Entrepreneurial Finance in Africa: An In-depth Look

ne of the ways that Africa is evolving into a true emerging market is that it is rapidly becoming a global focal point for entrepreneurial finance. In recent years, growth has been staggering.

In 2021, African startups raised $5.2 billion in equity funding versus $1.43 billion in 2020—a 264% increase. By 2025, venture capital investment in Africa is projected to exceed $10 billion. Why? Part of the increasing attractiveness of Africa as a destination for startup capital is the relative youth of its population and the consequent dynamism of its consumer markets.

Investors are aware that the median age in Africa is only 19.7 versus 38.3 in America and 43.9 in Europe. The lifetime value of young populations is great as they are far more predisposed to buy the new products made by entrepreneurs. Consumer demand, particularly amongst a rising middle class, is growing rapidly across the continent.

Africa is the fastest growing continent in the world with countries like Ghana projected to grow at a 6.3% rate in 2022 and 4.7% in 2023; Kenya—6.0% in 2022 and 5.7% in 2023; Democratic Republic of Congo—5.6% in 2022 and 6.6% in 2023; Mozambique—5.3% in 2022 and 12.6% in 2023; and Egypt—5.2% in 2022 and 5.6% in 2023.

The attractiveness of the continent is also validated by a number of recent landmark strategic technology investments. In April, Google announced that it will be opening its first ever Africa product development center in Nairobi where it will be hiring engineers, product managers, UX designers and researchers after opening an Artificial Intelligence Lab in Accra, Ghana in 2019. The company indicated that it was motivated to make these investments by the reality that a third of the world’s youth population will be in Africa by the end of the decade. Twitter has also announced plans to establish a regional headquarters in Ghana.

The growing emphasis on high technology in Ghana is part of President Nana Addo Dankwa Akufo-Addo’s plan to make value-added manufacturing an intrinsic part of the Ghanaian economy in everything from chocolate to information technology. 

Most importantly, entrepreneurial finance is growing in Africa because innovation often flows from necessity and the continent has many needs. Poverty, food security, health care, housing, energy, sanitation and the imperative to mitigate the impact of climate change which is poised to hit the continent hard are all significant challenges that require entrepreneurial innovation. Africa’s entrepreneurs will need capital and expertise to launch and sustain their new ventures.

The character of VC investment in Africa

It should be acknowledged that Africa still receives by far the lowest amount of venture capital investment in the world and there is a high degree of geographic concentration in the pattern of investment in Africa as 5 countries—Egypt, Ghana, Kenya, Nigeria and South Africa—receive the vast majority of capital. 

Unexpectedly, Nigeria and Kenya actually exceed South Africa in venture capital investment which may speak to the quality of the business environment in the latter.

These are all countries in which English is widely spoken, which facilitates interaction with foreign investors. In addition, 4 of these countries were colonized by Britain which has created financial, economic and social ties between them and global investors through the UK. Indeed, North America and Europe collectively accounted for 2/3rds of the VC deals in Africa from 2014 to 2019 while Africa itself only accounted for 20% of deals.

                                                              Share of investors participating in VC deals in Africa by region, 2014-2019

It is important to note that between 2014 and 2019, 65% of venture capital investments in Africa were relatively small deals of less than $5 million:

                                                                      Share of VC deals in Africa by volume, by deal size range, 2014-2019

This is in marked contrast to the United States where venture capital deals under $5 million constitute only 10% of all venture capital transactions.

Fundamentally, it is important to realize that the recent growth in startups has not emerged from a vacuum but rather is built upon a tech infrastructure that Africans have been developing for years. Governments, academic institutions and private sector actors have established myriad accelerators and tech hubs to promote entrepreneurship across the continent:

These tech hubs have had a catalytic impact on entrepreneurship and innovation in Africa. For example, iHub in Kenya has accounted for the founding of over 150 companies that have been incubated through its services. Consequently, the Kenyan government committed to develop technology incubation hubs in all 47 counties of the nation to spur technological innovation.

The challenges of entrepreneurial finance in Africa

Entrepreneurial finance in Africa is not unlike the situation in America in that a persistent challenge is discrimination. In countries such as Ghana, Kenya, and Uganda, expat founders have consistently received more funding from foreign investors than locals do, particularly in regards to investments over $1 million which is a non-trivial sum in Africa:

According to the UK’s Guardian newspaper, of the top 10 African-based startups that received the most venture capital in 2019, 8 were led by foreigners. The problem is especially acute in East Africa where according to a June 2017 Village Capital study, more than 90% of funding for startups went to expatriate founders which correlates with the fact that most early-stage investors in East Africa are themselves expatriates. 

It is evident that the African continent’s dependence on foreign capital—only 20% of venture capital investment is indigenous—is hurting it. Senegalese technologist Marieme Jamme has gone so far as to accuse foreigners of bringing an exploitative and neo-colonial mentality to the African entrepreneurial scene. 

According to Ms. Jamme: “Many Africans have had their intellectual property stolen so they don’t own their ideas or their companies.” The fact that the majority of founders in South Africa and Nigeria who receive over a million dollars in funding are local does indicate that this challenge can be overcome.

A structural challenge that African entrepreneurs face is the lack of support from domestic capital markets. Venture capitalists traditionally receive the money for their funds from pension funds, insurance funds, sovereign wealth funds and the like. In Africa, these are valued at over $1 trillion dollars but little of this is being invested to finance African entrepreneurs. 

Iyinolowa Aboyeji, a successful serial Nigerian entrepreneur who co-founded Andela and Flutterwave, has admonished local banks and pension funds for their conservatism and failure to embrace venture capital. This suggests a need for national or regional policies to incentivize the allocation of domestic capital whether it be from public or private sources to support entrepreneurial finance.

A critical problem in the African entrepreneurship ecosystem is the “missing middle”—the lack of financing beyond the earliest stages of a firm’s growth. To survive and expand into national, regional and global markets, African startups need access to the Series B and Series C funding rounds that allow entrepreneurs in the US to consolidate their market position and refine their business models.

Legal, regulatory and infrastructure issues are another challenge that African entrepreneurs face as they strive to build strong companies. Unfriendly business regulations, corruption and poor infrastructure are major concerns. In particular, information technology companies depend upon an “invisible infrastructure” of reliable power to support the myriad devices that power the sophisticated machinery intrinsic to the ICT value chain. Yet, the imperative to innovate to overcome infrastructure challenges has also created opportunities for entrepreneurs as companies like Kenya’s Sanergy have found creative ways to deal with issues such as poor sanitation in informal urban settlements. Innovative solutions like this must be allowed to thrive. 

What is the best way to invest in African Startups?

What is the best way to invest in entrepreneurship and innovation in Africa? The provision of consistent, reliable energy is a major priority for Africans as millions of people across the enormous continent do not have access to electricity and energy demand from industry is also growing as economic development proceeds apace. 

Given those needs and the tremendous amount of sunshine the African continent receives, off-grid solar projects are a major investment opportunity in Africa. Indeed, Africa is the leading global destination for off-grid solar investment and over $200 million in financing was allocated to energy sector startups in 2020. But it is fintech that is attracting the most attention from venture capitalists.

Two-thirds of Africans are unbanked and there is an opportunity for them to leapfrog stagnant legacy technologies to immediately leverage the mobile telephony, artificial intelligence and big data technologies that are at the core of modern, digital financial services. 

An example of global interest in Africa’s fintech sector is OPay, a mobile payments platform in Nigeria—a country where 55% of the people do not have a formal bank account--that attracted a whopping $400 million as part of a funding round led by Softbank Vision Fund 2 and other Chinese investors including DragonBall Capital, Sequoia Capital China, Source Code Capital, Redpoint China and 3W Capital. The company is valued at well over $2 billion. OPay’s CEO Olu Akanmu noted in a February 2022 interview that:

“Digital technology, combined with mobility, radically lowers transaction costs in financial services and makes markets more efficient. For Africa in particular, with the large problem of social and commercial exclusion and large informality, digital technology riding on mobile telecom infrastructure unlocks the potentials of excluded markets with innovative business models, enabling us to create businesses that truly combine profits with purpose.”

The aforementioned structural bottlenecks in Africa’s capital markets and banking systems have created opportunities for aspiring entrepreneurs by presenting them with problems that consumers and businesses will gladly pay to have solved. This is why some of the most successful startups in Africa are in the fintech sector and they are developing a digital-centric financial infrastructure.

Due to the structural and cultural bottlenecks in Africa’s capital markets, alternative models of entrepreneurial finance must be pursued. Researchers at the Global Accelerator Learning Initiative have found that startups in emerging markets tend to raise more debt instead of equity. 

The reason for this is that the limited merger and acquisition activity within these markets makes venture debt a more appropriate form of investment for early stage ventures. This is not necessarily a bad thing as provided that the debt is not excessive, it can incentivize financial discipline and a focus on activities and markets that immediately generate revenue so as to pay down the debt. That is in marked contrast to the “fake it to you make it” or “customers before profits” mentality that has driven many a Silicon Valley venture to ruin. Modest venture debt that is tied to revenue streams may be a partial solution to the need for seed capital in Africa.

INVESTORS IN AFRICAN STARTUPS

Who is actually willing to invest in African startups? There are a variety of actors who are leading the way in investing in entrepreneurship and innovation across the continent. For example, Partech Partners which is based in Senegal has been investing in African startups since 1982 and manages a fund of $1.5 billion dollars. Its focus is on equity, early stage and Series A deals. 

Brits Steve Beck and Andrew Carruthers established Novastar Ventures in 2014 in Nairobi, Kenya. They have raised over $200 million and invested in 20 African startups. TLcom Capital, which has offices in Lagos, Nigeria and Nairobi, Kenya recently raised $150 million for a second fund to invest in 20 African startups. Its first fund was a $70 million one and took only three and a half years between late 2017 and mid-2021 to deploy. 

Its average investment size is around $6 million and it focuses on fintech, e-commerce, healthcare, education and agriculture. The startups from its original fund were all based in either Nigeria or Kenya but its new fund will expand to invest in Egypt as well as regional markets in East and West Africa. 

This indicates that the firm is not myopic in its perspective and is willing to go where the opportunities are on the continent. Moreover, it should be noted that Silicon Valley firms are also beginning to make investments in Africa as is reflected in these portfolios:

Entrepreneurial finance is going global and Africa is a part of this growing trend. Once an afterthought in the global economy, Africans are developing their own ecosystems of entrepreneurship and innovation and investor interest is rising. 

To be sure there are challenges but ironically those challenges make startups even more important because young, dynamic companies disrupt the status quo and apply the new technologies and innovative business models that are so essential to African prosperity. Yet, entrepreneurial finance must adapt itself to the needs and realities of the African context where capital markets are underdeveloped and infrastructure is lacking. 

Fortunately, Africans do not lack entrepreneurial drive but they especially need to focus on domestic capital formation and intellectual property protection to support the continent’s entrepreneurs and ensure that the relationship between African startups and investors is mutually beneficial and not parasitic.

‍