In Stock Markets, Giants Roam; in Crowdfunding, Startups Are Born

Addis Ababa, Ethiopia 

Since the news of the establishment of the capital market in Ethiopia was first announced, there has been overflowing excitement in the nation’s financial and investment landscape. But this excitement trickles down to perhaps hopefulness when it comes to direct benefits for startups.

Given the structure of Ethiopia’s capital market and its rigid regulatory framework, navigating the system can be challenging for several startups that are already dealing with a web of permits under the existing trade laws.

Banks, for instance, often succeed in stock markets because raising capital brings significant incremental value. However, for small-scale startups, the cost of raising funds through the capital market can be unaffordable. Hiring investment advisors, conducting public promotions, and creating prospectuses all contribute to significant expenses. Even raising millions might not justify the cost. 

Additionally, startups around the world typically go public after securing funding from private investors through multiple funding rounds before Initial Public Offerings (IPOs) become feasible.

Sirak Solomon, senior legal advisor at the Ethiopian Capital Market Authority, states the capital market shouldn’t be viewed as a solution for all problems. While it can address some issues, it will likely be most beneficial for larger, established companies that no longer need to rely solely on limited funding sources. 

“The capital market doesn’t create new funds; it acts as a mechanism for efficiently allocating existing funds to the most promising opportunities.”

However, the capital market can also attract new financial investors, including those known for investing in startups globally, such as private equity and venture capital funds. Currently, these types of investors are not well represented in Ethiopia. 

For investors willing to take on the inherent risks associated with startups, the capital market regulation also provides a framework that enables them to function effectively through the licensing and regulation of crowdfunding platforms.

Crowdfunding is a digital fundraising strategy that enables individuals or businesses to raise capital from a large pool of people online, supporting businesses, projects, or causes.

Crowdfunding allows individuals to invest or donate amounts as small as $1, and platforms generate revenue through various means, including taking a percentage cut of funds raised or charging a flat fee for their services.

Fundraising through a crowdfunding platform can utilize different models depending on the founder’s strategy. Some founders might offer equity in their startup, while others might choose a non-profit (donation) approach. People who believe in the idea or product and its potential impact might simply contribute without expecting a return on their investment.

GoFundMe, Kickstarter, Indiegogo, and Patreon, are some of the most popular crowdfunding platforms in the world. Meanwhile, in Ethiopia, Wegenfund, Degafi, and the new entrant Mella are some of the existing players in this scene.

Last year, Jamii.one, an Ethio-Danish fintech startup serving traditional savings communities in Ethiopia, successfully raised around 800,000 euros from 156 investors via Seedrs, a UK-based online equity crowdfunding platform for startups.

Enacted in early 2024 alongside 15 other licenses, ECMA’s crowdfunding intermediary license allows startups to raise funds through crowdfunding platforms. The license requires a capital of five million birr. In addition, the application requires details about the crowdfunding system, technical aspects, business model, and planned activities.

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“Other than the indirect benefits for startups, we had to consider what is unique for Ethiopia and come up with the crowdfunding intermediaries license,” stated Sirak. 

According to Sirak, the crowdfunding license is specifically designed for startups to pitch their ideas and raise funds from the public, venture capital, and equity firms.

“However, these investors require a clear exit strategy. They expect to sell their stake in a growing startup after several years and move on to the next investment opportunity. The capital market paves the way by providing a framework for selling shares once the business has matured.”

Testing the water: The Crowdfunding Rule of Play

The crowdfunding intermediary license is currently in a legal sandbox, meaning the specific regulations governing their operation in Ethiopia are still under development.

“The legal sandbox allows experimentation with potential regulations. For example, a sandbox rule might initially limit crowdfunding platforms to facilitate investments of up to five million birr to test the feasibility of the model. This approach allows us to create smaller, more manageable regulations before establishing a fully tested legal framework,” Sirak told Shega.

According to the senior legal advisor, there is still some ambiguity surrounding crowdfunding platforms and the success of existing platforms like GoFundMe and Kickstarter is not entirely clear.

“However, by developing a framework tailored to the Ethiopian reality, we hope to see the significant potential of the platform and what it will contribute to the ecosystem. The next six months of the sandbox testing period will provide valuable insights to refine the regulations and shape the future of crowdfunding platforms in Ethiopia,” he added.

Furthermore, the directive states that crowdfunding platforms cannot offer investment advice or handle investor funds in any way.

Additionally, to ensure impartiality, anyone working for the platform, including its founders and employees, is barred from having a significant financial stake of over 5% in any fundraising campaign that takes place on the platform. 

Tewodros Berhanu, founder and CEO of Synergy Foundation, who launched Mella crowdfunding in February this year, said the regulation will provide protection and give backers confidence.

“Everything is not clear at the moment as things are in an early stage, but we are trying to acquire the license,” Tewodros told Shega.