“You are going to invest in Africa, the question is whether you are going to do so today or in twenty years’ time”. Investment focused on the world’s youngest demographic is inevitable, and the fact that foreign investment remains restrained for the time being makes it the best time to deploy capital. However, investors should be ready to roll-up their sleeves and take an active role.
The investment landscape in Africa is complex, and full of potential. History (especially that of private equity) has warned us against taking an unnuanced approach to investing in Africa. However, within the comparatively small economies across Africa, there are a number of common truths and misconceptions, unique to the topic of investing in it. On 14 November 2023, Herbert Smith Freehills held an Investment in Africa mixer to address this topic, bringing together our investment practices with expertise ranging from project finance to private equity and structured products.
Following opening remarks from Martin Kavanagh, co-head of the firms’ Africa group, James Rae, an associate in our Funds and Asset Management Team, led a thought-provoking panel discussion on the investment opportunities in Africa, attempting to tackle some of the common tropes and misconceptions.
The panel included two expert speakers, including Ayo Salami, the chief investment officer at EMIM, who set the scene by explaining that the biggest challenge faced by investors outside Africa relates to that very statement, i.e. accessing the continent. More specifically, he spoke about the difficulties of finding appropriate opportunities to enter and then being able to exit the market (taking into account potential exit options and the risks associated with currency devaluation and capital controls). He swept aside the macroeconomic justification for investing in African businesses, not because of its weakness but because of its self-evidence, motivating that the obstacles arise at the microeconomic level through operational challenges and risks associated with individual businesses.
Also sitting on the panel was Tony Schroenn, Portfolio Manager for Imara Asset Management. Tony traces the continent’s growth back to the 2004 debt forgiveness which was a huge catalyst for investment. Since then, he explained that African companies have demonstrated great resilience through the various crises that have hit asset valuations over the last 20 years. In his view, the appeal of investment in Africa comes down to three powerful megatrends: economic formalisation, urbanisation, and financial inclusion. He notes that Africa’s business scene at the microeconomic level is based on successful companies that have exceptional local management teams and world class products. As the questions rolled on, Tony placed emphasis on investors rolling up their sleeves to take advantage of the many gaps across industries. Where there are gaps, there is opportunity.
The speakers highlighted the investment opportunities available to those looking to deploy capital in Africa. Below are some of the key takeaways from the fireside discussion.
What are the current investment opportunities for European investors?
Africa’s urban demographics can be said to be among its strongest assets. Indeed, it is the fastest growing population, set to double by 2050, and by then almost 70% of that population will be under the age of 30. This is a fundamental attribute because, in contrast to Europe which presents an aging population, the majority of Africa’ population will be capable of production.
In an aging population, economic growth can be achieved through technological advancement and innovation, and these present many opportunities for investment. However, African businesses offer conventional opportunities, hardly speculative or unknown, and far more predictable than technological advancements. The speakers explained that it is a natural consequence that developed countries’ surplus capital should channel towards economies still in growth mode with large, productive populations. We have seen examples of this in other regions of the world. In addition, as technologies get cheaper, physical urbanisation is catalysed though virtual connectively, and there are many examples of traditional infrastructure being leapfrogged by technical advancements. Anyone who migrates from African countries to developed countries is always surprised at how “heavy” the mobile payment systems are or how difficult KYC is at a bank. Various solutions exist across African countries for making quick and cheap mobile payments, ranging from SMS to barcode payment applications and KYC checks are done in a matter of minutes through mobile verification applications.
The speakers touched on the concept of inflation differential which drives depreciating currencies, explaining that the most profitable investment opportunities are tied to companies that are projected to grow substantially faster than the country’s GDP and inflation rate. Although these are challenging to find in the current economic climate, the potential revenue margins can reach 40%, well ahead of inflation and currency devaluation. The most successful businesses are those that provide products suitable for a wide share of the 1.2 billion population.
What are the perceived risks relating to investment?
The major risks which draw concerns among investors are associated with currency fluctuations, political instability, custody of assets and accuracy of financial reporting. The speakers demonstrated that each risk is largely based on assumptions and unfounded generalisations. For instance, investors may doubt the quality of financial statements produced by African companies, even where those are IFRS-compliant.
While investors may assume that investment in Africa is inherently risky, the numbers support a more reassuring conclusion. Interestingly, when comparing the standard variation of outcomes across global listed markets, Africa stands out as having the lowest rate of variation, at 16% (lower than US and European markets (respectively 18% and 20%), Asia (25%) and Latin American (30%), Eastern Europe (45%)), yet the widespread perception is that Africa is one of the riskier regions to invest in.
Evidently, there are real operational risks to consider (as you read these risks, take a moment to consider each of these as also being an opportunity, and you will start to understand what Africa has to offer to an investor), namely the challenge of finding talent, regulatory hurdles, lacking infrastructure and the cost of borrowing across the continent. Nonetheless, where the investment is successfully managed, the returns are likely to far outweigh the risks. The success story of Dangote Cement, which grew to be the second largest cement company in the world within 25 years, is just one example that demonstrates the exponential potential for growth and the very tangible types of business needs in Africa.
Importantly, the risk of corruption is becoming increasingly manageable as the majority of African countries have adopted an equivalent to the UK Bribery Act and in any event, the private sector demonstrates professional standards similar to other parts of the world.
We heard that the macroeconomic justifications for investment in Africa speak for themselves. However, once an investor is convinced of the investment thesis, the development of a coherent strategy is vital to the success of any deployment of capital. Investment in each jurisdiction in Africa presents its own set of nuanced challenges to making those investments. However, general perception is currently acting as a false multiplier on the risks associated with an investment. It is these very risks that present opportunities, since assets tend to have significant risk accounted for in their valuations, driving down prices and, where certain stakeholders exit the market, gaps are left for new stakeholders to fill.
A successful investment strategy is likely to require a boots-on-the-ground, active and unique approach. So active, in fact, that investors may find themselves investing (or facilitating investment) up and down the value chain, across a variety of asset classes and deal sizes to ensure that the businesses have the infrastructure they need to succeed. In addition, the form and structure of those investments may look different to similar deals in other regions.
Our dedicated Africa Group is here to help mitigate the risks and provide support on familiar and unfamiliar structures associated with investing in Africa. The group’s mission is to employ their expertise in Africa, build a strong ecosystem and ensure interdisciplinary cohesion to provide clients with a complete toolset for making investment decisions in the region. Should you be interested in making any investments in Africa, please do not hesitate to reach out and we shall connect you with the relevant professional.