#40 - Cross Border Payments

Evaluating the different players within the space and who's likely to win

Hi all - This is the 40th edition of Frontier Fintech. A big thanks to my regular readers and subscribers. To those who are yet to subscribe, hit the subscribe button below and share with your colleagues and friends. 🚀

Introduction;

Whenever we talk about payments in Africa, the narrative for a long time has always been about remittances. Indeed remittances are important particularly given that they’re a source of much needed hard currencies. Nonetheless, remittances are only one part of a larger cross-border payment discussion. This cross-border payments discussion is built on both trade and intra-African remittances. When it comes to trade, the share of intra-African exports as a percentage of total exports was only 17% in 2017 compared to 69% in Europe and 59% in Asia. Indeed, further studies have shown that adjusted for commodity exports and informal cross-border trade, the share of intra-African trade is much higher. Indeed, it is estimated that Informal Cross Border Trade (ICBT) makes up for between 30-40% of total cross border trade in Africa.

I have a friend who imports clothes into Bujumbura for sale. He starts with browsing through the Instagram feeds of various Tanzanian fashion outlets, mostly doing e-commerce the African way. He then gets in touch with them and makes an order stating quantity and selection. The sellers then give him a mobile money number to which he’ll send the cash, it’s usually Airtel Money in Tanzania. He then goes to the biggest market in town that also doubles up as a major bus terminal and he finds these off-line mobile money agents. A network of agents who support payments to all major mobile money platforms in East Africa. These agents double up as informal forex dealers as well so they accept local currency and then make the payment in Tanzanian Shillings on Airtel money. The settlement is instant and the seller packs the goods and puts them on a bus bound for Bujumbura.

Source: DFS Observatory

The goods arrive within a few days and he then sells them to shops in town on credit, within a month or so, he receives payments for his goods and starts the cycle all over again. There are many inefficiencies particularly around the duration of the trading cycle and the working capital constraints, but this is the reality of cross-border trade and payments in Africa. 

In essence, Cross-border trade in Africa is already much bigger than what’s captured in the statistics and the latent demand is growing significantly. Within Fintech and payments in general, the players that build for this and win will be multi-billion dollar companies. However, the narrative shouldn’t be only about cross-border trade and payments, it should be larger and include the infrastructure that will empower young Africans to be part of the global economy. In parts, one aspect has to do with talent search and discovery and another has to do with payments infrastructure.

The crux of this article will be to discuss the different players tackling cross-border payments in the continent and think about who will likely win and where the most value will be generated.

Drivers for Cross-Border Payments

As has already been discussed, there are a number of factors that are driving the demand for cross-border payments. 

1. Improved communications capabilities powered by technology. These include social media platforms such as Whatsapp, Facebook and Telegram.

2. According to the IOM, there were over 21 million Africans living in a neighbouring country in 2019, up from 18 million in 2015. This number is growing for sure. 

3. The post-covid remote work era - Covid-19 in my view has changed the nature of work forever. In the USA for instance, there were over 9.6 million unfilled job vacancies in Q2 2021 compared to 5.3 million in a similar period last year according to the St.Louis Fed. This has been called the “Great Resignation” in some quarters. At a macro-level, Covid-19 accelerated a number of trends that were already emerging. Technology was enabling not only remote work but gig-work as well. Given that jobs weren’t tied to physical locations, then talent search did not have to be local. This has been a boon to skilled Africans who can now work in global companies whilst never having to leave the country. African companies that insist on “clocking in” and other management principles birthed by Taylorism will struggle to recruit and retain talent;

The Anatomy of Payments

Having discussed the drivers of future cross-border payment demand. It’s important to understand the heritage of cross-border payments. I wrote a newsletter some time back about SWIFT and the future of remittances where I discussed the history of SWIFT. SWIFT essentially is a messaging protocol that arose from the issues faced with free-form telex message communications. In principle, payments have three core jobs to be done;

• The receiving of payments instructions - customer layer;

• The communication of payments instructions - infrastructure layer;

• The settlements of the above payments instructions - settlements layer;

This is of course a major simplification, but for the purposes of this, it shall suffice. The existing message based payments system traces its heritage to “sedentary” venetian merchants. By sedentary, this means merchants who didn’t travel to trade but rather traded through a system of shipping and correspondent banking. Merchants banks established “correspondent” banks and made settlements through Nostro “ours” and Vostro “yours” accounts. Payment communication would happen through letters with the payment instructions detailing the exact accounting entries to be made e.g. Debit Nostro and Credit Vostro for this final beneficiary. 

Alternative payments such as American Express Money Orders, Western Union and Moneygram with their global agent networks emerged over time to enable cross-border payments. Instead of a central messaging protocol, these were closed loop solutions where a central private intermediary managed the infrastructure and in many cases the customer layer. As technology has improved, the basic assumptions and workings of these payment systems are either being improved dramatically or are being completely reimagined. The players that are emerging are either operating the following types of payments;

1. Customer layer players who are building the front-end for payments, think Chipper Cash, Eversend and Nala;

2. Infrastructure plays who are working on the messaging and infrastructure layers whilst connecting to both banks and consumer wallets. These include the likes of Thunes, Terrapay, Flutterwave and Worldpay;

3. Regional payments initiatives driven by Central Banks such as EAPSS, SIRESS and PAPSS;

4. Off-line systems such as Hawala and off-line Mobile Money agents;

5. Bank propositions such as Umoja by Standard Bank, Ecobank and others;

6. Of course Cryptocurrency particularly Stablecoins and a Decentralised Autonomous Organisation such as MakerDao that enables trade finance and liquidity pooling;

Issues around Cross-Border Payments in Africa;

The end-state of cross-border payments in Africa should be a ubiquitous, real time payments system that has immediate settlement finality. People who are paying are only concerned about the recipient receiving the value and that the costs to make the payment are low enough. Current payment systems are plagued by;

1. Delayed Settlements - Many intra-African payments still run on SWIFT and are settled in US$. Therefore, settlements can take any time between 2-3 days and in many cases, payments are reversed or get stuck at an intermediary. 

2. Illiquid currency pairs - ideally a payment between someone in Ghana and another one in Botswana should be settled using the Ghanain Cedi and the Botswana Pula. Nonetheless, these trades are done in US$ given its liquidity. Naturally, this drives up the costs. For instance, if I’m a recipient bank, I get the message instruction immediately but the settlement can take a day or two. During this delay, the currency can shift and thus I have to price that into my FX margin. This is ultimately priced into the transaction and the recipient gets a much lower amount. This applies for both SWIFT and card based payments. In some countries, the exchange rate is fixed and the FX margin is dictated by the Central Bank. 

3. In many cases, the customer layer is still very inefficient where customers have to fill multiple forms and memorise or know a lot of information such as “Beneficiary Correspondent Bank, IBAN and SWIFT”. This information overload is often a hindrance to people onboarding given the illiteracy levels in the continent. A customer just wants to send money to his supplier or his sister. 

The Payments Innovators;

Front-End Apps - Chipper Cash, Nala, Eversend

In the last few years, a number of propositions have emerged tackling the front-end of cross-border payments. The poster child of this movement in Africa has been Chipper Cash which has been the most deliberate in its work around Cross-border payments. Eversend also has a very useful proposition around this and Nala which has had a start in remittances into Africa is likely to also offer Cross-border payments across the markets in which it operates. These apps have at a basic level, customer wallets, virtual cards, the ability to pay for utilities and buy airtime and at a higher level, the ability to buy crypto as well as wealth products such as stock trading. Nala has started with source markets with recipients receiving payments into their MoMo wallets or bank accounts.

Building a customer-facing app in Africa is a completely different ball game than doing a similar proposition in Europe, Asia or North America. Some of the founders within the space are in my view extremely intelligent and resourceful. In Europe, you can simply connect to a BaaS provider such as Railsbank or Bankable and immediately switch on intra-continental account opening and payments. In Africa, founders within this space are solving for multiple regulatory environments, cultures, payment systems and currency considerations.