A growing consumer class and young, educated workforce make East Africa a market with great potential for entrepreneurial companies

East Africa – a region made up of Kenya, Tanzania, Uganda, Ethiopia, Burundi and Rwanda – may not be part of your global expansion strategy but when the world’s most powerful political leader sings its praises, maybe it’s time for a closer look.

When Barack Obama visited East Africa in July 2015, it was not simply to honour the Kenyan birthplace of his father. The tour highlighted the growing geopolitical and economic importance of East Africa, where strong GDP growth, a burgeoning middle class, better infrastructure and efforts to improve governance have made investors sit up, despite the region’s more well-known, conflict-defined image.

Foreign direct investment (FDI) figures tell a story of growth in sub-Saharan Africa (SSA) overall. In late June the 2015 World Investment Report from the UN Conference on Trade and Development (UNCTAD) showed 5% growth in FDI in SSA in 2014 – to $42 billion, representing a global share of 3.4% – in a year when global inflows fell 16%.

With West Africa’s share hit by falling commodity prices, conflict and Ebola, shares in other regions have been larger; East Africa’s grew by 11% to $6.8 billion. Overall economic growth figures (with country GDP figures ranging from 4.7% in Burundi to 7% in Tanzania and Ethiopia) point to plenty of potential in East Africa for investors.
UNCTAD’s report shows that sub-Saharan Africa’s investment remains focused underground, with the top 10 FDI-performing countries having strong mineral sectors; from the east, Tanzania and Uganda (where oil and gas are strong factors) feature.

However, investments in services and manufacturing are increasing, as is private equity investment – such as from KKR of the US, which invested $200 million in Ethiopian flower producer Afriflora in 2014.

In further good news, countries are making a concerted effort to work together to create a cooperative trading corridor in East Africa for the benefit of the region as a whole. It is a level of agreement not seen in West Africa, for example.

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Many challenges

The investment picture is not entirely rosy, however, with East Africa facing many challenges: poor governance, infrastructure problems, corruption, security and red tape.

A separate UNCTAD report highlights the weakness of the services sector in sub-Saharan Africa (which has only 2.2% of the global services trade). Although growing at twice the average world rate in 2009-12, it is hindered by weak links with national development strategies, limits on foreign ownership and investment, and infrastructure deficiencies.

The report showed considerable variation between East African countries: in Rwanda, services made up 48% of GDP in the first quarter of 2015 and the sector has been incorporated into national development plans, whereas in Kenya plans do not include the sector as a whole but focus on the established – and threatened – tourism industry.

In Ethiopia, strong governmental control of telecoms results in low private-sector participation, and restricts innovation and competition. As with trade, regional policy could help overcome the hindrances of national legislation, although a 2014 assessment for the East African Community – Burundi, Kenya, Rwanda, Tanzania and Uganda – highlighted restrictions relating to services since 2010, hitting professional services especially.

Infrastructure improvements

Infrastructure challenges – especially in transport – remain considerable throughout East Africa. Yet there are positive signs. With government efforts to improve power supplies and transport links, for example, construction has commenced on an ambitious, long-term Chinese-funded regional railway connecting the Kenyan coastal port of Mombasa to Nairobi, the capital, then through to Uganda, Rwanda and, potentially, South Sudan and Burundi.

The ‘leapfrogging’ potential of mobile telecoms is visible in numerous ways, notably the M-Pesa money transfer service, which was launched in 2007 in Kenya and Tanzania.

While the region has some issues in general with crime – Nairobi’s ‘Nairobbery’ handle points to a need to take care – the biggest security risks to investors are probably those posed by political instability and terrorism.

Kenya, Uganda, Ethiopia and Burundi all have the potential to be hit by terrorism associated with Somalia’s al-Shabaab. In Kenya, terrorist attacks, such as on a university in Garissa in April 2015 and on the Israeli-owned Westgate shopping centre in Nairobi in 2013, have hit hard, especially upon the tourist industry, and exposed the dysfunctionality of the security services. Even the successful and growing floriculture industry has experienced local tensions over water and land pressures.

While Kenya’s government is making a show of addressing the country’s notorious reputation for corruption, it remains to be seen how effective this will be. In Kenya, ethnic tensions plague the political environment, while in Rwanda and Ethiopia discontent over the stern regimes there could have adverse effects on the stability that has benefited investors. In Burundi, where presidential elections in 2015 were boycotted by opposition parties, the Economist Intelligence Unit’s growth prediction of an average of 4.7% in 2015-16 could be pushed downwards on further strife.

Kenya – East Africa’s gateway

With a relatively open economy, Kenya is a natural base from which to cover the East African region. For companies moving into East Africa, Kenya is often the first port of call as it is a major transport hub. Once in the country, businesses find an open and entrepreneurial attitude, and the infrastructure investments under way should make life easier in the coming years.

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The economy is currently growing at around 6% a year and that is expected to accelerate to 7%, according to the IMF.

The biggest industry is agriculture, which accounts for 27% of GDP. After that come manufacturing, transport, wholesale and retail trade, and real estate. Just below those is financial services. Ever since the M-Pesa service was launched by mobile network operator Safaricom in 2007, Kenya has been at the vanguard of mobile money services. Another sector that holds promise is energy, with oil exploration efforts ongoing by Tullow Oil and Africa Oil Corporation, among others.

As the go-to destination for private equity (PE) firms, Kenya is regularly the first choice for businesses to establish offices when they branch out from South Africa. PE firms are attracted by the relative stability and progress in financial and technological markets that is outpacing other countries across the continent.

‘Kenya is a highly attractive investment destination from a continental and a regional perspective’

“Kenya is, in many respects, a highly attractive investment destination from a continental and a regional perspective. There is a very competitive information and communications environment, and the same is true for retail and wholesale trade,” says Yvette Babb, an economist at South Africa’s Standard Bank.

Money is being invested in major infrastructure projects and, adds Babb, “a lot of work is being done to ensure the costs of business continue to decline, so Kenya is a more obvious choice as a regional base”.

Kenya has 40 export processing zones, where companies benefit from customs and stamp duty exemptions, and a 10-year corporate tax holiday. Four new special economic zones – in Mombasa, Lamu, Kisumu and Naivasha, northwest of Nairobi – will further boost the country’s credentials.

Kenya scores relatively well in international league tables. The World Economic Forum ranks it 90 out of 144 countries in its Global Competitiveness Index, with only seven other African countries above it. The World Bank places Kenya further down its Ease of Doing Business report, at 136 out of 189, but Dr Moses Ikiara, Managing Director of the Kenya Investment Authority (KenInvest), has ambitions for Kenya to move much further up the rankings.

“We are targeting to be in the top 20 by 2020,” he says of the World Bank’s list. “There is a cabinet committee tracking this and a Business Environment Delivery Unit has been established to help reduce the cost and procedures [of doing business].”

Case study: Kenya’s homegrown car manufacturer

Overseas investors should expect a run for their money, however, from domestic companies such as Mobius Motors, East Africa’s first homegrown auto manufacturer.

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The company was founded in 2013 by Joel Jackson, a British social entrepreneur, and partly financed by Pan-African Investment Company – a private investment firm started by Richard Parsons, the former chairman of Citigroup, and cosmetics billionaire Ronald Lauder.

Mobius Motors launched the country’s first home-produced mass-market vehicle – the Mobius II – in 2015 with a price tag of around $10,000 and the tagline ‘Built for Africa’. It hopes to break the importers’ monopoly and take a slice of one of the world’s fastest-growing middle-class markets for itself.

‘Africa has the fastest-growing middle class in the world’

“Africa has the fastest-growing middle class in the world. The number of vehicle registrations in the country, both new vehicles and second-hand vehicles, is growing really fast… it’s a huge opportunity,” says Darshan Chandaria, a Kenyan industrialist who is one of the main shareholders and backers of Mobius Motors.

While displacing Japanese imports will be difficult, a degree of patriotism has seeped into the sales process and people are curious, if nothing else, about the first Kenyan car to make it to market. Fortunately, the first 50 Mobius IIs have sold quickly and the company is building a strong order book – even Kenya’s president, Uhuru Kenyatta, is a customer.

The company is now looking for international investment to help it ramp up production and increase its sales, marketing and after-sales care. It is also working on its next model, the Mobius III.

Tanzania – one to watch

With a growth rate of 7% or above over three of the past four years, Tanzania is another East African nation to watch. Its economy has been one of the best performing in Africa, yet it can still be a tricky and bureaucratic place to do business.

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Agriculture remains the dominant sector of the economy, accounting for around 23.8% of total GDP, but promising new sectors include oil and gas following a series of discoveries off the Tanzanian coast since 2010. International oil majors including BG Group from the UK, Norway’s Statoil and ExxonMobil of the US have been involved. Once the oil and gas do start to flow, related industries such as power and petrochemicals could emerge and strengthen.

The government has named tourism, real estate, transport and IT as priority areas for investment while analysts cite promise in mining, financial services and the communications industry.

Local entrepreneurs such as Victor Mnyawami are already having some success in Tanzania’s new sectors, proving that potential markets do exist.

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By the time Mnyawami graduated from the University of Dar es Salaam in 2013, he had already started one business through the entrepreneurship initiative he founded at the college’s business school. Today, he is the CEO of Tango TV, a digital content streaming business.

Mnyawami describes Tango TV as “kind of like Netflix, but we’re dealing with the hardware as well”. Tango TV is targeting the country’s latent demand for domestically produced video content and the spread of data-enabled devices. Many Tanzanians already stream music videos and other short content on 3G phones, but hard-wired connections to the internet or satellite TV are still relatively rare.

The company provides a set-top box that connects to the internet so subscribers can access content sourced from local television, film and music producers.
“There’s a big market here, because there’s a lot of local African content,” Mnyawami says. “But digital streaming hasn’t taken off because a lot of people are on mobile. We think if people can stream movies on the TV, they’ll take it.”

Launching the business hasn’t been without its challenges though. Young graduates in Tanzania face both practical and cultural barriers to starting their own business, Mnyawami says. “The biggest challenge I faced was the resistance from my family and my friends, which was borne out of genuine concern as, once you graduate, they expect you to get a job with a salary, not to start a company,” he adds

Getting finance is also incredibly difficult. The venture capital industry that has sprung up in Nairobi has yet to make it across the border into Tanzania, while business angel networks are still nascent.

Help for inward investors

Overseas businesses are likely to get more help. Since 1990 the government has offered incentives to attract foreign investors. Instead of offering tax holidays, incentives are based on enhanced capital deductions and allowances. For the mining and agriculture sectors, for example, these are set at 100% of capital expenditure. Companies involved in priority areas including agriculture, aviation, microfinance and export-oriented projects can also benefit from customs duty and VAT exemptions. However, even for companies involved in these areas, making a decision to invest is not necessarily straightforward.

‘There can be a lot of bureaucratic red tape in Tanzania’

Red tape is the legacy of a history of socialist governments that preferred a high degree of centralised control over the economy. “There can be a lot of bureaucratic red tape in getting the necessary licences and there are capital controls in place that restrict your ability to easily move funds in and out of the country,” says Standard Bank’s Babb. “Overall, there has been a slower emergence of a competitive environment than in some other countries in the region.”

Corruption is another worry. The government was shaken in 2014 by a scandal involving Independent Power Tanzania Ltd (IPTL) and $122 million in payments to offshore bank accounts. Min Zhu, Deputy Managing Director of the IMF, said: “It will be critical to the business environment to address the governance issues raised by the IPTL case.”

Tanzania’s international rankings reflect its problems. It is ranked 121 out of 144 countries on the World Economic Forum’s Global Competitiveness Index and 131 out of 189 countries in the World Bank’s Ease of Doing Business report. Transparency International ranks the country at 119 out of 175 countries on its Corruption Perceptions Index and says that corruption is ‘rampant’.

Words: Dominic Dudley, Peter Guest, Conrad Heine; images: Bobby Neptune, Getty Images

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