Tectonic Shift in Latin American Venture Capital Explained

Share

Understanding the changes taking place and the opportunity

At TheVentureCity, the world is our oyster. TheVentureCity is new venture and acceleration model that helps different founders around the world to generate impact. Our mission is to give global founders the access to opportunities. TheVentureCity prepares founders with a global ambition to achieve their next milestone.

We know that great entrepreneurs come from anywhere. We base our investment thesis on the harsh reality that talent is ubiquitous, but opportunity is not. That’s why we pay special attention to founders in emerging tech hubs who have been able to build smart businesses with little resources. We also know that there are an endless number of problems to be solved outside of the US (access to banking, healthcare, education, transportation, logistics, the list goes on). We aim to fill the VC gap in overlooked geographies where talented entrepreneurs solving key problems have historically struggled to raise capital.

Last year, we saw a shift in investor sentiment in one of the geographies we naturally gravitate most to: Latin America. Although we have long known that Latin America breeds some of the most resourceful, savvy and bootstrap-y entrepreneurs of all, we saw that the world began to notice as well.

2018 was a pivotal year for the region. And we felt the hype. High profile VC investors were reaching out to us for deal-flow, founder references and regional industry insights. We saw more mega deals, the rise of the region’s first billion-dollar acquisition and a number of Silicon Valley investors making their first venture investment in the region. We took a crack at the data to understand what happened from a macro perspective and we were pleasantly surprised with what we found.

First, let’s put 2018 in global context

2018 was a record year in VC in the US, Europe and Latin America. The US hit new records with a total of $130bn invested, Europe with $26bn and Latin America with $2.2bn.

Figure 1: VC amount invested by region ($mm)

Source: Pitchbook

This graph shows the crude reality that the US takes in 60x the amount of capital of Latin America (for a region that has almost 2x the US population. We know it’s more complicated than that, yet the contrast is striking).

We were curious to further explore the dynamics that might explain the large difference in VC between US and Latin America.

Let’s take a few steps back: Why is Latin American VC activity so small vs. other regions?

Historically (up to 2017), most of VC deals in Latin America have been in the pre/acceleration/incubation phase. This is thanks to the rise of acceleration programs like Startup Chile, NXTP Labs, StartupPeru, Startup Mexico, Incubar of Argentina, among many others. This is a great thing as accelerators are the starting point for many entrepreneurs, and Latin America has been very good at igniting the first phase of venture launching.

The problem, though, is that most startups who graduate from these programs haven’t been able to raise subsequent capital. Roughly 60% of total VC deals in Latin America are under $500k (mostly small acceleration tickets), and this funnel narrows drastically with 10% of deals between $500k-1mm. Rounds beyond $5mm+ get into the single-digits.

Figure 2: Latin America VC Activity (#) by deal size

Source: Pitchbook

This graph shows that the few entrepreneurs who are able to raise a Seed or pre-Series A round, have very few possibilities to tap into large pools of capital ($5mm+) later on. This often prevents them from gaining momentum, scaling across borders or aiming for unicorn valuations of the like of the US and China.

Why does Latin America have a lack of capital beyond incubators and accelerators? There hasn’t been a lot investor appetite for VC in the region. Most of the sources of capital have been concentrated in traditional family-owned businesses and risk-averse HNWIs that are not used to or comfortable with the nature, speed and capital needs of technology startups. Family businesses comprise more than 80% of the private sector economic activity in the region, generate 60% of the region’s GDP and employ 70% of the workforce. The ability of traditional family-owned enterprises to innovate and evolve old business models and legacy technologies is complicated and takes a lot of time, if it happens in one generation at all. Venture needs a specific kind of cash. Cash that is more patient and less focused on near-term profitability. Most of the capital in the region has been in the hands of those individuals and investment institutions that are more concentrated on cash-flow generative businesses and less on long-term venture investments with higher risk-reward profiles.

If we compare Latin America’s VC landscape (Figure 2) to the US (Figure 3), we see that capital across stages has historically been more evenly distributed. In the US, only 30% of deals are under $500k. After the first small check, founders have a much higher probability of raising capital in subsequent rounds. Almost 60% of total deals in the US are over $1mm+ (the opposite of Latin America).

Figure 3: US VC deals (#) by deal size

Source: Pitchbook

In the US, the ease of raising capital beyond an ‘accelerator stage’ has allowed startups to finish building their MVP, find product-market fit and/or carry out their go-to market strategy. This has given them runway to improve their product and go on to raise larger rounds, which allows them to scale and eventually exit. Founders that have exited then go on to invest in other startups or they launch another startup themselves. Exits also bring the attention of other investors, who then pour more capital in startups, allowing for more startup creation.

Conclusion: Accelerators in Latin America have done a great job at promoting the creation of new ventures. The later part of the VC funnel (institutional investors), however, has not caught up to the startup hype from accelerators in the region. Consequently, most startups have encountered a vacuum of capital after their first phase and many have died. This has not allowed for successful exits to take place, which in turn has not invited new investors to pour capital in startups in the first place.

Now that we understand the context, what happened in 2018?

2018 was an exciting year to watch unfold. VC investments in Latin America doubled since 2017, with a total of $2.2 billion invested (vs. $1.1bn in 2017). 2018 was also the year of mega rounds. Over 60% of the capital invested came from 6 mega rounds (+$100mm) in 4 companies alone — Movile, Rappi, Nubank and Loggi (Nubank and Rappi had 2 mega rounds each in 2018). Prior to 2018, Latin America never saw more than 1 to 2 mega-rounds per year. We saw investors like Andreessen Horowitz, Tencent, DST Global, Sequoia Capital, Softbank and Qualcomm Ventures, invest in these mega rounds, some of them for the first time at that scale in the region. The regional investors that were most active were Monashees Capital, Kaszek Ventures, RedPoint eventures (Brazil), Dalus Capital, IGNIA, ALLVP, and TheVentureCity.

Figure 4: Latin America VC Activity

Source: Pitchbook

In 2018, we also saw a re-shuffling in the VC landscape. In a year where we saw fewer deals, the number of Seed deals ($1–5mm) grew 15% and Series A deals ($5–10mm) doubled from the previous year (see Figure 5). Deals above $25mm+ also doubled from the year prior, mostly due to the mega deals mentioned above.

In a nutshell, 2018 was the first year that we saw a meaningful number of institutional VC rounds take place. Unlike previous years, startups were able to raise institutional rounds from international and regional VCs for the first time at scale.

Figure 5: Latin America VC Activity (#) by deal size, 2018

Source: Pitchbook

Comparatively, VC landscape in the US had a minor reshuffle, with slightly less deals below $500k and a few more deals above $25mm. To understand the landscape in the US, here is a good article.

Figure 6: US VC Deal Activity (#) by deal size, 2018

Source: Pitchbook

2018 was also a great year for exits of VC-backed companies in Latin America. We not only saw the first billion-dollar exit (99 acquisition by Didi Chuxing), but also the first year with more than one exit over $100 million in value (with Cornershop and Linio acquisitions). In 2018, total exit value was more than 8x higher than in 2017.

Figure 7: VC-backed Exits in Latin America

Source: Pitchbook

These exits feed the entrepreneurial cycle of the region. Successful exits set a precedent for positive returns, which in turn motivate more regional investors who may have previously been uncomfortable with this asset class, to invest in startups. This helps more entrepreneurs get VC funding, which invites more success cases and exits. We have not yet closed the VC cycle, but it sure looks like we took a giant step closer to it.

Conclusion: This tells us that 2018 has marked a change for Latin American VC. A handful of early stage startups have proven their model, made it through the Seed stage despite investor skepticism, and were able to attract larger sums of capital. There is still is a lot of room to grow and we would love to see this trend of early stage rounds ($1–10mm) taking place to continue in the years to come. On the more mature side, an increased number of dollars in later stage startups (Loggi, Rappi, Movile, Nubank) inevitably increases the probability of more exits at the end of the funnel. Although a big share of VC investments in the last two years have come from international investors, an increased number of exits will likely invite more regional investors to pour capital in this asset class. When that happens, tech growth will likely take giant leap in the region.

Capital is all Latin American entrepreneurs need

Latin America has been waiting for this type of capital for a few years now. We believe the region is ripe for VC money for many reasons.

First, the population is well over 600 million, out of which over 400 million speak the same language and share a similar culture, which forms a compelling addressable market for entrepreneurs. The Latin American market has become more accessible for tech entrepreneurs. Almost 70% of Latin America’s population has internet access, and Latin America alone represents over 10% of the world’s internet users. Latin America does not only have high internet penetration rates but also represents one of the world’s highest daily mobile internet usage rates. Internet users in Latin America spent an average of 3.59 hours on their smartphones every day vs. 1.84 hours in North America. Smartphones have also been instrumental in establishing Latin America as one of the world’s largest consumers of social media.

In regard to talent, the region has been able to significantly raise the profile of its tech professionals. According to Stack Overflow, the average reputation of top users is higher for some Latin American countries than in India and China. Most recently, Mexico rose as one of the top 10 countries producing the most engineering graduates. This is not only great talent, but affordable talent. Hiring developers in Latin America ranges from $40-$70/hour, compared to $80–150 in the US. Because software is easily scalable and can be built from anywhere, entrepreneurs are motivated to do it where costs are lower. You no longer have to be in Silicon Valley or the broader US to build a unicorn. With the arrival of sophisticated investors from abroad and the rise of new VC funds that have operating partners with relevant experience, Latin America has become a hotbed for inevitable VC growth.

With capital becoming more easily accessible to Latin American entrepreneurs, we only expect the region’s VC landscape to soar to the next level. Most recently, Softbank has announced the launch of a $5 billion fund to focus in Latin America. With that amount of capital from abroad in addition to more regional investors moving into VC, a sizable tech boom might be just around the corner, positioning the region on par with many other developed tech hubs.

We are looking forward to watch it all unfold. And as a VC betting on the region, so are our founders and investors. ;)