Innovation in Social Capital Deployment — Part 1
Social issues affecting effective capital deployment
Yes. Myriad economic and political issues hinder free flow of capital. The absence of viable data warehouses to identify citizens of African nations, political instability in these countries, etc. In this article, I seek only to explore the social and anthropological observations and reflect on their impact on capital deployment. In my follow up article, I discuss from my experience, innovative approaches to investments that overcome and even leverage these critical social issues.
Like many others, I believe Nigeria’s new “black gold” is its youth population. If you were in 1950s Nigeria when we first discovered crude oil, and had foresight into the future power of crude oil, you probably would have divested immediately from Agriculture and put everything into acquiring even one oil well. That is the same way I think about Nigeria’s youth population. It is massive. It is untapped, grossly underutilized and meaningful value has never really been extracted from its potential. I strongly believe in the role of entrepreneurship (youth and SME) in combating youth unemployment and truly unearthing the population’s future potential. For over 5 years, I have run large scale public-private partnership incubators and 350 micro-investments ($700+) later, I can tell you a few things about capital deployment in Nigeria.
Entitlement and Dependency
Once, after a long detailed speech describing to a group of 77 youth the seed-stage incubator program GEN had developed in partnership with their State Government, a young man Samuel asked me, “So when do we get our money?!” To him, the PPP financing from his government were personal entitlements, not business investments. That the actual investment cash was from GEN was irrelevant to him. There was no thought as to what business he would run, seed capital he would require, nothing. Just wanted to get paid? In Yoruba language, even the word “government” translates as “ijoba” meaning “kingdom.” And too frequently, government officials refer to youth as “awon omo wa” meaning, “our children”. This mindset portends a parent-child relationship where the parents (read “governments”, “investors”, “adults”, etc.) are expected to perpetually give handouts. After going through our incubator, Samuel later confessed that his sole intention was to take his entitlement money and jet.
Get rich quick!
Countless media spots tout Africa’s emerging middle class and the burgeoning of a socially conscious, world aware youth population who have better purchasing power combined with more affordable goods and services. On the streets of Lagos, Abuja and Port Harcourt, young people are visibly entering the middle class. The continued celebration of this emergence belies the underlying cultural reasons.
At the start of any of our programs, when surveyed on what type of business they would like to run, up to 45% of youth wanted to start a trade related business. What was their main reason? Each wanted a business that would enrich her in the fastest possible time with the least possible amount of work. Over time, we discovered that at best, these businesses were simply arbitrage situations, where the entrepreneur did little or no work but made profits of 50% or more. At worst, the entrepreneurs had the makings of fraudulent business.
Flamboyant and sometimes excessive, the Nigerian elite and middle class frequently display their wealth or better financial situations visibly for any passerby to see. From testimonies of “God’s blessings” in religious institutions to extravagant public weddings at outrageous costs, constant messaging in the culture wires the mind to get rich fast. In public eye, an individual’s worth is culturally closely tied to his visible wealth and possessions. The more money you have or appear to have, no matter how it is acquired, the more worth you’re ascribed. Most other cultures praise wealthy people but many care about how the wealth was acquired. That does not apply here.
This particularly pervasive cultural situation manifests in the short-term way business is conducted in Nigeria. For instance, commercial bank lending is highly trade oriented. Yes, inadequate citizen identification systems and other infrastructural concerns make longer term value-based lending difficult. But if not for this cultural mindset, I posit that those secondary issues will have been nearer solved than they presently are. As far as I understand, the Central Bank is the socially responsible one that has to consistently push the commercial banks toward better lending practices. It has also set up specialized banks such as the Bank of Industry and the Bank of Agriculture for more value creation access to capital channels.
Low Transparency and Ultimate Control
Majority of businesses are run as sole proprietorships and generally exist simply to serve the owners personal purposes. That implies that businesses are seen as an extension of private personal affairs and must be intentionally shrouded from external and even internal view. Personal bank accounts are rarely truly separate from business accounts. Governance systems such as Boards and Audits are viewed as an intrusion. Professional services such as management consulting are considered extraneous. Coupled with low understanding of formal business procedures, this culture yields little or no reliable information on businesses for investors and the public. A comparatively weak tax and financial transparency system exacerbates the situation — without strong compliance enforcement or reporting incentives, most enterprises remain opaque.
Given this cultural context, it is clearer to see why people don’t understand equity and why sharing equity and giving up full control can be a particularly challenging concept for the Nigerian entrepreneur. From Lagos to Kano, the one-man business rules and regardless of how large or profitable one of these businesses gets, it is always run as a one-man business with minimal external input depending on the entrepreneur. As can be expected, succession planning and deliberate institution building scarcely occur and organizations tend to die with their founders.
Youth is less valuable
Nigeria has a strong hierarchical culture with priority and precedence accorded by age, socio-economic status and gender in that order. And the gap in how members of disparate strata of society are treated can be very wide. For instance, opinions of older people will always be more relevant than those of younger people in business settings; in fact, younger people will most likely be discredited simply because of their age. [Once, while I was a freelance management consultant, a client, the Managing Director of a subsidiary of a large prominent financial services group, discontinued our professional relationship after he learned my age. My work had been evaluated, deemed excellent and used for its intended purpose. Suddenly, after learning how relatively young I was, he never completed payment for work done.]
Generally speaking, youth is not as cherished in Nigeria as it is in the US and other developed markets. Despite the larger size of youth population, ageism is a real African phenomenon that plays out in business and investment scenarios. Society largely believes that wisdom necessarily derives from age, and demands that preference be given to older people in many contexts including national resource allocation and planning. Socio-economic planning for youth and future generations, large direct investments in youth, youth political participation, and even legacy assurance are not common considerations across macro-society. Ironically, youth appear wiser as they continue to clamour for resource allocation toward legacy development.
Meanwhile, more affluent people’s opinions trump those of less affluent people regardless of education and reputation. Male opinions are regrettably always more highly valued than those of women. Worse, in many situations, women, regardless of the level of affluence remain disrespected — the prevailing assumption automatically attributes their wealth to a man — father, husband or significant other.
Low levels of trust
People distrust financial institutions and financiers. Given prevailing conditions of poor institutional practices, low transparency and high costs of capital, an average entrepreneur believes banks and other sources of capital intend to bleed her dry. So trust is low. Banks have struggled to build their own infrastructure to verify customers and build a strong base of trust and transparency in their business operations. Sometimes, this infrastructure has imposed unbecoming requirements on customers. For instance, a bank lending $250 may require highly valuable collateral such as land ($3,000+) to mitigate default risk. Many times, in a default situation, the bank has to liquidate the collateral and the borrower’s long-term asset becomes devalued, leaving the customer distraught and feeling cheated.
People distrust the government. With high rates of corruption in public and government systems, society has learned not to trust the government. Government-established value-driven banks such as Bank of Agriculture and Bank of Industry are still largely distrusted. Few entrepreneurs know about them and even fewer believe in their efficacy and transparency.
People distrust other people, no matter how close. Young entrepreneurs frequently fear to share their ideas with anyone and are advised toward secrecy instead of collaboration. This makes competition rife, copycat businesses endemic, and results in many small unprofitable businesses.
Implications for Investment
Africa’s socio-economic renaissance continues to excite the world. From investors to the media, diplomats to religious leaders, Africa is the talk of the town, the new kid on the block, the bride everyone wants to court. With the high influx of foreign direct investment, everyone seems to be asking the critical question: “what is the future of these investments?” But no one appears to have an original answer. Traditional private equity firms are springing up like mushrooms across asset classes, angel investment is struggling, and true venture capital is practically non-existent. Beyond Africa’s infrastructure and data challenges, how do frontier market financiers decide how best to deploy capital in a young uncertain environment lacking?
The answer lies in a deep understanding of the social context. When you look at Africa, you can tell that its leaders are expert political and economic engineers. Very few understand social engineering and its power to change the fabric of society. I have seen many a great leader, strong government, well-meaning NGO, astute investor and serial entrepreneur make the same mistake over and over again. When they arrive, they inadvertently look at isolated parameters and rarely spend sufficient time to truly understand the fabric of society. The biggest mistake I most frequently hear is hasty generalization. When explaining challenges of operating in the African (Lagos, Nigeria) context, the phrases usually are: “Oh, that’s exactly how it plays out in India!” “That’s a typical challenge for entrepreneurs everywhere in the world, from San Francisco to Sao Paolo.” The problem with this method of thinking it will continually miss the nuances and idiosyncrasies that make an investment destination unique.
All these cultural nuances create a significant challenge in putting financial systems in place within these companies. The highest remedy remains proper business education before capital deployment. In GEN’s case, we not only had to go back to teach basic accounting to market women and street youth, but also had to create tools and templates to ease the burden of and enhance discipline in record-keeping, financial analysis and compliance reporting. In fact, given the disparate literacy levels of our entrepreneurs, we occasionally had a staff member receive and digitize handwritten reports. To date, we continue our design and development of tech-enabled real-time large-scale financial data gathering and analysis methods.
Solutions: A Preview
Bill Meehan, Stanford Business School professor and GEN advisor, believes that the best way for private equity financiers in frontier markets to overcome the transparency challenge is to finance through debt and other convertibles. According to him, private equity works because of the full due diligence methodology. Where due diligence results are dubious, only consistent cash outflows from the company is truly representative of the performance of the business. GEN bought into that concept and banked its entrepreneurs through MFI partnerships. By enforcing single business account operations with our Fellows, we were able to gain a clearer view of business health.
Nigeria’s youth population is the future. Astute investors will prioritize investment in ventures that improve youths’ skills and contribution to economic abilities. Astute investors will take time to truly understand cultural nuances and their effects on capital deployment. Above all, Nigeria and its friends will invest directly in youth skill development and formalizing or standardizing simple processes that increase productivity across society, especially youth.