Ayodeji Balogun is the CEO of AFEX, a Nigeria-based company operating a private agricultural commodity exchange. Over US$300 million worth of crops a year are traded on AFEX’s platform in Nigeria, and the business has recently expanded operations to Kenya.
Balogun spoke to James Torvaney about the company’s business model, the challenges it faced in establishing the platform, and trends within the commodity trading industry.
What exactly does AFEX do?
We have three main businesses. They are all solving the same problems around access to agricultural markets, but with different approaches.
First we have AFEX Fair Trade Limited. This unit makes money from buying commodities from smallholder farmers, before aggregating and selling to larger buyers. It also provides services to help farmers access agricultural markets – for example: training, storage, and digital identity verification.
Secondly, there is AFEX Investment Limited, which raises and distributes capital to help grow commodity supply chains. For example, funding short-term working capital for food processing and beverage companies.
Finally, there is AFEX Commodities Exchange. This is an online agricultural commodity exchange platform that connects producers and buyers in Nigeria and [more recently] Kenya. Products listed on the exchange include maize, rice, sorghum, soya, wheat, cocoa, cashew, ginger, and sesame seed.
Which kind of businesses trade on the AFEX Commodities Exchange?
Sellers range from small traders selling single tonnes, to large traders selling tens of thousands of tonnes a year.
The buyers on the exchange include large conglomerates and trading houses like Cadbury’s, Diageo, Nigerian Flour Mills, and Olam. There are also investors who use the exchange for trading, investing, and hedging. We hope to launch our first set of listed derivatives for investors next year.
Just how large is the business? How many goods are traded on the platform?
More than 500,000 tonnes of produce are traded annually on the exchange, of which around 40% comes from smallholder farmers. This means there are a lot of very small transactions – we work with around 400,000 farmers in total, and we make payments to around 2,000 individual farmers every day.
The total value of goods traded on the platform went from around $40 million in 2020 to around $107 million last year. We are on track for $300 million this year. So we will have grown almost 3x per year for the last three years.
What kind of margins does AFEX make on those volumes of trades?
When you take into account not just the trading, but all of our other services, our gross margins are around 10% of the total traded value, and our EBITDA 7-8%.
Why and how did you start AFEX?
I come from a family of entrepreneurs and I’ve been trading since I was 15. When I finished my engineering degree I spent three years working full-time in the family commodity trading business. But I wanted to solve the problem that a lot of family-run enterprises face – how to build an institution that will outlast the founders.
After completing my MBA at Lagos Business School, I started working with the Tony Elumelu Foundation, working with their impact investing team. It was with them that I started looking at the investment opportunity of setting up a commodities exchange.
I actually ended up founding an East African commodity exchange – EAX – as a separate business, with the Tony Elumelu Foundation as one of our first investors. In 2013 and 2014 we set up in Rwanda, Uganda and Kenya, before an opportunity arose to set up an exchange – AFEX – in Nigeria in 2015. It took us three or four iterations of the business to get to where we are now, and the business looks very different now to how it did in those early days.
Can you talk about how the business has changed since the beginning? What caused these pivots?
Our initial theory was that we were going to build a high-tech financial market that would cover the entire East African and West African regions in a few years. We thought that, as in Europe or the United States, we could create a purely financial exchange, and leave the rest to the market.
But there was so much missing – a huge infrastructure gap, lots of mistrust within the commodity trading system, and lots of price asymmetry. All of the things that make the technology work in developed markets didn’t exist here, and the high-tech platform we built was just too much. It was like buying a Rolls Royce to go to the local market!
So building this platform was a massively costly mistake – $7 million out of the first $10 million raised went on building a technology platform that we almost never used. It took the business years to get to terms with the fact we had made such an expensive error.
What did you do to rectify that? How did the business change as a result?
When we came to Nigeria, we decided to do things differently to how we had done in East Africa. We built bottom-up rather than top-down, and focused on building the physical infrastructure before the digital.
For example, the exchange doesn’t work without some level of quality assurance. The previous model assumed that we could rely on the grading systems and storage of the parties to the trade. But in reality that didn’t always happen – sometimes products weren’t consistent, were not the grade that had been agreed, or they deteriorated in quality before final delivery.
We realised that we needed to put that assurance in place. So we bought up warehouses across rural areas of the country, from as small as 300 tonnes capacity up to 30,000 tonnes. We put in manual quality control procedures so that each bag that comes in is tested, graded, valued and stacked according to its quality, before the trade is fulfilled.
So you abandoned the high-tech systems you had initially developed?
Yes – in fact, we went from too much tech, to no tech. By 2018, we had scaled our network of warehouses across Nigeria. But trading volumes were so high that our manual systems just failed and we had huge backlogs. A single day of trading would take 10 days to process. We were losing a lot of business because of it.
What technology systems did you invest in this time?
We wanted to be more agile in our product development, rather than just going and buying the biggest or most expensive systems.
We set up an in-house development team – we currently have around 30 resident software engineers, with around 30 more in training – and focused on developing proprietary platforms for three of our key business needs. The first is ComX, which supports the trading system. The second is Workbench, which we use to manage the aggregation and storage operations, and acts as an ERP system for the farmers. Thirdly, there is BankX, a payment infrastructure similar to Paystack, which we use to settle payments across the continent.
Building a two-sided platform is notoriously difficult as you have to build both the supply and demand simultaneously. How have you gone about balancing these?
Generally, I think that with market systems you have to subsidise one side of the market in order to grow – for the first few years we had to subsidise the farmers. The cost of coordinating the supply (warehousing, payments, farmer training and identity verification) was much higher than what we were earning as our margin on each trade. But the important thing was that we subsidised the operational cost, and not the prices. We could have simply increased our margins, thus raising the prices for buyers. But that wouldn’t have scaled to a wider market. The unit economics wouldn’t have worked. Instead, we invested more in systems such as warehousing and payment infrastructure, which meant as we scaled those costs came down on a per unit basis.
Secondly, you have to figure out your operations. We adopted a physical-digital hybrid model. We spent a lot of time looking at both Amazon and Alibaba. Amazon could rely on very efficient and homogenous delivery, payment, and regulatory systems. Thus they could have very centralised operations, with high levels of automation and standardisation.
The environment that Alibaba faced in Southeast Asia was more similar to what we had in Africa, with less reliable infrastructure and a greater need for understanding local context. So their platform was more of a decentralised one, acting as an aggregator and enabler for other businesses. And that influenced the development of our platform.
Thirdly, we felt we needed to build a financial moat – similar to Alibaba with Ant Financial. Payment is still one of the biggest issues on the continent, and the glue that brings everything together. So if people can buy, say, six months’ worth of inputs on your platform, and also get financing and execute the payment without leaving your platform – that’s a huge value proposition, and will keep customers using your products.
What are some of the trends you see in the commodity trading space?
I see commodity trading as a very generational game, where every 20 to 30 years you see older players move out and new players come in. The first 10 years is the stage of natural selection, and the next 10 years or so the ones who survive can build up their moats, strengthen their balance sheets and pivot to the new place they want to be.
Coming into the 1980s, you still had the big global trading houses (such as the “ABCD” companies – ADM, Bunge, Cargill, and Louis Dreyfus) importing and exporting out of Nigeria. Then there was a transition, where they mostly moved offshore and focused on trading internationally, and you had domestic powerhouses – Dangote, Flour Mills of Nigeria, Stallion, etc – rise up in their place. Around the turn of the century, many of these companies dropped off or moved into higher parts of the value chain like manufacturing and processing, and you had a new era of commodity traders, with some of the names you see today such as Olam.
Over the last few years, I think we have seen the start of a new age of nimble, digitally-enabled, businesses. Companies like ourselves and Twiga Foods are part of this. We are still at the stage where lots of businesses are coming in, and competing to be the big players of this generation.
This also follows the global commodity boom and bust cycles – during the booms, companies have to take advantage and build up their moats so that they can succeed and outlive the bust, whilst others fail and die.
And what untapped opportunities are there within the industry?
With the disruptions of the last 24 months – tension between China and the United States, Covid-19, supply chain crises, and now the conflict in Ukraine – we are seeing huge changes in the industry. Everything in the world became “just-in-time”, only for events to happen that made this impossible to work.
I think that capital will continue to become more globalised, but delivery will become more localised as a result of these events. International companies will redefine their supply chain strategies around local alliances that will work for the next 10 to 15 years, and I think there are huge opportunities across the continent for those who can work with them.
I also believe companies will want more transparent supply chains. Rather than just saying “we want to buy soybeans on the exchange”, big international companies now want to know who they are dealing with, and exactly what they are getting. This too will lead to opportunities for local partners that have more visibility of the domestic part of the supply chain.
Do you envision any changes on the farmers’ side?
Change on the supply side is currently slower than it should be, but I expect to see technology-driven changes there, including a lot more tech-enabled aggregation. You may still have smallholder farmers producing the commodities but with aggregation it can give buyers the experience of dealing with larger farms.
Rural payment solutions are also a big area of opportunity – many fintechs are still focused on the urban areas, but there is still a need for better financing for unbanked farmers. There’s a massive gap there – I think some of the banks of the next 15 years still don’t have a name today.