CAN THE RIGHT FINANCING STRUCTURES BOOST CONNECTIVITY IN AFRICA?
An estimated 2.9 billion people globally have never used the internet and the vast majority of those people live in developing countries.
But strategic investments can work to reduce that disparity with increased access to connectivity reaping both social and economic rewards, according to participants in a recent webinar that brought together experts working in the connectivity investment space on the African continent. The webinar was hosted by E3 Capital, a leading pan-African investor in early-stage low-carbon and smart infrastructure companies.
In order to boost connectivity across the African continent, it's just a matter of figuring out the right financing balance, at the right time in the company’s development, in order to bring the companies to scale, the participants said. “We see access to the internet as a way to create a more level playing field, where the availability of information can be especially impactful for the disadvantaged,” said Linde Lassche, investment officer at FMO, a Dutch development bank.
CATALYTIC GRANTS
Grants are an effective way to support earlier stage start-ups, technologies or business models where there may be higher risk and a need for flexible funding, said Lauren Bieniek, digital inclusion advisor at the United States Agency for International Development (USAID). This can give companies a needed boost to operate in more challenging market environments, test new approaches and build sustainable models. An example of this was an early stage grant to the Kenyan internet service provider Mawingu, helping the company to pilot and establish a business model for low-cost rural connectivity. The company has since attracted venture capital, other investors and grown considerably. Another is a partnership with broadband infrastructure provider CSquared in Liberia to de-risk the construction of 200 kilometers of metro fiber.
“Without USAID’s co-investment, CSquared likely wouldn't have entered the
market and the country would have been left without this connectivity for
some time,” Lauren said.
Creating the right policy environment is also crucial, she said. USAID works with governments to create a more favorable environment for internet service providers and their investors, and also works with civil society, businesses and individuals to strengthen digital skills to drive demand for these services.
USAID sees a “really critical gap in the availability of capital in the sector, partially a result of continued perceived risks and knowledge gaps that remain among investors,” she said.
Demonstrating successful investment opportunities in the sector can work to overcome this barrier, Lauren said. To help with this, USAID launched Digital Invest in April, to “work with fund managers and other financiers of the sector to offer blended finance and crowd in and mobilize additional capital for internet service providers and fintech companies,” she said.
THE RIGHT TEAMS
As an early investment company, when Connectivity Capital decides whether to invest, it's about finding the right teams in addition to their financial performance and backing teams that are “doing great things in places where it's never been done before,” according to Jim Forster, general partner at the investment fund. Connectivity Capital’s funding is typically the first money that comes in after funding from the founders.
Over the last 12 years, they have built a “a pioneer portfolio” of about a dozen ISPs. Since their teams understand the sector well, they can easily benchmark companies against their portfolio. About half of their investments are in equity and the other in debt.
There are more medium-sized companies in this sector than larger ones across the African continent.
“By getting in early, we can find the bigger companies of tomorrow,” Jim said.
Connectivity Capital sees benefit in being active, hands-on investors that provide value beyond money, he said. Their team attends management and board meetings of the companies in which they invest, working to steer them with advice and provide connections.
While Jim said they prefer founders that are technically-led, over those that are business-led, this sometimes comes at the cost of strong sales. There can also be “overly ambitious” founders who want to extend into new countries before they've mastered one market. Investors have also tried to influence the company’s decision-making process and push for them to use their preferred technologies or to tackle problems they are passionate about, rather than encouraging the company to make decisions that best suit its business
model.
RUNNING OUT OF CAPITAL AND UNDERSTANDING THE SECTOR
E3 Capital invests in “big problems, potential solutions, and great teams to execute,” according to Paras Patel, managing partner at the venture capital fund. For early stage investments, he said deciding to be the first institutional investor into a company sends a strong message to the markets.
Beyond providing risk capital, investors should help companies de-risk themselves, Paras said. As they improve their business models, they can raise additional capital.
Paras echoed Lauren, in that one of the biggest challenges is availability of capital. With venture capital, a lot of businesses fail not because of lack of execution, or the wrong business model, but because they ran out of capital, he said.
A key lesson E3 Capital has learned is to focus more on quality of growth, rather than quantity of growth.
Getting different stakeholders talking to each other is also important for a shared understanding of what companies need to reach scale. “One of the biggest challenges we felt whenever we pitch our portfolio companies to larger companies is the fact that connectivity is not that well known,” Paras said.
QUALITY PARTNERS AND SYNERGIES
As an investor not well-versed in the sector, FMO is reliant on quality partners with the requisite technical knowledge and on-the-ground presence, according to Christian Roelofse, investment officer at the development bank.
“Supporting them in their own growth and identifying opportunities, has
allowed us to get exposure and go on that journey along with them,” he said.
A key challenge in the connectivity space is affordability, especially in rural areas, Christian said. But with more capital growth and further development of technologies, affordability will increase. Also, the more accessible the internet becomes, the cheaper it is. This is not only for the end user, but new businesses working in last mile connectivity that need to connect into something like an open access platform, whether it be neutral data centers, or open access fiber backbones, he said.
If you have operators in different areas such as on last mile connectivity, data centers, terrestrial fiber, and subsea, it creates operational synergies, Christian said. “If each of them set up their business model in a way that makes it easy for the person in front or behind them in the value chain — I think everyone wins. Everyone's able to provide scale,” he said.
THE ‘MISSING MIDDLE’ AND BOOSTING PARTICIPATION
In the connectivity space, investors can see utility scale impact without utility scale capital investment, according to Ben Matranga, managing partner at Connectivity Capital. While utilities require large scale infrastructure, such as a power plant or dams, connectivity is a constant ongoing series of phases where you're continually upgrading the network. Because of this, the investor can take a smaller amount of capital and use it efficiently over longer periods of time.
While internet prices on some parts of the African continent are inexpensive, in some rural areas and landlocked countries, the price can be up to 50 times more expensive, Ben said.
On the majority of the continent, you can find a 2G voice signal but there are limitations to its utility — it is consumed quickly and runs at slow speeds, Ben said. “We want to see an uncapped, always on, ecosystem so that people can meaningfully participate in the digital economy.”
There is a ‘missing middle’ in financing the connectivity sector for small and medium internet service providers, Ben said. There are many development finance institutions willing to finance utility scale digital infrastructure, but access to capital is limited for smaller networks seeking less than $5 million.
Connectivity Capital launched the Connect the World debt fund in 2021 to serve the ‘missing middle’ by providing loans to expansion phase ISPs.
Being proactive is key, Ben said, adding that it's critical to “understand the risks early on, to be able to jump in and get the transaction done so they can keep their business growing.”
LATE-STAGE INVESTMENT AND SECTOR OVERLAP
Convergence Partners sits at the later stage of the investment cycle, working with “businesses that have either received early stage investment and are looking to grow and expand both product, services and footprint,” according to Envir Fraser, chief strategy officer and deal partner at the firm.
Getting access to the end users in most African markets is challenging Envir said, not just from the technical point of view, but also in terms of the cost of maintenance and deployment — and, importantly, in terms of commercial viability. Effective partnerships can help with this, he said, with development finance institutions and other players in the market looking to leverage commercial money and corporate social investment funding to build infrastructure and subsidize additional costs. This unlocks markets that would not ordinarily receive consideration by private capital.
The Off-Grid Energy Access Fund (“OGEF”), managed by Lion’s Head, is a debt fund focused on energy access in Sub-Saharan Africa. While it does not invest directly in the connectivity sector, it invests in renewable energy and has increasingly seen connectivity components in its investment space. In order to build up the infrastructure around connectivity in a mostly decentralized way, there is a need to provide access to energy in the first place, said Alban Deheunynck, a director at Lion’s Head.
For example, solar home systems distributors are part of OGEF’s portfolio.
“Those companies are now expanding their product offering to include digital products, on a pay-as-you-go basis, “ Alban said. The distributors may also include applications for smartphones to support entrepreneurs grow their businesses or farmers to better anticipate weather forecasts.