Will Hunnam and Lanre Oloniniyi, co-founders of Orbitt, give their take on how technology can help address Africa’s trade finance gap.
Africa’s economies are maturing and renewing the positive growth curve as shown by World Bank data, which forecasts 3.1% GDP growth in 2018 and 3.6% by 2020. This return to steady economic growth is resulting in a greater number of mid-size businesses in need of finance to facilitate a rise in trade volume. Notwithstanding the broad spectrum of capital options for business owners, which include traditional sources such as conventional debt from local banks, investment from private equity (PE) firms and soft loans from development finance institutions (DFIs), the majority of these businesses can’t get access to the right type of capital.
This structural mismatch between the supply and demand for capital has been a recurring theme in the African investment ecosystem, despite the different channels for raising funds. The ‘funding gap’, estimated at US$100bn to US$120bn according to recent AfDB reports, has become common language among Africa’s investment professionals and public policy specialists, yet it is this ‘funding option gap’ that has led to the emergence of private debt and trade finance as growing asset class amongst investors. As the total value of available capital increases and the investment ecosystem deepens, access to credit has become critical to boost the performance of African companies, increase trade flows and improve the continent’s overall macroeconomic indicators.
Over and above trade finance from domestic banks and a handful of Africa-focused lenders, there are very few financing options for companies looking to move commodities within and beyond Africa. Local banks have tended to provide finance to the public sector, international conglomerates and mature indigenous companies, which means they have limited amounts of capital or risk appetite for small to mid-size businesses (growth companies). According to the AfDB, 88% of African SMEs have a bank account while only a quarter of these companies have a loan or a line of credit.
There are a number of other constraints that restrict access for growing businesses to trade finance from traditional banks. These include the often drawn-out and stringent credit assessment periods, rigid conditions relating to scale, collateral requirements, and cost of capital, especially when US dollar denominated.
While equity investments, particularly the exit environment, can be challenging in Africa, the ratio of private debt (trade finance, mezzanine finance, bridge finance and corporate debt) to equity funding is much lower in comparison to global levels. On the equity side, the number and volume of African PE transactions is growing, with 953 reported deals from 2012-17 at a total value of US$24.4bn, according to the African Private Equity and Venture Capital Association (AVCA). Research from the Emerging Market Private Equity Association (EMPEA) shows that just 7% of funds raised in Africa in the last 10 years have been debt.
Despite the increasing capital available to Africa-focused investors and growing number of investable companies, there is still a mismatch between financers and business owners. In some cases, fundraisers are resistant to offering equity; in others equity is not what the business needs. On the other hand, local bank loans priced between 15% and 25%, coupled with often-inflexible repayment structures and requirements for strong balance sheets are too costly for growing businesses.
This mismatch is a contributing factor to the capital overhang in Africa’s investment ecosystem, leaving many growth companies and trades unfunded. A major symptom of this is the absorptive capacity in deploying the capital raised by most PE funds. But debt is growing in popularity, especially among low-cap to mid-cap companies, due in part to lower returns across other asset classes. For investors, this represents a growing opportunity to deepen Africa’s trade finance landscape by providing credit-constrained businesses with the required type of capital for growth, especially given the lower risk profile of trade finance due to lower rates of default.
Regardless of the size of this opportunity, institutional investors, banks, importers and exporters face the challenge of accessing and finding the right counterparty for investments. On the other side of the fence, many African companies don’t know where to start when looking for investors. We see potential to leverage technology for all parties within this ecosystem. This can have significant impact in reducing the friction points and costs during deal origination, due diligence and the overall transaction cycle.
An important upside to matching the right capital to the right trade through technology platforms like Orbitt is the reduction of the overall transaction time. According to findings by Equant Analytics, African cross-border trading takes approximately 70% more time than the global average. The application of our matching algorithms has on a number of occasions led to the completion of transaction cycles from origination to first drawdown within 20 days of the parties being introduced. This timeframe is further reducing as our user ecosystem deepens and technology solutions improve. Orbitt’s transaction processing capabilities include digitising the NDA process, offering encrypted data rooms, seamless document exchange and direct online communication between counterparties. We believe that the digitisation of traditional and manual processes will speed up trade finance transactions and increase the flow of trade across the continent.
Orbitt has grown to house investors with US$4bn of debt assets under management, including debt funds, mezzanine and trade finance funds. This capital is seeking opportunities across various industries, with soft commodities, energy and mining, FMCG and financial services being the most sought-after sectors.
We are seeing a simultaneous increase in the number of opportunities for debt financing in all industries and regions on the platform. Of the current US$1bn+ of investment opportunities on the Orbitt platform there are approximately US$100mn of trade finance deals.
Orbitt has integrated new functionality to address the growing demand for trade finance across Africa. Based on feedback from our partner debt funds, trade finance funds and debt sell-side intermediaries, we have further optimised our matching functionality. Investors and companies can now specify transaction preferences by type of debt (trade finance, corporate debt, bridge finance, mezzanine), credit rate and debt term.
Whilst transaction flows through technology platforms have proven successful for the private fund houses we work with, uptake by multilateral and the top-tier commercial banks is an important step in advancing the ecosystem’s efficiency. We believe technology has a significant role to play in boosting access to trade finance across Africa and increasing trade within, into and out of the continent. These increased trade flows will lead to greater regional integration, further economic growth which in turn creates jobs and supports sustainable economic development.