South Africa has very mature legislations or regulations as well as funds for its startup ecosystem. According to data curated by Maxime Bayen, GSMA Ecosystem Accelerator’s Insights Director, in the first 7 months of 2019 (January to July 2019) South Africa had 33.3 per cent share of the startups invested into in Africa. According to that statistic, more South African startups secured funding above $1 million compared to other African startup ecosystems, with over 30% of the startups that raised funding above the $1 million threshold in Africa found in South Africa. The reasons for these are not far-fetched. The South African government has enacted policies, regulations and legislation that encourage the growth of the local startup ecosystem. Below, we discuss how South Africa encourages its local startup ecosystem through legislation.
Tax Relief Provisions
- One significant role South Africa’s government has played in enabling more investment in the country’s startup ecosystem is the introduction in 2009 of the Section 12J tax incentive, which gives tax relief to investors for investing in qualified Venture Capital Companies (VCCs). The objective of section 12J is to create and maintain employment and to grow the economy and ultimately the tax base. The incentive allows investors who make investments in approved VCCs — that then invest in qualifying small companies — a tax deduction. Section 12J was introduced with a “sunset clause” that takes effect on 30 June 2021. It is not clear whether the incentive would be extended.
- By operation, Section 12J, enables venture capital firms to upon investment in an approved venture capital company (VCC), claim an income tax deduction in respect of the expenditure actually incurred to subscribe for VCC shares. For example, if an investor subscribes for shares in an approved VCC for R100,000, that taxpayer will be entitled to an income tax deduction of R100,000 against taxable income.
- A lot of venture capital firms have been opened in response to Section 12J, notable among them including Kalon Venture Partners, KNF Ventures, Kingson Capital and Grovest.
- In February, it was revealed that Vinny Lingham is involved in one 12J fund, the Lion Pride Agility VCC Fund, through his investment company Newton Partners.
- Statistics reveal that the value of venture capital investments grew by 33% to R1.160 billion in 2017. The popularity of these investments is clear, and understandable given the high tax burden on individuals without it. In fact, in 2018, about 41% of all deals by value were in startup capital.
- Again, Small Business Corporations (SBCs) in South Africa, on the other hand, can benefit from a reduced tax liability if their taxable income does not exceed R550 000 in a year of assessment. In the same vein, SBCs may also qualify for accelerated depreciation allowances against taxable income. If a qualifying SBC owns plant or material and uses it directly in a process of manufacture or similar process, the SBC may reduce its taxable income by the full cost of the plant or machinery in the year of assessment in which it is brought into use for the first time
- For startups that are at the research and development (R &D) stage, the current costs related to certain R&D activities carried on in South Africa are 150% deductible, subject to pre-approval by a government-appointed approval committee. The cost of machinery and other capital assets acquired for the purposes of R&D may be depreciated 40% in the first year of use, 20% in the second, 20% in the third year, and 20% in the fourth year. Buildings used in the process of R&D may be written-off over a 20-year period.
Regulatory Approval For Crowdfunding
- 2019 was quite significant for South African startups, with Intergreatme and Beerhouse raising substantial sums from Uprise.Africa, a crowdfunding platform in record-breaking deals. Crowdfunding refers to raising money from the public (who collectively form the “crowd”) primarily through online forums and social media. At a time when most African countries are yet to open their doors up to crwofunding, South Africa is increasing the chances of startups raising capital through this means. Enabled by the friendly legal framework on crowdfunding in South Africa, Africa’s first equity crowdfunding, Uprise.Africa, and South African alternative exchange ZAR X recently entered into an agreement that will see the mini stock exchange list any up-and-coming entities, which have already successfully raised capital via crowdfunding, and freely trade their shares on the open market. Not only could the arrangement be the funding gap filler that fledgling South African entrepreneurs desperately seek, but it could bring the local capital market to the people. The partnership also solves the fundamental flaw of all other pre-IPO models, namely that once a company has issued the shares they remain fairly illiquid, with investors having their funds tied up until that company looks at going public. Tabassum Qadir, co-founder, and CEO of Uprise.Africa says they plan to conclude at least three deals a month.
“We are simplifying venture capital through this mutually beneficial partnership for both entrepreneurs and investors,” Qadir says.
Government-backed Funds
- South Africa also has robust policies on funds available to its startup ecosystem. For instance, the South Africa SME Fund established in 2016 through a collaboration between government, labour and business is a major avenue of support for the country’s SME sector. The fund initially launched a R1.4-billion SA SME Fund, a VC fund to co-invest alongside various investors (not solely VC investors) in South African startups, with 75% of the R1.4-billion funds committed into black-owned small and medium-sized enterprises.
- In 2019, South Africa’s SME Fund and the government’s Technology Innovation Agency (TIA) also announced a public-private partnership to co-invest R350 million across three venture capital funds. A Memorandum of Understanding (MOU) was signed between TIA and SME Fund at the Innovation Summit in Cape Town on Friday 13 September, 2019. The partnership sees over R350 (over $23 million) invested in three venture capital funds. These fund managers will invest in a portfolio of early stage businesses and provide capital, as well as other support, to the entrepreneurs, to help them commercialise technologies and grow their businesses. The South Africa’s SME Fund’s mandate to the three fund managers includes a requirement that they invest at least 50 percent of the fund into businesses owned by black entrepreneurs.
- Apart from South Africa’s SME Fund, there are also a range of other funds, especially under the South African Department of Trade and Industry (also known as the dti) and its subsidiary agencies. Notable among them include:
- SEDA Technology Programme (STP) — responsible for providing both financial and non-financial technology transfer, business incubation and quality support services for small enterprise. Agro-Processing Support Scheme (APSS) — Launched in 2017, the Agro-Processing Support Scheme (APSS) incentive scheme is a R1-billion cost-sharing grant fund designed to boost investments in new and existing agro-processing projects.
- Support Programme for Industrial Innovation (SPII) — designed to promote technology development in South Africa’s industry, through the provision of financial assistance for the development of innovative products and/or processes.
- The Aquaculture Development and Enhancement Programme (ADEP) — a cost-sharing incentive programme for projects in primary, secondary and ancillary aquaculture activities.
- Export Marketing and Investment Assistance Scheme (EMIA) — aims to develop export markets for South African products and services and to recruit new foreign direct investment into the country.
- The Sector Specific Assistance Scheme (SSAS) — a reimbursable cost-sharing grant that will pay for 80% of the costs incurred by (non-profit) export councils, joint action groups and industry associations to provide support to companies to grow the export market for South African goods.
- R&D Tax Incentive — this incentive is available to businesses of all sizes and in all sectors of the economy, for research focused on science and technology as applied to any industry sector.
- Black Industrialists Scheme (BIS): This incentive programme aims to fast-track the participation of black industrialists in the South African economy. The scheme offers a cost-sharing grant ranging from 30% to 50% to approved entities, to a maximum of R50-million. The total amount of the grant will depend on the level of black ownership and management control, the economic benefit of the project and the project value.
- Green Fund: The R500-million fund was launched by the national finance institution, the Industrial Development Cooperation (IDC), in 2011, with the aim of improving South African SMEs energy efficiency and the country’s green economic development.
- The Growth Fund is a grant fund specifically for growing South African small businesses who need a cash injection to scale up further and create jobs.
- National Youth Development Agency (NYDA): The NYDA provides grant finance in the form of micro-finance grants for survivalist youth entrepreneurship and co-operative grants for greater participation of youth in the co-operative sector. The grant finance starts from R1 000 to a maximum of R200 000 for any individual or youth co-operative.
- Technology Venture Capital Fund — provides equity or debt funding to emerging technology-focused businesses to enable the conversion of technology-rich South African intellectual property into a market-ready product, and ultimately its commercialisation.
- Small Enterprise Finance Agency (Sefa): Sefa is a joint venture and a consolidation of various funds including the Apex finance fund, KHULA and a contribution fund coming directly from the Industrial Development Corporation (IDC).
- NEF: The National Empowerment Fund (NEF) is established by the National Empowerment Fu
- nd Act, 1998 (Act №105 of 1998). The NEF is a driver and thought leader in promoting and facilitating black economic participation by providing financial and non-financial support to black empowered businesses, and promoting a culture of savings and investment among black people. The maximum loan amount is R5-million.
Charles Rapulu Udoh
Charles Rapulu Udoh is a Lagos-based lawyer who has advised startups across Africa on issues such as startup funding (Venture Capital, Debt financing, private equity, angel investing etc), taxation, strategies, etc. He also has special focus on the protection of business or brands’ intellectual property rights ( such as trademark, patent or design) across Africa and other foreign jurisdictions.
He is well versed on issues of ESG (sustainability), media and entertainment law, corporate finance and governance.
He is also an award-winning writer.
He could be contacted at udohrapulu@gmail.com