The Myth of Market Size in Africa
Why you're probably wrong about your startup's market size.
You’ve heard your favourite VCs say that the TAM, SAM, and SOM slides on your deck are horseshit. Yet, founders keep adding them to their decks, and VCs won’t stop raving about the huge potential of the African market. So which is it? Is the African market huge, or is it worth nothing?
It’s best to look at it from first principles.
What’s a market?
Simply put, it’s anywhere people meet to exchange value. Sometimes, it’s money on one side and goods/services on the other. Other times, it’s money on both sides. What matters is that both sides of the equation are willing and able to make that exchange.
To put it in context, there’s no market if people can’t afford the available goods and services, and there’s also no market if those goods and services can’t be provided with meaningful unit economics.
The Two Promises — of Tech and VC
The advent of software changed the business equivalent of the laws of physics in one important way — it invented zero marginal costs. Throughout history, producing an extra unit of a product often required an additional investment of time, effort, capital, or a combo of all three. With software, marginal costs disappeared. The same amount of effort and time needed to write software for ten people is the same required for a million users.
Over the past fifty years, this has created a new world where services can be offered very cheaply on a massive scale. This is the promise of software technology. Cheap production, cheaper distribution, and massive scaling potential.
The barrier to human creation dropped to the ground. This was accelerated by the VC promise.
What’s that, you ask? It’s the promise that tech will save us all. That, as Andreessen Horowitz puts it, software is eating the world, and we need to come together to let it happen. This means funding experiments and projects called “startups”, and helping them grow super fast so they can change the world.
This sounds dreamy, and it gave us companies like Google, Facebook, and OpenAI. These are some of the most important companies of the past 20 years. If you buy into this, it means you think the internet services market is incredibly huge, and you’d be right.
But is this true in Africa? Not always, but let’s see why.
What’s wrong with the African market?
When VCs and FDIs talk about Africa, it’s not uncommon to hear them talk about it as if it’s a homogenous market. They talk about how it has 1.4 billion people with a growing youthful population, a generally underdeveloped economy, and a fast-growing smartphone penetration. To them, this presents a unique opportunity to build a new industry, like Silicon Valley in the 70s.
This categorization, while sometimes good for speeches, stories, and even some pure software plays, is simplistic and produces the wrong market assumptions.
First, these 1.4 billion people are anything but the same. They don’t speak the same languages and have widely varying cultural and regulatory nuances. There are 54 countries in Africa, and they mostly can’t even agree to trade freely with each other. The markets are extremely fragmented and silos are almost inevitable. So, as far as you’re concerned, your market has a low ceiling.
Okay, but 1.4b is still a huge number. Where’s the myth?
Apart from the fragmentation, another assumption that makes up the myth is that a big population = a big market. That’s just not true. Remember how the participants of a market need to be willing and able? African consumers are hardly able, willing as they may be. For example, Nigeria with a population of 200m+ people has 40% of them in poverty, and the average person spends 60% of their income on food. To put it simply, your startup will very likely compete with food, and it’ll probably lose. There’s huge fragmentation along the lines of purchasing power, and that further muddies the true market potential.
Another issue is that startups in Africa are always pure software plays. They’re often tech-enabled services and not necessarily tech-driven. Think Jumia offering retail services over the Internet, or 54gene offering biomedical testing services. This means they’re asset-heavy and zero marginal costs hardly apply to them. Even for the pure software plays, the cost of acquiring customers is often too high relative to the money made from them.
So, what should you look for instead?
Instead of looking at the nominal market size as a heading indicator of how large an opportunity is, look at the pocket size of your target population instead. Is it too slim? Will you be fighting with basic needs for customer pocket share? How long can you fight this fight? Is this the best opportunity to pursue given that constraint?
Building a consumer startup is simply harder in Africa, and top-down market sizing simply doesn’t work here. While the promise of tech and VC holds for the supply side, the demand side just won’t hold up in most cases, leaving the market size much smaller than it looks on the surface. You can’t build an African version of Doordash for someone who’s battling with insane food inflation. Sure, some people will gladly use your product, but there are just not a lot of them given the current economics of the space. Also, startups that try to use Silicon Valley economics to build in Africa always seem to fail or never reach profitability, no matter how much they raise.
[insert a graph of how much Jumia has raised over the years and how much they lost over the same period]
You need to look for four things:
(i) The average pocket size of your ideal customer
(ii) How fast it’s growing
(iii) The number of people with that pocket size
(iv) The share of their pockets your product is priced at.
One way to look at this is to ask, what’s the most successful paid software service in Africa? It’s payments. A lot of people actually have bank accounts with money they want to move around, and it costs them next to nothing to do so using internet payment services in Africa. According to Google Market Finder, 469 million people in Africa use mobile payment services in Africa. Compare that to movie streaming, where the market leader, Showmax, has only 1.8m subscribers.
The core of the gist is that Africa has different market sizes for different kinds of startups, and you need to think beyond smartphone penetration and demographics to size your market. However, a necessary caveat is that if you’re building for corporate businesses, you need not worry much about demographics anyway.
Stuff I’m currently reading
Driving For Platforms by the University of Cambridge
Africa’s Consumer Market Potential by the Brookings Institution
Why the diaspora is a gold mine for Nigerian startups by Stears
My Venture Capital Outlook for 2024 by Dr Ola Brown (Orekunrin)
What do you think about this? Share your thoughts in the comments.
Very insightful