Tech startups likely to weather SA’s economic slowdown say venture capitalists

South Africa’s economic outlook is grim. With the prospect of further power blackouts looming and struggling state-owned entities on the brink of failure, the World Bank predicts that the SA economy will grow at below 1% in 2020. In October last year the National Treasury forecast 2019 growth of just 0.5%.

How will the country’s tech startups face up to the slump?

While the tech sector has traditionally been less affected to changes in the economy than other sectors, Knife Capital partner Keet van Zyl says the economic slowdown will likely hit the sector, specifically because the local sector’s bias towards business-to-business (B2B) business models.

“But for those tech companies that have real differentiators or competitive advantages it could have a positive effect, because larger corporates will need to get creative and more efficient so they may look for alternative revenue streams and be more open to partnering with startups,” he says.

Startups are likely to be hit by South Africa’s economic slowdown but tech companies are often ideally suited to such challenges, says VCs

Hlayisani Capital director and investment principal Brett Commaille echoes this. He says a tough economy will likely see business spending less and delaying big projects.

“This certainly makes it tougher for our investees and target companies. They inevitably have to work harder for growth and often need to look offshore for their growth. Thus the tech sector as a whole has more noise to work through when they’re out hunting clients and investment,” he says.

But he reckons that tech companies are often ideally suited to such challenging environments.

“Thankfully these are companies who are used to overcoming challenges, so it’s just one more. As with all things though, these challenges often breed opportunity so we’ll be on the look out for those companies who are able to find growth despite a challenging economic environment,” he says.

And while some international investors are concerned with the the country’s economic woes, Commaille says several view as attractive the potential of a low-cost environment in South Africa, combined with potential for international revenues.

He reckons that with more funds coming on stream, ticket sizes for deals are bound to get larger. “That said, more and more investors are co-operating so expect more joint investments in the South African space,” he adds.

Deals in the pipeline

He said Hlayisani is finalising two new deals at the moment and added “hope to have good news in the next few weeks”.

“Government has some big challenges ahead which are likely to stand in line ahead of entrepreneurship when it comes to allocation of resources. They may be saying the right things but we’re yet to see if they put action behind those words. Either way, we’re not waiting for government,” says Commaille.

Despite this, Kingson Capital‘s Gavin Reardon believes that the country will also see the government playing an increasing supportive role, adding that “how we engage with them as the private sector will determine how fast we can accelerate the venture industry in SA”.

Kingson Capital’s Fund Two has so far closed six deals, with a further two that are in the closing stages.

Reardon said the VC’s first group of startups is going across to San Francisco for the VC’s inaugural bootcamp that starts next week (see this story).

Van Zyl said Knife Capital is busy finalising due diligence on a few deals and also picking up on some deals that were too early-stage for the VC to invest in before.

Some of Knife Capital’s portfolio companies are also embarking on some merger and acquisition activities that the VC is backing. “Expect some new deal announcements between March and June this year,” he added.

He said Knife Capital’s Section 12J fund, KNF has deployed most of its R180-million and Knife Capital is extending the fund for new investors to participate and build on the success and momentum created.

New investors in KNF, he said, will be able to participate in KNF’s existing portfolio investments, such as cloud-based ticketing platform Quicket, machine learning business DataProphet and edtech company Snapplify.

“Our target is to increase the fund from R180-million to between R220-million and R250-million to enable some new investments in our pipeline,” he said.

Van Zyl said Knife Capital is also looking at ways to plug the Series-B funding gap that exists in SA where there are limited local investors that lead or participate in larger Series-B VC investment rounds and actively manage the portfolio investments on home soil.

‘SA SME Fund to fuel sector’

Turning to the outlook in VC investing, he said the R1.4-billion SA SME Fund — which draws its capital from a number of listed companies as well as the Public Investment Corporation (PIC) — will likely continue to fuel the sector. After backing some of the more established VC’s the fund is now catalysing some new VC fund managers, he says.

“The (SA SME Fund funded) new University Technology Fund should result in some interesting investments in commercialising core intellectual property,” he added (see this story).

However, he said Section 12J VC funds will likely find it more challenging to raise funds because of new investment limits (R2.5-million for individuals and trusts and R5-million for companies per tax year) (see this story).

“But a number of VC Funds focused on SA have under-deployed capital, so the great entrepreneurs out there are in a good position to get funded in 2020,” he said.

And perhaps things aren’t too bad. At least, according to Kalon Venture Partners‘ Clive Butkow. He reckons South Africa can ride the current upward trend that the continent’s VC sector is on (see this story on VC deals in Africa in 2019 and opinion piece).

Bullish on African growth story

Butkow says he’s “very bullish” when it comes to the venture capital sector in Africa.

“We’re seeing a lot more capital coming into South Africa and Africa and importantly we’re seeing a little bit more of early pre-Series A funding coming in,” he says, adding that there’s been a visible increase in the number of tech companies raising very big rounds on the continent.

His positivity is based on the increasing use of smartphones and the price of broadband coming down, he says.

“In the country they’re building global-scale businesses, not just South Africa (focused) ones,” he says.

Says Butkow: “It’s a good time to be a venture capitalist on the continent”. Tech entrepreneurs will hope it’s a good time to be a startup in South Africa, too.

Read more: 10 reasons why 2019 was a hot year for Africa’s tech startup scene [Opinion]
Read more: Are these the 10 biggest deals by African tech startups in 2019?
Read more: Are these SA’s 11 biggest disclosed VC deals in 2019? [Updated]
Read more: VC is growing in Africa, but sector still hobbled by lack of follow-on and seed funding

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