Regulatory uncertainties

5.1.2 Regulation and tax

In spite of some of the barriers relating to the political uncertainty, many interviewees express that the regulatory environment concerning tax is evolving positively.

Regarding the current regulatory frameworks, most of the interviewees highlight a number of regulations and government interventions coming into effect to harmonize private capital markets. The interviewee from VC 5 expresses that “If venture capitalists knock on their door and go to them, the government will be able to listen to them. [...] I think what Kenya is known for in the region is that the government doesn't really interfere with the private business, they work as hard as possible to attract any entrepreneurs and investors, which is also provided through the tax holidays and all those aspects of business.” Showing that the efforts from the Kenyan government set a good environment for VC firms to enter into the market.

The interviewee from the industry association highlights, in relation to their own work in lobbying the government, that one of the major successes includes the Competition Authority of Kenya’s (CAK) exemption of regulatory approval requirements for VC transactions. In relation to the M&As, she further explains that another law exemption will decrease transaction costs for VC firms, “then the outcome is that the time for the VC deal is shortened because you don't have to wait for a regulator to give you the ‘go ahead’.“

The perception of the government as a supporter of private capital markets is thus gradually evolving as the government is introducing regulations which will decrease the transaction costs involved with VC, improving the ease of doing business within the sector.

Furthermore, many interviewees emphasized the tax exemptions which the Kenyan

government has introduced have shown positive effects on the industry, in particular for

facilitating stock market participation. The interviewee from VC 1 states, "this is not just

to encourage venture capital funds to participate because they have an exit route, but also

for local investors to start participating as angel investors.” Showing that there is a

general perception that the government is providing regulations, which seek to assist

the VC industry, in this case related to exit opportunities and business angel investors. In

addition, it is emphasized by the interviewee from VC 4 that the government is trying to

make it feasible for the VC firms to register their funds in Kenya. He states that “we have been exploring the option of instead of registering funds in tax haven countries, which end up increasing the administration cost of the fund, just to set up here. We have tried to use local holding companies. Then the government can provide concessional periods or tax holidays on investments.” As such, the interviewee shows that their fund is already reaping the benefits from some of these exemptions. In relation to the regulations in place and the tax exemptions given by the government, the interviewee from the industry association states, “you can give them tax breaks, but if the underlying shareholder is not protected, not many people will be willing to take that risk.” Thus, she highlights that although the government is working to introduce a beneficial regulatory environment for the investors, there is still an issue around regulation and enforcement of the shareholders protection prevailing in the country.

In summary, although there appears to be diverging perceptions around the effectiveness of the financial markets, most interviewees perceive the efforts of the Kenyan government bodies to have a positive effect, enabling VC firms to operate more effectively in the market. Such as by decreasing the bureaucracy and the facilitation fees, creating options for domestic fund registration, making tax benefits, and improving the financial markets.

5.1.3 Corporate governance

Corporate governance is the effect of the regulations of a country around distribution of rights and responsibilities among different stakeholders such as the board, managers or shareholders, spelling out the rules for decision-making in corporate affairs. We find that most VCs highlight barriers relating to the governance as well as formal reporting mechanisms of the ventures. It is further perceived that this is an effect of inadequate institutional and legal requirements around financial reporting and structuring of the firm. The interviewee from VC 5 mentions that “for the few [local] businesses you come across the big challenge is always in their corporate governance. [...] people are not accountable, they have some integrity issues which is a big problem for local businesses.”

Similarly, the interviewee from VC 4 mentions the lack of governance in relation to why

many VC firms end up investing in ventures with foreign founders. He states “the issue of corporate governance makes people fear a lot of the ventures which are started by the locals”, highlighting that this is particularly a challenge when investing in Kenyan founded ventures. The interviewee from VC 2 further notes that the lack of formal reporting requirements is hindering proper due diligence processes and thus proceeding investments in local firms. As such, he asserts that "a lot of them have data rooms, but most of them have a lot of information missing in that data room.” The interviewee from VC 4 further highlights this issue and its complications for the due diligence process, as some completely lack coherent reporting and accounting standards, noting that “sometimes you will find that you know a founder who is approaching a venture capital with a few sets of accounts, which he prepared for the fundraising. Then they have another set of accounts which they prepared for the tax man, and a third one which reflects the actual position of the business.” He further argues that

“it's one of the challenges that we've been experiencing in the industry, someone shows the books just to impress you, but then if you dive into the business and you make a simple analysis of the value chain, then you will understand.” Hence, it is acknowledged to be a serious issue with integrity, transparency and reliability in some of the ventures’

reporting and governance mechanisms.

Summary of chapter 5.1:

To sum up, we find a number of issues having an effect on the VCs relating the

institutional barriers relating to regulatory uncertainties. Firstly, political uncertainties

related to the election cycles create risks associated with VC investments in Kenya and

uncertainty about the future market conditions. Secondly, shareholder protection was

described as inadequate in the country. Despite this, many newly introduced

regulations, in particular related to tax benefits, are perceived as favourable to the VC

industry. Thirdly, a lack of formal governance requirements is causing issues related to

reporting and accounting, particularly for local founders, thus becoming an integrity

issue. This challenges the due diligence process for many VCs, as the information

provided from the startups is not sufficient.