Due diligence when you invest halfway across the world…
September 18, 2016
Everyone agrees that innovation abounds everywhere in the world. It’s why Steve Case is making investments in Kenya and Mark Zuckerberg is making investments in Nigeria. The ubiquity of technology and the human desire for the most basic needs to be satisfied ensures there will be companies that spring up everywhere. At VestedWorld we scout the world for investments, with a focus on emerging markets. My colleague Jeff is currently in a town whose name could not be pointed out on a map. He’s carrying out diligence on a company founded by a Harvard Business School grad who has seen a gap in the market for a product with increasing market size. These opportunities still exist aplenty in emerging markets.
So what does due diligence look like when these sort of opportunities present themselves. Before I get to that though, how does one even find opportunities like the one I mentioned above? That’s why we at VW do what we do. We scour far and wide to source out companies that are creating value. Our thesis is ‘core industries updated’. We believe that industrialization happened in the developed countries because the elements of production (human resources, capital and technology) were available. However, while human resources and technology are available in emerging markets, for various reasons, capital is less available to early stage companies in our target industries.
We’re learning that
people in emerging markets (the human resources) are getting the training and expertise required to create value. In these markets, entrepreneurship is not the ‘other’ option, it is often the only option. When you’ve finished college and there is a dearth of opportunities that enable you utilize your skills, you start a company. An entrepreneur in Calabar (eastern Nigeria) spent several years’ post-graduation looking for companies in the Chemical production space to hire him. He relocated away from the bustling roads of Lagos to improve his chances, ending up in what he thought was a less competitive market. Unfortunately, he was not the only one with that bright idea. Fortunately, he realized he had the expertise to start a soap manufacturing company. In a few short years he has become a large supplier of soap to hotels and restaurants in the city. This is what entrepreneurs in these emerging markets do; they find a real pain and solve it. And then they go out to get the technology to build their businesses.
China is the largest supplier of technology to sub-Saharan Africa. We all know that infrastructure and manufacturing capacity to African governments continues to grow. What most might not know is that the small business entrepreneur in emerging markets is also starting to look to Africa for their technological needs. This is happening with hardware but happening at an even more blistering pace with software. You say software is eating the world in the US? Imagine what it’s doing to markets where mobile phone adoption has consistently grown faster than in developed markets.
While there is no shortage of grant funding for the small scale entrepreneurs in these markets (some say it’s even a problem), what is missing is Seed and Series A funding for companies that have taken that grant funding and used it to prove there is a business model that works. That’s where entities like VestedWorld come in. There aren’t many funds like ours addressing the needs of these entrepreneurs. The bulk of the funds focused on these markets focus on the ‘impact’ element of the market. We’re glad these groups exist but equally impactful is funding a company to scale, hire hundreds of employees and create wealth for skilled professionals in these markets. These employees will then take that wealth and create new businesses and hire new employees. And the cycle continues. This is impact we can get behind.
So back to the question I raised before, what does due diligence look like in these parts? Diligence is driving 2 hours out of the city to meet with, listen to and exchange ideas with the smallholder farmer that many technology entrepreneurs in Africa are targeting (these smallholder farmers make up ~70% of the workforce in sub-Saharan Africa).
Due diligence is confirming, by walking in the shoes of the farmer, that the technology solution that your prospective portfolio company is looking to provide solves the farmer’s problems (image below)
Due diligence is stopping to taste the pastries being baked by a company looking to be the Panera of emerging markets.
The point is diligence is the same everywhere. What we are looking for from a company in Nairobi is the same as what you are looking for in a company in Palo Alto or Chicago or New York;
Does the product do what it says it does?
Does the company know who its customers are and is the company using the right distribution channels to reach those customers?
Who are the customers and can we have conversations with satisfied and dissatisfied customers?
How much does it cost to deliver the product to the customer?
How much does the company make from selling the product to the customer?
How do the financials look? Past information integrity? Future projections looking realistic or aspirational?
Do the founders and management team have the integrity we require in a team that is half way across the world?
Do the founders and the whole team understand the business?
What is the current capital structure?
Do the founders have the strategic mindset and the tactical implementation discipline required to win the market?
Who else is competing in this space and what are the areas of differentiation?
How innovative is this business? How transformative can it be with a little more capital?
And many other proprietary questions that we ask based on our understanding of the particular products or markets these companies are in. Due diligence is diligence anywhere in the world. We just so happen to be willing to do it in markets where other people are scared or misinformed about. It’s our competitive advantage in a world of me-too funds chasing the same deals and leading to mediocre return expectations.
There is another element to being willing to go to these places; the entrepreneurs start to believe we walk the walk and talk the talk. Trust develops. The entrepreneurs start to tell their friends building awesome businesses. Referrals start to come in from other players in the ecosystem. The entrepreneurs start to reach out and engage with us early in the life of their companies with the knowledge that VestedWorld might be a partner when they get to the stage where outside capital is required. It’s how we keep the pipeline full and the cycle going. We know there will always be great entrepreneurs building great businesses as industries update in emerging markets.
That’s one prediction we feel pretty confident making.