Capital Advantage as Economic Moat in Southeast Asia Tech

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Founders and VCs have been increasingly discussing capital advantage as an economic moat in Southeast Asia. This theme has ranged from Grab & Softbank, to Udaan & Zilingo and now to Ajaib’s $90M Series A & Carro’s $90M Series B.

Fundamentally, early-stage investors provide capital infusions to early-stage founders to craft new solutions and build the beachhead of early adopters. Incumbents, waste, broken industries and non-consumption are the true competitors for founders to overcome at this stage, not other founders.

Founders, run your own race, not someone else’s - especially during the search for product-market fit (PMF). Get the capital you need to buy the 1. time to run your experiments, 2. reach key milestones with 3. buffer to iterate and pivot.

The tricky part is the next fuzzy stage where founders find themselves in three races, ordered in decreasing emotional valence to founders:

  1. Race against time to fundraise capital before the runway runs out (Should I go for a larger round now to lower distractions and get more milestones in?) 
  2. Race vs. other startups who are a. benchmarks in other geographies b. direct and indirect competitors and c. potential fast followers 
  3. Race to distribute before incumbents with their substantial talent, network and capital advantages can innovate. 

Let’s focus on the strategy vs. startup and incumbent competitors in Race 2 and 3 (and set aside the fundraising strategy for Race 1 to another time). Founders have to choose their speed of attack across the strategy continuum from fast growth to blitzscaling based on their professional read on the market, personal leadership preferences and trust in the capital markets.

Frankly, capital advantage has historically been and currently is a more powerful advantage in Southeast Asia than the US for the following reasons:

  1. One US dollar goes further in the region, due to purchasing power differences - lower prices of talent, digital marketing spend, office space and similar startup expenses in SE Asia.
  2. Money is primarily used to buy talent. SE Asia’s talent crunch means that it’s viable to actually land-grab most of the prime talent off the table for competitors, whereas you can't viably buy out the whole US bench of talent that is both deep and quick at sourcing global talent. Founders can choose to amplify this by using non-competes and non-solicit clauses in their labor contracts.
  3. Fewer local VCs with deep pockets and fewer experienced founders that are available to fast-follow means that there is a longer time window for this advantage to play out. In America's deeper capital markets, second-place Lyft quickly raised a smaller $600M round in 2018 to efficiently counter Uber’s raise from Softbank before the capital advantage snowballed.
  4. Self-fulfilling prophecy where capital raises relatively larger than competitors lead to stronger perceptions of market signal (which may or may not be true), leading to international growth funds ("let's bet on the market leader") coming in to add even more capital, which repeats the loop.

We’ve seen Softbank pioneering the “economic cannon” capital advantage as both a carrot and stick for founders. Grab’s CEO Anthony Tan recalls the time when the Japanese billionaire was considering investing in his startup. Son reportedly said, “Anthony-san, you take my money. It’s good for you. It’s good for me. If you don’t take my money, not so good for you.”

For VCs: 

  1. Looking ahead, there will be more capital advantage plays globally. America's central bank has restarted the zero interest-rate policy (ZIRP) in 2020, with no end in sight. The last time this happened, it took 7 years to run from 2008 to 2015. US LPs thus push more money into both the VC industry and emerging markets in search for better returns. Some VCs (especially those with more US LPs) in emerging markets like SE Asia, will now have the capital firepower to execute this strategy successfully for this window of time.
  2. But as more people play this strategy, then the capital advantages will eventually diminish as other VCs find success and machine new plays to back fast followers or #2 players, founders become more confident and leverage the upside of being the #2 player, and the talent bench in Southeast Asia gets deeper over time. This will be the strategy for most local VCs in the face of more US-backed VCs playing the capital momentum game.
  3. Also, capital advantage makes sense for winner-take-all markets like marketplaces, but not B2B SaaS. Easy to understand, but it takes significant intellectual integrity to forecast whether the inbound investment’s innovative approach in an emerging industry actually unlocks significant network effects. Everyone is a disciplined investor when you have a small warchest.

For founders:

  1. Be wary. Capital advantage is an amplifier, however it cannot effectively scale a business that does not have product-market fit. Just because you can raise a lot more capital (and the VCs “sign off” that you have PMF), doesn’t mean that you have PMF or that unit economics won’t worsen by prematurely scaling. Improving PMF is easier when you are small, much harder when you are larger. 
  2. Also, the moment you raise an overly-large round, you are increasingly locked into fundraising path dependency: the cadence to raise for larger rounds and hurting exit options relative to your personal time-value of money. 
  3. Also, the capital advantage doesn’t always work. Ruangguru raised $150M in 2019 vs. CoLearn, but hasn’t gained appreciably larger market-share yet as per the graph below (though they may have improved in other dimensions).
  4. If you play the capital snowball game, choose to do so intentionally and with both eyes open. Get an executive coach or join a peer-led program like SEA Founders as the most common break point is not the company, but the founding team and especially the CEO. Companies can grow exponentially, but humans grow linearly in step functions and thus need dedicated time and support. On the bright side, you now have more capital to get a higher quality coach.
  5. If you decide to build to build a fast-follower, you need to articulate to yourself (the VC pitch comes later, don't drink your own Koolaid yet) a. whether the market is winner-takes-all (this slice of the TAM is big enough for us vs. we can beat the #1 player and take it all), where the dimensions of network effects actually are sliced (highly capitalized players often grow sub-optimally due to the rush to deploy capital and misunderstand the best growth levers) and c. how exactly you are differentiated vs. the earlier, larger market leaders (we are taking a tangibly different and superior approach, or we are taking the same approach but with much better execution).
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For operators: Enjoy the higher salaries! Don’t forget to negotiate better equity options in case of larger incoming dilution rounds.

Credit goes to Chia Jeng Yang, Zishuang Cheng and Ricky Willianto for your edits!