FACTORS INFLUENCING THE GROWTH OF TECHNOLOGY STARTUPS IN KENYA
Name: Dr. Simon Wachira Mugo, Grand PhD (Reading)
Institution: International University of Fundamental Studies:
Designaton: Snr.Lecturer
Address: P.O BOX 86087-00200- NAIROBI
Abstract
This paper examined the factors determining the growth of tech startups in Kenya. The study employed descriptive research design. The population of the study comprised of tech startups incubated at the University of Nairobi, Nailab and iHub. The findings of the study revealed that most tech startups are faced with stiff competition and unavailability of markets for their products and services which hinder their growth. Poor managerial skills, inadequate funds for expansion and government policies were also found to be the major determinants of the growth of tech startups in Kenya.
Key Word: Startups, growth, capital, government policy, markets, competition entrepreneurship,
Introduction
Globally, one of the main drivers of productivity and economic growth is technology. Developing economies have experienced hurdles in both technological development and foreign technology absorption. Seventy to eighty percent of the productivity gap between emerging economies and the developed economies developing countries is estimated to result from the lag in the adoption technologies by these countries. Tech startups have become effective mechanisms for the creation of local technology as well as the absorption of foreign technologies in the developing countries (Comin and Mestieri 2014). In recent years, there has been a surge of tech startups across the world, this has been as a result of the global technology-led cost reductions and increased access to resources. Entrepreneurs focusing on technology are increasingly emerging in both developed and developing countries. These technology based startups represent an attractive investment for early stage investors, as they can be used to test, launch, and validate a business much faster and cheaper than in traditional ventures (World Bank,2017).
There is a growing trend towards innovative ideas and therefore new technology startups are being created every year (Hormiga et al., 2010). Krejci et al. (2015) define a startup as a new firm with a business model based on technological innovation. Additionally, startups have a potential for rapid growth and scalability. These businesses are recognized by governments around the world for their contribution towards economic growth, stability and creation of employment opportunities (Sulayman et al., 2014). Tech startups have acquired an important relevance in the most dynamic markets of the world as a new model of social and economic growth (Olawale & Garwe, 2010). Kelley & Nakosteen (2005), argue that tech startups are vital for the development of the economies especially those in the world. The concept of tech startup is identified with technology innovative firms that are beginning to operate or are in their earliest stages of development (Spiegel et al., 2015).
According to Cho & McLean (2009), technology startups, also referred to as new technology-based enterprises that create or develop innovative products and/or services using advanced technology. Tech startups are known to be inserted in uncertain and risky scenarios, their high mortality rate is a proof of this (Preisendorfer et al., 2012). The failure rate of startups is unfortunately high globally (Cowling et al., 2006; Colombo & Grilli, 2005; McAdam & McAdam, 2008).
In Kenya, startups remain significant players in the economy since they create jobs opportunities for the youth, bring about enlarged participation of the youth in economic development while promoting the formation and usage of innovative technologies (Lino, 2009). According to Kenya Economic report (2011), tech startups stand out as the drivers of the county’s economic growth. It is estimated that the startups account for about thirty five percent of the urban occupation (Olawale & Garwe, 2010).
Research Problem
Migiro (2011) asserts that startups are the foundation of entrepreneurs in Kenya particularly in urban areas. They are vital to the country’s economic development meaning that their continued growth can contribute to the reduction of unemployment especially among the youth. Startups in Kenya encounter various challenges stretching from their age, size, and diminished resources which halts and at times circumvents the chances of enlargement and existence. The turbulence business environment in today’s realm requires startups to adjust rapidly to allied new challenges and competition (Ekanem, 2010; Kinyanjui, 2012). Pervious research study undertaken by Moya (2011) established that inadequate finances, unavailability of markets and poor managerial skills as part of the major factors hindering the growth of tech startups in the country. Startups progressively encounter business rivalry not only from their peers but likewise from well established firms in their respective industry operating in niche markets.
According to Moya (2011), above fifty percent of new tech startups are likely to fail in the initial five years as a result of lack of markets, inadequate financing and poor management. Ekanem (2010), notes that most tech startups are poor in the management of business cash flows and working capital which has contributed to high failure rates in comparison to big businesses. Wang, Watkins, Harris and Spicer (2010) argue that a large number of tech startups fall short of business management skills. Deficiency of the necessary management skills needed for the operation of business is a factor that hinders the startups’ ability to grow. If measures geared towards ensuring that the small businesses entrepreneurs gain access to funding and necessary managing skills needed to cope with changing market demands are not implemented, it is highly predicted that their growth will gradually be halted (World Bank, 2008).This study therefore examined the factors determining the growth of tech startups in Kenya.
Literature Review
In Sweden, only 21 percent of IT Startups survived after 5 years between 1990 and 2000 (Ejermo & Xiao, 2014). Hyder & Lussier (2016) on the other hand affirm that above 80 percent of Startups fail in the first year of operations. Start-up enterprises like any other organization are open systems and interact with the environment in which they operate in. There are several factors, both positive and negative, that influence the growth of start-up enterprises. Some of these factors included: Availability of funds; managerial skills; government support; and availability of market for products and services.
2.3.1 Managerial Skills
To effectively run a tech startup, an individual needs to have a comprehensive scope of business managerial skills in order to succeed in turbulence and a competitive market environment. The skills encompass management capabilities, personal attributes as well as corporate skills. The owners of the business or managers do not have the essential business managing skills which mean it becomes difficult to manage the startups effectively (Amanda, 2012). Healther (2010), asserts that management remains a process of having things done via an agency or community geared to fulfilling and attaining the purpose for which the business does exists. Several individuals venture into business with deficient business managing skills in certain important fields such as Finance, Marketing, Economics, Entrepreneurship or even Accounts. Even though they are eager in making money, it is worth to have clear objectives put in place. This will go a long way in helping the organization to achieve its purpose and role thereby acting as a guide line for the business’s relations with its employees, customers, lenders, suppliers, society and the government. Business managing skills are very essential in keeping a business operating efficiently and effectively (Kitty, Fowles & Jonathan, 2012).
Management capability has been largely affected by inadequate training in business. Approximately 67% of startups fail during the initial few years of operation. As a result, the owners of the startups lose hope as the chances of success gradually turns to be minimal. Several startups in both rural and urban areas in Kenya are devoid of individuals with business management skills needed to operate the firms effectively and efficiently (Munoz, 2010). Many b startup owners always double up as a manager as well as the main operator of the business. These traders may not necessarily or always be the core founders as they might have acquired the business as an ongoing concern basis. In view of this, the proprietors could start a business through either establishment of a fresh firm or via purchasing an already operating company (Nabintu, 2013).
Frese (2010) asserts that lack of the essential managerial skills relating to marketing, accounting and finance combined with practical experience is a drawback to the operation and growth of tech startups. Some proprietors of the startups have a tendency of confusing the sales with operating profits which makes them end up running out of money without noticing as they exhaust their profits for the business running. In a nutshell, it is worthwhile for owners and employed managers to be endowed with the necessary skills, experiences and abilities in order to run the firms successfully.
Funding
Inadequate funding is an impediment to growth of tech startups in Kenya (Wanjohi & Mugure, 2010). Obtaining adequate funds for the startups businesses remain the major hurdle faced by several entrepreneurs. Even after managing to launch the business, amalgamating satisfactory financial resources to withstand considerable business growth is an additional problem (Wang, Watkins, Harris & Spicer, 2010; Kinyanjui, 2012). Credit limitations are realized in assortment of ways where immature and underdeveloped capital market makes potential entrepreneurs to largely rely on self-financing or borrowing from friends and/or relatives which falls short of enabling small firms assume their business operational activities optimally (Mirero & Masaviro 2011; Park, 2009; Bwisa, 2013). Considerable attention from various academics and practitioners for several years has been drawn by the limited access to finance faced by small firms. Literature pertaining to the subject suggests that enhanced credit access for the sector in Kenya is likely to contribute to reduced income inequality, economic growth and condensed poverty as well as reduce unemployment (Rajan & Zingales 2009).
A perseverance hindrance exists for startups to access credit finances necessary for use as capital. Lack of access to external funding is regarded as a key impediment to the growth of small businesses and has accounted for high rates of business failures. Financial institutions are known to be more cautious when providing loans to startups since they are considered risky. The businesses are thus charged relatively higher and elevated interest and required to provide collaterals which tend to discourage the startups from obtaining finances form from the existing financial institutions (Krasniqi, 2011). Many financial institutions are not willing to give out credit to startups due to high administrative costs that comes along with small-scale lending, heightened asymmetric information, high risk perception levels and shortage of collateral. Even though the reasons cut across the industrial as well as developing and evolving small businesses, they appear more significant in the latter. Small enterprises naturally would require relatively smaller loans in comparison to large firms. However, the transaction costs accompanying the processing and administering the concerned loans are fixed and financial institutions often find processing of small loans unproductive (Malhotra, 2012).
Some Small enterprises located away from the main urban centers usually operate in lower standards of infrastructure and banks lack experience in servicing them thus labelling them as high risk sectors (Malhotra, 2012). Park (2009), contend that many banks and financial institutions have come up with sophisticated technical tools like credit scoring models in order to distinguish between high-risk and low-risk kind of borrowers. The small firms considered as being in the high risk category suffer diminished chances of getting the loans. This argument therefore suggests that the small firms are likely to be denied financing based of their failure to provide considered sufficient information to lenders or if the information supplied is evident enough, then they are considered highly risky investments (Park, 2009).
Government Support
Being a developing economy, Kenya is characterized by consistent low per capita income. The levels of saving is also very few with few aspiring entrepreneurs in the economy. Through the youth enterprise fund, the government has tried to curb the problem of capital for new startups initiated by the youth, however, the demand has not been not been met (Wanjora, 2010). For about five years, the government of Kenya managed to disburse 1.9 Billion to 75000 youth enterprises in various parts of the country. Another 1.5 Billion was disbursed to finance 57000 small business ventures through several financial arbitrators (Gok, 2015). According to Wanjora (2010), there is a huge number of enterprising ideas in business that do not attract funding within the current funding framework in Kenya.
For these reasons of inadequate financing, several startups in the country have not been able to obtain government funding. This has incapacitated them in the endeavor of attending orders from customers, tenders and local purchase orders. In such cases the profit contribution margins are so low and inferior to foster any form of growth within the ventures. This in the short run will lead to the failure of the startups to effectively compete with the big players in the respective industries. An estimated 37% of business startups in Kenya fail to grow and eventually collapse primarily due to lack of government support through grants or subsidies. For these reasons, the government has been working on policies aimed at enabling small business ventures attain necessary funding so as to create employment opportunities in the country and enhance economic growth (Kenya Economic survey, 2012).
At the small business level, if the financial constraints could be lowered or eliminated, this can enhance entrepreneurial activity there by contributing to unemployment reduction and improving innovation spirit. The availability of funds could consequently improve small business firm’s access to other resources. Low levels of funding translate to low technological support within the small firms which hinders adequate amount of production of goods and services, subsequently leading to sales and profits decline. This impediment castigates small businesses in a so called -vicious cycle of financial constraint. Putting this into consideration, it is often imperative that external capital injections are necessary to help boost small business performance and growth. Deficient external financing is considered a major challenge to the growth of small businesses in both urban and rural centers, and has massively contributed to gigantic failure rates among them (Beck, 2011; Paulson & Townsend, 2012).
Market Availability
Availability of market remains a key and crucial factor for the successful running of any business ventures in an unrestricted market economy (Gebretinsae, 2013). According to Bhatia and Batra (2009), small and medium business startup challenges gives chance for competitors to set in to the sector. The small scale business sector is characterized by very low barriers to entry such that any willing seller can hit the market place and do business.
A greater proportion of tech startups can produce commodities and services but fail to sell. They encounter a hard time implementing a marketing strategy in which the principal focus of the business is the buyer; where markets are carefully segmented and where fresh industry opportunities become more and more evident. Many tech startups regard marketing as merely an expense to the business and not as an investment making it very hard for them to achieve a growth in customer base (Karugu, 2013). Amyx (2005) asserts that one of the most significant challenges faced by start-up enterprises is the negative perception the market has towards small business enterprises. He further cites competition as another factor influencing the growth of start-up enterprises. The higher the competition, the less likely a start-up is expected to grow and vice versa.
Research Methodology
This study used a descriptive research design. The descriptive research was used to enhance a systematic description that is as accurate, valid and reliable regarding the responses on the growth strategies adopted by incubated start up enterprises. It was concerned with observing, describing, recording, analyzing and reporting conditions that exist. This study targeted Incubated tech startups at C4D Lab of The University of Nairobi, Nailab and Ihub in Nairobi. A simple random sampling was applied in accordance to the incubation’s share of the total targeted population to get the sample in each incubation centre. Therefore, 25 tech start-ups were selected using simple random sampling procedure from each incubation centre. The quantitative data collected was analyzed using a linear regression model which was as follows:
Y = β o+ β 1X1 +β2X2 + β3X3 + β 4 X4 + ε
Where: Y is the growth of start ups
β o= Represents the growth of startups when (X1,X2, X3, X4 )=0
X1 = Managerial Skills
X2= Funds
X3= Government Support
X4 = Market Availability
β 1, β 2,β 3, β 4, represent the coefficient of X1, X2, X3 and X4
Data Analysis and Findings
Regression Results
| Model | R | R Square | Adjusted R Square | Std. Error of the Estimate |
| 1 | .731a | 0.534 | 0.529 | 0.42774 |
Dependent Variable: Growth of tech startups
The results in table 1 presents the fitness of model of regression model used in explaining the study phenomena. The R square of 53.4% implies that Customer Perception, Access to finance, Innovation and Business environment explain 53.4% of the growth of the tech startups.
| Sum of Squares | Df | Mean Square | F | Sig. | |
| Regression | 98.277 | 5 | 19.655 | 107.427 | .000b |
| Residual | 85.811 | 20 | 0.183 | ||
| Total | 184.087 | 25 |
Dependent Variable: Growth of tech startups
Table 4.63 provided the results on the analysis of the variance (ANOVA). The results indicated that the model was statistically significant. Further, the results implied that Managerial Skills, Access to funds, Government Support and Availability of market are good predictors of growth of startups. This was supported by an F statistic of 107.427 and the reported p value (0.000) which was less than the conventional probability of 0.05 significance level.
Table 3: Regression of Coefficients
| B | Std. Error | T | Sig. | |
| (Constant) | 0.437 | 0.265 | 1.647 | 0.000 |
| Managerial Skills | 0.201 | 0.045 | 4.983 | 0.000 |
| Access to funds | 0.233 | 0.042 | 5.534 | 0.000 |
| Government Support | 0.091 | 0.029 | 3.192 | 0.002 |
| Availability of market | 0.573 | 0.045 | 2.870 | 0.000 |
Dependent Variable: Growth of tech startups
Table 3 presents the regression coefficients which show the extent to which the four independent variables in the study influence the growth of tech startups. Based on the data, the regression model for the study was derived as follows;
Y = 0.437 + 0.201X1 + 0.233 X2 + 0.091 X3 + 0.573 X4
This shows that change in the managerial skills by one unit changes the growth of the tech startups by 0.201 units, a unit change in the access to funds by one unit changes the growth of the tech startups by 0.233 units, a change in government support changes the growth of tech startups by 0.091 units. Finally, a change in the market availability by one unit increases the growth of the growth of tech startups by 0.083.
Conclusions
From the findings of the study, it can be concluded that funding for tech startups plays a major role in the growth of the businesses. Most tech startups have remained in stagnation or have recorded little growth due to inadequate funding for their operations. Access to and cost of capital is a major challenge facing tech startups. Personal savings, family and friends remain the main source of capital for the tech startups since they lack suitable means of obtaining finance through borrowing.
It can be concluded that managerial skills of the startup owners affects the growth of the businesses. Majority of employees and owner operating tech startups firm do not adequate training in business management and operations. This can be attributed to the fact that the cost of training the startup owners is usually high and most of them opt to run businesses without training. Even though the government has initiated progrrammes aimed at improving the growth of startups and small businesses in Kenya, nothing much has been done to facilitate training of existing and upcoming entrepreneurs involved in running tech startups in the country. The government has also not given any support to tech startups either through subsidy or direct trainings.
Finally, market availability is an important determinant of the growth of tech startups. Many tech startups operating in Kenya face market deficiencies for their products and services, this has hindered their growth. Entrepreneurs operating the tech startups have continued to have low market share for their products and services as a result of failure to conduct market research.
Recommendations
Based on the findings, it is recommended that financial institutions should review their lending policies for tech startups in order to enable the businesses access funds that can enhance their growth. Government should formulate policies focused at improving access to finances that will enable tech startups to access funds for business growth. The government needs to provide training to young entrepreneurs and also provide subsidies to the startups. Protection of startups against heightened competition especially from cheap imports should be in the governments’ priority in order to enhance their growth. Tech startups being key component in building a competitive private sector and contributing significantly to the creation of employment opportunities for the youth, the study finally recommends further study on the tech startups to examine factors influencing their level of technology adoption.
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