Authors: Blaise Bayuo, Roxanne Bamford, Belinda Baah, Judith Mwaya, Chizi Gakuo, Sophie Tholstrup
Affiliated Organization: Tony Blair Institute for Global Change (Institute Global)
Type of publication: Report
Date of publication: February 15th, 2022
Africa has the potential to become a startup superpower in the tech sector. Home to the world’s largest free-trade area and a vibrant entrepreneurial culture, the continent saw 22 per cent of Africa’s working-age population start new businesses before the pandemic. People in Africa have shown a willingness to embrace the use of technology, for example bypassing landlines to adopt mobile phones or embracing e-banking and mobile money in place of traditional banking. Funding for tech startups on the continent is growing at an impressive rate – six times faster than the global average – and a record $4.9 billion was raised in 2021, the amount more than tripling in one year. But this is still a fraction of the total: African startups account for just 0.2 per cent of the $3.8 trillion value globally. Cumbersome regulations, the digital-skills gaps, limited funding and highly fragmented markets continue to hold Africa’s startups back.
Why African Countries Need Thriving Tech Ecosystems
The case for action is clear: the digital economy is a critical lever of economic and social development for African nations, enabling governments to improve public services and achieve the United Nations’ Sustainable Development Goals quicker.
Tech ecosystems drive economic growth. The digital economy will contribute an estimated $300 billion to African GDP by 2025, providing much-needed employment on a continent where three to four times more people enter the job market than actual roles are created. In Nigeria, the technology sector contributed more to the country’s GDP than the oil and gas sector between 2010 and 2019. Meanwhile, Kenya’s information and communications technology (ICT) sector was on course to contribute up to 8 per cent of the country’s GDP through IT-enabled services, also generating up to 250,000 jobs by the end of 2021.
Africa has the potential to become a startup superpower in the tech sector. Home to the world’s largest free-trade area and a vibrant entrepreneurial culture, the continent saw 22 per cent of Africa’s working-age population start new businesses before the pandemic
To fully benefit from the tech revolution, African nations must be creators, not just users of tech. Vibrant tech ecosystems will put the continent on the path to digital sovereignty: this means creating the technology and setting the rules that will shape the continent’s future, while proactively driving the fourth industrial revolution. Expanding Africa’s capacity to innovate as well as its ability to retain world-class tech talent will ensure the continent is the master of its own digital destiny.
Technology significantly increases living standards for all. From transforming the delivery of education and health care to improving food production and protecting people from worsening climate crises, tech innovations can forge solutions to longstanding challenges. And the closer tech creators are to the challenges they address, the more effective they are likely to be. Innovation for Africa should be driven by its own homegrown innovators, and we should also see and champion more Africa-led solutions to global challenges.
To fully benefit from the tech revolution, African nations must be creators, not just users of tech. Vibrant tech ecosystems will put the continent on the path to digital sovereignty: this means creating the technology and setting the rules that will shape the continent’s future, while proactively driving the fourth industrial revolution
A thriving tech sector can boost post-pandemic recovery. Africa has experienced an unprecedented economic shock as a result of the Covid-19 pandemic. While African governments and regional bodies face a daunting task in facilitating recovery, new growth sectors will be crucial to swift economic development and job creation. African governments need to rapidly identify and deploy a digital economic policy to open up and connect markets, and to generate opportunities for their burgeoning youth populations.
Swift Action on Funding, the Business Environment and Networks
Far-reaching policies at the national and regional levels are needed so that African startups can reach their potential. For this to happen, they need access to funding at every stage of their growth, markets that generate demand for their solutions, institutions that help to bring down costs and strong support networks. Falling broadly under three main challenges that require action and are described below, we also set out ten policy recommendations in the chapters to come.
First, tech startups face funding and liquidity challenges throughout their lifecycles. The average amount for African startup seed rounds is $1.5 million, versus $4.6 million and $5.7 million in India and Latin America respectively. Investors are deterred by the lack of information, perceived risks and a shortage of suitable financing vehicles. To close this funding gap, policy measures that unlock local financing, diversify investor profiles and facilitate global funding inflows will be required.
Second, next-generation tech startups need an agile and responsive business environment so that the costs of starting and scaling tech solutions across the continent can be reduced. Africa’s Ease of Doing Business ranking, according to the World Bank, is well below the global average (a score of 51.8 for sub-Saharan Africa versus 78.4 for high-income countries), with the continent facing major infrastructure gaps and a digital-skills deficit that results in high operational costs.
The third challenge arises from the poor networks between startups, and between the private and public sectors. Weak connections within the ecosystem affect the knowledge-sharing and support mechanisms that are so essential to tech startups in overcoming operational and business challenges. Africa’s tech startups would benefit from greater cooperation between founders, tech hubs, universities and the state in order to open up opportunities, overcome the skills shortages, and attract and retain talent.
Close the Funding Gap to Secure Investment of $90 Billion for Tech Startups by 2030
There has been rapid growth in funding for Africa’s tech startups since 2015, as shown in Figure 2, but the gap between the continent and other regions is increasing. For example, Africa attracted just over $1.4 billion in 2020, which more than tripled to $4.9 billion in 2021. Latin America meanwhile secured $4.2 billion in 2020, which more than quadrupled to $19.6 billion in the same period. At the other end of the spectrum, North America attracted $150 billion in 2020, a figure that rose to $330 billion in 2021.
Growth in Africa is skewed towards the “big four” markets of Nigeria, South Africa, Kenya and Egypt, with these countries accounting for 87 per cent of tech-startup funding between 2010 and 2020. The four sectors of fintech, agritech, health tech and energy tech secured approximately 60 per cent of funding deals in 2020. Last year fintech continued to be the leading sector, receiving up to five times more funding than the second-placed sector of health. Lessons on how to attract more investment and innovation to the continent can be learned from the fintech sector so that leaders can make tech an enabler across all economic sectors. Also notable are gender inequalities, with all-male tech-startup founders raising 78 per cent of funding versus just 0.6 per cent for all-female.
The High-Risk Climate
Both real and perceived risks deter investors based outside the continent, including:
Information Asymmetries: There is a positive correlation between the quality of data that investors have access to and the likelihood of investment. Asymmetries (i.e., an imbalance of knowledge between parties) diminish the ability of investors to take decisions, thus weakening how markets are able to function. Information flows across Africa remain a problem for stakeholders seeking to complete due diligence on tech-startup opportunities. Both investors and startups need trusted information on the people, financials, product (technology and services offered, and market coverage) and regulations involved. The absence of official databases in Africa on tech-startup investments adversely affects the regularity and rhythm of investment on the continent.
Volatile exchange rates: In Africa, exchange rates fluctuate significantly, increasing the risks to investors. For tech startups, the price of many components (for example, servers located abroad) are in a foreign currency, partly due to underdeveloped technical and physical infrastructure in the countries of operation. Yet subscription fees and other revenue channels remain in local and national currencies. Risk-mitigation tools to address fluctuation are often cost-prohibitive and inaccessible, so unpredictable exchange-rate movements affect the bottom line of startups and their potential to grow and scale, which in turn puts off investors. In Nigeria, back in 2015, iROKOTV introduced an annual NGN3,000 ($18) subscription plan for audiences but two years later, this fee had more than halved in dollar value due to currency depreciation, resulting in the company scaling back its Africa operations in 2020.
Limited sources of investment: The African investment landscape is not diversified. Between 2014 and 2020, 57 per cent of investment came from VC and private-equity investors while just 1 per cent came from institutional investors and 10 per cent from corporates. Local funding in tech startups was sparse, with only 22 per cent of investors participating in VC deals of African origins, compared to close to 40 per cent from North America. In the current landscape, startups are missing out on the funding but also the knowledge and expertise that institutional and corporate investors bring to an investment landscape. Limited investment flows originating from within Africa results in tech gains being siphoned away from the continent, and not enough reinvestment returning to the ecosystem.
Lack of engagement among institutional investors: Different investors are needed by startups throughout the pre-seed, seed, growth and mature stages of their lifecycles. Institutional investors play a crucial role in providing finance at the growth and expansion stages during which startups seek to scale up and expand to new markets, moving into high-growth phases. The three major institutional investors – pension funds, sovereign-wealth funds and insurance companies – hold $1.8 trillion assets in Africa. However, sovereign-wealth funds, for example, only contributed $50 million – equivalent to 1 per cent – to tech startups between 2014 and 2020. Globally, the funding landscape is experiencing much more diversification of investment sources, with institutional investors playing a far larger role than in Africa.
Three factors explain this hesitancy. First, in most African countries, institutional investors such as pension funds can only invest 10 per cent of assets under management into private equity, with actual allocations often far lower. Second, these investors are often unfamiliar with tech and tech startups as an asset class. Finally, most institutional investors favour both low risk and return on investment, which are not typically offered by tech startups.
Limited corporate VC activity: Corporate venture capital (CVC) – when large corporations invest in innovative startups – is an integral part of any tech ecosystem, providing growth financing and serving as a launchpad for startups. Globally, the share of CVC funding for startups generally has risen significantly of late, reaching $73.1 billion in 2020, an increase of 24 per cent on 2019. In Africa, however, the share of CVC participation in VC deals between 2014 and 2020 was just 10 per cent. Solutions must be found to unlock CVC, which represents an important potential source of funding; the value of Africa’s top 250 companies increased by 69 per cent last year from $425.5 billion in 2020 to $710.2 billion in 2021.
Unfavourable commercial loans: Financial institutions accounted for just 2 per cent of tech-startup funding between 2014 and 2020. Very high interest rates of between 18 and 25 per cent, in addition to complex application procedures, high-collateral requirements and stringent credit criteria, mean that commercial loans do not tend to be suitable for startups. Furthermore, startups often require more than just finance from their investment partners, with other needs typically including management training and mentorship. These are unlikely to be provided by institutions such as banks in Africa or indeed other parts of the world.
Underdeveloped investment vehicles: Africa suffers from an absence of financing vehicles. While there is potential for more capital to be channelled to startups especially at the early stages, the existing mechanisms are limited. Innovative investment vehicles for smaller ticket sizes (relatively small investments by VCs) at the funding phases of early stage, pre-seed and seed would help to address gaps in funding that other sources may not.
Few exit options: In the African tech ecosystem, exits are seen as the exception, rather than the norm, because of insufficient liquidity events, i.e., an event that allows early investors in a company to cash out some/all of their equity. There are four stock exchanges (South Africa, Morocco, Egypt and Nigeria) in Africa with a market value of more than $30 billion. There are only two African startups that have exited through an initial public offering (IPO): e-commerce platform Jumia was the first, but was listed on the New York Stock Exchange, while Egyptian fintech Fawry went public on African soil.
Recommendations to Close the Funding Gap
Establish a Public Data-Sharing Platform on Tech Startups
Governments should provide a platform on which investors can access reliable information about tech startups to reduce information asymmetries. While individual countries should prioritise building national databases in the short term, these should be harmonised into a regional database as soon as is practical, with clear guidance on national tech-investment laws and regulations to reduce the transaction costs for cross-border activities. Efforts to make information on tech startups publicly available have been launched by VC4A, Partech, The Big Deal, Briter Bridges, Disrupt Africa and others but most – for now – are partial in coverage or available only to paying subscribers.
Governments should establish an innovation fund as a critical investment vehicle to de-risk, catalyse, and crowd-in investment and commitment from the private sector and donor community into the tech-startup ecosystem. Leading examples include the Rwanda Innovation Fund, formulated to support local innovation.
Fund of Funds
In partnership with donors and investors, governments should establish a “fund of funds” to develop risk capital (funds allocated to speculative activity) for startups at the early stages of their growth. Like the innovation fund, the fund of funds should be managed independently by a fund manager with experience of the Africa tech ecosystem. This fund would provide the necessary risk capital to VC funds in the ecosystem to then invest in early-stage startups. Such a move would be particularly crucial in nascent ecosystems with underdeveloped VC networks. A recent example of a national fund of funds is ANAVA, the Tunisian vehicle established to scale up funding for startups and innovative enterprises. The fund launched with a target size of €200 million to invest in 13 VC funds dedicated to startups in the seed, early and late stages.
Crowdfunding platforms can increase access to finance for startups and make investment attractive to a range of investors. Crowdfunding in Africa is still in its infancy but has significant potential given Africa’s keen adoption of digital finance, including mobile money and e-banking, and the relatively low penetration of traditional financial institutions. There are several crowdfunding platforms operating on the continent such as Women Fund, GetEquity and Afrikstart; however, the scale at which they operate is still small. Crowdfunding platforms should focus on pre-seed, seed and early-stage startups. Operators of crowdfunding platforms should leverage innovation around mobile technology and mobile money to realise the opportunities open to many in Africa, including using Unstructured Supplementary Service Data (USSD) infrastructure for offline users. Operators should provide incentives to encourage users to invest in local startup ecosystems and implement performance-based scoring systems. To offer certainty and stimulate volume, governments should regulate users and investors as Nigeria did in January 2021.
Unleash Capital from Institutional and Corporate Investors
In the longer term, Africa’s tech ecosystem including governments needs to diversify its sources of funding to encompass institutional and corporate investors who can bring in much-needed domestic capital.
Corporate Venture Capital
Corporate venture capital is also key to unlocking growth of the tech-startup ecosystem, offering the opportunity to go beyond financing and serving as launchpads for expansion. An example is the recent corporate partnership between MarketForce, a Kenyan B2B retail and financial-service-distribution startup, and Cellulant, a pan-African payments company, which enabled MarketForce to expand to new markets.
Les Wathinotes sont soit des résumés de publications sélectionnées par WATHI, conformes aux résumés originaux, soit des versions modifiées des résumés originaux, soit des extraits choisis par WATHI compte tenu de leur pertinence par rapport au thème du Débat. Lorsque les publications et leurs résumés ne sont disponibles qu’en français ou en anglais, WATHI se charge de la traduction des extraits choisis dans l’autre langue. Toutes les Wathinotes renvoient aux publications originales et intégrales qui ne sont pas hébergées par le site de WATHI, et sont destinées à promouvoir la lecture de ces documents, fruit du travail de recherche d’universitaires et d’experts.
The Wathinotes are either original abstracts of publications selected by WATHI, modified original summaries or publication quotes selected for their relevance for the theme of the Debate. When publications and abstracts are only available either in French or in English, the translation is done by WATHI. All the Wathinotes link to the original and integral publications that are not hosted on the WATHI website. WATHI participates to the promotion of these documents that have been written by university professors and experts.