VCs, developers, dilemmas and wine: Where to next?

What happens when you mix online entrepreneurs, VCs and a couple of good bottles of wine over dinner, with no agenda but to discuss “the space”? A heated discussion, some bruised (and some inflated) egos and hard realities for online innovation in South Africa.

The setting was perfect: a round table, in a secluded area at Wang Thai in Nelson Mandela Square, Sandton. The company was great: representing the VCs was

Vinny Lingham, founder of IncuBeta and the Lingham Capital. Vinny was a good addition to the discussion, since not only has he already received venture funding for his companies, he is also now in San Francisco raising more for Synthasite. At the same time, he has set up his own fund to launch online start-ups from South Africa.
Doug Vining represented Blue Catalyst, which focuses on “catalysing new businesses into sustainable commercial entities with the principal goal of facilitating economic activity rather than the maximisation of returns”.
Joan Rangwaga represented Triumph Venture Capital, which “uses venture capital techniques to finance innovative and entrepreneurial South African companies”.

From the entrepreneurial side we had Justin Hartman, founder of Afrigator, and Vincent Maher, creator of Amatomu. I kind of fall into this category too.

This is how the situation panned out. Try to keep up.

Vinny cannot invest in Afrigator, because it does not have immediate global appeal, but Triumph cannot invest in Synthasite because it does not have enough local focus. Unfortunately, even though Afrigator is all about local focus, Triumph wouldn’t invest because there is no cash flow. Blue Catalyst might be able to put Afrigator in touch with angel investors who might provide the capital necessary to get Afrigator to a positive cash-flow situation, but the fact that Afrigator’s creator has only had one failure behind him (and not at least five) puts him at a disadvantage in all the VCs’ eyes. Go figure.

This hurts. Joan from Triumph said the firm never plays in the online space, because it doesn’t know/understand it. Vinny understands it too well, so he is weary of any companies that do not have a brilliant business model and that are not scalable to the global stage. Doug is enthusiastic about local entrepreneurs’ potential, and seemed most willing to encourage local applications to be developed.

But the overall picture for South African online entrepreneurs (SAOEs) is not good. It seems that if SAOEs want to receive third-party funding:

they should not waste their time developing applications for the purely local market, since the evident market potential is so limited that VCs will not be able to envision a good return;
they should use their own money as seed capital, to get a prototype up and running; and
they should focus on a strong and immediate business model that generates revenue, that can be used by the VC for DCL (discounted cash flow) projections

It all boils down to a lack of vision and understanding, and I commend Joan for vocalising this reality. Imagine, if you will, that YouTube does not exist, and has never existed. And now imagine that three bright sparks sitting in Cape Town come up with the idea for YouTube and want help in getting it off the ground. I honestly do not think that there is one investor in South Africa who can truthfully say that he or she would have considered funding that model, because very few have the vision or understanding of how eye traffic can translate into revenue. Pity, since YouTube sold to Google for more than $1,5-billion. I hope you see my point.

So if we cannot realistically envision that online applications with global appeal will find funding here, then how can we hope that online applications with local appeal will? Must we rely solely on the philanthropic sides of developers like Justin to create applications we love and use, with no financial security or payback? Is that fair? And is it healthy for our economy, in this flat world, to limit the creative and entrepreneurial spark of our young developers? Are we happy to wave goodbye to them at the airport as they head off to pastures where they are better appreciated?

In my last post on VC funding, Gareth Ochse posted an excellent comment, which I suggest you read in full, if any of this is of interest to you.

“… for a fund to work, one needs about 100 deals in the pipeline. Ten to twenty of these would be investigated beyond a first meeting. Maybe five to 10 would actually get investment, and if global lessons in early-stage investing are anything to go by, only one in 10 would actually produce a good investment return. Most would fail outright. So, if you’re talking investing R10-million x five investments, you’d need about 300 good ideas to be around before you’d be able to justify a ‘viable’ fund size, given that you’d expect to save about half the fund to spend in the subsequent funding rounds that the successful businesses would require. We just don’t have that in South Africa.”

So it is the chicken/egg question. How are we going to get 100, 200 or 300 good ideas if we do not have in place any incentives to come up with those ideas? Doug said that it takes ICT backers about four months to decide whether they will invest in your project. Four months! And then they can come back and say, “No, thanks.” Vinny said that in the United States, you pitch on Wednesday and you have a cheque on Monday! Google got its first $100 000 before it made to it to the end of its pitch, because the investor was in a hurry and had another meeting to go to.

For our part, Justin and I are coming up with a plan to at least get the ideas rolling from local developers. Watch this space. Vinny and Julia Long from HBD are going to start educating potential angel investors about the benefits of providing seed capital to start-ups. Doug is going to try to put Justin in touch with some people. Joan is eager to learn more about the returns in online venture investing.

So maybe we need to talk more, drink more wine and start being more hopeful. For my part, I thoroughly enjoyed the dinner and would love to organise some more in the future. If you are interested in attending, drop me a line. One caveat though: we must remember that talk is cheap, and we need some action too.

Let’s drink to that.