Investing from the ‘Frontier of the Frontier’: Lessons from Ten Years as an Investment Advisor in Africa
“We need to have a deeper conversation about how to recognize and celebrate outcomes beyond metrics like leverage,” says Andreas Zeller of Open Capital Advisors in a new interview with INVEST. He highlights how development agencies like USAID can focus their support only on deals and markets that truly need them, increasing their impact.
This interview originally appeared in NextBillion on March 9.
By Kristin Kelly Jangraw, INVEST Communications
With six of the world’s 10 fastest-growing economies, Africa is an attractive target for investors. But investing there doesn’t always come easy. The deal sizes are smaller, the due diligence costs higher. And investors must have the stomach for political instability, currency fluctuations and other risks.
Increased investment, however, could make a big difference on the continent. International development agencies recognize that their limited budgets can’t meet all of Africa’s infrastructure and humanitarian needs, and they are turning their attention towards private investment to close some of these gaps. The big question is whether donors can address investors’ challenges and unlock a flow of capital aligned with development goals.
Ten years ago, Andreas Zeller left investment banking and private equity to move to Nairobi and co-found Open Capital Advisors. Open Capital helps investors access African markets, and helps African businesses become investment-ready. It is also building the next generation of African business leaders through an analyst program for recent college graduates, modeled after top global investment banks and consulting firms.
I interviewed Zeller about the barriers to increasing investment throughout the continent, and how development and donor agencies can start to remove them.
The following interview has been edited for clarity and length.
Kristin Kelly Jangraw: What are the hurdles to investment — real or perceived — that you and your investors confront on a regular basis?
Andreas Zeller: The first is the challenge of identifying a pipeline of businesses that are investment-ready. You often hear people say, “What do you mean there’s no pipeline? I see hundreds of business plans.” That’s true and that’s not the issue.
The issue is that many business plans are nowhere near ready for any credible investment committee. Small businesses often don’t keep proper accounts. They rarely have professional governance structures. Many don’t have a clear plan about how they want to grow, nor a view on how to build a team to support that growth. Those are big missing pieces.
The second challenge is high transaction costs for investors. For example, investors may need consultants on the ground to figure out the commercial model, accountants to audit the financials, lawyers to structure a transaction in a challenging geography, and tax advisors because of the different regional dynamics. By the time they’re done, it’s very expensive.
Third, there is a big challenge around talent availability and skill base. We’ll often find businesses that have an attractive product, a great entrepreneur and a ready market. We want to provide support, but the question becomes: If you receive investment, how will you build the team you need to grow? How will you find and retain that talent?
For example, businesses need a CFO to be strategic about finance. Otherwise, if they have a working capital constraint, how will they solve it? That’s a strategic question, and it is very challenging to find that skill. This is what Silicon Valley has done very well — you have all the right skillsets converging in one place. In Africa, this is not yet happening, though we are already seeing evidence that this is changing.
Jangraw: Talk about the dynamics of investing in different countries in Africa.
Zeller: The challenge is the discrepancy between a few high-volume countries in Africa for private investment, and every other country in Africa. There’s a very broad discrepancy in many indicators — economic and otherwise.
For example, say a donor wants to support a private investment initiative in East Africa. Most of the investments will end up being in Kenya, because it is the deepest market. And donor investment programs usually end up focusing on investment hubs. If donors want to promote investment in smaller markets, I believe their approach needs to be intentional and tailored to each market.
People often ask me why we have a Uganda office, assuming our Kenya office should be sufficient to cover the region. But Uganda functions very differently from Kenya, despite being next door, and you can’t deeply support Uganda and Ugandan businesses unless you’re local. You really have to be there. You have to form relationships. You have to understand how business works in Uganda. You have to understand who the key families and players are behind various industries and enterprises. That’s just how business gets done.
So it’s really important for donors designing programs to adjust their goals, expectations and timelines to the markets in which they’re working, and the objectives that they are trying to achieve. Maybe you tier the leverage ratios you expect by country, business size or nature of entrepreneur, because local-founder and women-led businesses will often benefit from more support. Otherwise, if the sole metric is dollars of capital raised, you will default to the areas with the easiest pipelines. We need to have a deeper conversation about how to recognize and celebrate outcomes beyond metrics like leverage.
Jangraw: How do we move past that focus on leverage? And how can donors make sure they are crowding in, and not crowding out, private capital?
Zeller: I think the struggle comes when donors target deals that would probably happen anyway. The argument is often that they’re accelerating deals, and that might be true in some cases, but it likely isn’t true for most cases.
There is a tremendous amount of impact donors can achieve by focusing on deals which are delayed for long periods, are complex relative to return expectations, or for which there simply isn’t a commercial market — maybe due to smaller transaction sizes, which are by nature more expensive to complete. I think there is a good reason for transaction advisors to receive some form of blended finance support for smaller deals, or deals that are new to the market — less so for larger deals for which the potential commercial proposition does make sense.
The real question is: How can grant capital be used more thoughtfully to develop frontier markets, rather than create a risk of distortion by chasing the highest leverage numbers? Then, how can you do that with low overheads? That’s understandably a hard question, given the importance of leverage to prove value to public funders.
I think it’s critical for donors to identify the gaps in markets that typically aren’t supported — for example, supporting first-time fund managers, who may have smart strategies tailored to their market and still struggle to raise capital. If you’re coming in and providing them with their first anchor commitment, they might go off to the races, raise more, and demonstrate an effective approach focused on smaller deals. That could be an effective distribution mechanism. You could do the same with local banks, helping them to innovate so they can support new industries and technologies that aren’t yet well understood.
There’s also an opportunity for donors to shift their efforts to the frontier of the frontier. We talked about the differences between investing in Kenya versus Uganda, but we could also look at Mozambique and Ethiopia — or, even harder, Somalia, South Sudan, Sierra Leone or Liberia. In those places, there is a lot of important market-building that requires donor support and there is very limited industry, so the risk of distortion is less from an advisory perspective. Yes, the leverage ratios will be lower, but it will have a big impact from a development point of view.
Open Capital Advisors is a member of the USAID INVEST Partner Network, a group of more than 200 firms working at the intersection of investment and international development. To join the network or learn more about INVEST, visit www.USAID.gov/INVEST