Cyrille Nkontchou, Managing Partner and Co-Founder, Enko Capital, writes that African businesses face an enormous funding gap between the amount of capital they need to grow and the amount of loans that are provided by local banks.
The relative under-capitalisation of the banking sector in Africa and the fact that the focus of local banks is very often funding the public sector (only about one third of banking loans in Africa go to the private sector) means that local businesses often cannot access the capital they require from traditional banking sources.
This is particularly true of SMEs, who are often the major engine of growth in African economies but who unlike large established companies, can find it particularly difficult to access capital. So private equity can play a critical role in the transformation of African economies by providing not only capital but also know-how and expertise to SMEs who in aggregate, account for the vast majority of private sector jobs.
We should, however, acknowledge that private equity has faced challenges in Africa. The industry does not have a long history in the continent and that means there is a lack of familiarity with it within businesses and indeed governments. Although the absolute number of players in the PE space in Africa, at around 200, is quite large now, the total AUM is still relatively small.
I have seen both sides of the equation of private equity in Africa because I started as an entrepreneur around 25 years ago when the industry was also just starting. Familiar problems in terms of corporate governance and the rule of law have impacted the industry’s effectiveness. A copy and paste approach that takes the model used in developed markets and seeks to repeat it in Africa has not, and will not, work.
That is because what makes PE succeed in Africa is very different to what makes it succeed in developed markets. In developed markets, financial engineering can transform the value of a company. But in Africa that is not the case, because the high cost of funding and FX cost, which are effectively zero or minimal in developed markets, but significant in Africa.
Instead, what works in Africa is finding the right companies in the right sectors that are able to grow strongly, and then pulling the right levels in terms of strategic focus, people and operations. There is much stronger real growth in Africa than in most developed markets which can power PE investments and value creation. In most successful PE investments in Africa, bottom-line growth accounts for the majority of the value creation.
The key attractive sectors in Africa mirror the hierarchy of needs in Maslow’s famous pyramid. In today’s digital economy, energy and telecoms are almost as important as housing and food. A modern economy cannot function without reliable and affordable energy. Many African countries have vast energy resources, but half of the population still don’t have access to electricity.
Telecoms, similarly, is critical for a digital economy and requires the right infrastructure and support. This is an area where we have extensive expertise and conviction.
Food and logistics follow and go together in Africa because so much of the food crop is wasted or rendered uncompetitive by poor logistics and low yields. Until this issue is fixed, many African economies will find it very difficult to achieve sustainable growth.
Financial inclusion is next and is driven in Africa by fintech. There is a long history of innovation in the space on the continent widely illustrated by the success of mobile money system M-PESA.
Finally, developing human capital is the top piece of the triangle, and is key because half of African population is under 19, therefore human capital is the best investment you can make to move Africa forward. International development institutions agree that African countries need to invest more in education. But this is often hard to achieve in individual economies by the state because of the scale of investment required and the amount of resources available. The solution, we believe, is available via the private sector, with dynamic private education providers catering for individuals and firms who are investing in themselves and their talent.
These are all sectors and investment themes that will be the backbone of Africa’s future development.
Our 25 years of experience of investing in Africa has forged our conviction that strong and sustainable returns can be generated for investors from African private equity by focusing on strategic leadership, operational excellence, aligning talent and incentives, strengthening corporate governance and optimising capital structures.
It has also taught us that for private equity to work on the continent it needs a distinctly African approach focusing on the tremendous growth and demographic potential available there. We believe that with our deep experience and expertise in investing in Africa and our network of offices across the continent, we are well placed to deliver this.
