Asian start-up hubs: Global mandates

Flipagram is a mobile app that allows users to convert photo sets into animated slideshows set to music. Launched in 2013 by Los Angeles-based Cheerful, Flipagram has featured among America's top 10 photo and video iPhone apps for over a year. It was the most popular download in the iOS App Store on New Year's Day 2014 and retains a place in the top 100.

For Hong Kong-based Mind Fund, Flipagram represents a substantial home run for its first fund. The VC firm led the Series A round in Cheerful in 2012 and the saw Charles River Ventures and Trinity Ventures come in for the Series B in 2013. When Mind Fund launched Fund II, it was encouraged to stick to a US-centric strategy. But Adam Lindemann, the firm's managing partner, was looking closer to home.

"I'd started to see activity in Hong Kong," he explains. "I decided this fund would focus much earlier - we are running an entrepreneur-in-residence program, rather than the previous Series A stuff - and on Hong Kong companies that are global from day one. It is a strategic shift, and the jury is still out, but I'm very bullish."

Lindemann adds that his decision was driven by the emergence of top entrepreneurs in Hong Kong who are building companies that could sell products anywhere. If this phenomenon achieves critical mass, it would be a welcome endorsement of the tech start-up credentials of a market previously accused of neglecting them.

Hong Kong is one of multiple Asian jurisdictions seeking to become an innovation hub. It is a logical ambition for policymakers, but it remains to be seen how these places negotiate the obstacles that stand between them and lasting comparisons with Silicon Valley.

More pertinently, they are operating in an increasingly globalized start-up environment, which has implications for competitive edge.

"If you have a good product with a good customer benefit, that product can spread around the world faster than it ever could before. It really matters less and less that someone has to be in Silicon Valley, but it is more likely that great companies will come from technology hubs because there are more innovative ideas floating around," says Tim Draper, founder of Draper Associates and founding partner of DFJ.

Support systems

One of Hong Kong's initiatives reaches a climax next week with the unveiling of three winners of the 2014 StartmeupHK venture program. The government-supported program is open to any entrepreneur with an innovative, scalable business ideas that can be built in Hong Kong. The winners receive work space, professional services and mentorship over a 12-month period.

It is part of a wider set of tech-friendly policy packages credited with helping fill up incubator programs and co-working spaces over the last 12 months. Cyberport, a "creative digital community" that opened in the early 2000s and was subsequently written off by many as a white elephant, is said to be busier than ever before.

It is generally acknowledged that, in order to become self-sustaining, a technology hub must offer innovation, capital and liquidity. Tytus Michalski, managing director at seed investor Fresco Capital, says Hong Kong has plenty of innovation and capital, although the latter is a broad constituency and not all investors understand start-ups.

"A healthy environment needs support systems to help start-ups from the earliest stages through the growth stage," Michalski adds. "There are areas where Hong Kong has done well, like having more than 30 co-working spaces which helps to mitigate the challenge of high real estate costs. But there also areas where Hong Kong still needs to improve, such as encouraging banks to support start-ups."

According to sources familiar with the situation, Hong Kong used several other tech hubs as reference points when reviewing its own offering in the last few years. These included Singapore, which stands out as the market in Asia that has most actively sought to cultivate start-ups. Singapore has sought to emulate Silicon Valley before but the latest wave of efforts is notable for its methodological approach.

A number of early-stage financing programs - often run as matching schemes with the government contributing an equal amount of capital to that raised from the private sector - were already in place but there was insufficient funding to get companies off the ground. As a result, incubation schemes were introduced. Now the focus is on stimulating Series A stage investors that can take companies from revenue generative to profitable, essentially working with start-ups that graduate from the incubators.

The objective is to create an ecosystem that is self-sustaining. While it might be argued that Singapore's initiatives are still too young to be properly assessed, Peng T. Ong, managing director at Monk's Hill Ventures, claims there is now sufficient momentum in the market place.

"Even now if you turned off some of these programs the marketplace would keep going. It is like an engine - you need to jump-start it with the battery but once you've done that you can turn off the battery and it keeps going," he says.
Evidence of this could lie in the entrepreneurs themselves. Silicon Valley is defined by a virtuous cycle of capital perhaps best exemplified by the alumni of money-transfer service PayPal who have gone on to set up, join or invest in a vast array of VC firms and start-ups, including the likes of YouTube, Yelp, LinkedIn and Tesla Motors.

Industry participants say they are seeing similar, albeit smaller scale, movements in Hong Kong and Singapore. The dynamic is visible on a much larger scale in markets like China.

Domestic bulwarks

A peculiar development noted by William Bao Bean, investment partner of SOS Ventures in China and managing director of the firm's accelerator program, is that second-generation entrepreneurs are the ones exiting their businesses and putting money back into the system to support the a new generation of start-ups. Many of the first-generation entrepreneurs are still running their companies - and these groups are frequent buyers of businesses from the second generation.

This has precipitated an explosion in angel investment over the last two years. When David Chen co-founded AngelVest in Shanghai seven years ago it comprised a handful of professionals with a passion for start-ups and a sense that many Chinese entrepreneurs were not getting the mentorship they needed. The network now numbers more than 80.

"The rise in angel investing in China has in part been driven by start-ups becoming more popular as an investment asset class; people have seen the money to be made from exits," Chen says. "There is also a lack of domestic investment opportunities compared to four years ago when everyone was putting their money into real estate and hoping to get a 100% return annually."

One of the reasons this rapid growth is possible in China is scale. The start-up environment is highly competitive but the addressable market for new products and services is huge.

The government has played a role in initiating innovation - Patrick Loofbourrow, a partner with Cooley in Shanghai, notes the contribution of subsidized premises, tax breaks and equity investment programs in the nation's seemingly ubiquitous technology parks - but the market opportunity is an incentive in itself. Draper recalls DFJ struggling in the early days and losing money on deals, but it wasn't long before the firm teamed up with search engine Baidu in what remains its most successful investment ever.

Yet Baidu is an interesting case study in the context of what other technology hubs in the region are trying to achieve. The company has grown to more than $80 billion in size on the back of domestic growth. In China, like India and the US, it is possible to create multi-billion-dollar businesses without venturing into new markets.

Japan and South Korea, meanwhile, are caught in the middle ground. Their domestic economies are large enough to support start-ups that reach the billion-dollar mark, but the danger is that entrepreneurs will get comfortable and neglect to look overseas early enough. They end up with corporate cultures and technical systems that are not easily transferable or - even worse - someone else takes their business model global.

"Quora supposedly got its idea from Naver Corporation's Q&A service, which is dominant in Korea," says Bernard Moon, co-founder and general partner at Sparklabs Global Ventures. "Korea should not be an idea generator for the US, it should be a leader. Entrepreneurs must look abroad as soon as they can."

For Hong Kong and Singapore, domestic markets have never been an option. Their value as start-up platforms is only as strong as their regional reach - into China and Southeast Asia, respectively. At the same time, while there is logic in targeting proximate markets, these jurisdictions are not bound by it. StartmeupHK's criteria state that candidates should be aiming to develop a business globally with the intent to establish an Asian or Greater China office in Hong Kong, not a China or Asia-specific business.

Global ambitions

Empowered by cloud-based technologies and seamless communications, the 21st century start-up might target a particular geography but it could equally well forge a global path.

"It is not only because of the cloud that you can start a company anywhere; it is also inexpensive to start that company - getting an idea and putting a website or an app together. Costs have come down so it's much easier to take that first step," says Jessica Archibald, managing director at US-based VC fund-of-funds Top Tier Capital Partners. "Globalization and capital efficiency have been a good leveler."

Skype is the most easily identifiable example of this phenomenon - a company founded in Estonia by a Swede and a Dane. But it is also prevalent in Australia, a far-flung market, yet one in which start-ups have leveraged their lower costs, skills and native-level English language ability to address international markets.

99designs, an online graphic design marketplace through which customers can use crowdsourcing to solicit designs for websites, T-shirts and logos and then pick their favorite, was founded in Melbourne in 2008. Initial marketing efforts were so US-centric - the company branded with a +1 phone number - that relatively few people were aware of the company's origins. Backed by VC funding, 99designs has since expanded its global footprint, entering Europe and South America.

Most of Blackbird Ventures' portfolio companies are in Sydney and Melbourne, but has also ventured further afield - to Brisbane, Adelaide and Perth - driven by pockets of local activity. "We are looking for businesses in Australia that tackle a global market from day one and where customers don't really know or care that they are Australian," says Rick Baker, managing director at Blackbird. "You can build these businesses from anywhere in the world."

A recent investee is SafetyCulture, a software start-up based in Townsville in northeast Queensland. Despite the somewhat remote location, the founders have built up a base of 200,000 users and more than 200 corporates, including General Electric. However, Baker accepts that SafetyCulture will have to set up in other cities in order to access the resources required to scale the business.

In this sense, entrepreneurs and start-ups will still gravitate to technology hubs, albeit perhaps later in the corporate lifecycle than has historically been the case.

"As companies go beyond that initial product development phase, they need to be well-located in order to recruit sales people and properly address financial, HR and management issues," says Shane Chesson, a partner at Singapore-based Northstar Silicon Island. "A seed investor may back a company with three founders and less than 10 people overall, but one of the investments we are looking to do is more like 60 people. It's not the sort of thing you want to run on a distributed basis."

A start-up might run its call center out of the Philippines, locate its back office in Vietnam and retain an IT development team in India - each one a decision based on cost-efficient outsourcing. In order to attract top in-house talent, the start-up requires a location that is reasonably affordable, geographically accessible, has good immigration arrangements, and above all is a place where people want to live.

The appeal of Singapore and Hong Kong in this context is their status as global cities, offering rule of law, intellectual property protection, strong universities and multiculturalism.

"That is why it would be hard to create a Silicon Valley in a farming community in the US," says Top Tier's Archibald. "You might have a great idea but can you attract software engineers to that area? It is easy to convince people to move to Silicon Valley."

Viki, a video streaming site characterized by community-generated subtitling, is by some distance Singapore's most successful VC-backed tech exit. The business was bought by Japanese e-commerce giant Rakuten paid $200 million last year. Viki's founders - who hail from Armenia and South Korea and met at business school in the US - had no deep ties to Singapore. They set up there because the business was suited to Asia and Singapore was an attractive and convenient base, with local funding also available.

Education, education, education

The globalization of venture capital has been supported by an explosion in the amount of information available on how start-up communities work. It is no longer necessary to network in Silicon Valley, Beijing or Mumbai to find out how companies are funded; entrepreneurs everywhere now tend to go into meetings much better informed.

This more widely dispersed knowledge base has also increasingly found its way into academic programs - there is now a science to fostering innovation, with processes and best practices becoming institutionalized.

Massachusetts Institute of Technology (MIT) runs a regional entrepreneurship acceleration program that admits eight teams a year from locations all over the world. Singapore and South Korea are the only Asians in the current intake. Four series of workshops are held over a 24-month period during which existing ecosystems are analyzed, development frameworks are drawn up, and regions can share experiences and best practice.

Draper University represents another entrepreneurship education program. Draper says the university's strength lies in a willingness to subvert standard modes of instruction. Students undergo survival training as well as business training and there is a culture of accepting failure. "At Draper University you can have a pile of team points based on something extraordinary you've done, whether it succeeds or fails," he explains.

The importance of strong educational institutions that encourage entrepreneurship is emphasized by all industry participants as central to the innovation hub ethos. Blackbird's Baker says the best investment the government could make would be in education. He wants to see science, information technology, coding and engineering firmly imprinted in school curricula and taught through university.

Draper University's efforts aside, a failure-tolerant culture is the hardest thing to teach as it cuts across numerous Asian cultural norms. In the US start-up community, failure is viewed in the context of learning and using the experience to reduce the chances of failure next time. In some Asian markets, there just isn't a next time.

"Nobody wants to take as much risk as in the US and this has to do with social values," says Eddy Lee, principal at Fenox Venture Capital. "Running a small business is often associated with not having choices - not having the choice to work for a large corporation, which in Japan is still one of the most sought after professions on leaving school. Working at a multinational is viewed as the first choice job."

Mind Fund's Lindemann expresses frustration at parents with "old fashioned" conservative values that prevent them from encouraging their children to take risks in business. He expects change but not overnight. Rather, attitudes will evolve for the same reasons that start-up ecosystems emerge: once successful entrepreneurs put their expertise and capital back into the system as mentors for the next generation of companies.

"We just need to tough it out for a little while longer to get those banner successes in Hong Kong," he says. "There are entrepreneurs and investors who have been around for the last few years and who are all focused on the same thing: let's get some wins under our belt."

SIDEBAR - The role of government

Technology start-ups were among the casualties in Australia's austerity budget announced earlier this year, with several programs discontinued. They included the Innovation Investment Fund (IIF), which sponsors venture capital funds, start-up grants program Commercialisation Australia, and research institution National ICT Australia.

Yasser El-Ansary, CEO of the Australian Private Equity & Venture Capital Association remains frustrated by the government's stated support for innovation but its failure to articulate the economics. Rick Baker, managing director at domestic VC firm Blackbird Ventures, says he disappointed at the cuts but disheartened by Australia's attitude towards start-ups.

"There is some quite good monetary support," Baker explains. "The main one is the R&D tax credit. It is about the same cost or possibly a little cheaper to hire engineer in Australia versus the US. With the R&D tax credit it becomes a lot cheaper."

The issue of how much resources governments should put towards fostering innovation and what form this takes is hotly debated in Asian start-up circles. While the authorities in Australia and Hong Kong are described as "fairly light touch" in their approach, Singapore is more proactive, with a raft of policies covering incubation to institutional funding. But how much is too much?

The consensus view is that as soon as governments start trying to pick winners directly, problems ensue. Its role should be that of initiator - if putting capital work, it should do so in a largely passive way. Matching funds, where the GP identifies and executes an investment and the government puts in an equal sum, are good example of this. Australia's IFF operated along these lines, as do programs in markets such as Korea and Singapore.

"For the most part it's been good because the government hasn't been overreaching. It has been match-ups or start-up training or taking start-ups abroad," Bernard Moon, co-founder and general partner at Sparklabs Global Ventures, says of the Korea experience.

This begs the question how long such schemes will go on when the objective is to create a self-sustaining ecosystem. Commenting on Singapore, Shane Chesson, a partner at Northstar Silicon Island, expects the government to become less involved on the financing side over time and focus more on the infrastructure aspect: reasonable immigration legislation, affordable premises, and access to different networks.

Meng Weng Wong, co-founder of Singapore-based accelerator JFDI.Asia, adds he would like to see more top-down initiatives that make it easier to do business across Southeast Asia.

These sentiments strike a chord with other investors in the region. "In the broader ecosystem, the government can ensure that the regulatory environment is start-up friendly," says Tytus Michalski, managing director at Hong Kong-based Fresco Capital. "Many rules and regulations are well-meaning but they end up restricting or hurting start-ups. A balance needs to exist to ensure that regulations meant for large corporates are not simply copied for start-ups."

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• Topics
• Venture
• Early-stage
• Regulation
• Southeast Asia
• North Asia
• Australasia
• Greater China
• Technology
• China
• Southeast Asia
• Hong Kong (China)
• Singapore
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• Australia
• South Korea
• JFDI.Asia
• Blackbird Ventures
• Fenox Venture Capital