoutlookbd.com/

http://businessoutlookbd.com/

3Related infrastructure and utilities

should be funded on a priority basis by the Government, under the Infrastructure Development

Project (coming up later).2

Part of the relocation cost could be initially funded by the Government under special arrangements as loans to the enterprises, at concessional rate, and adjusted gradually from the export proceeds. The rest can be paid off using the funds brought in by Alliance-Accord projects.

1GoB should Involve Alliance-

Accord in project assessment and viability study as well as

involve them in the development process.

Proposed Relocation Financing Roadmap

Continued

Everyone has the right to life, the right to work, to free choice of

employment, to just and favorable conditions of work.”

Universal Declaration on Human Rights


Concessional Interest Rates during ReformsFunds from local banks will also be required for the reform. The interest rate should be concessional under a special discount facility of Bangladesh Bank. The money allocated in the budget may partly be used to finance the discount operation.

The project should be brought under a ‘Refinance Scheme’ framework, aided by IFC/GIZ, or any other similar organization. . Banks/Fis are to extend the fund to their clients at Bank rate +5% interest.

2


Remove Financing Difficulties in the

Domestic Market and Tapping

International Capital Markets

3

Inefficient Domestic Financial Market

• The spread in the overall Bangladesh banking system is at around 5%, which is certainly high.

• The recent decline in deposit rates have not been fully passed on to the borrowers in terms of lower lending rates, allowing banks to pass on their inherent inefficiencies to the depositors and borrowers.

• Foreign commercial banks are taking advantage of this situation by charging even higher spread and making greater profits in the domestic market.

www.thefinancialexpress-bd.com - Feb 1, 2015

Although it is true that government is safeguarding RMG sector from this high spread through waivers/discounted

loans, These inefficiencies lurking in the dark will eventually catch up and hamper its progress.

http://www.thefinancialexpress-bd.com/


We should open up more to FC BorrowingBangladesh cannot allow itself to remain disconnected from the international capital market.

It has been found that recent modest liberalization of private sector foreign currency-denominated borrowing has contributed to lowering of domestic interest rate structures, which bodes well for the country’s economy.

4

Exchange rate fluctuations

Borrowing from off-shore banking units

Companies, which are not export-oriented, do not earn in foreign currency. Unfavorable exchange rate fluctuations may lead to losses in local currency, when servicing their FC denominated loans.

Companies borrowing from off-shore banking units of local banks are at risk of facing significant losses, as banks sometimes cannot continue FX financing and switch to higher cost local financing.

Difficulties: External Borrowing

Lengthy procedure of loan approvalThe loan application and approval process takes considerable time, particularly in state-owned banks, which acts as hindrance for some companies which require financing urgently.

An Analysis of Private Commercial Borrowing from Foreign Sources in Bangladesh – Bangladesh Bank


Policy Amendments to Support Industry

Reform

5

US Tariff Reform

Bangladesh pays 15.6% duty on RMG exports to the US market, which is almost twice that paid by Vietnam, and roughly five times that by China and India.

Reducing this rate, or diverting some of the excess tariff raised to support a major fund to finance improvements in the RMG industry, as proposed by the Bangladesh Bank’s chief economist, will benefit all stakeholders.

Buyers, factory owners, consumers, and most of all, workers will gain from supporting such tariff reforms.

Policy Amendments: USA

A better solution | The Bangladesh Chronicle - May 1, 2014


Protect against Cotton Price SwingsWith an aim to protect RMG sector from frequent swings in global cotton prices and availability, GoB should make an intervention in the market to ensure fixed price for cotton. This could be achieved by: • Creating buffer stocks for cotton• setting a fixed price for cotton

imports• Allowing importers in modern

financial instruments, e.g.: hedging mechanism

6

"Bangladesh shows us that even in circumstances that seem the most

hopeless there are ways forward if the right strategies are applied, and if the

right combination of investments is made" Jeffrey Sachs, Earth Institute, Columbia University


Stage

2Invest in Realizing Long Term

Strategy


in investment is what the RMG industry needs, over

ten years, to make the long-term improvements needed

to effectively build on its large export base and sustain future growth

Stage2.Invest in AchievingLong Term Goals

US $

1b

NY Firm to Invest

Tau Investment Management, a New York-based investment firm is planning to invest a significant portion of its US $1.0 billion global fund in the Bangladesh RMG sector.www.dhakatribune.com - May 6, 2014

us$200M IDA-WB to InvestThe World Bank is set to extend long-

term low-cost loans to private sector firms, including those from garments, footwear and light engineering sectors, in a bid to brighten the country's stagnant investment scenario.www.thedailystar.net - May 28, 2015

US$300M

Development Financing:Recent Initiatives

http://www.dhakatribune.com/

http://www.thedailystar.net/


Government Initiativesthe degree of facilities being extended by the government

are simply outstanding and probably not to be found anywhere in the close vicinity. These include:

• Tax holiday for five years• Exceptionally low-cost power• Cash Incentives on RMG exports

• Waiver on some service charges and collections• RMG clustering through Garments Village

• BB, BGMEA give RMG workers soft housing Loans

businessoutlookbd.com, www.thefinancialexpress-bd.com, http://www.unb.com.bd/


10 YEAR ACTION-PLAN• Invest in Backward Linkage Financing Project• Targeted investment initiatives towards SME

growth and stronger financial integration• Find avenues for venture capital investments• Review and update policy for FDI in RMG sector• Product/Market/Geographical Diversifications

Fulfilling Long-term Goals


The Government of Bangladesh (GoB) can invest in debt financing through private sector financial intermediaries

for eligible, government-endorsed RMG backward linkage development projects, to be undertaken by the private

sector.

Invest in RMG Infrastructure &Backward Linkage Financing Project

1


For this purpose, GoB can request development partners like the IFC to fund a RMG Sector Transformation Fund, at

concessional interest rates, that can be accessed by the BGMEA and BKMEA members.

This could follow the same structure as the Investment Promotion and Financing Facility (IPFF) Project, administered

by Bangladesh Bank for lending in the Energy sector.

Invest in RMG Infrastructure &Backward Linkage Financing Project

GoB & Development

Partners

Bangladesh Bank Project

WingParticipating

FIs

Private Investors

PPP Backward Linkage Projects

Facility Loans

Facility + FI Loans

Project + FI Loans + Investor Equity

Facility Loans

Project Promoter

Equity

Fund Flow ExampleThe project will provide loans to PFI upon request from Private

Investors through Bangladesh Bank

Development Partners

Participating FIs Offshore

UnitPrivate

Investors

PPP Backward Linkage Projects

Facility Loans Facility + FI Loans

Project + FI Loans + Investor Equity

Project Promoter

Equity

Alternate Fund Flow ExampleThe project will provide loans to directly to PFI offshore units upon

request from Private Investors , bypassing Bangladesh Bank


The Governor of Bangladesh Bank is very keen that commercial banks spearhead the drive to utilize the IPFF

for the RMG Sector.

The Government is in talks regarding setting up US$ sovereign fund for the country’s growth. Part of the fund

can be used for developing RMG backward linkages.

Reallocate IPFF Funds for Investment in the RMG

Sector

Alternatively,


A Renewed Focus on SMEDevelopment of SMEs is envisaged as a key element in the RMG sector development strategy. To achieve and sustain a US $ 50b RMG industry, development of the SME sector is important.

2

“In my experience, poor people are the world's greatest entrepreneurs. Every day,

they must innovate in order to survive. They remain poor because they do not have the opportunities to turn their creativity into

sustainable income.”Nobel Laureate Dr. Muhammad Yunus

Collateral Based Lending

One of the main factors that have hampered flow of institutional finance into small and medium enterprises is banks' pre-occupation with collateral based lending.

Financing Difficulties SME Owners Face

Fiscal Policy Fiscal policy in Bangladesh is not particularly tailored to providing support to SMEs, and, in many cases, it discriminates against them. The system of tax holiday is not available to sole proprietorships and partnerships, which is the major form of SMEs in Bangladesh.

Non-pecuniary Problems

These include long waiting periods for getting initial finance from banks, due to tedious paperwork and inexperience in preparing financial statements, high interest rate, etc.

High Interest Rate

A number of studies have revealed that small and medium entrepreneurs pay high interest rates on loans compared to the large entrepreneurs.

SolutionExport credit guarantee scheme can be used as a substitute for collateral

Strategy for Development of SME in Bangladesh - Bangladesh Institute of Development Studies

Database for Targeted Credit

One aspect of strengthening targeted financing of SMEs in which little progress has been made is the creation of a database, which will help assess the relative growth potential of such enterprises, based on utilization of credit disbursed.

Other Measures

Worker Welfare Fund

The buyers can contribute a certain percentage of FOB, as part of CSR, and, at the same time, the suppliers may match the amount to set up a trust/provident/pension fund for ensuring a better future for the workers. This will also help reduce high turnover of workers in this sector.

Tailor-made SME Loan Products

The financial institutions will be required to develop loan products that relate better to specific types of credit needed by the SMEs.Financing plan should include provision of subsidized credit to clusters, as well as disadvantaged groups with close monitoring.

Inclusion in RMG Village

SME-RMG factories should receive highest priorities when it comes to plot allocation in the ongoing RMG relocation project in Munshigonj. Preferential treatment can be given in the form of low-cost loans.

Strategy for Development of SME in Bangladesh - Bangladesh Institute of Development Studies


Venture capital financing for SMEsVenture capital financing with associated business support services can play a vital role in meeting the needs of SMEs in Bangladesh.

The sources of financing are mostly from friends and family members , which have limited impact.

On the other hand, the venture capitalist will be committed to financing emerging and potential SMEs, at different stages ,including their continued expansion and growth.

3

Lack of Security

New businesses generally do not have property, equipment or collateral to secure the investment.

Difficulties Venture Capitalists Face

Communication Gap

Lastly, there is still an existing communication gap between Venture Capitalists and entrepreneurs, which needs to be effectively bridged.

Structural Deficiency

The structure of the financial system and quality of auditors are potential problems.

Absence of Regulations

There is currently no regulation that secures the investment of Venture Capital firms. We have been told that the BSEC is currently drafting the rules.

SolutionCommercial banks can set up ‘Venture Capital Wing’ to attract entrepreneurs and connect them with Venture Capitalists.

lightcastlebd.com - May 30, 2014


Upscale to the Premium Market

Our export of RMG products to the developed countries mostly comprise low-end items and export of high value items is very limited.

Export of mid-value items like, suits, blazers, ties, synthetic and polyester dresses is also not very encouraging, which suggests that the export market needs to be diversified for its greater prosperity.

4


Invest in developing Competitive

Advantage in the Premium/Specialize

d SegmentEntry of foreign investors entry in new areas of

production, and export of high-end RMG products, is likely to benefit both the investors and

Bangladesh, which is yet to make any mark in this particular area of the global market.


To What Extent Should we allow

FDI in RMG Sector?

Pressing Issue

There is no denying the areas that the local apparel sector leaders have identified, have high business potential. By setting up state-of-the-art fabric manufacturing units here, foreign investors can

help the local manufacturers avoid import related hassles.

FDI should only be allowed in niche sectors, producing specialized items and high-value products, that can transfer

knowledge and technology to our local industry.

The Government should develop a policy framework in this regard to safeguard the local entrepreneurs.

Bangladesh is one of the hottest emerging market having the

potential of attracting increased foreign investment.

Investor Chronicle, a UK based research organization


Invest in Market DiversificationsBangladesh is starting to diversify its export destinations in order to reduce its dependency on US & EU. The duty-free and preferential market access offered by countries like India, China, Korea and Malaysia have helped with the process.

GoB is giving cash incentive for exporting of RMG products to all countries except EU, USA and Canada, with an aim to encourage exporters to explore new markets. GoB should also think of enhancing diplomatic cooperation with those countries for this purpose.

5

7 Strategy for Export Diversification, Policy Research Institute of Bangladesh

The Next Eleven (N-11) are eleven countries among which Bangladesh has a

high potential of becoming one of the world's largest economies along with BRICS.

Goldman Sachs research report


We Need Initiatives From All Fronts

Governments Financial

Institutions

Buyers

Development

Partners


ConclusionWe cannot afford to let the success of our RMG

industry, which we have built brick by brick with our commitment and years of hard work, fade away.

We firmly believe that with the support of allStakeholders - leaders, governments, buyers,

development partners and the financial institutions, we will be able to rise above all the challenges and

ensure a safer and sustainable RMG industry in Bangladesh.

Thank you

Economy & Finance

Transformation Challenges and Opportunities for Bangladesh Garments Industry