Understanding VC Model And Local Nuances Breed A Successful Tech Investment

Early this year, Kinyungu Ventures, East African venture advisory firm published a white paper detailing the misalignment between traditional venture capital models and the African market.

With multiple mismatches between key characteristics of Silicon Valley Venture Capital and African markets, which influence how startups and funds function as well as what results they expect and produce, were identified.

The paper includes feedback from 100 Pan-African founders, investors, and LPs across 15 African countries.

Following this, we had a brief chat with Tony Chan, the Managing Director at Kinyungu Ventures who took us through a rundown of investment in Africa and how funding can be attracted.

Give us an overview of investment in Africa?

Broadly speaking, venture capital investing on the continent continues to rise. From 2015 to 2019, Partech reports that VC investing on the continent grew up 7 times.

Even during 2020, in the midst of COVID-19, preliminary data shows that venture capital investment held flat even as the number of deals increased in the region despite the unfavorable conditions.

At Kinyungu Ventures, we made 8 investments in East Africa in 2020, mostly in early-stage tech-enabled startups in the agriculture, media, fintech, and services sectors.

What is the state of misalignment between traditional venture capital models and the African market?

Traditional venture capital is taken from the Silicon Valley environment, which has crucial assumptions that may be true in America, but is largely false in Africa and actually in most markets across the globe.

For example, the model assumes huge, global markets, easy and inexpensive routes to acquire and retain customers, as well as deep funding options at every stage of business.

In Africa, markets are potentially large, but still very fragmented.

A solution that works in Kenya doesn’t necessarily work in Uganda, or vice versa. Customers are hard to acquire and harder to retain, as many foundational, infrastructural elements such as affordable data and efficient logistics make reaching customers problematic and expensive.

And oftentimes, funding options, even as startups grow, are quite limited.

In addition, most funds are set up with a limited time window – you must invest in companies quickly, push them to grow as quickly as possible, and then sell quickly.

This overemphasis on growth (and underemphasis on profitability) often limit the startup’s ability to withstand the many external shocks inherent in the environment, such as post-election chaos, new regulation, corruption, and increasingly unpredictable weather.

This insistence on shorter time horizons is at odds with research that shows that much of the value creation in frontier markets happens over a longer period of time – perhaps more so in the second decade.

What are the challenges of early-stage investment in Africa?

It’s difficult to invest in early-stage ventures in Africa for a number of reasons. Put yourself in the shoes of a fund manager trying to write $50,000 checks.

You must spend time to find good companies, get to know the ecosystem, do thorough due diligence, get approval from your investment committee, negotiate good terms, and work through legal documents prior to making an investment.

After the investment, you also need to monitor business performance and offer support, connections, and wisdom to maximize the chances of their success.

Also read, 5 things I have learnt about Investing in Africa – Tony Chen

To find 1 or 2 great companies to invest in, you will likely have to analyze 80-100 “pitch decks.” All of that takes time.

In fact, some would argue that you would likely incur a similar expense and timeline to write a $50,000 check as you would a $500,000 check.

So, just by virtue of the businesses being early-stage and the check size being smaller, it’s hard to make the math work.

Secondly, many early-stage ventures also need quite a bit of mentorship and wisdom from those who have built businesses in the environment.

Sometimes, it is these mentoring relationships and perfectly-timed advice that is even more valuable than the capital. However, this also takes time.

Thirdly, if an early-stage business is fantastic enough to get some traction and make it to the next round, who is going to fund them now? The options tend to be limited, even at this stage.

Finally, investors willing to put their money into early-stage ventures are few and far between.

Local African investors may know the context all too well, but are often unfamiliar with how technology companies work and are uncomfortable with how intangible progress seems.

Most are still more than willing to invest in real estate, gas stations, and other tangible assets. Tech and software can seem strange to them.

On the other hand, international investors who understand the venture capital model must learn the local nuances and culture.

If we can combine the best of both worlds, we will have investors who understand both how tech investing works globally and how business is done locally.

Thankfully, I believe this is beginning to happen. I’ve been encouraged to see more and more funds working earlier and earlier in the life cycle of startups.

Kinyungu Ventures is also seeing some startups from 5, 10, 15 years ago succeed in massive ways, and those entrepreneurs are now turning around to invest in the next generation of entrepreneurs today.

While the ecosystem is still maturing, there are reasons to be cautiously optimistic.

How African startups can attract more foreign investment?

African startups can attract more foreign investment by in the following ways:

Invest their own funds, as that speaks to the entrepreneur’s own conviction in her company
Secure local investment, providing a lot of credibility and comfort to some foreign investors who don’t know what they don’t know in the local environment
Learn the “fundraising game” – the art and science of pitch decks/pitching, pre-empting problematic questions and leveraging trusted networks
Build long-term trusted relationships with investors before you need money
As the saying goes, when you ask for money, you get advice. When you ask for advice, you get money

Featured Image: Tony Chen, Managing Director, Kinyungu Ventures

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