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Chasing Outliers: Why Context Matters for Early Stage Investing in Africa

It feels like a logical flow to talk about how investing in Africa is different from investing in America. What are some of these differences?

Chasing Outliers: Why Context Matters for Early Stage Investing in Africa explores what drives outcomes for early-stage startups and investors in Africa.

 

African market characteristics. African markets are large, but also fragmented. They comprise consumers with limited purchasing power who are likely to be utility- and price-sensitive. Additionally, these consumers are difficult and expensive to acquire and retain, because they don’t tolerate fully digital modes of distribution.

Returns potential. Silicon Valley VC, which is designed to support high-growth companies, requires outsized returns that African markets can’t necessarily provide at the same scale due to the market dynamics described above. Yet founders and investors seek strong growth, and returns can still be compelling.

Capital availability. As noted above, funding hypergrowth companies requires a lot of capital, particularly when the costs of building infrastructure and navigating external conditions are considered. Capital in Africa is scarce, however. Because of this, pursuing a “growth at all costs” strategy where capital pools are shallow can endanger companies.

Deal-flow availability. To the extent that a “spray and pray” strategy characterizes the volume of opportunities required to find unicorns, deal flow scarcity can make them harder to find. Investors who hold unrealistically high returns expectations, crowd into deals Executive Summary There are multiple mismatches between key characteristics of Silicon Valley VC and African markets. 11 Chasing Outliers: Why Context Matters for Early-Stage Investing in Africa that meet those expectations, or focus on specific sectors may reduce their deal flows.

Fund structures. African startups take a long time to generate returns due in no small part to challenging market conditions. As a result, general partners (GPs) may benefit from flexibly structured funds that limited partners (LPs) are unlikely to support without strong business cases and compelling results.

 

Because of these incongruencies, startups and funds have adjusted their operating models to better align with market realities. More specifically, startups have done this by tackling problems in foundational sectors such as agriculture, building infrastructure, pursuing mass markets, and leveraging their local knowledge and presence.

Tackling big problems. Africa-focused founders are often trying to solve large, foundational problems that could improve the lives of countless people. In many cases, this means that they are motivated not only to stimulate economic development, but to use technology to increase value creation for agricultural producers, improve education, and create access to finance, health services, and jobs.

Building infrastructure. To deliver a product or service, a venture often has to build the infrastructure or fix the supply chains required to do so. As well, sometimes, a company may also set out to fix one element of a supply chain, such as providing affordable internet service, only to realize that it also has to build towers and generate power.

Pursuing mass markets. In the African context, small and fragmented markets, poor and difficult-to-reach consumers, and hefty infrastructure costs all constrain returns. Serving the majority of African consumers represents a massive opportunity under certain conditions, however: Although African consumers have limited purchasing power, they are numerous. Consequently, startups can build robust businesses that are based on high volumes, small margins, and lean operations.

Leveraging local presence and knowledge. Nuances in consumer behavior, cultural norms, and business practices affect how startups operate. As a result, it’s critically important for founders to live where their businesses are based and to truly understand the environment.

 

The text above is an excerpt from the new report “Chasing Outliers: Why Context Matters for Early-Stage Investing in Africa”. This document is an excellent way to see how VC firms are responding to the contextual differences in the African market.

Download the full document here.