Monday 12 December 2016 9:50 am

Why entrepreneurs in the developing world need new funding models

Emerging and frontier markets face significant challenges – access to clean water, food security, financial inclusion, medical delivery.

Increasingly, it is innovation-driven entrepreneurs who are providing effective and scalable solutions rather than aid agencies or governments.

Traditionally, the focus of entrepreneurship in the developing world has been on creating small- and medium-sized enterprises serving local markets. However, that emphasis must shift from small firms to what MIT calls innovation-driven enterprises: start-ups that can scale for significant impact.

Building an innovation-driven enterprise is full of challenges for any entrepreneurial team. They must find an appropriate beachhead market, prototype and pilot, and recruit and retain top talent. They also require specialised entrepreneurial finance at each stage.

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For development entrepreneurs, access to appropriate types of capital is a significant constraint.

Their challenges are not just about the limited availability of institutionalised venture capital, but to the full range of “risk capital” options, from initial financing by friends and family and angel investors to VCs, private equity and commercial banking. The creation of a pipeline of financial instruments is a critical bottleneck.

Building a spectrum of financial instruments to support entrepreneurs in emerging economies requires engagement from all key stakeholders: government policymakers, aid agencies, investors, philanthropists and universities.

Rather than simply replicating instruments that support entrepreneurs in economies with robust institutions, financing entrepreneurship for developing world impact requires listening to entrepreneurs, understanding their needs, and designing accordingly.

An important step in developing a new pipeline of funding models is to support young entrepreneurs atc olleges and graduate schools.

Entrepreneurship education, as our experience at MIT Sloan shows, is the mechanism to provide the skills, knowledge, and practice of entrepreneurship, while at the same time building depth in specific subject areas.

But student entrepreneurs who seek to solve problems in developing markets must spend time on the ground, immersed in the local ecosystem, to truly understand customer needs and solution challenges. To do so, they need capital at the start of their entrepreneurial journey.

We are pioneering this approach at MIT’s Legatum Center for Entrepreneurship and Development, providing fellowships and seed grants for students looking to explore IDE opportunities in the field. We support entrepreneurs being immersed with potential customers and understanding real problems to make a difference.

With funding from the Legatum Group and the MasterCard Foundation, we have supported innovation-driven enterprises like Wecyclers (deploying solutions for waste cleanup in Nigeria), Sanergy (providing affordable hygienic sanitation to people throughout the informal settlements of Nairobi), and Metro Africa Xpress (MAX) (a last-mile delivery service for urban Africa based in Lagos and the first African team to gain admission into the Techstars startup accelerator program in New York).

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Beyond this initial financing, we need to expand access to different types of finance. We must move from aid-oriented financing to financing that supports entrepreneurs.

We know financing is a challenge, so we must look at current policy environments in those countries to create better models. It’s not about getting more money into the system, but the right policy environment for those instruments to be developed.

At the early stages, this may mean creating conditions for effective crowd funding. An entrepreneur describes their idea online and ordinary people give money in return for early purchasing rights. As this begins to involve larger amounts of money, governments get involved to protect investors.

While the US and UK lead the way in such platforms, developing country governments can also create infrastructure to make crowd funding effective. When it’s set up right, it can be beneficial for both entrepreneurs and investors.

At a later stage, entrepreneurs need venture financing that recognizes the need for capital, but is also patient about the potential timelines.

In this domain, philanthropists have a role to play, especially supporting entrepreneurs whose solutions provide jobs and wealth creation. New approaches, such as program-related investments and other grants, can meet charitable goals and propel entrepreneurs and the innovation ecosystems they build.

As an example, consider non-governmental organisations solving challenges in food security or in disaster relief. How might they support idea-driven enterprises with a vision to build solutions?

They might structure hackathons taking inspiration from those run MIT focused on assistive technology, or in NYC on disaster relief. They can then create prizes and rewards to kick-start capital access as well as appropriate grants and investments.

These investments are just the start. By changing policy and creating new funding models, we can greatly increase these business' chances for success in solving problems in the developing world.