The face of Nigerian business is starting to change as the country’s young tech-savvy entrepreneurs launch successful fundraisings attracting global investment.
Fintech payments company Flutterwave, just five years old, was valued at over $1bn in March after capital-raising netted $170m from investors, including Tiger Global Management, the US hedge fund and investment firm. The fundraising brings the total investment in Flutterwave to $225m.
The new valuation has led to Flutterwave’s designation as a “unicorn” – a privately held startup company valued at $1bn, and the second unicorn to come out of Nigeria. The firm serves more than 290,000 businesses including customers like Uber, Flywire, Booking.com and Facebook. The firm will use the capital to acquire more users, expand into new markets and build an app.
Nigeria’s Interswitch became Africa’s first unicorn in late 2019 after US payments technology corporation Visa acquired a 20% stake in the company for $200m.
Flutterwave, founded in Nigeria and based in San Francisco, has become one of the fastest-growing payments companies in the world. By 2021 it had processed more than 140m transactions worth more than $9bn across 33 African countries. It enjoyed compound annual growth of 226% from 2018 to 2020. The company will soon set up shop in more Francophone and North African markets including Egypt, Tunisia and Morocco.
Other firms in the Nigerian fintech market are also making waves with international investors. Paystack, a payments provider for businesses, was acquired by US-based digital payments giant Stripe in October for $200m in the biggest startup acquisition yet.
The deal, which will allow both companies to operate independently, formed part of Stripe’s shift into Africa amid international expansion plans sparked by its own $600m funding round in 2020. Paystack, like Stripe, went through Y Combinator, the Silicon Valley-based startup incubator in 2016, the first ever startup out of Nigeria to do so. Stripe, which led Paystack’s 2018 $8m Series A funding prior to making the acquisition last year, counts Amazon, booking.com, Facebook, Shopify, Paypal, Zoom, Jobber and others among its clients.
At the time of the deal, Paystack had about 600,000 customers. CEO Shola Akinlade, co-founder of the company with Ezra Olubi, says, “Paystack was not for sale when Stripe approached us. For us, it’s about the mission. I’m driven by the mission to accelerate payments on the continent, and I am convinced that Stripe will help us get there faster.”
A growing fintech hub
The deals have boosted Nigeria as an African fintech hub to rival Egypt, Kenya and South Africa. Together, the four countries make up about 85% of total fintech investments on the continent.
Many of the companies leading the charge are just a few years old and have benefited from a spike in investor interest since 2018, when funding into African fintechs nearly quadrupled to $357m. Global giants such as Visa and China’s Tencent regularly appear in the funding rounds of growing African fintechs.
The pandemic has had a broadly positive effect, driving an increased public acceptance and uptake of online transactions as consumers avoid physical cash and face-to-face contact with retailers. Flutterwave CEO Olugbenga Agboola says revenues grew more than 100% in 2020 due to the pandemic.
Policymakers are keen to encourage the trend. The Central Bank of Nigeria has a target of financial inclusion of 95% by 2024, but analysts believe it will need the growth of fintech companies, products and funding to get close to achieving this target.
Fintech is not the only game in town when it comes to serious fundraising. Innovation across the board is helping to solve longstanding problems in Nigeria, unlocking growth and improving livelihoods. Helium Health, a company that specialises in digitising medical records and offering tech solutions for administration as well as digital payments, last year raised $10m in a fundraising round.
It has spurned acquisition offers, according to media reports, and opted to expand its services to North and East Africa, particularly in the wake of a significant shift to online business because of Covid-19.
“It’s really about tackling three core problems that we see in the healthcare sector in Africa: inefficiency, fragmentation and a lack of data,” says CEO and co-founder Adegoke Olubusi. “I’m hoping this coronavirus crisis will be a period that forces everyone to rethink what we’re doing on healthcare.”
The company is capitalising on a migration to online services among healthcare providers. The head of the Nigeria Centre for Disease Control, Chikwe Ihekweazu, says automating a range of services has helped the organisation to manage Covid-19. “Almost everything we’re doing right now, from logistics to managing the outbreak itself, is being migrated onto different technological platforms.”
Many of Nigeria’s new entrepreneurs have gained experience in international companies. Helium Health’s Olubusi did stints with Goldman Sachs, eBay and PayPal before coming back to Nigeria. Flutterwave was founded by serial entrepreneurs Iyin Aboyeji and Agboola, supported by a team of African payments, technology and banking specialists drawn from companies such as Standard Bank, Google Wallet, Andela and PayPal.
The startups are challenging the status quo of Nigeria’s corporate landscape by taking on the big banks that have dominated the financial services landscape for decades. That, in turn, has spurred innovation in the traditional financial sector. GTBank is hunting for fintech talent in its own startup company, Habari Pay, which is due to start operations in 2021, while Access Bank has established a tech accelerator, the Africa FinTech Foundry, to build digital talent for itself and the industry as a whole.
Some of the large banks and other corporates in Nigeria are already working with newly emerging fintechs in an effort to improve their own services and develop new services to help them modernise. With the changes brought about by the pandemic, these fast-growing companies and the profusion of new entrepreneurs are charting a new course for the Nigerian economy.
Nigeria has multibillion dollar plans to address its entrenched infrastructure deficit, with megaprojects across the country in various stages of development seeing a new influx of capital.
Rail, road and airport projects stretching across Nigeria are either well advanced, recently signed off or just breaking ground in the wake of an infrastructure drive by the administration of President Muhammadu Buhari.
The government is not only focusing on new infrastructure but on the rehabilitation of existing assets and the completion of longstanding projects that have failed to gain traction under previous governments, including the infamous 3,050 MW Mambilla hydropower project, stalled for more than 40 years despite significant budgetary allocations for it over decades.
Africa cannot afford to be left behind in the global transition to renewable energy, but many challenges lie in its way, says Dianna Games
As efforts to combat climate change gather momentum, the developed world is in high gear about how to cool global warming. But as the pressure mounts for regions, countries and companies to meet the Paris Agreement targets on eliminating carbon emissions, where does Africa stand? Are we getting left behind in an ever-widening “energy divide”?
The International Energy Agency reminds us that while Africa is home to 17% of the world’s population, it accounts for only 4% of global power supply investment. Only half of all Africans have access to electricity and about 80% of companies operating in sub-Saharan Africa suffer from frequent electricity disruptions.
Even as solar power and other non-grid options are being rolled out across the continent, so the population continues to grow, and rapid urbanisation is increasing demand for energy.
Reliance on fossil fuels
As the developed world moves into a future characterised by new clean energy sources and driven by technology and innovation, the reality is that millions of Africans are still reliant on charcoal, kerosene lamps, battery operated flashlights, wood and candles for their power needs. Energy demand is a key driver of rampant deforestation and roadside sales of charcoal are providing livelihoods to thousands of people.
The growth of renewable energy is a potential game-changer for Africa but, given its needs, it has a long way to go. Meanwhile, many countries still rely on fossil fuels for their baseload energy supply. Research shows that more than 100 new power stations are planned in a dozen African countries, most of which will be coal- or oil-fired.
Africa’s most sophisticated economy, South Africa, is also the biggest polluter on the continent. It relies on coal for about 80% of its energy needs. The ruling party, the ANC, has previously maintained the dominance of coal-fired state-owned power utility, Eskom, which contributes about 40% of the country’s greenhouse gases. Managed blackouts have become a feature of life in South Africa as the utility battles to keep the lights on.
The country’s much-heralded renewable energy programme stalled during the rule of former President Jacob Zuma. The government has perpetuated the marginalisation of independent power producers (IPPs) by refusing to allow them to sell excess energy into the national grid for fear of undermining the viability of the ailing state utility. Increasing blackouts and generation capacity crises forced a change of policy on IPPs in the first quarter of 2020. But coal will continue to dominate the energy mix for many years to come.
Nigeria, the biggest economy in Africa, has vast reserves of coal but has yet to exploit them effectively. Its economy relies instead on generators using dirty fuels that collectively supply an estimated 14,000 MW of electricity – nearly four times that generated into the national grid from the nation’s abundant gas reserves. The country has a bold plan to generate 30% of its total energy from renewable sources by 2030 but a history of dysfunction in this important sector makes this unlikely. Nigeria is ranked 109 out of 115 countries on the World Economic Forum’s Energy Transition Index while South Africa is second from the bottom, just above Haiti.
Meanwhile Europe is leading the charge in the energy transition, using a mix of technology, innovation, legislation and investment to help the bloc transition to a climate-neutral, green economy.
Costs of transition
Addressing carbon emissions requires a shift to a raft of new energy sources, such as hydrogen to replace coking coal, ammonia in ship engines, biofuels and others.
The transition will have significant cost and other implications for the supply chain in decarbonising industries such as transport. But new maritime fuel regulations that aim to drastically cut the sulphur content in shipping fuel came into force this year, and if Africa cannot keep up, it may become further marginalised in global trade.
Multinational companies operating in Africa and other underdeveloped regions may have to make difficult choices in where they invest or trade as supply chains adapt to new fuels and environmental, social and governance (ESG) issues become increasingly central to investment decisions.
Africa is not standing still. Countries such as Morocco and Egypt are becoming leaders in renewable energy and startups have mushroomed across the continent, providing solar kits to homes and small businesses.
Mini grids are also plugging the huge gaps left by national grids in Africa’s energy landscape. And remote as the hydrogen economy may seem to Africa, in fact the continent offers ideal conditions for it to leapfrog grid power and its attendant inefficiencies.
However, the sheer scale of the energy deficit means these interventions are still a drop in the ocean compared to the energy needs of the future. Demand is expected to be almost 40% higher in 20 years’ time than it is today and already population growth is outpacing efforts to improve access to energy services.
The hope that technology alone will come riding to the rescue and deliver an energy transition is flawed. It requires the active participation of policymakers, regulators and companies. The process is possible and achievable, but it will require a massive orchestration by industry and governments to make it happen.
Concerns about job losses in fossil fuel industries can be addressed by absorbing retrained workers into renewables with state support and incentives – an example shown by Germany, which is rapidly retreating from dirty fuel while preserving jobs.
But particularly key, and part of the strategy being employed by countries such as Sweden and Germany and African countries such as Rwanda, is setting goals on energy transition, backed by targets and timelines. Transparent public-private partnerships with an emphasis on local content are also important.
Governments need the courage to break away from old models, to embrace new technology, and to loosen the reins of the state to allow the private sector to be a partner in moving forward into this new world.
As Shoprite announces its probable withdrawal from Nigeria, Dianna Games examines the rise and fall of South African retail expansion across the continent and what it tells us about Africa’s wider investment climate
The retail sector in Africa has been one of the big success stories of the past decade, driven initially by a consumer boom in a handful of high-growth economies, demographics and a growing middle class. South African retailers and developers have ridden this wave, but in recent years some have encountered difficulties that reflect wider problems in the African investment environment.
The beginning of Africa’s consumer boom precipitated a round of growth in Western-style shopping malls, which were designed to offer a new experience to consumers used to small neighbourhood stores and the large open markets that characterise shopping in most of Africa. South African developers and retailers marched north to explore these markets as an alternative to the overcrowded and largely saturated market at home.
Shoprite, Africa’s biggest supermarket chain, was one of the first. Its first move outside South Africa and its immediate neighbours Lesotho, Swaziland, Namibia and Botswana had been to Zambia in 1995, where it opened a further 17 stores in less than a decade. It opened its first store in Nigeria in 2005 and by 2018 it had 25 stores across the country. Currently, it has operations in 13 African countries outside South Africa, although as the current edition of African Business went to press the company announced it was considering pulling out of Nigeria (see below).
Diversified department store Game, which was acquired in 1998 by Massmart (itself acquired by Walmart in 2011), is present in 12 countries. Another South African supermarket giant, Pick n Pay, has set up stores across southern Africa.
Low-cost clothing retailer Pep Stores set up in six African markets, including Nigeria, where it has outlets in 20 cities, while clothing and household retailers Mr Price and Truworths joined restaurant chains, mobile phone companies, hospitality groups, and many other South African companies investing in other African countries.
Private equity money lined up behind this popular commercial opportunity and facilities managers made the move to provide services to new developments in modernising cities. Property developers Atterbury, Hyprop, Attacq, Liberty Properties and others, snapped up shopping mall developments developed by UK-based Actis and others in Nigeria, Zambia and Ghana.
The South African engagement was generally positive – the companies brought jobs and training, expanded the market for local producers, implemented new retail technology, introduced new goods and built infrastructure and entertainment facilities for the newly emerging consumers.
However, there were problems. In a few countries, Shoprite was criticised for importing most of its goods rather than sourcing locally, and wage and dumping disputes erupted in some markets.
The companies themselves were on a steep learning curve, as they quickly learned that the South African model did not always easily replicate itself in other African markets, which were themselves different from each other.
Some adapted better than others. Shoprite, despite exiting three markets to date (Egypt, Tanzania and Mauritius), has navigated some of Africa’s most challenging environments. It has reduced currency and logistics risk with local sourcing – in some markets, local products comprise about 80% of total stock – and set up centralised warehousing.
But some did not adapt sufficiently. South African high-end food retailer Woolworths, for example, found the challenges of operating in Nigeria too daunting and exited the market, even as Pep Stores was expanding.
Falling demand poses challenge
But declining consumer demand in high-cost, inflationary environments has become a challenge for everyone. The volatile oil price has been a major factor in some of the biggest markets patronised by South African retailers, notably Nigeria, Angola and Ghana.
The plummeting oil price from 2014 drove Nigeria and Angola into recession and sparked serious foreign exchange shortages and currency devaluation. In 2020, record low prices came just as these economies were coming out of a period of prolonged recession. The knock-on effect hit consumer pockets hard.
Last year, Shoprite’s shares fell to their lowest level in more than three years after the company disclosed a 20% drop in earnings, driven largely by poor performance and currency problems in its non-South African operations. It is closing unprofitable stores in its rest-of-Africa operations while rationalising its expansion plans in what it called “persistently challenging trading conditions”. In a statement released on 2 August the company announced that it was considering “all, or a majority stake in” its Nigerian subsidiary, Retail Supermarkets Nigeria Limited.
Another of the countries it is busy exiting is Kenya, as a result of unprofitable trading. It only entered the market in 2018 after the demise of two of that country’s largest retailers – Nakumatt and Uchumi.
Pep Stores has closed the last of its 20 stores in Zimbabwe, ending a 20-year presence in the country after battling to trade amid soaring inflation, fuel shortages, currency issues and stagnant wages. Mr Price announced in late June that it would close its last remaining store in Nigeria in early 2021.
Property companies, too, are exiting their investments in the rest of Africa, such as Hyprop, which is disposing of its African investments in favour of more profitable opportunities in Eastern Europe.
Need for reform
There are many reasons why some of these investments have not worked out. They include the tendency for retailers and mall developers to go big in countries based on the size of the opportunity, while the real need is for much smaller, and more widely dispersed, shopping centres in big African cities.
There is also the issue of cost. Building malls in countries without the relevant skills, a lack of locally available equipment and inputs, land shortages and power and water deficits, makes development costs prohibitive and drives down yields.
A relatively low stock of sufficiently sized local tenants and the tendency of global brands to either sit on the fence or distribute through small franchises is another challenge.
While the retail sector is often used as a barometer of a country’s fortunes, the issues are not peculiar to this sector or to South African companies. But they provide a snapshot not just of the challenges of doing business in Africa, but also the ebb and flow of fortunes on a continent with so much promise and opportunity.
Some of these trends can be attributed to inappropriate business models that are not tailored to local conditions or flexible enough to roll with the punches.
The fundamentals that have attracted many investors have not changed – lack of competition in many sectors, growing populations, an expanding middle class and improving governance among them. But the investment story in Africa, in South Africa as much as elsewhere, is much less compelling of late than it was a decade ago.
Reform in Africa is not happening fast enough. Most countries have avoided taking bold steps towards much-needed structural reform, preferring to tinker around the edges of their challenges. Thus, they remain vulnerable to internal and exogenous shocks.
Although investing in Africa is a good long-term bet, even savvy investors will not be around forever.
Joining the African Continental Free Trade Area may be Nigeria’s first step towards realising the potential of its business sector as a force in Africa, argues Dianna Games.
When Nigeria failed to occupy a seat at the African Continental Free Trade Area (CFTA) launch in Kigali last year, many asked why a country that has long considered itself a leader in African affairs would not be grabbing the mantle of leadership in a project of this scope and importance.
After all, the country has some form when it comes to regional integration, having been a leader in the establishment of the Economic Community of West African States (Ecowas) in 1975.
But nearly 25 years later, Nigeria was one of the last countries to sign the CFTA, alongside its tiny neighbour Benin and ahead of Eritrea.
As Africa’s biggest economy stalled at the starting gates of the initiative, questions were asked about its reticence.
The country has been a key promoter of the initiative since its launch in 2012. Nigeria continued to be closely integrated with the process leading up to the May 2018 Kigali launch and the Federal Executive Council, presided over by the vice-president, Yemi Osinbajo, had agreed that Nigeria’s signature would be on the agreement at the event.
However, it fell at the final hurdle when lobbying by policymakers, trade unions and local companies led President Muhammadu Buhari and his team to cancel the flight to Kigali, in response to accusations that the government had failed to consult widely enough on the potential impact on the economy. After further consultations and on the advice of local experts, Buhari signed it in July.
Nigeria’s central concern is that its market will be flooded by goods from other African countries, which will undermine local manufacturing and agricultural enterprises, many of which are performing well below their potential and may not survive competition.
Countries such as South Africa and Kenya as well as North African states are specific challengers given their relatively high levels of industrialisation and efficient supply chains.
Not much to show for protectionism
The CFTA has highlighted the soft underbelly of Nigeria’s protectionist trade policy, which it has employed for decades – without much to show for it.
Although the economy has made significant strides in some areas, particularly in services, the successes are few compared to the opportunities the policy has provided.
The share of manufacturing as a percentage of GDP, for example, has lingered at around 10%, rising slightly to 13% in 2018.
Economists say that under the right conditions, Nigeria should be able to increase this to over 40% by 2030. It is not yet clear whether the free trade agreement will help or hinder Nigeria’s ability to reach this target.
Meanwhile, the services sector has overtaken agriculture and industry to become the biggest sector in the economy, representing nearly 58% in 2017.
Import restrictions have been a trade policy instrument since the 1970s, when they replaced tariffs as an enabler of growth and a counter to the competition posed by imports to local producers.
The restrictions included outright prohibitions and import licensing.
In 1978, there were already 76 broad groups of import items on a prohibition list. In the 1980s, about 40% of agricultural and industrial products by tariff lines were covered by these prohibitions.
The line items have come and gone over the years but when items were removed from the prohibition list, they often quickly attracted high duties and tariffs to serve the same end. Smugglers enjoyed significant benefits, quickly moving into market gaps created by the restrictions, as Nigerians’ tastes for imports refused to be quelled by government fiat.
There is no doubt there have been legitimate beneficiaries as well, including Africa’s richest man, Aliko Dangote, who built an empire on the back of import restrictions and bans.
However, once thriving sectors such as textiles and leather, which were intended to be key beneficiaries, have been crippled by not only the country’s shift in focus to the lucrative oil sector in the 1970s, but also by the high cost of doing business in Nigeria.
This highlights the key weakness in the trade policy – the fact that governments, in imposing protectionist policies, have failed simultaneously to address the embedded dysfunction in the operating environment that has left so many companies unable to compete with imports or even meet local demand.
Companies battle against a host of challenges in manufacturing including expensive power, the high cost of money, an onerous regulatory environment, poor infrastructure, a volatile currency and inefficient ports.
In acceding to the free trade agreement, there are bound to be many positive outcomes for resilient Nigerian companies.
But the country may also end up paying the price of years of relying on restrictive trade policies, rather than investing in productive capacity, to grow the economy.
History shows the damage that was done to many companies across Africa during the liberalisation of African markets in the 1980s and 90s after years of surviving behind high tariff walls.
Signing the free trade agreement may be painful for Nigeria for a while but it also may be the first step forward in realising the enormous potential of its business sector as a competitive force in Africa.
Nigeria’s best chance of building a consumer class is not by making it difficult to get imports but by enabling the growth of a critical mass of efficient and sustainable companies.
Dianna Games is CEO of advisory company Africa @ Work
Low wages are Ethiopia’s main drawcard in attracting international investment for its manufacturing industry. Dianna Games examines the dilemma many African countries face in deciding whether to prioritise creating jobs or promoting higher wages.
Even as much of the world moves into high-tech mode, old-fashioned industrialisation is still an aspiration for most African countries.
Increasingly, the big differentiator is cheap labour. As wage packages rise in low-cost manufacturing destinations in Asia and elsewhere, international investors are looking for new countries where they can produce competitively for global markets.
One of the nations that has put its head above the parapet in this regard is Ethiopia. This fast-growing and rapidly liberalising nation has been courting international producers to realise its ambition as a manufacturing hub in Africa. The reformist government of prime minister Abiy Ahmed sees manufacturing as another way to attract FDI as it opens up previously closed sectors of the economy.
China is well represented in the numerous industrial parks that have opened over the past few years, and aims to increase its presence in the country as more such parks, which are a key part of Ethiopia’s future industrial planning, open their doors.
Ethiopia, like China before it, has focused on the garment sector with a view to positioning itself as a top sourcing and manufacturing destination for apparel. The government has admitted that this is a risky sector to choose to kick-start its industrial ambitions, given high levels of competition, but maintains that producing for export markets is a viable way to build industrial capacity.
It plans to boost clothing exports to $30bn a year from the current $145m. And the response to Ethiopia’s offerings has been positive, with many large Chinese enterprises investing in the sector and garments being produced for some of the world’s biggest fashion brands such as Calvin Klein, H&M and Tommy Hilfiger.
The country has many advantages in its quest for developing value chains internally. In its industrial arsenal it has duty-free imports of capital equipment, tax exemptions, cheap electricity, a thriving local airline with a large international footprint and duty-free access to the US market through the African Growth and Opportunity Act.
The main drawcard is cheap labour, which is not only a key competitive advantage but a counter to low levels of skills and productivity. However, critics have hit out at the level of minimum wages on offer, saying they will barely lift workers out of poverty. Attrition rates at the clothing factories in Ethiopia are high as semi-trained workers seek higher wages elsewhere after a stint in the workplace. This is pushing up training costs for companies operating there.
Among the critics is New York University’s Stern Center for Business and Human Rights, which details its concerns in a recent report. Made in Ethiopia: Challenges in the Garment Industry’s New Frontier puts Ethiopia at the bottom of a list of countries in the textile and garment sector with an average wage of $26 a month. Next on the list are Myanmar and Bangladesh at $95, Laos at $128, Lesotho at $146 and Vietnam at $180. South Africa comes in at ninth with $244 and China 13th at $326.
The report, which looked at factories in Ethiopia’s Hawassa Industrial Park, the country’s biggest, says international brands are benefiting from the misery of workers who cannot afford to live on these wages but want jobs.
Ethiopia’s case flags up the broader dilemma for African countries looking to industrialise – whether to prioritise jobs at any cost or develop more slowly with higher wages.
But wages are not the only issue affecting competitiveness in Africa. It is also undermined by a lack of political will to address impediments in the operating environment that make Africa, as a region, one of the most expensive manufacturing regions globally.
Ethiopia is not exempt, suffering from infrastructure and logistics challenges. The United Nations reckons that while the labour costs of making a T-shirt in Ethiopia may be a third of those in China, export costs means Ethiopian-made shirts will sell for the same in international markets as those made in China.
These are some of the reasons that manufacturing continues to play a relatively small role in African economies. Although manufacturing has increased, its share of Africa’s GDP has remained at around 10% over the last decade, according to the World Economic Forum.
Huge deficits in hard and soft infrastructure are a major part of the problem. Education and skills development are well below average, while African countries also lag their Asian counterparts in terms of technology, spending less than other regions on research and development.
Low wages are undoubtedly a positive factor for investors, but on their own they are far from adequate. African economies require structural change in order to build sustainable value chains that will deliver more quality jobs and higher wages over time.
The wage issue is contentious because of Africa’s large and growing labour surplus. It is tempting to believe that any job is better than no job. And building the labour-intensive industries that Africa needs in order to absorb labour is getting harder in a world where technology is already disrupting traditional, low skilled, jobs.
Ethiopia believes its low labour costs are vital to remaining competitive while it builds a more competitive supply chain and develops vertically integrated manufacturing hubs – a hopefully short-term trade-off between wages and employment.The government believes it has no option but to start somewhere in a country facing the challenge of youth unemployment estimated at more than 50% and with 150,000 graduates coming into the market every year.
As Ethiopia’s former leader Hailemariam Desalegn said when asked about Ethiopia’s chosen path to industrialisation in an interview with the Brenthurst Foundation last year: “There is no silver bullet.”
Dianna Games is CEO of Africa @ Work, an advisory company focusing on African business
Revenue generation is an ongoing headache for African governments, but attempts to plug holes in the fiscus often amount to ad hoc measures that have unintended consequences.
Tax is a crucial revenue stream that governments must battle to get right.
Many African countries have a small tax base because of the informal nature of their economies.
But rather than putting in place sustainable, broad-based systems that deliver predictable revenues, governments often resort to ad hoc taxes on specific goods and services or disproportionately burden multinational companies.
A 2018 report from the International Monetary Fund (IMF) argued that African countries could increase their tax revenues by an average of 5% annually if comprehensive tax reforms were carried out.
In many countries, such action seems unlikely. In cash-strapped Zimbabwe, a deeply unpopular 2% tax on electronic transactions was introduced in 2018 in a bid to address tax shortfalls created by a shrinking formal economy.
After years of economic hardship, severe cash shortages have led to a spike in electronic transactions, putting most people in the catchment of the new levy.
It has hit everyone hard, but particularly small traders operating on tight margins.
In July 2018 the government of Uganda imposed a tax on social media and a 1% levy on all mobile money transactions, which affected some 5m people.
The move may bring more money into government coffers, but it has had other consequences.
The Uganda Communications Commission says that internet subscriptions declined substantially and the value of mobile money transactions fell by $1.2m in the three months following the imposition of the tax.
Multinational companies are easy targets because of their obligation to stay on the right side of the law.
The African Union and others have accused foreign companies of avoiding tax through transfer pricing and other complicated measures, but they remain the biggest taxpayers in most countries.
In 2015, Rwanda reported that 70% of its tax base came from multinational entities.
In Nigeria, it was 88%. In Burundi, one foreign company contributed nearly 20% of the country’s total tax collection.
This disproportionate reliance on multinationals means that tax avoidance has an equally disproportionate impact on national revenues.
Base erosion and profit shifting by multinational companies – defined as tax avoidance strategies to exploit gaps and mismatches in tax rules in order to artificially shift profits to low or no-tax locations – are often the outcome.
Failure to invest
The Organisation for Economic Cooperation and Development (OECD) is working with 100 countries to develop a country-by-country reporting initiative that aims to address this problem.
It will require multinationals with consolidated revenues to provide information relating to their activities in each country in which they operate rather than accounting as a single entity.
This will include information about revenue, profits, employee numbers, tax paid and tax payable in each jurisdiction.
But many of the problems with taxation in Africa are about something much simpler – the failure of governments to invest in institutions, skills and capacity to increase the size of the formal sector.
Nigeria, which has the biggest economy in Africa, also has the lowest tax-to-GDP ratio – just 5.9%, according to the International Monetary Fund.
The informal structure of the economy allows people to do business under the radar, often with the collusion of officials who turn a blind eye.
President Muhammadu Buhari has moved to change the situation with a targeted campaign against defaulters, which included a tax amnesty. By mid-2018 this had brought in $84m.
But in Nigeria, as in many other countries, officials have been overzealous in their attempts to remedy years of poor tax compliance.
Companies have complained about regular harassment, saying government is targeting those who are already compliant.
At issue is not just the principle of paying tax but related issues such as weak institutions and skills shortages, the ambiguity of tax legislation and the ad hoc and sometimes retrospective application of tax laws.
In Nigeria, as in most African countries, the public also resists paying tax because of a view that public money is either squandered on projects that offer little value to citizens, or misused by public officials.
Another issue is the cost of maintaining bloated public service wage bills and dysfunctional or bankrupt state-owned enterprises.
In Zimbabwe, the public sector swallows up a massive 90% of the national budget, leaving almost nothing for healthcare, education, infrastructure and other sectors.
In Kenya, public servants account for less than 10% of the population but their wage bill takes more than 50% of tax revenues.
But the solution is not only in tax reform but in improving the business climate to enable companies to grow.
It also requires building stronger institutions to ensure more accountability and transparency in government spending.
Greater trust may remove the need to use heavy handed measures to enforce tax compliance.
Dianna Games is CEO of Africa @ Work, an advisory company focusing on African business