Recognising the success of technology as a driving force for growth in Silicon Valley, Asian governments have attempted to emulate this formula
UNTIL recently, venture capital was a relatively unknown concept in Malaysia. this misconception arose largely because the context in which the term “venture capital” is used in Asia is often different from the US where it was first conceived.
In recent years, we have seen a fundamental shift in Asia to the so called new economy. Realising that the old economy business can no longer sustain the growth enjoyed in the 1980s and 1990s, governments are turning the so-called knowledge base industries into the new engine of growth for the future.
Recognising the success of technology as a driving force for growth in Silicon Valley, Asian governments have attempted to emulate this formula.
With its strong links to the US, Taiwan was one of the earliest country to model its economy along these lines and has been very successful in creating world-class companies.
Other countries such as Hong Kong, Singapore and more recently, Malaysia have subsequently followed suit. This shift to the new economy has given a big impetus in the late 1990s when Asia was gripped by the technology (and subsequently, Internet) fever.
Overnight, we saw emerging a new generation of Asian technopreneurs trying to emulate the successes of companies such as Netscape, Amazon and Yahoo. The early success of some Asian companies such as Creative Technology proved that Asian companies could also be successful.
The fact that there was also abundant, hitherto unavailable, venture-capital and other funds, meant that it was relatively easier for these start-ups to raise funds.
According to The Capital Network, venture backed companies create wealth for entrepreneurs and investors. They also create jobs- 80 per cent of the new jobs in the US over the past 20 years.
Many of today’s technology giants such as Apple, Compaq, Sun, Intel were backed by venture capital funding. The Silicon Valley experience has proven that the combination of technology and venture capital, works. In Asia, one only has to look at Taiwan and Singapore as good examples of this.
Taiwan today occupies preeminent position in the Asian venture capital industry. According to the Asia Private Equity Review, at the end of 1999, there were 74 firms managing 161 venture capital companies. Its venture capital pool stood at an estimated NT$100 billion equivalent to 0.89 per cent of the island’s gross domestic product.
In 1999, Taiwan’s venture investors deployed NT$2.96 billion of which 49.1 per cent went into three major segments, namely IT, semi conductors and optoelectronics while 10 per cent went into Internet related companies.
In contrast, traditional manufactures attracted only 2 per cent. Today, Taiwan is a major supplier of chips to the world and has created world-class companies such as Acer.
Singapore in the mid 1980s embarked on an ambitious path to develop a thriving venture capital industry. In 1985, its Economic Development Board set up its own S$100 million (S$1 = RM 2.22) venture capital fund for direct investments in start-ups and young companies and also for investments in other local and overseas venture capital funds.
In addition, various fiscal incentives were established to encourage the formation of venture capital funds and investments in new technology. In recent years, the Singapore Government has accelerated its efforts to develop the venture capital industry, recognising its role as a key catalyst in developing Singapore into a knowledge-based economy.
As at the end of 1999, Singapore managed a cumulative total of S$10.2 billion, amongst the largest in Asia. As a result of its efforts, Singapore too has had its share of successes, notably Creative Technology which was the first Singapore company to be listed on Nasdaq.
The role of Government
While this may be true, the importance of the role of government in creating the right environment cannot be underestimated. Because there has hitherto been little or no technology industry in Asia, governments have generally taken an active role in order to jump-start and accelerate the pace of development of a knowledge-based economy.
In 1996, the Multimedia Super Corridor was launched as part of the Government’s efforts to “invest in an environment that encourages innovation, helping companies, both Malaysian and international, to reach new technology frontiers, partnering global IT players and providing the opportunities for mutual enrichment and success”.
In 1997, the Government approved the establishment of Mesdaq, an exchange for high-growth companies. Like Nasdaq, Mesdaq would be the avenue for promising high-growth companies to raise funds from the capital markets and also for early investors such as venture capitalists to exit their investments.
In 1999, through Khazanah Nasional Bhd, the investment arm of the Malaysian Government, and the Multimedia Development Corp, the Government launched a RM120 million venture capital fund to invest in emerging growth industries in the IT and multimedia industries, Earlier this year, Bank Negara Malaysia allocated RM300 million to invest in technology companies in Malaysia.
Challenges
Largely as a result of the above initiatives, we are now seeing the emergence of our homegrown technopreneurs. While the development of our technology industry can still be considered nascent, the potential exists for some of these companies to grow into regional, if not global players.
In the process, we may find that these businesses will relocate outside Malaysia, as some already have. Unlike traditional businesses, technology companies can be located anywhere.
Venture capital industry in Malaysia
Even though the first professionally managed venture capital fund was set up in 1984, it was not till 1991 that the Government started to take a more active role in developing the VC industry in Malaysia.
Under the 6th Malaysia Plan, RM115 million was allocated for venture capital financing targeted at high-technology-based small-and medium-sized industries. Subsequently, two government-sponsored venture capital companies were established; Malaysian Technology Development Corp (MTDC) to provide venture capital funding to new technology based companies and Perbadanan Usahawan Nasional Bhd to provide venture capital financing to Bumiputra entrepreneurs.
According to the Asia Venture Capital Journal, at the end of 1997, the total venture capital pool in Malaysia stood in excess of RM 1.54 billion of which RM812 million had been invested. Total of 19 venture capital firms employed over 53 venture capital professionals.
On the face of it therefore, we appear to have a healthy venture capital industry even if we remain behind another Asian countries such as Hong Kong/China, Japan, Taiwan and Singapore.
Today, many feel that the venture capital industry in Malaysia still lacks the depth of its Asian counterparts to be an effective catalyst in the development of a knowledge based economy. Unfortunately, there are many who still have the mistaken perception that if you are a technology start-up, you should somehow be entitled to venture capital funding.
Venture capital companies will invest if they can make attractive returns for their investors. Since there is pool of funds, venture capital companies cannot invest in every company. Despite the stringent selection process, of those that get funded, fewer than 20 per cent go public and 60 per cent go bankrupt.
According to the MVCA, venture capitalists in Malaysia have invested in seed and early stage companies. To substantiate this, MVCA has published on its website a list of investments by its members in start-ups.
However, in general, the proportion of total venture capital funds invested in seed and early stage technology related in companies in Malaysia remain small compared to other Asian counties.
Firstly, the business models of many technology companies in Malaysia may not be sufficiently attractive to attract VC funding. Many are still Malaysia-centric and lack the ability or prospects to scale up to become regional or global players. Without this ability, the growth potential and therefore returns to the venture capital company becomes very limited.
Secondly, many technology companies in Malaysia still do not understand the venture capital process. As a result, their business plans are typically poorly written, do not address what venture capitalists look for and consequently, are not well received.
Thirdly, the concept of investing in often-early technology stage start-ups is still relatively new in Malaysia. This is compounded by the general lack of experience and expertise on the part of venture capital professionals in evaluating and monitoring these investments.
In particular, the concept of high risk investing involving a high probability of failure is still unfamiliar. As a result of this, many venture capital professionals are not prepared or encouraged to invest in start-ups, preferring less risky, later stage investments.
Fourthly, the means for venture capital companies to exit their investments in start-ups, which typically involve a longer investment holding period still remains unclear.
The establishment of Mesdaq was meant in part to address this issue but to date, the lacklustre performance of those companies listed on Mesdaq (relative to companies listed on other high growth exchanges) has not given VCs the confidence that there is a viable exit route.
If we are unable to increase the proportion of venture capital funds invested in technology start-ups, then two things are likely to happen.
Firstly, it will be much harder to develop a critical mass of home-grown knowledge-based companies. Secondly, companies will seek funding outside Malaysia, and in the process, move to those countries which are able to provide support.
Developing venture capital expertise.
Despite the fact that the Asian private equity industry continuing to attract a huge amount of funds (US$5.4 billion (US$1 = RM3.80) in the first half of 2000 alone), the industry continues to be hampered by the lack of experienced fund managers. Malaysia is no exception. Arguably, the lack of expertise is the single largest impediment to the development of the venture capital industry in Malaysia. Ironically, while the Government has recognised the need for a vibrant venture industry and implemented initiatives to promote the industry such as allocating funds for venture capital investments, little appears to have been done by way of developing the necessary expertise to channel these funds to the right places.
As many are foreign and have therefore limited local knowledge, they will often prefer to team up with local partners and will recruit and train local professionals.
We have seen very few independent venture capital fund managers setting up a presence in Malaysia. Most of the local venture capital funds today are reality, internal funds (as opposed to third party funds) of either financial institutions or government agencies, allocated for venture capital investments. Most if not all, are managed internally often by professionals seconded from other departments with limited experience or expertise in either technology or venture capital investing.
Since local fund managers do not have the necessary expertise or experience, we must be prepared to consider ways to attract foreign fund managers to help us develop the expertise.
In fact, we do have some foreign fund managers who have been in Malaysia for many years. These include firms such as H&Q and the Walden Group from the US and Nomura and Daiwa Securities from Japan. However, the numbers have not increased significantly over the years. Contrast this to other Asian countries where government actively encourages (through tax and other incentives) foreign fund managers to set up offices in their countries.
Encouraging greater depth
While the participation of foreign fund managers is important, we also need to encourage greater depth through the development of local fund managers. One of the immediate problems facing local fund managers is the difficulty in raising funds to manage.
If the private sector is not ready to allow their funds to be managed by local funds manager, government can play an ‘incubator’ role by nurturing suitably qualified local fund managers through the allocation of government funds to manage.
This is not a new concept. As we have highlighted, the Government has already allocated funds to fund managers to manage but to date, this has been limited to a few managers. There are several advantages of this approach. Firstly, more fund managers mean a greater chance of funds reaching technology companies. Secondly, more fund managers will result in a greater number of professionals entering the industry and over time, creating greater local expertise.
Thirdly, in due course, these fund managers will have developed the necessary track record to raise funds of their own.
To ensure these goals are achieved, certain conditions can be attached to granting these funds. These may include (1) fund managers must demonstrate necessary venture capital expertise. If they do not have it, they will have to team up with firms or hire people with the necessary venture capital expertise and/or experience; (2) a portion of the funds allocated must be invested in priority sectors e.g. technology and in early stage companies. This will ensure that investments are properly channeled; (3) the concept of matching funds can be applied where government will match every Ringgit raised by the fund manager from other sources. However, these conditions should not be so generous that they do not allow the fund managers the opportunity to make profitable investments by, for example, also investing in late stage companies. Even establishes fund managers diversify their risks by investing in companies at various stages of growth.
The writer is a director at iSpringCapital Sdn Bhd.
(Source: News Straits Times – 7th September, 2000)