How Venture Capitalists are Tapping into Uganda’s virgin money market

Thursday July 7, 2011

IT pays to look beyond short term gain. This is what some visionary local entrepreneurs who chose to invest in a factory making AIDS drugs did and now their firm, Quality Chemicals is attracting some of the best global funding opportunities-only a dream to many local enterprises.

Among the venture capitalists who have rushed in to seize and capitalise on the virgin money market in Uganda, ahead of the expected oil boom, are; Goldman Sachs, Morgan Stanley, Warburg Pincus, Norfund and Fanisi. Combined, they hold capitalisation level of over sh345b ($100b).

Two other firms; Norfund from Norway and Fanisi from Kenya are also exploring the Ugandan market. Fanisi makes equity investments of between $0.5m - $3m per transaction in high growth businesses, including startups and early stage companies.

Quality Chemicals is one of a few firms that have benefitted from the quickly growing venture capital funds.

Venture Capitalists are wealthy individuals and firms who provide financing for start-up businesses or already existing business with high risk but high growth potential, by owning part of the business through equity or shares.

“We see significant growth and opportunity in Africa, typically-we invest $4m to $6m per transaction, allowing us to target a niche market segment and companies that are cash generative and well placed to benefit from the rise of consumption of the middle class in frontier markets. Our focus sectors are healthcare, real estate, food processing, retail and consumer goods,” says Zain Latif, a principal with London based TLG Capital, a firm with a stake in Quality Chemicals.

TLG Capital has invested over $7m in two Ugandan companies, Quality Chemicals and Vero Foods in the last two years. “A critical factor in investing in Quality Chemicals,” Latif said, “is because it is the only company in Africa certified by the World Health Organization WHO, to produce Anti-Retroviral drugs ARVs for HIV patients”.

All of a sudden, there is money galore to lend to Uganda’s budding business especially Small and Medium Sized Enterprises (SME)’s. Not by commercial banks but by venture capitalists and investment bankers based in London and New York.

Information Technology companies, software companies and bio-technology companies are among the popular choices to invest in, by venture capitalists due to their potential for high returns. This was experienced in India where venture capitalists entered the lucrative ICT industry in the 1990s and early 2000s.

Per Emil Lindoe, Norfund investment director for Eastern Africa said Ugandan businesses could benefit from the array of management, ownership, technology and capital skills of Norfund. Lindoe said both financial institutions and small and medium sized enterprises stand to benefit.

A series of information exchange and negotiations involving representatives of venture capital, brokers and potential beneficiary SME owners, precede a venture capital deal.

“The advantage of venture capital,” says Susanna Wolf of the African Trade Policy Centre, “is that it provides equity instead of a loan. “Thus, no interest payments have to be made and no collateral is needed but the venture capitalist shares the risk and derives his returns from capital gains if the enterprise is successful.

“Many venture capital funds do not only provide capital but also support the young enterprise with close mentoring, monitoring and technical and managerial support,” she said.

Drawback
But experts say this new capital lifeline is not without its draw backs for both the venture capitalist and the intended beneficiary.

Yilmaz Akyuz, Chief economist at the South Centre in Geneva says inflow of western capital to Uganda and other African countries may not be good news.

“Capital funded with cheap money in advanced economies is coming to developing and emerging economies not so much to create productive assets as to extract quick windfalls, buy into existing companies and take control over natural resources,” he said at a recent Conference in Geneva.

Akyuz warned that the short-term benefits yielded by such capital can be more than offset by costs incurred as a result of financial turmoil and economic contraction that may be caused by the rapid exit of western capital currently flowing to Africa, mostly to Nigeria and Uganda.

While South Africa has had a successful experience with home grown venture capital in which wealthy South Africans have invested in start-ups based in South Africa, there is mixed reactions to the entry of venture capital in Uganda.

How local businesses can benefit from venture capital

An entrepreneur must prepare to give up a seat on the board of directors to the venture capitalist who will not only share the risk but help steer the company forward.

While appreciative of the arrival of venture capitalists, the Chairman of Uganda Investment Authority, Patrick Bitature doubts that Ugandan SME’s are ready for dealings with venture capitalists.

“I have been telling people intending to bring money here that there are structural issues which hampers proper absorption of big capital in Uganda, many of our companies are yet to attain the level of compliance venture capitalists demand,” Bitature said. So to benefit, there is need to formalise and adapt global best practices.

Local enterprises must brace for formal entities and look at partnerships as an opportunity for growth.

Many SME’s should prepare to give up family ownership and dependence on the local market alone and adapt a global view of doing business to enable them expand.

The capital markets should also fast-track the listing of local budding enterprises that are growing by the day but still scared of entering the stock exchange. This would make them more attractive to venture capitalists because traditionally they are comfortable investing with publicly listed companies as it easier to exit by selling their equity share in the stock market.

By Joe Nam and David Mugabe: The New Vision Newspaper