(most) Investors are Classist not Racist
Why does 94% of funding in Africa go to foreign-educated CEOs?
‘Break down barriers’
‘fund local founders’
‘unlock SME growth’
These are phrases heard repeatedly at the AVPA conference (Africa Venture Philanthropy). With that kind of focus, why does 94% of startup funding go to foreign-educated founding CEOs?
At the 1st annual AVPA conference, I had the opportunity to lead a session:
Who gets funding?
What’s the barrier?
And how do we fix it?
The common wisdom is “foreign founders get nearly all of the startup funding, and this is racist.” The data suggests otherwise: classism, not racism. National founders do receive about 50% of international startup funding. The real tragedy is that only 6% of the funding goes to African-educated founders.
But it gets worse. Only about 5% of Africans are educated off the continent. Combined with the 6% mentioned above, African-educated founders get about 200x less funding on average than internationally-educated founders.
And yet we know CEOs educated on the continent can also be successful like James Mwangi and Aliko Dangote.
What’s going on?
Let’s dig into some never-before-seen data I have collected through my new website, sunlight.reviews. Let’s find out what is causing this discrimination against African-Educated founders.
Sunlight.reviews receives reviews from entrepreneurs who have raised equity, debt or grant. It then quantifies each step in the funding process to see where the blockage is.
For example, what is the total cost of an impact loan? There is the interest rate which is typically below market rate. But add in the disbursement fees, due diligence fees charged to the startup, management burden due to an impact funder and don’t forget the delay. A typical African bank at 18% interest will take 2 months to disburse a loan and as long as you pay on time there are no other reporting requirements. Compare that to an impact funder who can often take 1 to 2 years to make a disbursement but might offer 10% interest.
Which is better?
We looked at 30 impact loans and found that delay is the main ‘cost’ of raising money. A bird in the hand is worth 2 in the bush, as the saying goes. Interest rate is not the biggest driver. Take Kiva as an example which has a 0% interest, but delays and onerous reporting cause Kiva to have 45% effective interest rate! To get ‘patient capital,’ you have to be a patient entrepreneur. And that’s a problem. Patient entrepreneurs, willing to wait around for 2 years for an impact funder to get their act together, may be less likely to succeed. Impact funding has an adverse selection bias for patient entrepreneurs who might not have the urgency succeed.
‘What causes this long delay?’ someone asked at the conference.
I remember one time raising money from AECF, which took over 6 months from the time we signed a contract to the time we got cash in the bank (the contract signing itself was a 12 month delay from the initial application—18 months total from appliaction to cash).
By that time we were nearly dead. I hadn’t paid myself in months, I took a loan from my uncle, the staff pay was cut in half. And for what? AECF said they believed in us and yet nearly drove us out of business. We won in November and then there were delays that went into December. Then, of course, the Christmas Holidays. So, while the funder was enjoying their holidays, we barely had enough food to eat. I’m not joking. At one point money was so scarce I took Ksh200 from my change jar, all the money I had left, and bought eggs, kale and corn flour to tide me over for the week. Then the founder said the necessary signatory was on vacation until March. The money finally came in April.
Was this really a way to treat an entrepreneur that AECF thought so highly of that they awarded us $500k?
Another friend had the same experience with the Mastercard Foundation, but even worse. After making email and verbal commitments for funding, the Mastercard Foundation reneged on its promise. Because my friend had trusted the Mastercard Foundation at their word, they had built up capacity so they could deliver. This buildup of capacity caused my friend’s company to go under when the funding was taken away. The Mastercard Foundation has billions. And they are going to stiff an entrepreneur for $1m? It’s shameful. Someone needs to hold funders to account.
The delay is not just a financial burden. Delays cost lives. If you have a clinic and the fund delays for 2 years in due diligence, think of all the lives that were needlessly lost. Funders should care about delays if not for the entrepreneur, at least from the perspective of impact.
The funders in the audience at AVPA had great questions for me:
‘But entrepreneurs usually take a long time to respond with the required documents,’ say funders.
Totally. I have helped many entrepreneurs with the fundraising process. Often they don’t have all the documents. But why don’t funders tell entrepreneurs in advance what documents are needed? I have yet to see a funder who has a list on their website of all the documents that are ‘MUST HAVES’ and ‘NICE TO HAVES’. It wouldn’t be hard. The funder could even share anonymous examples of what they expect. Saying ‘we need an impact report’ is not enough. What kind? By a third party? Will a randomized controlled trial or just a survey do?
‘We can’t just make a fast decision, we need time to build a relationship. We need to build trust. ‘
Sure, I 100% agree. But is pushing papers back and forth the best way to build trust? Why not go on a rollercoaster together or to their son’s wedding? In China, my suppliers would always insist on going out drinking together. There are lots of other ways to build trust. Why are we so married to using documents?
They say english came to Africa on a ship. Well, documents came to Africa on a ship, too. It’s not natural here. Using documents as holy scripture is a European way of doing things, litterally. Why force that on Africa? Is this a form of neo-colonialism?
Focusing on Documents is one of the reasons that only 6% of funding goes to African educated founders. Anyone who lives in Kenya knows that most contracts are unenforceable. I know funders who want to see contracts with smallholder farmers for offtake. Pieces of paper don’t mean nearly as much to farmers as relationships. And rightfully so!
Maybe we can learn something from African culture rather than pushing our western ideas all the time.
‘My Investment Committee won’t trust me if I don’t have documents ‘
One African fund manager in the audience argued vociferously for the need for documents: ‘I can meet with an entrepreneur and trust them, but how am I going to tell that to my Investment Committee?’ Indeed! The problem of documents that discriminate against African-educated founders starts with LPs (Limited Partners). As fund managers, it’s our job to educate LPs so they can improve their behavior. Requiring documents that have nothing to do with trust bears significant resemblance to the former policy in the US requiring African Americans to take a literacy test to allow them to vote.
Knowing the definition of ‘supercalifragilistic’ has as much to do with voting as paper-pushing has to do with running an impactful business. Expecting someone whose third language is english to complete hundreds of pages of paperwork in a colonial language should make funders uncomfortable, at the very least.
Where does the documentation stop? Funders that used to require a certificate of registration and a bank statement now require 50+ documents.
‘What we gain in legalese we lose in goodwill.’
One funder approached me after the session to say that they used to have a 6-page loan agreement. Over the years, it has become 30 pages long. In that time, the repayment rate of their loans hasn’t improved. Without a countervailing force, there is little incentive for funders and LPs to contain the documentation bloat.
There are levels of trust too. Why do funders make it binary? Just visit the founder;
if it looks good invest $20k.
After 6 months and you get consistent reports, invest $100k.
6 months later, invest $1m.
Typically funders charge a non-refundable due diligence fee as high as $100k. Why not just make a $100k investment and see what the company does with the $100k? It would cost the same but might have a better result for both parties.
My goal is to make an entrepreneur’s search for funding as easy as finding an Airbnb by 2040. That’s why I built Sunlight.reviews with my own money (no grants or government money was used) as a free tool for entrepreneurs in Africa. It’s a countervailing force that encourages funders to develop founder-friendly practices.
My goal might sound impossible, but I know it’s not. One of my best friends raised money from Peter Thiel, the first investor in Facebook, in a coffee shop in 30 minutes. Peter said,
‘Sounds like a great business opportunity. Let me know how much money you need. Send me your bank details. I’m sure the term sheet will be fine.’ Three days later, my friend had $3m.
This was possible because my friend had gone through YCombinator, and then YC president Sam Altman had referred my friend to Thiel. My friend used the YC SAFE standard, so Thiel knew the terms would be fine, and there was no need to negotiate a price. If they really care about impact, why can’t impact investors get a deal done in three days too?
YCombinator used to have 30-minute interviews. They realized that they only needed a 10-minute interview to get sufficient information about the companies to make a $500k investment decision. Why do Impact investors take 1-3 years? Assuming an investment in rural health facilities, delayed funding leaves many people to die without access to healthcare.
The true costs of requesting more and more documents and delays are not properly priced in to impact investors’ calculations. To save more lives, reduce discrimination against African-educated founders and build more trust, funders and LPs must deeply consider their complicity in the problem.
You can make a difference right now by writing a review at sunlight.reviews to highlight the best funders and nudge the rest in the right direction.
If you are an entrepreneur raising capital check out our acceleration fund at kuzana.co.