Catalyzing Support for Investible Social Entrepreneurs. Through Acceleration models. Toward an Ecosystem for Early-Stage Incubation

Transcription

1 Catalyzing Support for Investible Social Entrepreneurs Through Acceleration models Toward an Ecosystem for Early-Stage Incubation Of Social Enterprises In East Africa

2 Executive Summary Introduction Catalyzing support for investible social entrepreneurs through acceleration models is one of the highleverage initiatives developed by a variety of eco-system stakeholders in a design-thinking workshop held in Nairobi December 4-6, Stakeholders from across the early-stage enterprise ecosystem convened to identify & design high-leverage initiatives that could strengthen support for enterprises to achieve scale and build sustainably in order to provide broad solutions for large, disadvantaged populations. Participants from more than 40 organizations active in East Africa represented perspectives ranging from academia, impact investors, NGOs, social entrepreneurs, banks, industry organizations, commercial investors, corporations, service providers, and the donor community. Motivation High-impact, growing businesses can stimulate economic growth and innovation and, with the right support, have the potential to scale and generate economic opportunities that increase the welfare of millions of people. While the volume of impact investment capital in developing countries has grown rapidly in recent years, promising opportunities ready for investment are still all too rare. Developing an ecosystem to support early-stage enterprise growth is a challenge at the frontier of development aid, private philanthropy, and impact investing, all of which struggle to find social enterprises with the potential to scale sustainably. Social entrepreneurs struggle to access finance, face capital that is inappropriately structured for their needs, lack adequately talented employees to drive growth, implement poor governance practices without understanding long-term implications, and find it difficult to access markets, especially those with consumers and suppliers at the base of the pyramid (BoP). These questions must be answered before any investment is possible. Recent research and pilot initiatives confirm the importance of earlystage development and the need for organized mechanisms to shoulder the cost and risk of this critical phase. The aid and philanthropic communities, in conjunction with impact investors, have the opportunity to play a critical role in building ecosystems that foster and structure viable, investmentready opportunities. Over the course of three days, we identified three high-potential initiatives with broad industry support that we believe will not only catalyze additional investment into the space, but help support strong, successful social enterprises with the potential to improve the lives of millions living at the base of the pyramid across East Africa: I. Create a leadership training environment- This initiative seeks to raise the profile of the social enterprise & impact investing space to make these opportunities attractive to top talent, reducing the stigma of entrepreneurialism. II. Aggregate & Disseminate available information- This initiative will disseminate information already available to support entrepreneurs in East Africa. Several prior initiatives have developed content to support both social entrepreneurs and impact investors, but most entrepreneurs are not aware of it, especially outside the major metro area of Nairobi. Even within actors in the ecosystem, many were not aware of current initiatives and active organizations in East Africa. III. Catalyze support for investible social entrepreneurs through acceleration models- This initiative will develop seed funding and technical support for accelerators, allowing them to invest directly in social enterprises and prepare them for later-stage capital.

3 Challenge The need for financing to support early-stage social enterprises has been well-documented it is usually one of the first challenges mentioned in any study on social enterprise in East Africa. However, though significant capital has been dedicated to East African SGBs, many investors have not been able to deploy these much needed funds. Both impact-first and financial-first investors struggle to find investible deals, especially without local resources. Most of these investors are looking for growth-stage opportunities and do not have the appropriate capital structures or team expertise to invest in early-stage enterprises. Building on the work from the Monitor Institute s Blueprint to Scale report, we see that enterprises need significant support to advance from the idea phase to profitability, when many of today s investors are interested. We find that early-stage social entrepreneurs require holistic, non-financial support; the founders often know their product or service very well but lack detail and definition around their business model, pilot requirements, and target market. Investors are not well-positioned to provide this support with small teams responsible for sourcing, diligence, investment processes and portfolio management. There simply aren t enough resources in the traditional private equity model to commit to the hands-on development required by any specific enterprise. Though social entrepreneurs and the investors that fund them share the same core belief in enterprise solutions to poverty, one of the fundamental challenges in the eco-system comes from the inability to scale this traditional private equity approach in today s model, investment teams must analyze each potential investment even though many are obviously far from likely funding. Investment-related activities for socially-motivated funds extend beyond those required by most traditional private equity arrangements as they must include rigorous measurement of social impact metrics that justify investments to limited partners with social motives. With so many responsibilities to manage their current investments and source new deals, these small investment teams are unable to provide sufficient pre-investment support even to high-potential social entrepreneurs. A number of different funding and technical assistance approaches must be used to fill this gap and increase the number of investible, scalable social enterprises in East Africa. Acceleration programs provide a potential method to support a large number of social enterprises simultaneously. These programs range from classroom-room based lectures to raise general skillsets to one-on-one coaching or consulting tailored to the entrepreneur s specific strengths, challenges, and needs. Several of these models have been successful in helping businesses overcome investment hurdles, but nearly all heavily grant-funded today. While many have a long-term plan to reach sustainability, few near-in exit options exist and all require significant working capital for the acceleration program itself. On-going research by Village Capital and I-DEV International, supported by the Aspen Network of Development Entrepreneurs, has shown that the selection process is a critical determinant of program success, though funding provided by the program is less related to success it s likely that top quality programs can help entrepreneurs successfully raise capital after support. Incorporating the findings & results from these studies, there is still a need for experimentation to address the fundamental funding gap for acceleration models and encourage new models & programs that can achieve stand-alone sustainability. Without a clear, viable path to sustainability, acceleration models will remain the purview of grant-making organizations rather than market-driven opportunities for services entrepreneurs to pursue in support of the broader ecosystem and the social enterprises which directly deliver products, services & technologies to improve lives at the base of the pyramid.

4 Our Solution Based on the feedback and interest from stakeholders across the spectrum of support for early-stage social enterprises, we believe there should be a way to support accelerator models sustainably. We have identified several key leverage points that are currently preventing acceleration models from expanding or replicating: 1. Limited entrepreneur ability to pay: The entrepreneurs looking for acceleration services are often extremely early stage and lack both capital & cash flow to pay for services upfront. 2. Long time to exit for equity stakes: The market for equity stakes in early-stage businesses is not liquid today; most next-round investors are looking to provide capital for company growth rather than to cash out initial supporters 3. Low certainty in later round investments: Even successful entrepreneurs must be individually diligenced by multiple potential funders not only does this take time & energy, but is often subject to funder interests which may not relate to viability or social impact 4. Difficult to recover performance milestones: Even if acceleration services help entrepreneurs achieve or exceed milestones, it is difficult to justify taking this cash out of the business rather than using it to invest in further growth, especially if the company is truly outperforming An appropriately-structured funding model could help to close this gap between acceleration models and the private sector investors that support social enterprises. We call this a funding model rather than a fund because the traditional fund structure may not be the most appropriate to close this gap described above. This funding model would need to be incremental to current capital in the space and willing to bear both the early-stage risk exhibited by these social entrepreneurs and the time risk that it may take 5-10 years before an equity exit is possible. Fundraising for this funding model would need to be carefully structured and led by an experienced team with a track record of working with early-stage social enterprises in East Africa. By definition, this funding model will require patient capital interested in a social return defined by the number of social enterprises that reach specific development milestones and the amount of private sector capital catalyzed by their growth. A key implementation risk surrounds entrepreneur selection if the funding model is too restrictive when deciding eligibility for specific social entrepreneurs, then the acceleration models this fund aims to support will not have the additional certainty required to invest in expanding their acceleration services and to encourage additional accelerators to support large numbers of social entrepreneurs in East Africa. This solution will require a 3 phase approach to launch a scalable funding model to leverage acceleration services to provide holistic support to a large number of social enterprises by increasing the certainty of funding to reach sustainability for the acceleration models themselves. Each phase must build on the learnings from prior work and will only be successful if the correct groundwork is laid. Phase I Design the funding model. Beyond the current work from ANDE, Village Capital and I-DEV International, we need to understand potential funding models in detail in order to ensure the eventual design will successfully catalyze expansion & investment by potential acceleration services providers. This will require sensitizing potential funding models with both funders and acceleration services providers. Model design will be carefully structured to align interests on both sides and ensure the funding model will achieve desired outcomes (increased # of social entrepreneurs supported, increased # achieving growth & development milestones, increased $ catalyzed from impact & social investors). This will include projections showing overall fund size, expected returns, investment timeline, and process to vet acceleration models beyond the necessary work to incorporate learnings form other funding models globally.

5 Phase II Select an implementing partner. Once the fund design & structure have been outlined and defended, a third party will need to select an implementing partner through a competitive process. As outlined above, it is critical that the funding model itself is 1) incremental to current private sector funding available in the market and 2) not too constrained when determining eligibility for social entrepreneurs. The right characteristics for the implementing partner will depend on the specific funding model chosen in Phase I, and could include things like an expectation of capital invested, experience working in East Africa, lack of conflict supporting social entrepreneurs & acceleration services across a variety of sectors, etc. Phase III Complete fundraising for the funding model. Once the implementing partner has been selected, there is still significant work to complete fundraising documentation for all potential funders that have expressed interested throughout the first 2 phases. Final commitments & disbursements can take significant time, especially in East Africa. This phase could include pilot support where initial funds are used to demonstrate success in achieving the critical success metrics outlined above, namely increasing the number of social entrepreneurs receiving acceleration services, improving growth & development metrics within these enterprises, and catalyzing additional private sector funding for impact investments. Implementation Plan We have included high-level activity & budget estimates for all three phases. At this point, funding for Phase I is the only amount that will need to be secured and our estimates for Phase II and III will be refined based on learnings in Phase I (design).

6 Budget We estimate that all three phases will eventually require $4-11M including the initial seed funding for the funding model itself. These numbers will be iterated and revised throughout all three phases until the pilot is launched. Phase Cost driver I) Design the funding model Structuring funding model to work for both acceleration services providers and likely funders; building consortia of likely funders II) Select an implementing partner III) Complete fundraising & launch pilot program IV) Fund the seed program Circulation; writing RFP guidelines; reviewing submissions to select best partner Diligencing acceleration service providers; creating baseline metrics; tracking social enterprises and accelerators through later-round capital and growth milestones Pilot funding for acceleration service providers, separate from implementing partner fees Estimated cost (K USD) M Facilitator Implementation To continue to build on prior research, Village Capital and I-DEV will be joined by GrowthHub and Open Capital Advisors to complete initial structuring to work for a broader set of acceleration programs, including ones that may not self-identify. This work will result in specific criteria for the eventual implementation partner, materials to form a consortia of likely funders, and an overall investment strategy for the seed program fund. More details available for interested funders.