#48 Embedded B2B Vendor Lending in Africa - Can it Scale?
Looking at Retail B2B Embedded Lending offered on top of B2B Vendor Platforms
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Introduction
Across the continent, a new commercial vector is emerging with VC money pouring in to take advantage of the opportunity. Vendor financing is growing particularly as digital platforms are emerging to serve the African shop keeper. The idea is simple, if a shopkeeper is placing orders on your platform, it makes sense to be able to extend credit to the shopkeeper so as to enable them to increase their basket size or at the least, finance their order. Globally, examples such as Amazon Lending and Shopify Capital give credence to this business model. The question though is whether the African vendor finance model will scale. It’s something I think about a lot. I wrote about SME Finance last year where I spoke to Pezesha’s founder Hilda Moraa to discuss the opportunity in more detail. In essence, there’s a US$ 330 billion SME funding gap in Africa. There’s clearly a funding gap where credit can be applied to commercial opportunities so as to create real economic output. How this shall succeed is critical for investors to understand so as to apply capital appropriately.
To understand this, I will start with an overview of last mile retail business landscape in Africa, giving generalisations as to what works and what doesn’t whilst also analysing how lending principles can be applied to this space. To be clear, the analysis will focus on the FMCG space i.e. last mile FMCG retail sales. Fresh produce has vastly different dynamics that may not make it useful for analysis.
How goods get to the shop
African retail has evolved around different models most related ultimately to colonial legacy and post colonial experiences. In Kenya for instance, FMCG was dominated by British brands such as Unilever and PZ Cussons which accounted for a large share of each kiosk’s inventory. Local brands were linked to the United Kingdom either through ownership or the heritage of the founders, East African Breweries being an example. Similarly in Francophone Africa, French brands were dominant and in countries like D.R.C, Burundi and Rwanda, Belgian brands or at least brands from the Benelux region were dominant.
Post independence, local manufacturing started taking root across the continent leading to the growth of local brands. In East Africa, local manufacturing was led by the Indian community with key manufacturers such as Mukwano in Uganda and Bidco in Kenya. In Nigeria and West Africa, indigenous brands such as Dangote also came of age in the post independence era. These large manufacturers both local and international form the bulk of the consumer FMCG basket in Africa and are thus the ultimate suppliers to the retail shop.
Interestingly, the dichotomy of foreign vs local can be used to explain the different distribution structures that these companies have adopted.
Using Kenya as an example, companies such as Unilever, Coca Cola and East African Breweries have highly structured distribution frameworks that are defined across a number of areas. In terms of hierarchy, there are clear distinctions between distributors, wholesalers and retailers with the manufacturers mostly dealing only with distributors. In terms of area, most manufacturers distribute through regions, territories and even routes. In a number of cases, distributors are assigned regions and given targets corresponding to these regions. Local political or governance structures also have a role to play. For instance, in Nigeria, distribution is governed across States.
These distributors then sell either to wholesalers or directly into retail depending on the policies set by the manufacturer. Manufacturers had different requirements from their distribution networks. Unilever for instance had multiple SKU’s and thus needed detailed information from their network so as to accurately push the right product to the right areas. Brewers and cigarette manufacturers had fewer SKU’s and were mostly focused on pushing volume. They then focused on having large distributors who can push volume. A number of them are regretting this as these distributors became a constituency unto themselves and nowadays it's a case of the tail wagging the dog when it comes to their relationship with the manufacturer.
Local manufacturers particularly the Indian manufacturers started small and grew to their current scale. What this means is that as they grew, they didn’t change their distribution structures that they started with. They sold to whoever came to their factory and this has to a large extent remained true. Their key off-takers are wholesalers who stock multiple products and sell to kiosks. With local manufacturers, they operate largely on a cash and carry basis with credit terms being developed as the relationship continues. Their focus is largely on turnover and margin with little concern on distribution structure.
Goods in Africa are thus distributed through two key frameworks. On one hand, MNC product gets distributed through well structured distributor arrangements who sell into the kiosk. On the other hand, local manufacturers sell to wholesalers who act as “consolidators”, acquiring multiple SKU’s at scale and selling to retail.
For the sake of clarity, I will refer to distributors as those who are selling MNC product. For non-MNC product, I will refer to their off-takers as wholesalers. This is just for the sake of ease of nomenclature although in reality distributors serve both non-MNC and MNC product. Within the supply chain, each participant has a role to play. In general distributors and wholesalers are expected to provide logistical infrastructure such as trucking and warehousing capacity. Kiosks are expected to push product to consumers whilst collecting and relaying information about consumer tastes and preferences.
As regards to finance, MNC distribution networks have standard payment terms from distributor to manufacturer e.g. 21 day or 7-day payment terms upon invoicing. From the distributor to retail or wholesale, the distributor often has to give longer payment terms such as 30-day or 60-day payment terms. In Africa, buyers always press the “snooze” button on the applied payment terms meaning that 30-day payment terms are often settled after 45 days and 60 day payment terms stretch to 90 days. In both MNC and non-MNC distribution frameworks, the distributor or the wholesaler carries the financial burden of the supply chain. What’s critical to understand is that supplier finance is only as good as the continued supply of those goods. The minute you can no longer supply goods to retailers, these retailers simply stop paying you back. Continued capacity to supply is therefore a critical predictor of future repayment behaviour of your customers.
At the retail level, goods are sold predominantly on a cash basis meaning that retailers to a large extent have similar cash conversion profiles to large supermarkets i.e. your suppliers finance your business. To be clear, there is a high degree of credit sales at the retail level. However, it’s a mostly cash business.
Digital Platforms
Over the last 8-10 years, new tech enabled players have emerged to disrupt these traditional distribution models. The idea is that technology can enable you to aggregate demand whilst developing deep insights into the supply chain. This aggregated demand can then enable you to buy in bulk thus achieving better margin on a gross basis. Data and intelligence on the supply chain can enable you to drive efficiency in your route planning and infrastructure set up that can make you a low cost supplier at scale.
Max AB, Twiga Foods, Trade Depot, Sokowatch and Marketforce 360 have built impressive businesses on these insights to a large extent successfully disrupting the supply chains. To be fair, from an FMCG perspective, the digital platforms have operated largely on the non-MNC side, being large buyers from local manufacturers or new foreign entrants but not so much the traditional MNCs such as Unilever, Breweries and Coca Cola.
The operating model consists of your target kiosks having a digital way of making orders, either an app, website or Whatsapp bot. These orders are aggregated and mapped with centralised distribution hubs organising the orders and dispatching them efficiently to the kiosks.
Who is the African Retailer/Kiosk
Most African retail is super low margin compared to developed world retail. This is largely as a result of high levels of competition at the retail level. I haven’t gone into the dichotomy of informal or formal although for the purposes of this article, I am talking mostly about what is considered “informal retail”. The moniker “informal” is mostly moot given that this accounts for in most cases over 80% of retail.
I don’t have exact statistics however African retail can be viewed through a number of perspectives. On one hand, you can classify shops based on their infrastructure with mini-marts on the high end and table top vendors on the lower end. At the middle level are shops built either using wood or corrugated iron sheets. From an owner perspective, there are owner-operator kiosks as well as kiosks which are run by an employee shopkeeper. Typically in Africa, employed people in either government or private sector invest in kiosks to make extra income on the side as well as to employ their relatives. In essence, not every shop is a purely commercial entity.
Can B2B Vendor Finance Scale?
To evaluate this, I will use the simple and overused CAMPARI framework for analysing credit. In the CAMPARI framework, Character, Ability, Margin, Purpose, Amount, Repayment and Insurance are the main issues used to analyse credit.
Character - As regards to character, this pertains to your willingness to repay debt.
Ability - This from a commercial perspective analyses your ability to manage your business efficiently. At a retail level, it could also refer to your actual ambition to scale your business. A number of kiosks are run largely for social purposes such as keeping relatives busy.
Means - This evaluates the business’ actual capacity to generate the cash flow needed to support repayment;
Purpose - This is simply an issue of analysing whether the loan will be used for the right reason, in this case business expansion and not diverted for other purposes;
Amount - The borrower has to borrow the right amount that corresponds to the capacity of your business to service.
Repayment - This is largely based on how and when your loan will be repaid i.e. the tenor of the facility;
Insurance - Simply, skin in the game. What have you put on the line that in the event of default you can lose. In most cases, this is landed property as collateral.
Digital B2B vendor finance automatically caters for “Means, Purpose, Amount and Repayment”. However, it’s critical to evaluate “Ability and Insurance”.
As regards to ability, the critical job to be done to scale a kiosk is to evaluate the ambition of the owner operator. Does this person really want to scale their business? and if so, do they have the ability to scale it? There are a number of factors that can be used to evaluate this such as actually knowing the person, their family and the way they operate as well as operational knowledge such as restocking levels, financial management, supplier relationships and logistical performance.
This is mostly off-line data and that’s why traditional distributors have cleverly managed their creditors by having this information. How you then digitise this is a complex but not impossible undertaking.
When it comes to Insurance, you should have leverage over the retailers that you supply. In principle, platforms such as Amazon, Shopify and Alibaba own the platform and thus the threat to kick you off the platform due to defaults is credible leverage.
In the digital B2B retail space, there are multiple suppliers for the same goods. In fact, shopkeepers start their day by comparing the prices of goods across multiple apps and then calling their distributors to check if they can get better pricing. Thus, the ability to withhold product due to a defaulted loan is not a credible threat to the shopkeeper. If you remember the earlier insight that your ability to collect from your shopkeepers is as good as your capability to continuously supply, it becomes clear that B2B digital vendors just like any other general wholesaler have very little leverage.
I’ve argued in previous posts that your ability to collect and credibly threaten your debtors is the most critical determinant to repayment ability in Africa. This is potentially why M-Shwari could be the biggest source of credit to Kenyan shopkeepers.
Additionally, African retail is a super low margin business. These margins can barely support interest payments and thus traditionally, distributor finance has been interest free. Any talk of interest or facility fees puts off most distributors.
For B2B digital vendor finance to scale in the continent, a number of things need to happen;
Off-line data needs to be embedded onto the platforms. This data can only be collected by sales agents and is by nature non-scaleable. Such data could include how well the shelves are stocked throughout the week and whether specific suppliers have stopped supplying that specific retail location;
Digital vendors have to be the exclusive vendors for a large chunk of the retail basket to ensure that there’s sufficient leverage for repayment;
Digital vendors have to scale sufficiently so as to enable additional margin to be available to the retailers thus driving up the capability to repay.
Basically, a leviathan B2B digital vendor needs to emerge that is of sizeable scale such that most FMCG are distributing exclusively through them. It will be interesting to see if such a company can emerge amongst the numerous B2B vendors that exist. One potentially interesting thing we could see emerging is the growth of agent platforms such as Tanda, OPay and Paga as major SME lenders if they focus on collecting commercial sales data from shopkeepers.
You've got your finger, right on the pulse. Great info!