With no lack of investors, venture capital firms, incubators and accelerators are seeking new ways to attract the next billion-dollar start-up

Start-ups do not exist in a vacuum. A couple of teenage coders working in isolation in dorms is not enough to create the next FAANG (Facebook, Amazon, Apple, Netflix and Alphabet).

For countries like Singapore aspiring to be the next start-up hub, the government must create a network of related innovation campuses and open its doors to global talent even as it provides tax incentives and cash grants.

But most importantly, start-ups need venture capital (VC) firms, incubators and accelerators willing to risk their time, effort and money to mentor and fund them during the development and commercialisation phases.

It therefore comes as no surprise that a large number of VC firms have set up shop in Singapore, all convinced they can find the next unicorn or start-up valued at over US$1 billion ($1.4 billion) to nurture.

According to Enterprise Singapore, the government agency that helps homegrown enterprises build capabilities, innovate and internationalise, last year, the city state was home to over 100 incubators, accelerators and venture builders, as well as over 150 VC firms.

Venture funding activity and amounts increased to 353 deals worth US$10.5 billion in 2018, from 160 deals worth US$0.8 billion in 2012. In 2017, there were 4,000 tech start-ups here, employing some 22,000 people.

Start-up funding in Singapore: 2017–1H2020

Innovation, creativity

But as the pool of high net worth individuals, VC firms and institutional investors expand, so do their need to innovate and create new investment strategies to differentiate themselves from the others and attract the most promising start-ups.

One example is Genesis Alternative Ventures, which calls itself Southeast Asia’s first private venture debt fund. Rather than going via the usual cash-for-equity route, it invests in a start-up’s debt. Simply put, Genesis provides the start-up with loans of about 20% to 30% of the equity funds it is able to raise. This loan will last for a term of three years and have less stringent loan approval requirements than banks.

This unique method of investment allows the company to take on some debt and lessen its equity dilution to the investor because Genesis does not end up owning equity in the company in return for its investment. Instead, Genesis will be issued warrants in the company, while collecting interest from its loan.

However, Genesis only looks for start-ups with sound business models, steady revenue growth and scalability. This means Genesis can only accept start-ups in the Series B stage and beyond, leaving out those in earlier stages.

Next, there is global venture capital firm EDGE196, which is launching a digital fund that provides investments to start-ups in the form of cryptocurrencies.

With a focus on tech companies, EDGE196’s mission is to reduce investor risk while making it easier for start-ups to access funding, mentoring and access to global markets. At the centre of the EDGE196 syndicated digital asset economy is the EDGEX cryptocurrency, which creates liquidity while raising funds for investment in vetted new companies.

Quick recovery

Like many industries, the VC sector has also been hit hard by the Covid-19 pandemic, especially in the earlier part of the year. But there are signs of recovery. Southeast Asia’s start-ups raised at least US$2.8 billion in 2Q2020, only slightly lower than the $2.9 billion in 1Q2020, according to DealStreetAsia Research and Analytics’ 2Q2020 report.

For Singapore, PwC expects funding for 2020 to eventually match 2019’s $6.5 billion, although it will be down from $10.1 billion raised in 2018.

As expected, tech-focused start-ups are grabbing the most attention. Despite the pandemic, tech start-ups garnered $3.3 billion in 1H2020 alone. “We are encouraged by the resilience of our tech start-up funding ecosystem, particularly in sectors like health & biotech, FinTech, agri-food tech and Artificial Intelligence (AI),” says Edwin Chow, assistant CEO at Enterprise Singapore.

With Singapore’s status as a financial hub, FinTech continues to be an active industry sector within the start-up ecosystem here. Investments in the sector almost doubled between 2017 and 2019 from $377 million to $686 million, says PwC. According to the consultancy, the growth is largely driven by FinTech firms in payments, InsurTech and credit which is closely aligned to trends in consumer demand.

FinTech aside, health and biotech are the other two sub-sectors that are growing quickly. The two sub-sectors saw more funding in 1H2020 than the whole of last year, from $230 million in 2019 to $342 million in 1H2020.

While the tempo of investments and related activities picked up visibility in recent years, investing in start-ups has entered a maturing phase, according to PwC.

For example, Series A funding in 1H2020 has reached 70% of 2019 at $586 million. Funding stages beyond Series A also saw tremendous growth, with over 45% to 55% per year in Series B and C between 2017 and 2019, signifying a strong foundation and a clear indicator that the ecosystem is developing steadily, says PwC. That said, Series B and C funding for 1H2020 stood at $634 million, stalling perhaps due to Covid-19.

Number of deals across funding stages: 2017–1H2020

Exit right

Even though local start-ups have drawn their fair share of investor interest, they are aware the competition for funds and mentorship is global. And investments can easily flow elsewhere if there is better or faster returns to be made.

According to Huawei, the Chinese mobile tech giant which runs the Huawei Spark accelerator programme, the market in Singapore is small compared to those in bustling China.

Huawei’s chief digital officer of Huawei Cloud & AI for APAC Leo Jiang notes that start-ups in the region take about eight years to exit, which is double the time for China-based start-ups. However, the region still presents many opportunities and is expected to improve at a tremendous pace.

Several VC and accelerator firms The Edge Singapore spoke to expect to see a steady flow of exits soon. This is in agreement with the views of various general partners of global VCs, as reflected in a report by Golden Gate Ventures and Insead. According to the report published in September 2019, some 700 start-ups in Southeast Asia are expected to see early investors exiting in between 2023 and 2025.

The way Golden Gate Ventures’ partner Michael Lints sees it, unstable geopolitics between US and China drove investments into Southeast Asian start-ups. For instance, although global investors such as Warburg Pincus could have put its money anywhere else in the world, it is looking closely at the region and has even set up a fund dedicated to this region, says Lints.

“The increase in capital will lead to more start-ups being able to expand across Southeast Asia and prove their long-term sustainability. This will make them attractive acquisition targets in the long term,” adds Lints.

For VC firms, this means a sustainable and target-rich pipeline of potential investments to tap in the foreseeable future.