Posts Tagged ‘investment’

Assessing the size and value of investment opportunities with an informal economy footprint

There’s an interesting snippet from the Nigerian news yesterday that led to this framing of a necessary problem statement. KPMG’s head of private equity is quoted as saying:

Meeting current needs of the one billion plus population and, the future demands of the rapidly emerging middle class consumers will drive the next wave of Private Equity investment on the continent.

However, investors, according to KPMG, are keener to do business in sectors that have little to no direct relationship with government, or through structures that limit government control and undue influence.

This was the view of ‎Partner & Africa Head, Deal Advisory & Private Equity at KPMG, Dapo Okubadejo, who said that throughout the firm’s ongoing interactions with foreign investors, it was clear that concerns about ‘red tape’ and perceived corruption are still top of mind for investors who are looking to enter African markets.

Given that private equity investments are currently the hottest thing in key African markets, this shift in emphasis to more consumer facing sectors brings to light some unique challenges that investors will have to face beyond the oft mentioned challenges such as variability in quality of infrastructure and inadequate systems:

  • African consumers transact mostly (90-odd% in most markets) in cash.
  • Emerging consumer classes are more likely than not employed in informal sector activities, in small business and trade. This has impact on both their purchasing patterns as well as their cash flow regardless of income strata.
  • Services are mostly part of the informal sector.
  • Greater degree of retail formalization at the front end (B2C) is no guarantee of similar degree of formal structures at the back end (B2B). Distribution, delivery, payments – the entire supply chain – may have components from both the formal and informal sectors.
  • The role of personal relationships and social networks in the information ecosystem and impact on B2B and B2C decisions.

What does this actually mean, though, to the investment community?

A few years ago, Emerging Futures Lab had the unrivalled opportunity to work with Village Telco, a South African social enterprise whose corporate mantra emphasized open innovation. We can openly share our experience of qualifying, from the perspective of investment and potential for returns, an industry sector for which little or no market data is available due to its significant footprint in the cash based informal economy.

While the industry itself – cyber cafes or internet cafes – maybe in decline today due to the proliferation of affordable smartphones and data plans, back then it was a significant market opportunity for an innovative communications technology. Our task was to assess the size and dollar value of this industry and the market potential for Village Telco’s Mesh Potato device. This was complicated by the fact that not only had we to offer product pricing recommendations but we had to elicit purchase intent for an unknown product category.

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Implications for Investment in B2C

This experience was an eye-opening exercise in shedding light on assumptions made in traditional market analyses and pricing exercises.

When such a significant proportion of the industry is operating in the informal sector then many of the heuristic methods and frameworks either did not apply or resulted in skewed outcomes.

The assumptions underlying pricing, for example, focus on utility value, whereas we discovered the majority of informal sector businesses looked at revenue generation potential, intent on maximizing the returns on their capital investment in new technology.

The implications for risk and returns, as assessed by consumer facing businesses, are also influenced by the cash flows and patterns of the informal sector. When the majority of transactions are in cash, how does this influence decision making?

The specific business or industry itself that PE funds are considering may not be as informal as the internet cafe industry but any consumer facing business in this operating environment will face the implications of the propensity for cash.

To summarize the challenge for market assessment:

  1. Heuristic frameworks for market analysis developed in the context of more developed operating environments may not always offer accurate insights on potential for sales and market share.
  2. Assumptions made on purchasing patterns, pricing and buyer behaviour should not be left unquestioned, particularly if the industry segment has a significant footprint in the informal sector.
  3. Risk assessments may be skewed by the impact of the above two factors in the qualification of a market’s potential or industry viability.

Caveat:

Many of the most visible investments till date have been in FMCG such as dairy or biscuits but The Economist offer their opinion albeit without mentioning the increasing emphasis in the B2C space.

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The Rise of the African KINGs

The Abraaj group announces yet another African investment fund, one which emphasizes the following:

The sectors include consumer goods and services, consumer finance, and resource and infrastructure services in the core countries of Nigeria, Ghana, Côte d’Ivoire, South Africa and Kenya

While South Africa tends to be de facto in most continental investments, note the choice of the other four countries. Rewritten, we get Kenya, Ivory Coast, Nigeria and Ghana. Or, as was noted earlier, KINGs.

Watch this space.

Sharing insights on the ROI of cow ownership with The Economist et al

Dung cakes provide free fuel for the rural housewife (photo credit: Goverdhan Meena)

While the internal rate of return (IRR) of a cow may certainly be in the high negative numbers, per the recent Economist note on research, there are other elements of the cost/benefit analysis that also need to be taken into account when considering the real value of owning livestock. There are differences based on region and locale naturally though the patterns of economic activity might resemble each other due to similar challenges. Here, I will mostly look at the rural Indian context.

1. Fuel

Rural households without access to the electric grid use firewood and cow dung cakes for cooking and heating in India. Cow dung as fuel is not used to the same degree of prevalence in rural Africa as it is in India. Above is a photograph of a typical village home in Rajasthan, western India. You can see the source of fuel, the black buffalo, tied up next to the work area. During the dry winter, dung is collected, mixed with bits of twig or straw and shaped into patty cakes by hand and then left to dry. After they have sufficiently hardened, they are stored for future use in their own shed.

Dung is slow burning and retains heat longer, while wood catches fire quicker so a combination might be used based on the day’s menu or if wood is not available. While labour cost has been calculated for the upkeep of a cow, it does not take into account the labour cost of foraging for firewood whereas the dung is both free of cost, plentiful and easily available right there at home. This pattern of juggling more expensive fuel with cheaper fuel (here, expensive and cheaper can also be said to be easily available or convenient and less accessible or time consuming to obtain) is prevalent in rural households observed in The Phillipines, in India, in Malawi, in Kenya and in South Africa.

2. Fertilizer

Organic, free, sustainable fertilizer. Enough said.

3. Milk

Even if the women in the household may not be able to afford a cow or it may be considered a man’s possession, she usually has a nanny goat or two for milk in the morning. When there is no access to the electric grid, nor home appliances to preserve it for longer than a day, then the best way to access fresh milk for the morning cuppa is directly from the udder. With larger livestock such as a buffalo or cow, the quantity maybe sufficient for cash sale to the ubiquitious chaiwallah if noone else. Milk and milk products such as yoghurt and cottage cheese (paneer) are a part of the Indian vegetarian diet. Sales provide an avenue for cash money, necessary to the most self sufficient farm, such as for mobile airtime or salt, oil and tea leaves.

4. Investment

An assumption that these recent discussions on the ROI of a cow or buffalo seem to be making is that the cost is that of a fully grown animal. Few lower income households could afford mature livestock and the majority would tend to purchase a young calf. Whether its subsequently fattened for food, such as in The Philippines or for milk and young, such as in India and Kenya, the comparative affordability of a calf is such that the value of the mature animal is considered a worthwhile return on investment. In an emergency, livestock is a walking fixed deposit, to be sold for ready cash. In parts of rural Kenya, livestock prices are known to be depressed at the beginning of the school year as parents prepare for fees, books and uniforms.

5. Status

When it does not make sense for you either purchase or park that shiny Mercedes in front of your humble home, how do you communicate wealth and status?

The walls are plastered with a mixture of cow dung and mud before the womenfolk decorate with traditional designs. Dung is considered a purifier and has myriads of uses. This household clearly sends a signal of its status in the village and its ownership of a producer of fuel, food and fertilizer.

As Singh notes, the respect and regard paid to cows in India is well known, but the importance to rural Indians of the dung and urine of this sacred animal is often ignored. “Cow dung is used as a cooking fuel, sanitizing cleanser, construction material, for insulating and waterproofing walls and floors in rural houses, as a cultural symbol in religious worship and the raw material for producing organic compost and generating electricity.

Discussion

Further discussion on the findings published in The Economist was by economists Daren Acemoglu and James Robinson, in a post titled “Cows, Capitalism and Social Embeddedness” where they say:

 What to conclude from this? Perhaps one explanation is to embrace the idea, once popular among some social scientists and recently gaining some further traction in more sophisticated forms among development economists, that poor people are irrational and cannot make decisions in their own best interests.

An alternative, however, is provided by the anthropologist James Ferguson in his book The Anti-Politics Machine that is a study of development problems in Lesotho in Southern Africa. There are many points to this book but one of them is to show that economic analyses that failed to take into account the social ‘embeddedness’ of economic behavior often come up with spurious interpretations of what is going on — and as a result, give irrelevant policy advice.

The consistent behaviour, call it socially embedded or irrational foolishness, that has been overlooked in these highly learned discussions is that of emphasizing self sufficiency and independence from the formal or cash based economy

Cattle are but one of the many means rural households utilize to ensure that they need the absolute minimum cash money outlay in their daily household expenses. Labour cost is rarely that of the head of the household, most cows will be looked after by youth or womenfolk on the homestead. What is a daily challenge for those who live on the land and off of it is the availability of actual coins and paper notes for conducting transactions. The seasonality of the harvest, yet another element that tends to be overlooked by urban educated professionals receiving salaries in digital money directly deposited to their bank accounts, implies that any significant amount of actual tangible cash money is also linked to that period of buying and selling on the market.

For the rest of the natural year, there are very few sources of cash money available to even the most self sufficient household, and this is a behaviour that is emphasized. Most everyone interviewed will proudly proclaim just how little they need for external purchases, pointing proudly to their sources of “free” fuel, firewood, daily milk or dairy, and of course non perishable staples like wheat or rice.

This pride in the rural resident’s self sufficiency and independence from what they see as the burden of ties to cash money requirements is not something that any amount of data collection, metrics or economic rationality can ever quantify nor replace, as The Economist suggests, with mobile money as an alternate savings mechanism.