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4 reasons big-time VCs are investing in emerging markets

With technological advancements in developing nations speeding the growth rate of high impact tech start-ups, many American venture capital firms are now looking further afield to expand their investment portfolios. But what is driving this trend?

Dave Blakey
Dave Blakey is the founder of Snapt, a South African company that develops powerful user interface tools in order to effectively deliver open source software solutions for... More

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1. Lack of local funding
There’s certainly no shortage of innovative ideas coming out of emerging market countries. Africa, China, Russia and many others are growing steadily, and are producing an ever-increasing number of tech success stories, many with an extensive global reach.

However, the potential for innovation in these countries has been historically hampered by a lack of access to funding, based on an entrenched culture of risk aversion.

So, while small business development is starting to take off in the developing world, with both public and private sectors slowly beginning to comprehend the positive economic impact of the SME sector, the risks for entrepreneurs remain great in the absence of widely available start-up capital.

As a result, opportunities for foreign investors are plentiful. But with no shortage of high-potential start-ups in the USA itself, why are venture capitalists even looking to invest beyond their own shores in the first place?

2. Manageable investments
The average pre-money valuation for a start-up company in the USA is a startling US$17-million, prior to any monetary investment or clientele. Many of the companies being valued in this region don’t even necessarily have a market-ready product, and have undertaken little to no advertising spend.

As a result, venture capitalists looking for a stake in such a startup would have to be prepared to shell out a substantial amount of capital, without any guarantee of returns. For instance, to take a 30% stake in a new business development in the USA, a venture capitalist would need to pay out at least US$5 million – an investment that is not easily recouped.

The equivalent valuation for a similar start-up company in Africa would be zero. Entrepreneurs in developing nations are expected to have at least part of a product and some sort of proven track record before they can be assigned any value.

Once a business reaches this stage in its evolution, the valuation thereof would be somewhere closer to US$1-million, meaning that a 30% stake would constitute an investment of US$300,000 – a substantially more manageable investment.

3. Fewer risks, better returns
With far less sizeable down payments required for an equivalent stake in a start-up company in a developing nation, it’s no surprise that international investment is a hot topic in the American venture capitalist sector.

Not only are the financial risks associated with such an investment significantly lower, but the potential returns are far greater, as start-ups will have had to prove their market readiness prior to valuation.

In addition, developing markets tend to be less saturated than those in the US or Europe, meaning that a big idea has the potential to make a far more sizeable imprint.

4. Emerging markets are ready for investment
The ever-improving infrastructure in developing nations, along with the substantial over-valuing of local business endeavours, look sure to drive more and more American investors out of their back-yards in search of better returns.

And they’d be wise to do so — business investment opportunities abound in up and coming economies, many of which are simply a financial kick-start away from success.

  • http://www.facebook.com/people/Vinny-Lingham/504849690 Vinny Lingham

    I appreciate the sentiments, but the argument of valuation is akin to saying that paying higher rental in Sandton City is over priced, so instead, open your shop in Potchefstroom’s shopping mall.  The valuations is a sentiment of market conditions – it’s irrelevant.  I’d rather own 30% of a company based in the right geo-location and pay 4 times more, than buying a cheap stake in a company in the wrong place with no ecosystem to support it, and lower chances of success (this is how the valuations are calculated, at the end of the day).

  • Atul Prakash Garg

    Innovation and enterprise has acquired a global reach. It is important for the investor to know where the pricing model has potential for exploitation. Some places are saturated with locationally fixated teams, who need set parameters for getting the end result. Others are making money with only the slightest of support systems. The obsession with Location, Location, Location are blurring the principles of innovation, invention, dare to dream & the ultimate capacity to work intelligently! Brains do not grow on trees!