Evaluating Nigerian industries

This article is a section from a report “Investing in Nigeria” and shall be viewed in the context of the title. Please view the report for more information on the subject as well as references for this article.

Evaluating industries

Industries in Nigeria have a tendency to grow and evolve in unseen industry growth patterns. An industry in Nigeria can simply expand purely based on tackling the informal aspect of it.

Nigerian market is very fragile – threats and surprising events should be recognized, analysed and prepared for. Even huge and reputable foreigner corporations have proven to mess up and leave a short term turmoil and a long term negative investment sentiment, such was the case with Enron’s power plant in Nigeria.

There is a need to view the whole value chain in terms of its efficiency. There have been situations where farmers invest to increase capacity, import fertilizer and yield more tomatoes, but then have a hard time reaching the markets as the tomatoes get smashed after a short distance due to the bad roads. The farmers end up being limited to a specific region to sell their outputs to and possibly with loses, as they have invested to yield more tomatoes. The politicians on the other hand keep talking about the potential to produce the tomato paste domestically, yet it gets imported due to lack of domestic infrastructure.

Similar un-even developments in the value chain are seen in the ports. Some gates have increased their capacity and efficiency by new innovations, policies and construction developments. This doesn’t help the importers however – clearing the goods still takes weeks and as soon as you leave the port you arrive at a traffic congestion.

Some of the issues might be irrelevant for some investors – the people that invested in the ports are making returns regardless of how well the overall value chain of transportation performs and how even the blocks in the value chain are developing. Other industries on the other hand will find these issues very much relevant to their growth sustainability.

Each element in a value chain and an industry might be vulnerable to different risks within the Nigerian landscape. There are federal, state, local and also government organization policies that all might affect, add or remove different risks to the elements industries might depend on. It’s important to analyse the value chain an industry is a part of, see its weak and strong links and how the political risks are reflected in different parts of the chain.

The domestic rice industry for example, is very vulnerable to the political risks. Rice costs twice as much to produce in Nigeria than in Thailand. The domestic industry is seeing developments only due to the rice tariffs.

As people in the developing nations get richer, they don’t just eat more, they also eat better. With increased income levels, people consume more meat. The Nigerian consumer is also experience oriented, so simple food like rice might be cut to the minimum consumption once a household enters the middle class.

Food industries that work with economies of scale shall have multiple uses for their produce, else the industry might run into overcapacity, as the demand decreases. In Brazil, corn was used in ethanol production after the domestic demand for corn fell.

Safe, long term opportunities and industries are the ones that have a naturally good fit internationally, not artificially created industries by means of tariffs.

A great example is the cassava farming industry. Nigeria is the world biggest producer of cassava. Cassava has multiple uses, from wheat to crisps. Cassava farming industry is positioned greater than rice farming industry – Nigeria is already the top producer, there is demand for cassava all over the world and the agricultural output has many uses. There are government policies to increase the market conditions for cassava farming, such as the Staple Crop Processing Zones introduced by ATA – a government organization not directly facing the political risks. If implemented, the Nigerian cassava industry will be competitive globally.

The rice industry, on the other hand, is not a natural fit as it costs a lot more to produce rice domestically and the industry is dependent on the federal government tariff policies, that are not sustainable in the long run and volatile to each election due to the lobbies behind these tariffs. The rice industry is also dependent on efficient border control for smuggling – an activity that increases with the tariffs.

Generally, the costs of transportation are going down, it’s cheaper to buy goods from another area of the world and transport them to Nigeria, then to produce them domestically. International value chains however, are exposed to risks in currency fluctuations.

Nigerian industries are volatile to other domestic industries failing publicly and creating negative investment sentiment, lowering the FDI volumes and the sectors of the economy that depend on FDI.

The population of Nigeria is growing, Nigerians have to feed, clothe and house themselves – there are industries that are driven by these aspects and face less risks, yet stand to make great frontier market returns.

Making safe investments

Investors should identify the risk and high return factors in Nigeria and find opportunities that bring the frontier market returns, yet don’t particularly have all the associated risks. The Nigerian market doesn’t offer much liquidity and the lack of liquidity shall be subsidized by good due-diligence, research and analysis.

Information on the Nigerian sectors is very valuable and always desired. A lot of the deals that have gone wrong in Nigeria have lacked due-diligence and clarity.

Finding local partners is the key to safe investments in Nigeria, as John Foster put it to me – “Trustworthy local partners are worth twice their weight in gold”.

Evaluating Nigerian companies

This article is a section from a report “Investing in Nigeria” and shall be viewed in the context of the title. Please view the report for more information on the subject as well as references for this article.

Nigeria specific conditions

Africa’s industries and businesses differ from the developed world and the common industry growth patterns in these countries. An example is the informal sector – a lot of business is done informally and an industry eventually enters the formal stage as it grows, this was seen in the Nigerian lottery sector.

It should be kept in mind that frontier market industries might not fit well with the industry analysis frameworks used in the developed world. The due-diligence done in Nigeria is no different than that done in the developed countries in terms of what investors look for, it’s just that it’s way harder to find the information and data desired.

Some foreigner multinational manufacturers have invested in plants that have overcapacity. This works great for building entry barriers, as economies of scale can be achieved if needed and prices dumped to protect the market. It also appears that many companies are investing in the future potential of Nigeria, preparing for the mythical African middle class, with the building of overcapacity. Investors seem to follow a similar mind-set – Nestlé stock traded at 44 price earnings ratio at one point.

Businesses in the same industry don’t particularly compete against each other, but rather for the disposable incomes of Nigerians. Innovation in Nigeria means bringing existing products, technology and concepts, that have been around in the developed world for a while and introducing them in Nigeria. This puts a lot of emphasis on a good marketing strategy for successful businesses.

There is so much growth possible, especially in the unsaturated industries, that a businessmen in Africa can be successful simply by having pure focus on his business and sticking with it for a long time. Businesses don’t compete on day to day bases, a business doesn’t particularly need the best quality product or service – it simply needs a focus and work to be put in on the business.

The pure focus many successful businessmen in Nigeria have is reflected in the quality of goods. There have been records of domestic companies failing to enter markets abroad due to low quality or violations of consumer rights, such as best before dates.

Many of the world’s frontier markets are very similar in their economic appeal, but they differ in their operations and culture. Some opportunities in the economy might simply not be realizable by specific foreigner companies. Some argue that a partnership is more valuable than a business strategy. A business in Nigeria is likely to fail because of lack of contacts and operational know how rather than a lack of strategy.

Nigeria’s businesses are very volatile to new policies and regulations, these policies can evolve industries and companies. As concluded before – investors should view investments based on increased positive market conditions due to government policies as higher risk than the investments that are based on the opportunities in the markets now.

There are, however, government organizations set up that don’t fall under this risk category, since they are set up purely to increase market conditions by governments intervention. An example is the Agriculture Transformation Agenda (ATA) – an organization set up to develop the agriculture industry. ATA doesn’t have to win the elections every 4 years or constantly look for political allies. It can do its job and the people running it are accountable by the progress they have made. This results in actual actions being taken to positively increase the market conditions, lowering the risks.

Evaluating companies

One of the key elements in evaluating a company in Nigeria is to evaluate the entrepreneurs in terms of how structured they are and if they will follow proper corporate governance. Investment strategy adjustments should be made based on the willingness of the entrepreneurs in a company to be structured. A majority paper stakeholder might find it very challenging to exercise his majority with an unstructured company, so a minority stake is favoured in such a case.

The dependence on managers for the company’s success shall be looked at. The risks of companies that depend on one or two employees should be recognized – it’s not unseen for managers to leave a company to start their own shop. Equity shall be given to the key managers or the successful running of the business should be spread around to multiple people.

The lack of operating talent shall be accounted for. Some industries are more desired by employees than others – it should be evaluated how appealing a company is to potential employees. Investors can also look into the education levels the regions the company operates in has, to get an idea on how challenging it might be to find new employees.

A big interest rate for a company doesn’t particularly mean that it’s viewed as risky by the lender. A firm will pay high interest rate to compete versus the two digit percent returning federal bonds, not particularly because there is a high risk of default. The Bank of Industry offers one digit interest rates to some critical businesses. It should be seen if the company in question can qualify for this interest rate and if other firms in the industry are. In a company’s debt structure, the currencies the debt is in is the key information.

Good and efficient operations in a market like Nigeria’s are very important. A smaller company that is a part of an industry wide organization will get access to the latest trends and operational secrets. This is especially true if the industry has a big, multi industry player operating in it, as companies like Dangote Group are known to invest in training and upskilling their employees. It’s common for employees of different companies to exchange tips in industry gatherings, this was told by Aliko Dangote himself in an interview with OBG.

There are tax breaks for specific companies and an investor will likely be told if the company qualifies for any tax breaks. If there are no mentions of tax breaks, it is advised to check if other companies in the industry are qualified for tax breaks, as this might reveal insights on where the company in question stands in its industry.

A business plans success is often dependent on the whole value chain and one of the most important elements in the chain is the infrastructure across all participants of the chain. A farm that has a great yield will see it go to waste if there is no infrastructure to transport the agricultural outputs by.

To evaluate if the returns a firm is seeing are sustainable, the key infrastructural elements need to be identified and the development of these elements researched. It needs to be recognized how much the business can grow on the current level of infrastructure to determinate if the peak growth the infrastructure offers is achieved.

Companies need to be evaluated in terms of their competitiveness internationally. There are 150 Indian companies operating in Nigeria and even though the government has protectionist policies, these policies are likely not to be held for very long. There is a free trade deal in making with India. The EU and West Africa trade is strong and there are free trade deals proposed. It should be recognized if a business will face threats in case of a more free market conditions and how competitive the business will be. An alternative to a Nigerian business being competitive is great liquidity for the investment.

The fundamentals for companies are a lot different on ground versus the paper. There have been instances of foreigners buying companies thinking they can’t go wrong with the deals. Once they arrive to develop these companies, they find a completely unfit asset for its purpose that requires a lot more capital to get it to the condition they thought they were buying it in. The causes for such situation are rationalization, deregulation and privatization. This is yet another example that demonstrates the need for reliable local partners.

A company that sees cost savings from positive developments in the infrastructure it uses, won’t particularly see increases in its profits. The company can now grow further and the savings will go towards growing the business.

Private equity in Nigeria

This article is a section from a report “Investing in Nigeria” and shall be viewed in the context of the title. Please view the report for more information on the subject as well as references for this article.

There is a lot of interest in Sub-Saharan Africa private equity opportunities. The interest is across all sectors but one of the main sectors is the FMCG market. With 70 million Nigerians who might have $1 a day in disposable income, the FMCG sector is perceived as a good sector for constant cash flow and for great profits.

Private Equity is perceived as the solution to bridge the gap for pre-IPO stage companies. The success of NSE’s goal of 1,000 listed companies is linked to the successful development of the PE sector in Nigeria.

The Nigerian PE landscape is challenging, yet it’s also an enormous opportunity, as David Rubenstein, a billionaire co-CEO of a US based PE firm The Carlyle Group puts it – “The greatest explosion in private equity, if it is going to occur anywhere around the world in the next couple of years, is going to be in Africa, particularly sub-Saharan Africa, where the penetration rate is about one-twelfth or so of what it is in the United States.

There is a lot of supply of capital and demand for good deals, in 2015 alone $4bn has been raised in PE funds for Sub-Saharan Africa. For the next 5 years, there remains a great opportunity for small and mid-sized investments into companies that require $5m-$100m per transaction.

Deals and private equity is happening in Africa, the challenge is finding these deals. Even big funds have to do small deals. There have been instances where a $3bn fund invested as little as $10m in companies.

Many of the South Africa private equity firms are now reaching out to other parts of SSA. This provides more exit options for the Nigerian focused PE firms. Generally, exits are done by selling to another PE fund or by an IPO. IPO as an exit is rare however, so the increased interest in SSA PE is great for the PE landscape, as there are more exit opportunities.

Challenges in the private equity landscape

While capital is very demanded in Nigeria and there is a lot of capital available for deals, there is a lack of good deals available. The main reason for this is people’s attitudes to ownership, companies prefer to borrow than give up equity. In 2015, many businesses still have ownership of 100% for the founders. Many entrepreneurs rather have the whole business than a small piece of a huge pie. There is also a level of emotional ties to the business – many companies are family run and owned.

There are of course businesses that are looking for private equity, especially considering the high interest rate they would pay if they borrowed. The interest rates are not sustainable, they are usually short term, two digit interest rate loans. The companies that are willing to give up the equity usually look for just an investment, not partners. This remains one of the main challenges for PE funds in finding deals – they want to help build the company they’re investing in, rather than simply invest.

Private equity funds are very risk considerate, there are huge number of businesses that need funds but only few get them. The main criteria is proper corporate governance, great auditors and transparency. A company must have a very clear sense of what will be done with the funds raised – PE firms are looking to bridge a gap with their knowledge and capital, not simply invest in a perspective company.

A PE fund is looking to grow with the entrepreneur, to co-operate with him. There is a desire to agree on the businesses strategic direction and fit it with the resources available, instead of simply putting executives in the business to run it. If a fund doesn’t have a co-operation with the owners and a partnership mentality, it will find it very challenging to bring anything other than capital to the business – employees will return to their old ways as soon as the PE executives leaves.

A private equity company induces a lot of discipline around corporate governance, brings expertise in the sector and networks. Private equity companies are accounted by their own investors for these things. This brings to the other challenge a fund faces – it must have the local networks and the expertise. That’s the biggest entry barrier for a fund to operate in Nigeria. Some funds partner with local partners just to bring the local expertise and connections to the table in their deals.

Some of the talent to run the businesses is returning from abroad, but they usually give up after around 18 months due to the unstructured business nature. This is especially witnessed in the medicine field, where nurses return home from the UK or other developed nation, just to find unstructured hospitals run on electricity generators. Many of the Nigerian doctors and nurses want to come home, but they request institutions with high institutional practices and standards.

Once a PE fund finds a great deal, it’s not uncommon for the given company to be run by educated entrepreneurs that have structured it to attract private equity. This results in little bargaining power for the PE fund and it ends up with a minority stake. There is also the issue on agreeing on a valuation, this is one of the biggest deal killers.

There is a major difference between a minority and a majority stake holder in Nigeria. A PE fund with the majority stake will find it needs to have a team on the ground in Nigeria to constantly monitor the transactions and the company, otherwise the majority stake will be majority only formally.

Exit options for a PE fund is improving but are still limited. There is a lack of domestic fund participation – everyone is after the fixed income assets. Pension funds are allowed to invest 5% of their capital in PE, but they rarely do.

There is a need for a positive cycle, companies being bought and sold, a sense of momentum. Lower interest rates would have a positive impact on this, as the domestic investors would invest in PE funds. There are however plenty of funds available for Sub-Saharan Africa, the challenge remains in the business landscape. There is a gap between the ideas the core shareholders value in a business versus what private equity investors would value a business on.

Future of Nigeria’s private equity sector

A lot of the challenges PE sees is being successfully tackled. Many entrepreneurs are becoming better educated and understand the benefits of working with a PE firm – you give up some equity but also receive enormous support in terms of operations and management. The other option is the bank that will charge a company two digit interest rate.

Equity is preferred and in many cases is the only option for the big multi-nationals, but the majority of Nigerian businesses are smaller than that. Some companies have been doing the same thing for 30 years and bringing in profits, yet still run their company out of the bedroom. There is plenty of room for growth for these companies, but they simply won’t attract any private equity. This is creating the gap between the funds available and the companies that receive them. There are, however quite many elements in place that make equity more favourable over debt, so the outlook of the entrepreneurs is on equity over debt.

It’s perceived that once the Nigerian business landscape becomes more structured, it will be easier to attract employees, the ones returning from abroad and foreigners.

Many of the long term investors that understand Nigeria are not tempted by the fixed income assets, they are using the recent economic slowdown to get in on many discounted deals.


There are numerous challenges for private equity funds in Nigeria, yet the gap that they bridge is highly profitable. Due to the specific requirements for investments, PE deals are quite safe and profitable, especially if they have the chance to exit through the capital markets.

The PE funds are run by people that know Africa in and out, know the operations and have Africa wide networks, bringing great deals as well as exit opportunities to other funds.