What’s the deal with African VC, and is it actually working?
A deep dive into investment on the continent, and what it means for the future of the region
TL;DR: VC’s boomed in Africa over the last decade, with startups raising billions of dollars in what’s been dubbed the ‘golden era of VC in Africa’. But…there’s more to the story. Fintech’s are taking the lion’s share of dollars, there’s limited investment in underlying infrastructure, and the jury’s still out about whether or not VC works in Africa. As the startup ecosystem matures, it’s time to start thinking about what an African-focussed approach to VC might look like in the long term, if investors and startups hope to see the kind of success we’ve witnessed in other regions in the last 20+ years.
Anytime you talk to a founder, you’ll hear them talk about a few things, and you’ll likely hear the words fundraising, rounds, and returns (aka money, money, money). That’s because venture capital has had a huge impact on how we view, value, and fund startups in the modern era. Whether you’re a fintech in Brazil, an innovative startup in India, or a tech-enabled logistics company trying to fix the supply chain in Kenya, your ability to build and scale depends as much on finding product-market-fit and generating revenue as it does on being able to invest in your business as it grows. That’s where venture capital comes in.
In Africa, venture capital sits at the intersection of innovation, economic growth, and untapped potential. This ecosystem is buoyed by the renewed and intensified interest of international companies and governments in post-colonial Africa. African nations are poised to become key players in everything from the future of technology, healthcare, agriculture, to the future of work; and everyone wants a piece of it. Global players have set their eyes on the continent fuelling a record number of deals in the last five years.
And that’s not all. We are truly living in interesting times. With wars raging in Ukraine, the Middle East and Sudan; a sweeping global recession, record inflation, and tightening fiscal policy; shifting power dynamics that have seen the rise of China and weakening of U.S. dominance as well as de-dollarization (including calls from BRICS leaders to shift away from dollar dependency); and former French colonies fighting for full economic independence to name a few, we stand at a precipice in human history.
Against the backdrop of these changing tides, we have the opportunity to think about the future and what needs to change today for the world to look different tomorrow. This article is a deep dive into the African venture capital ecosystem, taking a look at its current state, key players, and what it means for the continent’s economic trajectory. It also asks a critical question, does venture capital work in the African context? Yes, it’s a loaded question. An important one to ask given the state of the world today, and Africa’s expected growth in the next few decades.
By unpacking the challenges that have surfaced in the space over the last decade, and putting forward potential approaches, the hope is that we can start to set the tone for deeper, more nuanced conversations about the role and form of African venture capital and how it might evolve to better support a diverse range of companies to fuel meaningful, long-term economic impact.
The Sleeping Giant
According to Brookings, Africa is home to the world’s fastest-growing consumer markets, with household consumption growing at a CAGR of 3.9% and expected to reach US$2.1 trillion in 2025, up from $1.4 trillion in 2015. In the past decade, six of the world’s 10 fastest growing economies were African. It’s also worth noting that household consumption has risen faster than GDP on the continent and this hypergrowth extends to the venture capital space.
By all indications, Africa is a great place to invest with lots of upside (there are some downsides too but we’ll leave that later) and a large, young, untapped market and growing middle class. The median age on the continent is 19. By 2050, Africa’s population will double to 2.5 billion people (25% of the world’s population), and account for 35% of the world’s youth. Nigeria alone will be home to an estimated 400 million people by the middle of the century. That’s in stark contrast to 1950, when Africans made up just 8% of the world’s population and lived in colonial, pre-independence societies.
Figure 1: Africa’s workforce by 2050
What is Venture Capital and why should we care?
Before we talk about African venture capital, let’s do some context setting so that we’re all on the same page.
Venture capital, known colloquially by the abbreviation VC, is a form of private financing that focuses on innovative high-growth potential startups and early-stage companies. It’s become the stuff of legend with billion-dollar valuations (i.e. unicorn status) becoming the gold standard for success in the VC space, and the ultimate goal for founders the world over.
VC has generated significant economic impact as an innovation catalyst. And it’s nothing to sneeze at. VC has funded a tech industry revolution and fueled disruptive innovation that has completely changed the way we live, work, and play.
According to a 2021 paper by Will Gornall and Ilya A. Strebulaev, VC-backed companies:
“accounted for approximately 41% of US market capitalization and 62% of US public companies’ spending on research and development. Among the public companies founded within the last fifty years, VC-backed companies account for half by number, three-quarters by value, and more than 92% of R&D spending and patent value. Additionally, the US VC industry is causally responsible for the growth of one-fifth of the largest 300 US public companies, and three-quarters of the largest US VC-backed companies may not have existed or could not have achieved their current scale without an active VC industry.”
The industry has also created thousands of high-quality , high-paying jobs, given birth to a new class of skilled workers, and driven significant economic growth, both directly and indirectly.
Although the importance of VC, can’t be overstated, this article would be remiss if it didn’t acknowledge the importance of government funding, policy as well as the research environment in locales and countries where startups are founded, and their impact on fostering innovation and the conditions that create scalable startups. Contrary to the popular belief that
VC only plays a minor role in funding the first stages of innovation, VC comes in “the period in a company’s life when it begins to commercialize its innovation. [It is estimated] that more than 80% of the money invested by venture capitalists goes into building the infrastructure required to grow the business — in expense investments (manufacturing, marketing, and sales) and the balance sheet (providing fixed assets and working capital).”
Although it’s now part of common parlance, VC is a relatively recent phenomenon that emerged in WW2. VC began in the U.S. in 1946 when the first venture capital firm, American Research and Development Corporation (ARDC), was incorporated. ARDC, a public company, raised capital from a mix of investment trusts, mutual funds, insurance companies, and universities to fund its investments. ARDC is considered the first VC because before its founding private companies had very limited ways to raise cash. They had to rely on bank loans, government funding, mergers, issuing stocks and bonds or receiving an investment from one of America’s families — namely the Whitneys, Morgans, Rockefellers, or Vanderbilts. These approaches typically favoured safer investments, or those that aligned with family members’ personal curiosities. This changed with ARDC, not only did ARDC invest in tech companies (looks like not much has changed), which were less proven than traditional approaches, but many of its employees went on to launch their own firms and ushered in the creation of Silicon Valley.
Some would argue that VC’s foundations were cemented well before 1946 (although modern VC takes much of its shape and form from ARDC and its alum). In his book VC: An American History Tom Nicholas compares VC to whaling in the 1800s saying:
“Nineteenth century whaling can be compared to modern venture capital… Whaling was the archetypical skewed-distribution business, sustained by highly lucrative but low-probability payoff events… The long-tailed distribution of profits held the same allure for funders of whaling voyages as it does for a venture capital industry reliant on extreme returns from a very small subset of investments. Although other industries across history, such as gold exploration and oil wildcatting, have been characterized by long-tail outcomes, no industry gets quite as close as whaling does to matching the organization and distribution of returns associated with the VC sector.”
Whaling was expensive and risky, but held the promise of high returns, much like VC does today. And the numbers are comparable too, with the top whaling expeditions and top 29 VC firms (when the book was written) showing a similar spread of returns on investment (ROI).
Figure 2: Chart of returns on top whaling ventures and capital funds taken from Nicholas (2019), based on data from Davis, Gallman, and Gleiter (1997), p. 250, and from Preqin. Source: American Business History Center
Fast forward to the 1970s (we’ll skip the bit about Thomas Edison getting ‘VC’ money from J.P. Morgan to start General Electric Company in 1878), VC saw a veritable explosion in growth with the founding of some of the world’s largest firms including Matrix Partners, New Enterprise Associates, and Sequoia Capital. It was during this time that we saw the creation of the Limited Partnership, which is the corporate structure that governs most VC firms today. VC went mainstream after the dotcom bubble burst in the late 90s and early 2000s, and has grown exponentially since…well until more recently, which we’ll get into a bit later.
Figure 3: A History of Venture Capital. Source: Andrew Powell
Despite this long history, VC didn’t really make an appearance in Africa until the 2000s. Although it’s challenging to pinpoint the first true moment that VC touched down on African soil, experts generally agree that VC’s ‘Golden Age’ in Africa began in the early 2000s, arguably with the establishment of African Venture Capital Association (AVCA) in 2001 and the founding of Africa’s first indigenous unicorn, Interswitch, in 2002. VC funding experienced rapid acceleration in the 2010s rising from $45 million in 2012 to $2 billion in 2019 (that’s 44x growth in 10 years!)
How does VC work and what are its underpinning assumptions?
Ultimately, VCs exist to invest in startups and make a significant return on their investment. VCs have funds (pools of money to invest) that run for five to 10 years, after which, they expect to see a return on investment.
Three groups matter in VC:
- Limited Partners (LPs) — they want a return on the money they put in
- General Partners (GPs)/fund managers — they want to exit with 10–20x+ multiples
- Startups — they’re the companies that want money to grow and expand
This trifecta enables the flow of capital.
Speaking of capital, typical funds have two ways of making money.
The first moneymaker is management fees (typically 2% of the value of assets under management (AUM) per year). This annual fee covers the cost of staff, operations, and keeping the lights on. This revenue has nothing to do with a fund’s performance.
The second way VCs make money is carried interest (aka carry). This is the real cash cow, but it’s tied to fund performance. It’s a percentage of profits after an exit (i.e., IPO or acquisition) that VCs make from companies in their investment portfolios. VC carry is typically 20% and goes to GPs based on their role, it works sort of like a performance fee. The remaining 80% goes to LPs.
VC’s founding principles
The VC model is built on five key assumptions.
Startups are a risky asset class: The name of the game is high risk, high reward. VCs need to spread their risk and it’s a generally accepted rule that 6% of deals account for 60% of the returns. VC money isn’t long-term, it’s an early investment in a founder’s idea with the expectation that it will grow large enough to sell high in a short period. This is where the focus on exponential growth comes from.
An investor can make (a lot of) money from exits: VCs need money to make money, so cash is king. This means they want to invest in startups today that’ll generate a high return in 5–7 years with a higher valuation on exit, making successful exits a key goal because it’s assumed that there’s always return potential. This is where the pressure to generate revenue comes from. If you can show your business is viable, you can sell it for a lot more.
Failure is inevitable: 90% of startups fail and VCs expect that at least half of the companies in their portfolios will fail (i.e., yield 0% return on investment). The winners cover losses (and then some) with a 10x+ return on investment. This is part of why the unicorn holds so much allure, you only need one.
Market size is a key determinant of success: VCs bet on companies that are targeting big markets and have the potential to achieve economies of scale. This is why investors care so much about market share and push for growth, rather than profitability in the short- and medium-term.
Systems exist to support hypergrowth businesses and outsized returns: This is arguably the most critical assumption underpinning VC. The VC model relies heavily on the existence of large pools of private capital, established, robust public markets, and a large enough market of companies that could be potential acquirers. You need to have money, mechanisms to move that money, and people who can afford to buy business or shares in IPOs for VC to be viable.
Do these assumptions hold in Africa?
It goes without saying that there’s a serious misalignment between the roots and assumptions of traditional VC and the realities of African markets.
African markets are big, but they’re also fragmented. Most African consumers have limited purchasing power and they’re expensive to acquire and retain. At least 490 million Africans (~40% of the continent’s population) live on less than $2 a day, and they’re incredibly price sensitive and hard to reach.
The bulk of VC investments are funnelled into tech-focused or tech-enabled startups but the continent isn’t a fully integrated digital ecosystem like the Global North, yet. In stark contrast to their Northern counterparts, African problems are big with the potential for significant economic impact if they’re solved. There’s a real need for infrastructure investment to solve even the most basic problems. While technology can help solve many of Africa’s ‘big, hairy, audacious problems,’ the problems that hold the most economic promise are foundational pieces like bolstering agriculture, building infrastructure, going after untapped target markets, and using local knowledge to tackle challenges.
There are also serious limitations on fund structures and the availability of capital and deal flow. These market dynamics can make it hard to scale, and African startups take a long time to see returns (much more than the length of a typical fund cycle). Despite these realities, however, the VC story in Africa is far from bleak.
The African VC story
We’ve seen record funding numbers over the last decade, although it’s not evenly distributed across Africa’s 54 countries or various industries. According to The Big Deal, ‘the Big Four’ — Nigeria, Kenya, South Africa and Egypt — have accounted for over 85% of the continent’s deals. The African Development Bank (AfDB), points out that the Big Four are home to about a third of the continent’s incubators. The AfDB hypothesises that it’s because these countries are heavyweights — they’ve got bigger economies, larger populations, and more wealth than their counterparts, coupled with the ability to scale and reach critical mass in markets with an industrial base that has a minimum number of high incomes. Put simply, the Big Four countries have enough people with enough money to keep the local startup scene alive and thriving with the right mix of size and wealth to fuel a booming startup economy.
Figure 4: Funding since 2019. Source: The Big Deal
Figure 5: Where funding goes. Source: The Big Deal via Statista
When it comes to trends, it’s not just a handful of countries eating up chunks of VC money. Year after year, fintech has received the most VC funding of any African sector, although this is starting to change with energy, logistics and transportation emerging as increasingly popular funding recipients. Africa’s startup ecosystem has seen several mega deals (i.e., $100 million+ deals) with Interswitch, MFS Africa, Flutterwave, and MNT-Halan achieving coveted unicorn status between 2019 and 2023. The continent is now home to 9 unicorns, with valuations ranging from $1 to $3 billion.
Figure 6: Funding by sector. Source: The Big Deal
Figure 7: Funding by sector. Source: The Big Deal
Figure 8: African unicorns. Source: AFRIDIGEST
Unicorns aside, we’ve also seen a few notable exits over the last few years. In Africa, the most common path to exit for startups and VCs is mergers and acquisitions (M & As). Stripe acquired Paystack for over $200 million; WorldRemit acquired Sendwave for $500 million; and DPO Group was acquired by Network International for $288 million all in 2020. IPOs are incredibly rare in the continent’s startup space, with Jumia, Africa’s first unicorn being one of two exceptions. Jumia was listed on the NYSE, making it the first African company to be listed on the exchange. The company has since fallen from grace, with its stock price falling 70% from a high of $49.77 in 2019 to a low of $2.15 (it’s now hovering around the $3.03 mark, at the time of publishing). Egypt’s Fawry is the other exception, it went public on the Egyptian Stock Exchange in August 2019. The company was the first African tech startup to have an IPO on African soil, and it now has its sights set on a U.S. IPO.
Homegrown success stories don’t end with unicorns and lofty IPOs, though. The continent has also produced a slew of successful African-based firms that are now key players in the VC space. Africa’s most active investors write an average of a cheque a month! Most notable among them is Launch Africa, which has portfolio investments in 133 startups across 22 countries. It’s Africa’s most prolific investor, churning out the average equivalent of more than a deal a week! According to The Big Deal, 97% of Launch Africa’s cheques ranged from $100,000 to $300,000, with a median cheque size of $250,000. Additionally, 75% of its deals have been in the $200,000 to $300,000 range. The early-stage pan-African fund closed $36.2 million in its first round and is now onto its seed stage second fund, which closed at $75 million.
Other notable African firms that write cheques in the $100,000+ range include Flat6Labs; LoftyInc; Future Africa; Verod-Kepple Africa Ventures; Norrsken and Founders Factory. Global accelerators Techstars and Y Combinator have also become players on the continent, with investments in 89 and 81 African startups respectively.
Figure 9: Africa’s top investors. Source: The Big Deal
A quick look at the ‘Golden Age’ of African VC
2019 was a good year in African VC. Tech startups raised $1.4bn in 139 deals, a record for the ecosystem. It was a signal of good tidings with things ratcheting up in subsequent years. 2020 set yet another record. And then came 2021, a watershed year in African VC. It was the year that Flutterwave became Africa’s fourth unicorn. Five unicorns were born in 2021 and we saw 640 African tech startups raise $5.2B in 681 rounds according to Partech Partners, an all-time high. That’s a 92% increase in growth YoY (i.e., 3.6x YoY) compared to the 359 rounds raised by 347 start-ups in 2020. This meteoric growth made Africa’s tech ecosystem the fastest growing one in the world, with a rate that was 3x higher than global VC investment combined.
Figures 10 & 11: Tech VC equity rounds and finding. Source: Paratech Partners
It wasn’t just money that was flowing. We also saw a boom within Africa’s startup ecosystem. Between 2020 and 2021, “the number of tech start-ups in Africa tripled to around 5,200 companies. Just under half of these are fintechs.”
Many thought the trend would continue, but it hasn’t. Cracks began to show in 2022, even though Africa’s tech sector was one of the few markets showing funding growth, while VC funding dropped by 35% globally. In Q3 2022, global headwinds began to show their face in Africa, with YoY drops in the number of deals and funding despite record funding at the start of the year. According to Briter Bridges, “ the total volume of funding dropped by 40% from H1 to H2 2022.”
Global VC funding has dropped steadily since the highs seen in 2021, as have valuations. This trend continued in Q3 2023 and there is no foreseeable end in sight, at least not in the near term. This drop (~40% between 2021 and 2023) comes despite funds raising record amounts of dry powder. As of October 2023, there were 482 deals in Africa compared to 902 at the same time last year. African tech startups raised $492 million dollars in Q3, down 48% compared to Q3 2022.
Growth at all costs startups have been hit particularly hard in 2023, including companies that received a lot of funding. In August, Kenyan logistics startup Sendy shut down and sold assets after raising $20 million in January 2020; 54gene shuttered in September after raising $45 million in three funding rounds; and Dash, which raised $86 million, collapsed in October amid allegations of false reporting and financial impropriety. Well-known startups Lazerpay, Zumi, WhereIsMyTransport, and YC-backed Pivo Africa have also shut down recently.
We’ve also seen high-growth startups scaling back and changing the way they operate.
There’s a general lack of investor enthusiasm, and falling demand given rising interest rates which is significantly affecting market liquidity. While it’s easy to chock the change in VC habits to the current economic situation — which has been further fueled by falling business confidence and tightening monetary policy — and wars in Ukraine and the Middle East; there are other contributing factors to the drop in investor confidence when it comes to funding. The collapse of giants like FTX and Silicon Valley Bank have also shaken confidence, and we’ve seen fewer IPOs as traditional and non-traditional investors hold. There’s also the reality that global players like Tiger Global, Sequoia Capital, and SoftBank, which were investing heavily in the continent and writing huge cheques during the bull run, have clawed back their investments and involvement in African markets as they look to mitigate losses across their portfolios.
It’s clear that things are bad and will be for a while, but what does all of this have to do with African VC, and is the golden era over? Well, for several years the African startup ecosystem bucked the trend, getting record amounts of VC dollars when other markets were growing moderately or starting to see a slowdown. It was an outlier. This came on the heels of an uptick in interest in African startups, starting around 2014 that would give way to a historic six-year run, with fundraising records being shattered each year.
Although the African slowdown has been more tempered in some markets than others, the global slowdown and its downstream effects may actually be a mixed blessing and it’s not all bad news because this comes at a time when Africa’s VC and startup ecosystems are maturing.
We’re seeing more unique investors in Africa than ever before (1,149 in 2022 according to Partech Partners and nearly 1,500 as of 2023, according to The Big Deal); more local investors are starting to come in at the seed stage; and the incorporation of debt funding into rounds is changing the ways startups can access money. We’re also starting to see consolidation with African startups acquiring smaller African startups to lessen competition or enter new markets.
Expectations are shifting as well, with investors looking toward performance, and the ability to generate revenue and become profitable rather than just looking at the possibility of big-ticket exits and hyper growth. This shift from growth at all costs to prioritising profit, coupled with the decline in funding is bringing some much-needed prudence to the continent’s startup ecosystem and a return to fundamentals. There’s a sentiment that the next test for the continent’s VC ecosystem will be whether there’s liquidity to be had by buying and selling African startups.
And that’s not all, this slowdown is giving us time to look back, reflect, and think about what VC might look like both globally and in the African context when we eventually come out on the other end of this downturn. Perhaps we’ll even see some recalibration in how, why, and when companies get funded, especially given that it’s happening in tandem with signals of ecosystem maturity. But does a VC event work in Africa?
So, does the VC model actually work in the African context?
This…is a loaded question. VC in Africa is pretty new so the jury’s still out. It’s only been about 10 years since there’s been widespread VC activity and many African firms are still in their first fund or 10-year cycle. And, there’s lots of room for growth. As of Q3 2023, Africa accounted for 2% of deals globally (the same percentage as Canada, Oceania, and Latin America respectively), which remains unchanged from 2022.
It goes without saying that VC’s become an essential part of the entrepreneurial and innovation landscape the world over, and Africa is no exception. But what does ‘work’ mean when it comes to conversations about VC on the continent? To quote Nicole Dunn “We don’t know, yet. But we can make it work better.”
If you look at the astronomical investment flows in the ecosystem, and some of the IRR figures released by African firms over the last few years, VC is clearly working for some, but it hasn’t yet translated into a significant job creation or seismic economic impact at scale across the continent. The ‘some’ in this case is the trifecta I mentioned earlier (LPs, GPs, and startups) who’ve been able to see varying returns on their investments.
The Challenges of African VC
The current African VC model is an import. It works with many of the same structures and assumptions used in Silicon Valley and it’s often the people who understand and have operated within western systems who are doling out and receiving cash. And it makes sense, globalisation has made capital investment borderless and our problems are increasingly interconnected.
But, Africa is different.
It’s got 54 countries, each with its own unique history, people, and challenges. African nations are at varying levels of development, and while there are a number of shining examples, many have deep income inequality, high youth unemployment rates, ineffective leadership, limited infrastructure, low digital penetration, and hard-to-reach rural populations (which are sometimes the majority of the population). These are just some of the macro challenges. The realities of Africa today mean that simply importing investment approaches and expecting them to translate and yield the same results within the same time frames is misguided.
So what makes Africa different and what are the deltas?
Market dynamics
African markets are fragmented, and this affects business on several levels.
Firstly, each country has different laws and regulatory frameworks, which means startups need to navigate a different beast every time they enter a new market. Imagine having to go to several local government offices in each jurisdiction just to get your business permit.
Secondly, Africa has over 2,000 languages, and then there’s the added complexity of entering French-, Spanish-, and Portuguese-speaking countries from English-speaking ones and vice versa.
Thirdly, there’s the issue of limited regional integration, which makes it a challenge for startups in smaller markets to expand and for companies to do business across borders. Although the Africa Continental Free Trade Area (AfCFTA) has been adopted and ratified we’re still yet to see it bear fruit.
Fourthly, VC dollars are not evenly distributed across the continent. The bulk of VC funding goes to the Big Four, and has done so for the last six years. More than half of Africa’s countries (with a combined population of 250+ million) don’t have any startups that have raised more than $1 million since 2019. Many of these startup deserts have smaller populations, which in turn means startups in these countries have smaller addressable local markets. Startup deserts also tend to have talent and mentorship gaps, weak support networks, and regulatory hurdles in addition to a lack of funding, which are more pronounced than in lush ecosystems.
Fifth, African ecosystems tend to have weak financial markets that can’t attract the same level of capital as global financial markets such as the NYSE, FTSE, NIKKEI, and S&P. VC expects at least 10x on successful investment exits through acquisition or IPO. But, Africa doesn’t have the same kind of market caps or high levels of capital, yet.
Regulatory realities
African regulatory environments are inconsistent, which can have significant impacts on startup and ecosystem growth. This is despite the fact that governments have a vested interest in fostering innovation and the success of Africa’s startup ecosystem lies in their hands. These inconsistencies can be a deterrent and/or create investor uncertainty. In ecosystems where the regulation has focused on supporting startups, we’ve seen significant traction and growth. It’s worth noting that most African nations don’t have startup-specific legislation.
We’ve seen that African start up acts and supportive regulation spur local ecosystems. Robust regulation reduces the cost of doing business, increases capital flows, and encourages people to get into the space (i.e., more startups). Jurisdictions such as Kenya, Nigeria, Tunisia, Rwanda, Ivory Coast have focused heavily on policies and incentives that have allowed their startup ecosystems to thrive and enable foreign capital inflow; and while they’re far from perfect the proof of the pudding is in the tasting. On the flip side, we’ve also seen the negative impacts of heavy handed regulation or the lack of any regulation at all. In the case of Ethiopia for example, stringent government regulation has limited foreign investment in the local ecosystem.
Limited industry focus
Fintech is king when it comes to deals on the continent, with Africa standing as one of the world’s fastest-growing fintech markets. Nearly half of Africa’s fintechs were founded in the last six years, making fintech the continent’s fastest-growing startup industry. African fintechs have raised an estimated $6 billion in funding since 2000 — $2.7 billion of which has been raised since 2021. Furthermore, fintechs have made billions in revenue and average penetration levels are in line with global leaders.
Figure 12: Investment into Africa’s tech ecosystem has boomed since 2021. Source: BCG .
About 90% of African transactions are cash so there’s lots of potential when it comes to revenue in the industry. There’s no doubt about the importance of financial inclusion and the fact that building financial services systems enables transactions in other sectors. That said, founders in these other sectors have a hard time getting VC investments. The tendency to favour fintech as well as emergent favourites like logistics and supply chain has meant that many sectors are getting left in the cold.
Over 60% of VC capital deployed in Africa goes into fintech and accounts for 66% of mega-deals on the continent. This has meant that we’re seeing significant underinvestment in key sectors like agriculture, health, and education technologies.
Sectors such as agriculture and healthcare are capital and infrastructure-intensive and can have a major economic impact and hire a lot of people, but they get a lot less funding. That’s not to say that fintech isn’t important, but that there are other spaces in need of investment dollars that can amplify impact.
Business models
VCs prefer business models with the potential for exponential growth and economies of scale. African businesses on the other hand have high fixed costs because customers can be expensive to acquire and building underpinning infrastructure when it doesn’t already exist is expensive. African businesses typically have asset-heavy business models, and the same is true of many African startups.
There’s also a mismatch when it comes to using standard Silicon Valley metrics as success measures that inform business models. There’s more of a focus on raising money and valuations than building long-term value.
The effect? Hard infrastructure, which is a critical component of SaaS models, doesn’t get financed.
Current investment models aren’t designed to provide capital injections on the ongoing basis needed for African startups to scale. This mismatch “creates a vicious cycle — businesses building hard infrastructure do not get financed, which hampers potential exponential businesses that would rely on this infrastructure to scale (imagine trying to sell financial software and realising you need to build the internet or generate power).”
Investing in hard assets improves productivity and economic outcomes, which in turn means that there’s more space for new companies. However, the low-fixed-input model favoured by VCs means that the African companies they invest in typically create very few jobs as compared to revenue generated when put side-by-side with healthy SMEs on the continent. Tech companies typically have 100–500 employees, compared to asset-heavy industries like manufacturing and agriculture, which need human capital, translating into millions of jobs. And the continent needs jobs…desperately.
Fund structure vs. growth rates
African startups take a long time to generate returns, far longer than the typical 5–10 year fund cycles favoured by firms. The reality of market conditions coupled with the (often expensive) need to build heavy infrastructure means that critical parts of African startups operations either aren’t getting funded or aren’t attractive to investors.
In the Global North, founders are building business on top of robust infrastructure, so you get more bang for your buck at the outset. In Africa, founders are solving problems AND building the infrastructure needed to support them. They’re also targeting people who’re harder to reach and retain, which drives up customer acquisition costs. These longer return cycles are more attractive to GPs — who’re more likely to benefit from more flexible funds — compared to LPs who’re looking for strong business cases, short-term gains, and big-ticket exits. Balancing risk management and patience leads to successful investments.
Ultimately, in the African context, short funding cycles do more harm than good. On the one hand, this approach can have negative effects on portfolio companies, which become focused on growing rather than building for sustainability. On the other hand, companies that can show a path to short-term ROI attract a lot of investment. And then there’s the lack of due diligence that sees startups ultimately fail after raises (remember Dash?).
Shallow local capital pools
Although we’ve seen record investments over the last six years, international investors still tend to write the biggest cheques. In the U.S. alone there are more than 19 million accredited investors, and VC investments totalled $345 billion. Africa’s figures are way lower than that.
Investors headquartered in North America account for 42% of African VC deals, and only 20% of VC funding comes from African-based investors.
The lack of a significant pool of local investors (although it’s growing) and capital on the African continent means that startups tend to go after the same capital sources or have to pitch outside the continent. This is great for investors because they’re spoiled for choice but not so great for the thousands of startups that need funding and are competing for a limited cash pool. There’s also a marked lack of follow-on, institutional, and seed funding as well as early access to angel investors and family and friends with capital. It’s worth noting that networks are a particular challenge for African founders as well.
Exits
Big exits and IPOs aren’t typical in the African startup space. In fact they’re incredibly rare. The most likely path to an exit is a merger or acquisition. The ubiquity of secondary exits means that liquidity can become a serious problem for firms that have a majority of African startups in their portfolios. This stands in stark contrast to more mature markets where IPOs are far more common and there’s a direct correlation between the number of exits and the number of deals in an ecosystem. Africa doesn’t follow these rules. It’s also worth noting that smaller, less popular markets tend to perform better than the Big Four.
Figure 13: Exits and deal activity don’t mirror each other. Source: Briter Bridges
So few unicorns
VCs generally invest in ecosystems where they think they’ll make outsized returns. That’s why people care so much about exits. Healthy ecosystem signals include the number of unicorns. Unicorns typically need to have $150 million to $200 million in annual revenue to justify a unicorn valuation.
Africa’s unicorn rounds have been driven by money from Silicon Valley and Asian (Chinese and Japanese) firms. However, Africa doesn’t have enough growth-stage startups for late-stage firms like Tiger Global, Sequoia, and SoftBank to invest in. Only 30 African companies have made it to Series C in the last 20 years. While this is nothing to sneeze at, it’s important to note that unicorns typically emerge after this threshold. So, if a company doesn’t get here it’s statistically less likely to reach a billion-dollar valuation. This on top of the fact that we know it takes African companies much longer to reach these kinds of valuations (it took Interswitch 17 years) compared to the global average of five to ten years. The limited startup pipeline at the top end is borne out in the shortage of growth stage investment deals, which “means not enough investors are helping startups move up from the Series C stage, where billion-dollar companies are formed.” We need to see way more late-stage deals to see more unicorns on the continent.
That said, there are positive signs with the emergence of younger companies (e.g. Wasoko, JUMO, and Yassir), aka soonicorns, that have raised at valuations just shy of $1 billion. Established companies like MFS Africa and Cellulant may also become unicorns within the next five years.
Lack of data
The African VC space is nascent so data about the space is pretty limited too, although companies like The Big Deal and Briter Bridges are changing that. We also don’t have a lot of information on returns because many African firms haven’t closed out their funds yet (or they’re not publicly reporting it). So we don’t really know how everyone is doing. This can make it challenging to empirically determine what success looks like in this space.
The founder principle
VCs invest in founders and their ideas. Founders, and investors’ belief in their ability to deliver are a key part of the investing mix. There’s significant evidence that unconscious bias plays a huge role in VCs investments. VCs tend to invest in people they can trust, relate to and feel comfortable with. And the numbers bear this out when we look at who is and isn’t receiving funding.
There are clear challenges around finding executive teams that have a mix of local knowledge and technical expertise. Non-African founders are overrepresented when it comes to receiving startup dollars thanks to a tech gold rush that has seen people from the Global North enter the startup ecosystem in record numbers. While countries like Nigeria and South Africa tend to have a good balance of local founders who receive funding, it’s a different story in ecosystems like Kenya where foreign founders receive the lion’s share of funding.
When it comes to investments, men, especially white men, are winning big in Africa. Foreign founders receive 20–50% of total funding, depending on the market. In Kenya, expatriate founders receive a staggering 94% of all VC dollars (yes that means companies started by local founders raised just 6% of funding invested in Kenyan-based startups). Of the 10 African-based startups that raised the most VC dollars, eight were led by foreigners.
Let that sink in.
Figure 14: Expats get the most funding in Africa. Source: The Guardian
What’s more, women really get the short end of the stick. Africa has the highest proportion of women entrepreneurs in the world but that doesn’t translate into VC funding. Startups founded by women accounted for less than 4% of VC investments in Africa in 2022 (and 2.4% for women-only founding teams). Although this number is low, it is double the global average. These fundraising stats exist despite the fact that women make up 20% of founders and 40% of African SMES are women run. There’s actually been a YoY drop in the amount of funding women receive between 2021 and 2022.
Figure 15: Breakdown of funding by gender in 2022. Source: The Big Deal
Furthermore, VC heavily favours CEOs whose latest degrees were master’s degrees or MBAs were from universities outside Africa. Africawide, an average of 73% of startups that raised funding were headed up by foreign-trained founders.
Figure 16: CEOs who studied outside Africa make up the lions share in Africa. Source: Quartz
This data raises questions about who’s building for Africa, whether what they’re building actually works for most Africans, and where these founders will, in turn, invest their money in the long-term. Taking it a step further, what kind of future are we building if only certain people get the money to build for the future? The data tells us that right now VC is working for a select few, and the founders who do raise aren’t necessarily reflective of the markets they serve.
So, what?
Africa is not Silicon Valley, nor is it homogenous — every African country is unique and has its own challenges and market dynamics.
Put plainly, using a cookie-cutter one-size-fits-all approach for African-focused VC likely won’t work in the long-term.
And, just because something works in one market doesn’t mean it’s going to work in the next. A web-based app with integrated mobile money payment could be a really successful business model in Kenya. The East African nation has 124.5% mobile phone penetration, 61% smartphone penetration and 78.2% mobile money penetration thanks to M-Pesa’s massive popularity. That same business could face significant challenges expanding into Tanzania where mobile penetration and mobile money adoption are significantly lower and Kiswahili is the primary lingua franca (compared to Kenya where both English are used interchangeably and literate people can usually read and write in English).
VC dollars are jet fuel, rapidly accelerating growth and expansion. But…not every African startup needs VC to grow. Although building a business on the continent is not easy, many of Africa’s most successful homegrown companies have never received VC or PE investment.
Flipping the script
It’s time to start thinking differently about what success looks like in this space. The point of building a business is to offer a product or service that translates into revenue. It’s not to raise money, although scaling is a key part of business, especially at the start of a company’s life. While there’s clearly a need for local solutions to local challenges, we need to go beyond that.
Diversification and alternative funding
Fund structures aren’t currently tailored to the African market realities, including needing more time to grow. Time creates an opportunity for investors to consider alternate funding structures and investment strategies. Alternatives such as debt, open-ended funds, and permanent capital vehicles (PCVs) are one type of approach. Debt provides a built-in incentive to reach profitability because it needs to be paid off and comes with interest. PCVs and open-ended funds on the other hand are relatively non-existent on the continent. The open-ended time frame is a key benefit of the PCV model. It provides a time horizon that allows startups the breathing room to focus on the fundamentals and sustainable growth.
Crossover funds are another interesting alternative approach. They help spread risk and allow VCs to invest in both public and private markets.
Diversified investment strategies and portfolios will also be key as we go into the next era of African VC. This includes supporting a wider range of companies, investing in other sectors (e.g. manufacturing, healthcare, and agriculture), and finding opportunities in niche industries. Collaboration between LPs will also become incredibly crucial.
Longer fund cycles, lower multiples
Given the propensity for African businesses to need more time to generate ROI, longer funding cycles (even of 10–15 years+) could make a huge difference in the ecosystem. The extended fund cycle model also reduces the pressure on GPs to sell and allows them to be more responsive to market changes. LPs on the other hand could benefit from longer fund scales as they could see better long-term returns. In tandem, 10x needs to become an exception, not a rule. Dialling multiplier expectations down to 3x-5x could further shift the ecosystem to focusing on profitability. It also helps to manage the balance between risk management and the patience required for successful investments.
Redefined exits
When it comes to exits, conventional ideas of exits and returns need to be redefined. Investors need to shift their exit expectations away from IPOs and billion-dollar valuations toward alternatives. These alternatives could include brokering strategic partnerships with larger companies and international players, and allowing for secondary sales between investors or private sales to create liquidity without IPOs. Revenue-share agreements are another model, where investors could see their returns over time, more akin to a traditional shareholder.
Although impact investing isn’t (yet) a big part of VC success metrics, introducing social impact achievements as part of exit strategies could help reimagine what it means to be a successful startup and it could also attract impact investors and funds that focus on social responsibility.
The role of government
Ultimately startups will thrive in environments designed with them in mind, combined with the ability to easily conduct business and access capital.
Governments have a role to play in Africa’s VC ecosystem. There are the obvious, direct things like developing legislation and regulation that’s designed to support the startup ecosystem; providing tax incentives to investors and startups; implementing robust investor protection mechanisms; bolstering IP, data protection, and privacy laws; harmonising regulatory frameworks across borders; and improving public markets. Then there are also less direct things like making it easier to do business in general by reducing and harmonising bureaucratic processes that reduce the cost of doing business.
Some parting thoughts
There’s a strong case for investing in Africa. Its large, growing population will ultimately shift the balance when it comes to culture and business in the near future. There’s a growing, digitally-savvy middle class, and a young and growing workforce. The continent’s large untapped markets are only going to get bigger, creating even more opportunities for impact and profit.
Given the rise of African funds, African startup ecosystems are poised to grow to a point where there’s a marked drop in dependence on global investors, and a rise in local investors’ share of investments on the continent.
The future is bright, but today’s investors need to start retooling with locally-informed approaches to investing. We have a collective responsibility to adaptively shape the future of African VC.
Sources
A lot of research, and countless hours went into the writing of this article. If you’d like to see my sources either for further reading or as a springboard for your own research you can find my source list here. Happy exploring!
Acknowledgements
This article is my capstone for the Dream VC Investor Accelerator Fellowship. I’d like to say a big thank you to my family who had to put up with my endless lamentations during the fellowship, and who read through various iterations of this article. I’d also be remiss if I didn’t say a huge thank you to Cindy Ai who pushed me to sink my teeth into a topic I was actually passionate about, and to Mark Kleynar who taught me a lot about VC during my time in the fellowship. Last but not least, thank you to my incredible friends who continually push me to do and be my best.
Mom, this one’s for you.
