In 2007, Safaricom, the leading telecommunications operator in Kenya, launched M-Pesa, a mobile payments service aimed at improving access to financial services for the Kenyan population. Due to Kenya's geographical largesse, poverty, and underdeveloped banking system, some 80% of Kenyans were excluded from the formal financial sector at the time. This entails a lack of access to modern payment instruments and other banking services, to consumer credit and to insurance.
Such large-scale financial exclusion is socio-economically problematic as it stagnates economic growth, stymies entrepreneurial activity, and cements or exacerbates harmful income gaps. On a more granular level, the excluded are unable to fully integrate into society, and on a more functional level, are burdened with time-consuming transactions, such as having to travel 50km to the nearest bank to make a money transfer or receive remittances from relatives working abroad.
M-Pesa changed all of this by allowing users to deposit, withdraw, transfer money, and pay for goods and services from basic cell phones using PIN-secured SMS messages. Money is added to or withdrawn from their cell phone account. Once it is on account, it serves as the currency for mobile money transactions. The logic: cell phone penetration is reasonably high, while banked rates are quite low.
The mobile money industry has since exploded in Africa. In 2015, an estimated $33 billion exchanged hands through mobile services in sub-Saharan Africa. And while it has gained the most traction in Africa, the mobile money sector can be found in emerging markets the world over. It is an excellent example of innovative technology being used by a market to vastly accelerate development.
Innovative uses of technology are the way forward for all of us. This is particularly true for emerging markets, which can leverage technology to bypass much of the lengthy evolutionary process undertaken by developed markets to build similar, perhaps less efficient systems.
Another technology sector has recently emerged that, if embraced and adopted appropriately, is primed to significantly impact emerging markets and allow them to once again develop at an accelerated pace. That sector is alternative finance.
The disruptive potential of alternative finance
Alternative finance, mainly in the form of marketplace lending (P2P and P2B) and equity crowdfunding, are completely disrupting the way businesses raise capital and how (and which) investors spend in private businesses. Its potential is particularly great in emerging markets, where gaps are typically more pronounced and funding options more limited than in developed economies. Access to private capital markets has long been limited to the wealthy few. However, alternative finance has democratized the process of investing in early-stage businesses and SMEs, thereby significantly expanding the pool of available investors. Now retail investors can invest in these businesses alongside angel and institutional investors. This means more capital is available to be injected into promising businesses, leading to a chain reaction of innovation, job creation, and economic growth.
Alternative finance enables retail investors, which make up the vast majority of investors, to access certain asset classes for the first time. Equity crowdfunding, for example, provides access to SME private equities, an asset class that has the potential to yield higher returns than more traditional asset classes such as publicly traded stocks and real estate.
For investors, this new-found access to asset classes such as SME private equities is important for reasons beyond returns. It can be leveraged to greatly improve portfolio diversification, which mitigates risk and better insulates them against shocks in the markets.
On the business side, alternative finance solutions improve access to capital, a lack of which is one of the primary reasons businesses fail. Who knows how many good businesses go under because they can't raise the capital they require? In emerging markets, where the risk appetite of banks is low, and angel investing and venture capital are still nascent, access to capital can be particularly limited.
Given that more capital means more businesses, which means more jobs, more economic growth and more opportunity for innovation, increasing access to finance should be a priority for governments and other relevant stakeholders.
In addition to improving access to capital, equity crowdfunding and marketplace lending help fuel innovation by making the capital-raising process more efficient, thus freeing up the entrepreneur to focus more energy on the business itself. In the equity space, raising offline can be extremely time consuming, whereas raising online via an equity crowdfunding platform is less time and energy intensive. If raising offline is a full time job, equity crowdfunding makes it a part-time one.
The potential for alternative finance to help lead emerging markets (all markets for that matter) forward is clear. But how can it proliferate and take root so that this potential is reached? It must be proactively embraced, installed, and promoted by emerging market governments. Focusing on the equity crowdfunding space, we at Eureeca have isolated three actionable steps that can make this achievable: education, regulation, and tax relief schemes.
Education
Practical knowledge about entrepreneurship and investing is crucial for an entrepreneurial ecosystem to emerge and mature. The same goes for alternative finance ecosystems as well. Therefore, curriculum that teaches the basics of entrepreneurship -- from business management to the capitalization process to the financing options available -- should be incorporated into secondary school education. Similarly, investment-focused curriculum covering topics such as diversification, asset classes, and investment assessment should be introduced at this phase of a student's education. This will not only inspire the entrepreneurs and investors of tomorrow, but also make them better prepared if and when they start a business or begin investing.
Regulation
There is perhaps no clearer signal of a government's embrace of alternative finance than its regulation of the space. Although, it is not necessarily required for platforms to enter a market. Eureeca, for example, has developed a global solution that enables it to enter virtually any market, so long as there isn't specific regulation preventing it from doing so.
With that said, regulated crowdfunding markets are better positioned to thrive because platforms are able to offer a complete product, to the benefit of entrepreneurs and investors. Regulation offers an additional sense of security for investors, thereby increasing the likelihood of their participation, and it allows for enhanced marketing efforts to be undertaken by crowdfunding platforms.
In short, platforms such as Eureeca can operate more freely and with greater effectiveness in markets in which they are regulated. Governments intent on improving access to funding for local entrepreneurs should move quickly to regulate equity crowdfunding and marketplace lending, with limited restrictions.
Tax relief schemes
Crucial to a vibrant alternative finance industry is having an adequate pool of investors to supply the demand for the capital. Therefore, incentivizing investors to use crowdfunding platforms should be a pillar of governmental efforts to the promote the sector.
In the UK, the most vibrant alternative finance market in world, tax relief schemes have proven to be an effective method of incentivizing financiers to invest in early-stage businesses and SMEs via equity crowdfunding platforms. The UK's Enterprise Investment Scheme (EIS) and Seed Enterprise Investment Scheme (SEIS) accomplish this by offering income tax relief, capital gains exemption, and loss relief according to the size of the investment. The government views these schemes as a way of investing in the future of the British economy, which will continue to be built by SMEs and their growth.
Embrace the technology
No market can afford stymied innovation and economic growth, especially emerging markets. As such, entrepreneurs should be given every opportunity to succeed and investors should be offered innovative ways to invest and diversify their portfolios. Alternative finance technology makes the capitalization process more accessible and efficient for businesses and opens up a number of exciting asset classes for investors. Just as the mobile money industry has enabled many emerging markets across the globe to jump ahead in the domain of payments, alternative finance can enable these markets to leap to the forefront of SME financing.