| ETA & Associates

Unveiling Investment Dynamics: Comparing East Africa and West Africa’s Start-up

April 26, 2024

Summary

● The high volume of activity across Africa’s business landscape has begun to attract attention from international investors and policymakers.
● Nigeria, South Africa, Egypt, and Kenya lead the way in both venture capital (‘VC’) deal volume and value.
● In East Africa, rapidly developing infrastructure and an increasingly innovative business environment is contributing to impressive rates of growth.
● East Africa has demonstrated impressive growth rates, attributed to enhanced infrastructure and innovation.
● Some West African players such as Ghana and Senegal are showing promising economic performance, despite comparatively lower growth rates.
● Both regions have witnessed advancements in technology and innovation, with East Africa known for the likes of M-Pesa and other emerging technologies, and West Africa driven both by growing ‘tech hubs’ such as Lagos and Abuja, and Ghana’s thriving tech ecosystem.
● Rwanda and Kenya have made significant strides in improving their business environments, whilst certain West African nations such as Ghana and Nigeria have also made progress – albeit with lower global rankings.

Background

In recent years, African nations have experienced significant economic growth, capturing the attention of global investors eager to capitalise on the continent’s young population and expansive growth prospects. According to Google’s 2021 Africa Developer Ecosystem report, African start-ups witnessed a remarkable surge in funding, amassing over $4.3 billion in investments from both local and international sources. This remarkable increase represented a 150% jump compared to the previous year. However, this growth is not always evenly distributed across the continent. Of the invested capital from that period, approximately 81%, flowed into the continent’s key markets. Nigeria, South Africa, Egypt, and Kenya, are collectively known as the ‘Big Four’, and boast the highest concentrations of software developers on the continent. As such, they stand out as attractive targets for start-up investments in Africa, drawing significant attention from investors seeking to capitalise on thriving tech ecosystems.

The Investment Factors Shaping East and West Africa’s Landscapes

Navigating the Economic and Political Terrain

In contrast to East Africa’s reported GDP of $923.5 billion in 2022,West Africa’s GDP was significantly higher in the same year, at $2.091 trillion. The comparative sizes of each market are further emphasised by a comparison of their largest economies. Where Kenya, with a GDP of $110.3 billion, sits as the largest economy in East Africa, Nigeria, with its GDP of $440.8 billion, shares the title of largest African economy overall, alongside Egypt. However, though West Africa’s economic position objectively supersedes that of East Africa, East Africa reported a higher growth of 5% in 2019, according to the African Development Bank (AfDB), marking it as the fastest-growing region on the continent, whilst West Africa saw only 3.3% growth during the same period. This growth is linked to the performance of key industries, improvements in infrastructure, and a focus on innovation. Notably, Ghana and Senegal have begun to show marked improvements in their growth, signalling a potential increase in surrounding nations as well.

Political stability is crucial for investor confidence and risk assessment. Politically unstable countries foster an environment of corruption and mistrust, whilst unstable governments are unable to enact strong policies and establish efficient institutions. All of these factors risk dissuading investors, due to the increased friction of conducting business. While political stability does not necessarily imply good governance, it does dampen the prospect of sustained economic growth, in turn impacting investor confidence. Countries in East Africa such as Tanzania and Rwanda that have maintained political stability in recent times have seen progress in governance. Conversely, rising insecurity in West Africa has begun to erode the region’s development gains as the likes of Nigeria, Burkina Faso, Mali and Niger have been forced to address challenges related to security and political unrest.

Ease of Doing Business

The respective business environments and investment climates in East and West African nations play pivotal roles in shaping investment decisions. Launching and expanding businesses in Sub-Saharan Africa poses relatively greater challenges compared to other global regions, owing to inadequate infrastructure, high costs, and bureaucracy. These challenging business conditions, compounded by weak institutional frameworks, pose hurdles to achieving organisational efficacy. For example, the World Bank’s Ease of Doing Business report highlights Sub-Saharan Africa’s standing as among the worst performing regions, with an average score of 51.8—significantly below the OECD high-income economy average of 78.4, and the global average of 63.

The World Bank’s Ease of Doing Business report identifies Rwanda as the second easiest country in Africa to conduct business, closely followed by Kenya at fourth place. This signals significant enhancements in the business landscapes of East African nations. Similarly, West African countries like Ghana and Nigeria have made strides in streamlining business registration procedures, though their overall rankings remain relatively lower, with Ghana placed at 118th and Nigeria 131st globally. Both regions present distinct investment landscapes. While East Africa showcases robust economic growth, advanced infrastructure, and a culture of innovation, West Africa offers promising opportunities in sectors such as oil and gas, agriculture, and financial technology. Understanding the intricate investment environments in these regions enables investors to strategically unlock untapped opportunities, cultivating profitable partnerships and contributing to ongoing development initiatives.

Regional Integration

Both East and West African regions are actively pursuing economic collaboration through regional integration and trade agreements, albeit facing distinct challenges and utilising different frameworks. Efforts to strengthen economic relationships through regional integration and trade agreements are evident in both East and West Africa. In East Africa, the East African Community (EAC) is the leading organisation, targeting the enhancement of economic, political, and social cooperation. It has successfully introduced a customs union and a common market to facilitate trade by eliminating barriers among its member countries. Conversely, the Economic Community of West African States (ECOWAS), with its fifteen member states, aims at promoting economic unity and stability across West Africa. However, ECOWAS has encountered difficulties in synchronising trade policies, developing infrastructure, and reconciling political discrepancies within its membership. As of the time of writing, four ECOWAS states have had their memberships suspended due to military takeovers of their respective governments.

Infrastructure Development

The attraction of investment prospects in East and West Africa is closely linked with the evolution of their infrastructure. In East Africa, the likes of Kenya, Ethiopia, and Uganda are channelling substantial resources into ambitious infrastructure projects, with the aim of enhancing regional connectivity. Notable projects include the implementation of the Standard Gauge Railway and the development of the Lamu Port in Kenya. Similarly, in West Africa, Nigeria is charting an ambitious course to address its infrastructure deficit, unveiling plans for a $3 trillion investment by 2044. Despite these endeavours, the magnitude of infrastructure demands in West Africa surpasses the current pace of progress, resulting in the region lagging behind its Eastern counterpart in infrastructure development. Robust physical infrastructure, spanning transportation, power, and communication, not only bolster efficiency but also bolster competitiveness, thereby nurturing sustained economic growth. As a tangible illustration, the assessment of the business score in the Global Startup Ecosystem Index places significant weight on the quality of national infrastructure.

Innovation and Technology

Technological advancements and innovation significantly influence the markets in both East and West Africa. Kenya’s booming start-up market has made a name for itself as a tech hub, being affectionately referred to as ‘Silicon Savannah’ in some corners. In the StartupBlink Ecosystem Index Report 2021, Kenya ranked second in Africa, behind South Africa, for the most developed start-up ecosystems and in 2020, Nairobi was named the city with the best start-up ecosystem on the continent. Additionally, Rwanda’s growing information and communication technology (ICT) sector contributes to the region’s reputation for innovation. In West Africa, the technology landscape features rapidly expanding tech hubs in Nigeria, particularly in Lagos and Abuja, which offer numerous opportunities for start-ups and investors. Ghana’s technology ecosystem is also expanding, enhancing its presence in the global start up landscape.

In East Africa, Kenya is notable for M-Pesa (alongside other start-ups), a pioneering mobile money service that has given the country its position as a global leader in the mobile money industry. Launched in 2007, M-Pesa is amongst the largest mobile money services in the world and has revolutionised business in Kenya by providing formal financial services to ‘the unbanked’ population. Following M-Pesa’s introduction into Kenya, which created a new market for consumer and business payments, East Africa has become a leading region for mobile money. This trend is also observed in Tanzania, Rwanda, and Uganda, with Ethiopia beginning to participate in the mobile money movement.

West Africa, despite joining the mobile money movement later, is now playing a significant role in its evolution. From 2020 to 2021, Ghana experienced a 48.6% increase in mobile money transactions, growing from 2.85 billion transactions to 4.26 billion. In contrast, Kenya saw a modest increase of about 5% in mobile money transactions in 2022, reaching 2.8 billion transactions from the previous year. Ghana’s GDP is nearly 70% of Kenya’s, highlighting the significance of mobile money transactions in Ghana’s economy, which constituted 82% of its total GDP in 2021. Reports on Kenya’s economy detail mobile money transactions representing between 68% and 87% of its GDP. The World Bank has identified Ghana as having the world’s fastest-growing mobile money market. The mobile money ecosystem is expanding across West Africa, becoming a crucial part of the financial services industry. According to the GSM Association (GSMA)’s 2023 report, whilst East Africa saw growth rates of 12% and 8% in registered and active mobile money accounts, respectively, West Africa as a region experienced growth rates of 27% and 30%.

Although East Africa currently leads in transaction value and volume, this lead is decreasing, as reported by the GSMA. Meanwhile, West Africa is seeing a faster increase in the number of active accounts compared to registered accounts. Mobile money adoption is rapidly growing in the eight countries of the West African Economic and Monetary Union (WAEMU), facilitated by economic integration. Notably, Senegal’s Wave became the first non-bank, non-telecom operator to receive an E-money licence from the regional central bank for WAEMU countries, BCEAO.

It could be argued that the growth of mobile money in West Africa highlights the existing potential for expansion, as digital finance becomes a preferred method amongst its population for concluding transactions. Despite increasing internet and cell phone adoption rates, financial inclusion rates remain low, indicating significant growth potential for mobile digital payment methods in the region, especially in larger countries like Nigeria.

Funding

In terms of volume, both East and West Africa have emerged as significant players, accounting for 25% and 21% of the venture capital (‘VC’) deal value in 2022 respectively. Start-ups based in Kenya and Uganda in the East, and Nigeria, Senegal, and Cote d’Ivoire in the West, were pivotal in driving this surge. Throughout the year, West Africa maintained its lead in VC deals, with multi-region transactions prevailing in terms of value. According to the Venture Capital in Africa Report, West Africa secured the highest volume of VC deals in Africa (30%) in 2022, with 22% directed towards early-stage investments in Nigeria. Meanwhile, East, North, and Southern Africa equally shared the deal value, each contributing 20% to the total volume.

In 2022, Nigeria is reported to have received the most investment, with start-ups raising $1.2 billion, representing 68% of the total funds raised in West Africa. Nigeria also stood out as Africa’s leading producer of unicorns (start-ups valued at over $1 billion), contributing five out of the seven unicorns that emerged from Africa. Despite West Africa’s continued dominance in VC deals for the second consecutive year, the funding raised by entrepreneurs in the region slightly lagged behind other regions like North (21%) and East Africa (17%) in terms of value in 2022. It must be noted that women entrepreneurs across the African continent as a whole still face multiple additional challenges to accessing finance, with an estimated $42 billion financing gap for African women existing across business value chains.

In 2023, there was a shift in funding dynamics across the continent, with West Africa no longer dominating. East Africa emerged as the frontrunner, attracting $880 million in start-up investments, accounting for 31% of the continent’s total. Notably, significant contributions came from ventures such as Sun King and M-Kopa, which alone raised nearly half a billion dollars.

Despite a 29% year-on-year drop in funding, East Africa moved up from second place in 2022 and from fourth place in 2021. Conversely, West Africa experienced a significant decline in start-up funding, dropping from first place in 2021 and 2022 to fourth place in 2023. The region raised just over $600 million during the year, 2.6 times less than in 2022. However, West Africa led in the number of ventures raising over $100,000, with 191 start-ups, accounting for 39% of the continent’s total for that threshold. African start-ups have recently showcased a notable preference for debt financing over equity, marking a significant shift in funding trends. Notably, prominent players such as Sun King, M-Kopa, and

MNT-Halan collectively secured around two-thirds of all debt financing raised by African start-ups since the beginning of 2023.

Challenges in the East and West African start-up investment landscape

Failure Rate: The average survival rate of start-ups in Africa was 75% after one year, 46% after three years, and 25% after five years in 2020. These figures are slightly below the global averages, which stood at 78%, 50%, and 33%, respectively. Ethiopia and Rwanda exhibited the highest failure rates at 75%, followed by Ghana at 71%, and Uganda at 70%. Conversely, Kenya boasted the lowest failure rate at 24%, followed by South Africa at 28%, and Nigeria at 29%.
Gender Disparities in Funding: Despite advancements in the start-up sector, gender imbalances persist within the funding landscape. The funding landscape in Africa is primarily shaped by male founders and investors, who often show a preference for male-led start-ups. The presence of female investors remains notably scarce, comprising 13% of active investors. Additionally, only 17% of funded start-ups in Africa have at least one female co-founder, with female-founded ventures accounting for just 27% of all start-ups in the first half of 2022.
Limited Local Investor Engagement: Local investors based in Africa accounted for only 29% of total investments. The majority of funding for African start-ups originates from foreign investors, whose expectations, preferences, and risk appetites may differ from those of local investors.
Limited Later-Stage Funding Opportunities: Although early-stage funding has experienced notable growth in recent years, later-stage funding remains limited and fiercely competitive. Consequently, many African start-ups encounter challenges in scaling up or achieving successful exits.
~ Joy Kibaki, Oyin Olatuyi, Aji Ayorinde