This article originally appeared as a blog post by Virginia Community Capital.
In 2016, Fahe, a regional Network, financial intermediary, and CDFI, received $50 million in loan awards from the USDA Community Facilities Relending Program to pursue its mission: ending persistent poverty in Appalachia. Among its numerous initiatives, Fahe sought to build several community facilities, including daycare and opioid-addiction rehabilitation centers.
However, a key barrier hindering the deployment of the USDA’s Community Facilities capital is not being able to use awards for construction projects. Borrowers must find other sources of construction financing, complete the project, and only then tap into the government’s long-term loans.
The timing was also sensitive, as these USDA funds must be drawn by September 30, 2021. Fahe needed construction money, and it turned to Virginia Community Capital to accomplish its goals.
VCC then turned to another partner: the Mary Reynolds Babcock Foundation, a nonprofit with a mission to lift Southerners out of poverty.
To fulfill its vision, the Winston-Salem, North Carolina-based Babcock Foundation uses impact investments as part of its toolkit.
Investments from the Babcock Foundation usually come in the form of below-market program-related investments (PRIs). The organization deploys these PRIs to nonprofit community development financial institutions, including VCC, to expand economic opportunity in the communities it serves.
The Babcock Foundation has an established relationship with VCC through an FDIC-insured deposit. The foundation also holds a local investment opportunity note, which targets community improvements in Southwest Virginia, part of the Appalachian region where Babcock supports economic transition.
Earlier this year, the opportunity arose to partner with VCC on a unique investment:- a participation loan to Fahe. Fahe is another Babcock Foundation PRI and grantee partner, that has invested nearly $900 million into Appalachia to eliminate persistent poverty since 1980.
VCC Bank had underwritten the $3 million loan to Fahe, to cover construction costs that the USDA loan could not.
To reduce the interest rate Fahe would pay, VCC Bank asked Babcock to contribute $1 million toward the total, requiring VCC to put forward only $2 million. The result – a blended interest rate of 3.83% for Fahe, lower than VCC’s typical rate for this type of loan.
When approached by VCC, Babcock staff was willing to listen and learn and share the partnership opportunity with its investment committee. The foundation’s leaders were intrigued by the chance to meet a specific need and help make financing more affordable to one of its longstanding grantee partners.
“We have had a relationship with the Babcock team for years and knew they were pretty innovative in how they approach their investment strategies,” says Caroline Nowery, Director of Community Investments at VCC. “We had been talking about ways to do that, and then this opportunity came up.”
For Babcock, the ask from VCC was substantial. The foundation’s entire allocation for PRIs is $10 million. “So $1 million is a significant amount for us,” says Jennifer Barksdale, the Babcock Foundation’s senior finance officer. “We’d never done a participation loan before, so it took us a minute to make sure we understood and knew what we were getting into. Once we got into the details with VCC, a team we trust, we realized this participation loan was actually less risky than some of our direct loans.”
VCC had already performed its due diligence on the Fahe loan, which Babcock would have to perform on its own (though Babcock’s existing relationships with both the bank and the nonprofit meant they weren’t starting from scratch). The participation loan has also turned out to be easier to manage than a direct loan for Babcock, as VCC handles all the back-office work. “This is a great example of how a financial institution and a foundation can come together to address a specific need,” Barksdale says.
Fahe’s loan ties into the Babcock Foundation’s management of a grant pool for the Uplift America Partnership, a collaboration of government, philanthropic and finance organizations to address poverty in rural America by directing capital toward needed community services and strengthening community-based lenders.
Fahe had received a $1.34 million grant from Uplift in addition to the $50 million loan award from the USDA.
The inability to draw USDA funds for construction is an issue that weighs heavily on the minds of Babcock staff, so the participation loan provided Fahe a bridge to USDA funds — and a compelling hook for investment committee approval.
As approved, the $3 million line of credit from VCC and Babcock Foundation provides Fahe with the short-term construction financing they required. “Our loan gave Fahe a flexible line of credit, and while it is a large amount, it’s a short-term loan that doesn’t tie up funds for a long period of time,” Barksdale says. “It just made overwhelming sense to us to meet a problem head-on with a fairly straightforward solution.”
The participation loan is the first of its kind for VCC, too. “With a participation loan,” VCC’s Nowery says, “everyone benefits both financially and socially by putting money to work in the communities we care about. A participation loan shows how innovative partnerships can play a critical role in advancing these vital community development projects,” she adds. “This is new, and Mary Reynolds Babcock is truly a pioneer in this type of work.”
She notes that while foundation investment committees will look at each participation loan opportunity differently, one of the deciding factors in all of them is the potential to leverage existing funds and open up new opportunities for each organization involved.
“In the case of the Fahe loan,” she says, “everything aligned for all three organizations.”