African Startups. Of Unicorns, Gazelles and Corporate Breakfasts
In recent investments events across Africa, the trio of myself, Tomi Davies, President of African Business Angel Network and Stephen Gugu, Founder of Victoria Ventures, Nairobi based Angel Network have expressed opinions on the raging conversation about the Unicorn moniker as used for the African startups. The concept of Unicorn originated in the West, possibly the United States to describe fast growth, mostly technology companies that had reached valuations of $1B in the first few years of their life, usually less than 5years.
Like everything that originates from America, it has assumed a global stamp of acceptance. So different continents including our Africa have latched on to the Unicorns rat race to find their mythical startups that would be celebrated as the next Facebooks or Google. In the recent past companies like Uber, Airbnb and other sudden global brands have passed through this exclusive club.
So, for the past few years, the race has been on to find the African Unicorn. Those African startups values at $1B. Note that we define startups here loosely as companies less than five years in operation, mostly started by founders with basic initial funding. In the past many seasons, we have not found any. So, a few of the smart guys among the investment and startup community came up with an ingenious idea. Unicorn is a mythical creature. Very Un-African. But in Africa, we have the Gazelles. The African Gazelle is a sleek creature. Stable. Used to the tough turf of Africa. Something you can relate with. So, the conversation has been raging. Should we follow the rest of the world led by America to continue looking for our own Unicorns or to define our Gazelles and look for them across Africa?
The idea of a company that started in Africa and is worth $1b within 5 years is not that a bad idea. There are lots or problems that need to be solved in Africa that could become $1b opportunities in the shortest possible time. If we expand the idea beyond technology that has driven the Unicorn narrative, it could extend the possibility for success in our Africa Unicorn expedition. And given the fact that there are 55 African countries, its not hard to hope that something good can come from a whole lot of 55 countries.
But before we get ahead of ourselves, let’s look at the underlying assumptions about Unicorns. They are based on valuations. Valuations for startups and non-listed companies are based on methods accepted by the industry but not altogether scientific. It is based on objective projections of the future that in lots of cases we never live to see. It is a negotiated value between investors and startups based on perception of the market and the willingness of each party to do a deal. At least at the very early stage. That means investors who see a potential in any company can drive up its valuation and bid out each other to get into the company. When Wall street bankers get into the mix, you could have a startup on its way to being valued at $1b irrespective of the revenue of the company. This is possible because of the sophistication of the American financial system and the glut of venture and private equity money that is in pursuit of the next chance for a Facebook or Google. All with the promise of exit in a blockbuster IPO that pays for all the bad bets investors make on the way to backing a successful Unicorn.
In Africa, our financial system is at infancy in most parts of the continent. Venture Capital and Private equity are mostly focused on the things Africa needs and that are just being built, from physical infrastructure we can see like malls, roads and railways to manufacturing and banking. Technology and services are a work in progress. So, is copying the American model of valuation the right way to go for Africa? Or should we create our own lexicon to manage our own African journey.? This is precisely the underlying reason for the Gazelle versus Unicorn conversation.
If we must stick to valuations for our own Unicorns, should we stick to the $1B America has defined? Or perhaps reduce the benchmark from $1B to $100m? Claiming an American billion and African billion are not necessarily the same? Or better still use a yardstick that measure the power of the average African consumer against his United stares counterparts. After all, these Unicorns will in the end sell services to individuals who have a certain capacity to purchase their services. If we follow this model, perhaps our Unicorns could be anywhere in the same range as $100m plus or minus $50m.
But let’s discard the Unicorns and go to the Gazelle concept. As I said earlier, private equity in Africa is now focused on what’s considered critical and immediate infrastructure and services for Africa. These ventures are backed mostly from the impact they make on Africa for delivering basic services. And they are based on models proven in other climes. It’s easy to understand the cash flow of a new mall that opens in Lagos or Nairobi. Or that high rise office building in Africa’s highbrow neighborhoods. For a startup, what you can see is simple: revenue. That very real measure of customers wanting and consuming your products. Gazelle makes sense if it focuses on what our level of investment sophistication can understand in our part of the world. So, let’s assume we are comfortable with the African gazelle that’s based on a revenue as the measure.
What should this measure be? If we decide to stick to an African billion should the billion be one billion South African Rand ($84m)? Or One billion Nigerian Naira($2.7m). Or one billion Kenyan shillings ($9.8m)? Or any of the other myriad of currencies across Africa.
From the currency swings in Africa, should we assume the Nigerian billion for instance, companies from other parts of Africa will be minting Gazelles by the hundreds. And if we assume the South African billion, companies from most Africa will struggle to get into the band.
I will hazard a suggestion. I will lean on the Kenyan billion which is approximately $10m and suggest that if any startup in Africa generates revenue up to $10m within its first 5years, we should classify it as an African Gazelle. Irrespective of whatever its valued by venture capitalist and private equity. This will allow us in Africa to focus on what’s important to us. Growing companies based on real value: solving visible African problems that we can see and feel. And customers can experience and pay for. Perhaps when we grow the ecosystem to a certain level of maturity, we can develop or upgrade our measurement systems to reflect the reality of that day. My friends in the African Business Angel Network and the entire African ecosystem are free to weigh in, challenge, agree, disagree. But I am sure we can reach some consensus and move to more important matters of supporting startups get up there.
More important for me though is the underlying reasons for looking for unicorns and gazelles. In the US, a Unicorn is a sign of the strength of the American dream. That you can build something from scratch and scale it to the point of becoming a billionaire by solving a problem that no one has solved. The investment community rides on your back and idea to make money. Shareholders pile in at IPO and the ecosystem benefits. And in addition, recovers from other bad bets on the startups the could not make it to IPO stardom.
In Africa, this is not yet the tale. A few startups are heading to IPO in Africa. But its but a tiny trickle. So, exit for the entire investment ecosystem is not yet fully defined. We will mature to that in the nearest future. So, what are the options? By minting and identifying Gazelles who are doing $10m revenues in Africa and growing, the investment ecosystem can support these companies to keep growing. First within their countries. Then across Africa. And if an Africa listing is possible in their future, take them to list in Lagos or Nairobi or Joburg. And what if a listing is not possible? A company with a grounded revenue that’s providing service to customers should be able to generate dividend for investors while they wait for the IPO. In a recent conversation with Tomi Davies, we did agree that it may make sense to change the investor exit narrative for our region to include holding the equity of companies long enough to recover some value from dividends. This may mean mixing our investment portfolio to include traditional companies that generate solid revenue and companies that are scaling with revenue as secondary immediate consideration.
I will like to conclude this conversation by putting on the table the exit options which we are not promoting in Africa. When we have identified the gazelles and all of us investors are falling over ourselves to support them to success, what happens to the other successful startups that are not getting attention as the Gazelles? Nigeria is famed to have 37m Small and medium companies. After 5 years, lots of this startup will join the band of these 37m SMEs. Unless they have already flamed out and died. It does not mean that these companies are necessarily bad. Or the ideas behind them are bad
Some companies are driven by great ideas that are not meant to become large companies that will grow on their own to become successful. In developed markets like America, these companies end up as breakfast for the large corporates and older companies. When you look at the books of Google, Microsoft or Facebook, look at their acquisitions. It is made of mostly yesterdays smart startups who get acquired and absorbed into the larger organization to keep them growing. In fact, I suspect there are several startups founders who aim to be the next breakfast for Google. The guys founded who WhatsApp are not complaining that they were eaten up by Facebook.
It is time the investment community, the startup community and older tech and non-tech firms across Africa recognize and encourage this class of exit for startups whose great ideas are just good enough to end up as part of the whole of bigger entities. We may find this a better and more realistic exit for most of the companies that will never see an IPO, that will never become Gazelles talk of becoming Unicorns. But their idea and service are needed to deepen the offering and services in the African market. For the startups who never make it to becoming Unicorns or Gazelles, joining the Breakfast Club may not be altogether a bad proposition.
