Back in December 2020, Kune Foods, a Kenyan on-demand food delivery startup, launched its services with high hopes. Six months down the line, it raised its first million dollars in venture funding, further spurring hopes of a promising trajectory. A year later, Kune shut down due to unsustainable operations costs. Its production cost averaged $1.56, while its gross margin averaged $1.44. Though the company could have attempted to implement measures to offset the losses and remain afloat, the success of the first round of venture fundraising created expectations that did not match the reality of the market that the company was operating in.
Similar stories abound across Africa. Startups like Notify Logistics (Kenya), Andela and Efritin (Nigeria), and KuBitX (Pan-African) all started off with promising prospects during their initial rounds of fundraising, only to end up completely failing or having to drastically alter their business models to remain in their respective markets. Andela is maybe the most notable case as the company was forced to shut down all its offices and go remote to reduce costs only one year after raising more than USD 100 million in 2018.
Conversely, startups such as DPO Group, a payment solutions company which raised 100 million dollars in funding from angel investors and debt financing in 2016, and Paystack, a payment processor, raised 20 million dollars from grants and venture capital in 2022. In 2022, DPO Group went on to be acquired by London-based payment solutions giant Network International. Paystack was also acquired by an Irish-American financial services company Stripe in 2022.
The perks of diversity
What primarily helped these startups stand out was their ability to expand and present an appealing business model for acquisition. While companies like DPO Group and Paystack initially raised moderate funds compared to those like Andela, the diversity of their funding sources has allowed them to deploy expansion efforts consistently. The risk of funding for startups drying up is omnipresent; this much is clear. But much like the lesson of the age-old adage “do not put all your eggs in one basket”, relying on one source of funding, in this case, venture funding, threatens the African Startup boom before it takes off.
The global economic downturn is one of the early warning signs that startups should look elsewhere to quench their investment needs. Unfortunately for African businesses, mergers and acquisitions are predicted to be the primary growth strategy for startups worldwide. At the same time, data shows that investors anticipate significant reductions in their investment rates, which does not bode well for African companies.
It doesn’t help that many are primarily in seed and pre-seed investment rounds; the average period for startups’ exit through merger and acquisition is six to ten years, and this is in more developed markets. These two dynamics, along with the vast number of African startups that have come to rely more and more on venture funding over
the years, raise concerns about a financing collapse.
Venture funding in a global economic contraction
Despite venture funding reaching new heights in 2021 (USD 681 billion globally), it seems that the hopes of more stable financing are likely to fade. In 2022, the industry raised 445 billion dollars, a 35% annual decline that signifies a definitive downward slope. However, it is not an abysmal figure compared to the overall investment industry which shrank by more than 7% between the second and third quarters of 2022 alone.
Africa’s burgeoning tech and startup industry, one of the most dynamic in recent years, stands to become the biggest loser because it has been the biggest winner. While total venture investment declined globally in 2022, financing for African tech companies through venture funds increased by 8%. Funding for the overall startup ecosystem was even more impressive, up more than 34% to billion dollars for 2022.
Breakout vs break even
The success African startups had in 2021, while it remains impressive, is an outlier. In line with the global economic outlook, in 2022, most deals were closed in the first half; the second half recorded a year-on-year decline in both funding and deals.
This is not surprising considering that investors all over the world are gearing up to implement more cautious, if not ascetic, investment strategies. Venture funds raised more than 150 billion dollars for the second consecutive year in 2022 at 168 billion dollars; with all forecasts projecting contractions across every front except this, less of these funds are expected to finance developing economies. Within investment circles, venture funds’ unallocated capital (dry powder) is notorious due to the lack of pressure to invest; a deficiency that is always exacerbated as markets plunge into uncertainty.
Investors also recognize the benefits of providing alternative financing options. Many, like the Amazon-backed Alluvial Fund, invest in multiple African startups such as Flutterwave and Kobo360 through a combination of grant funding, venture capital, and debt financing. Such developments highlight not only the potential but the need for a multifaceted approach to fundraising. With African startups and the continent at large looking to adopt sustainable practices and cement their place in the modern marketplace, a stable and durable approach to financial flows is the next vital step. The continent has been dynamically working on integrating itself into the fold of international markets in recent years in recognition of this, and any hopes of weathering the coming financial winter rely on strengthening its place as an active player in the modern world.