VC ecosystems around the world are maturing at different pace, each with its own set of challenges and dynamics. But the views articulated in The great Mavcap misfire (Emmanuel Samarathisa) come across as both flawed and based on the wrong underlying assumptions on how an emerging VC ecosystem actually works.
Here are my quick thoughts in response.
The Malaysian Context
Malaysia, like many other developing countries around the world has recognized the importance of shifting from a agriculture- and manufacturing economy and increasingly to a professional services and innovation-powered economy. By extension, this also means supporting and scaling startups, hopefully seeing them mature into major scale ups and eventually pillars of the national economy.
But, ever since these conversations started, Malaysia has lagged behind regional innovation hubs, with Singapore being the leading player. To deal with the growth challenges, several Malaysian governments have launched various initiatives to support the growth and development of the Malaysian startup scene, including:
– Multimedia Super Corridor (MSC)
– Klang Valley region – the Silicon Valley of Kuala Lumper (a vast stretch target)
– MavCap & Cradle Fund
– MDEC
– The formation of MaGIC – Malaysian Global Innovation & Creativity Center
– KL20
– Malaysia Venture Capital Roadmap (MVCR)- with a goal to increase VC penetration rate to 0.25%-0.35% of GDP by 2030
(For full transparency, the author was a strategic advisor to MaGIC back in 2016-2019)
From Startups To Capital
Against this backdrop, we then need to examine the maturity of the venture financing ecosystem – and this is where the Malaysianist and the piece The great Mavcap misfire might be missing a few key points.
Transparency In The Market
In researching the article, the author has been able to access documents showing fund-level returns, based on Mavcap data. This is excellent and should be applauded. We recommend all government linked fund-of-funds to be openly sharing fund performance data on a regular basis. Kudos to the author for getting hands on and sharing the data.
What’s The Mission Of A National, Government-Linked Fund-Of-Funds?
MavCap (now, Jelawang), like any national fund-of-fund has a three-way mission.
1. Develop the local VC ecosystem (see our research on VC ecosystem)
2. Invest and back local and national fund managers (often, emerging managers)
3. Secure ‘attractive’ returns from the investments
The primary purpose of a national fund-of-fund is not to attain above-market returns. If that was the primary goal, there are many better asset classes, including buying real estate in Singapore or buying a pool of US listed equities, like Apple, Microsoft and Meta.
Instead, the national fund-of-fund strategy has a broad mission to develop the market, develop the ecosystem for long-term competitiveness. On this picture, fund managers is just one small part of the equation. Available growth capital, access to Limited Partners, professional service providers and a rich menu of exit paths are all equally important pieces in the VC ecosystem’s maturity.
Where Does Malaysia’s VC Ecosystem Sit?
When we work with national fund-of-funds, we often start by a basic assessment of ‘where are we today’. Using the VC Ecosystem Maturity stages, we can quickly identify where the market is today, and where it would like to evolve into in the next 5-10 years.
Using this framework, we would assess Malaysia to set at level 2: Build.
At level 2: build, the VC investments sits around 0,2- 0,4% of GDP. The ecosystem is young and highly immature. Private allocators are not interested, as the market has historically failed to deliver any meaningful returns. The companies don’t scale, the fund managers are still learning and the exit paths are just not there. There might be some good, local companies, but they mostly move to Singapore or Silicon Valley, due to the lack of a local ecosystem.
The biggest LP investors in this category are international finance organizations, like IFC, World Bank or national governments through a wide range of government-backed fund-of-funds. At this stage, few actually expect the fund managers to return back much, but see this as investing into the long-term capacity and maturity of the market. There might be a few outlier deals, proving the evolution, but largely, at fund-levels, most funds underperform from a pure financial return point of view.
At level 2: Build, most of the capital that comes into the market is labelled as ‘catalytic’, or development purposes, rather than seeking above-market returns.
Often, this is misunderstood by the media, who will view any fund performance through the lens of a level 4: Perform or even level 5: Outperform lens, expecting outlier returns in a market that just has not grown to this stage yet.
Interpreting The Data
Reading The great Mavcap misfire, I believe the challenge comes on the interpretation and assumption side.
Here Are A Few Quick Facts:
– Ca. 50% of all VC funds will never return back 1X net DPI
– Ca. 20% of all VC funds will return back around 1X – 2X net DPI
– Ca. 20% of all VC funds will return back 2X – 3X net DPI
– Ca. 10% of all VC funds will return back at or above 3X net DPI
– Out of those, around 2% will return back the 5X – 10X or even 200X net DPI
For anyone investing into the venture asset class for commercial returns, they would need to secure allocation to the top 10%, ideally the top 2% of funds globally. Some great thoughts from our friends at VenCap on this subject. (A wall of capital coming, VC is really hard and Return of the Power Law)
Further Facts:
– Most VC funds need 12-16 years to see a full ‘seed-to-exit’ return profile. This is a challenge if funds are set up with 8-10 year timelines. This is simply too short
– For many funds, there is a window of ca. 1-2 years, from effective exit transaction in the market, to actual pay-out (DPI) back to LPs.
– For most, there is zero correlation between year 7 data and ultimate performance
– For most, there is zero correlation between year 7 DPI and ultimate DPI
– When assessing an active fund (which, given various extensions, might be 12+ years), we always need to look at multiple indicators to get the full picture. At a minimum, this would be called capital, MOIC, TVPI and net DPI.
So, What Does This Mean For The Great Mavcap Misfire?
The funds that are listed in The great Mavcap misfire seem to follow a pretty average distribution range.
There are a total of 14 funds, from 2013 to 2021 vintages. Two are listed as Divested or in current dissolution process. The remaining 12 are still actively managing their portfolios. Based on the available data, we can see that the DPI sits at 0 (to be expected by younger funds), 0.07 (Superseed I, 2016) up to 2.88 (Lunex Ventures, 2018). This looks like a perfectly normal range, with some not in DPI mode yet, some on the low end (very low end) and one early winner, Lunex.
But, This Dataset Is A Highly Incomplete Dataset And Zero Conclusions Should Be Drawn From This.
The reason: MOIC and TVPI. The table shows how much capital MavCap has put in (401,9M) and how much has been paid back (108,2). But, without knowing the MOIC and notably the TVPI, it is impossible to know how these 12 funds are actually performing.
Always Track TVPI And DPI
To illustrate the importance of adding a more complete dataset, I have created three scenarios below. Base case, bull case and bear case.
The Base case assumes a pretty normal GP fund performance in a level 2: Build VC ecosystem, allowing for some investments to happen in regional funds (including Singapore) and some to happen in global funds (with a certain allocation earmarked for Malaysia).
Three Examples When Adding TVPI
BASE CASE
In the base case, I have added 800M in total value (NAV + DPI) for the fund. The 800M would represent both the value of the current assets in the underlying funds, as well as the amount that has already been paid out to LPs. Note the vintage period here runs from 2013 to 2021, but would then extend all the way to 2033, to allow the last funds to dissolve. This would give us a 20-year total timeline. In the base case below, we see the TVPI at 1,99X, which would be at a low end, but within a reasonable range for a developing VC ecosystem.
BASE CASE: 2033 ALL FUNDS FULLY DIVESTED
In 2033, all the funds are liquidated, There would naturally be a mix of bankruptcies, write-offs, maybe some management buybacks, some secondaries with heavy discounts in order to liquidate, but the funds across the portfolio has managed to deliver back a 1,62X net DPI to its LPs. Considering the 20-year timeline, this would give us a low IRR (internal rate of return), but all told, LPS like MavCap would effectively get their money back, adjusted for inflation.
BULL CASE
In the bull case, we have assumed that the total value of the portfolio, including DPI is 1,8BN. This would be an aggressive mark-up vs. our base case. A 1,8BN would give us a TVPI of 4,48X.
BULL CASE: 2033 ALL FUNDS FULLY DIVESTED
By 2033, with all funds divested, the bull case would be able to pay out, in our example, a total of 980M cash-on-cash, for a 2,44X net DPI. Note the reduction from 1,8BN portfolio value to 980M in payouts. This would likely come from a heavy mark-down of assets, a willingness to take haircuts to achieve liquidity in secondary markets and finally all costs and fees for the fund managers. Still, for most LPs, a 2,44X net DPI would be pretty ok, even very strong for a national fund-of-fund with the triple mission we mentioned above.
BEAR CASE
Of course, the reality is that most VC funds underperform. That’s also the case in our bear case. Things just did not work out. The market did mature as expected. Most talent drifted off to Singapore. Most fund mangers were unable to find meaningful follow-on rounds. Most companies stalled and burned out. A mixture of culture, limited access to capital and weak boards led to significant write offs and mark downs. In short, it was a bloodbath in the market.
In this case, we list the assets at 250M (down from 1,8BN in the bull case). This would give the portfolio a TVPI of 0,62.
BEAR CASE: 2033 ALL FUNDS FULLY DIVESTED
Fast forward to 2033, bear case fully played out, the total exit value came to 200M. On an initial investment of 401,9M, this gives us a net DPI just below 0,5X. Financially, that would give us a 200M net loss. Yet, at the same time, considering the catalytic efforts to build out the VC market in Malaysia, the 200M could also be viewed as a net investment into the next generation of fund managers.
Venture Capital Is Hard – And Even Harder In Developing Markets
In my executive education programs on venture capital investing, I always start with a detailed walk through of how hard venture capital investing actually is. Sure, if you are located in the heart of Silicon Valley, have access to the top founders, top programs and top funds, including exit paths like Nasdaq and tech M&A’s, things might just be a little bit easier (but still hard).
But the reality, for most countries, national fund-of-funds and ecosystems is that venture capital investments are hard, really, really hard. Most startups will fail. Many will deliver small returns at best. For a fund to be successful, you need to capture at least 1 Dragon (fund returning investment), maybe even two.
For most of the world, to be able to support and grow a domestic entrepreneurship scene, we need venture capital – and we need much more of it. We simply can not scale startups, new company formation and new job creation without access to venture financing at scale. But no one should for a second think this is easy.
One of the most common phrases participants share in our VC Masterclasses is, “wow, I had no idea it was this hard” (to deliver sustainable returns over time. Well, it is. Let’s not be native about it, but rather work for the long-term to build out more robust VC ecosystems.
What’s Next For Malaysia?
In my work with Malaysia over the past 12 years, I have seen the ecosystem grow and mature. Yet, the country still has a long way to go, to reach its aspirations as a globally leading tech hub.
One step, maturing the VC ecosystem and support a far larger pool of VC firms and capital allocators.
To this effect, the Malaysia Venture Capital Roadmap (MVCR) is a solid piece of work, serving as a great example for other countries in a similar position.
In this conversation we need openness about fund performance, access to data set and we need journalists like Emmanuel Samarathisa to continue with their excellent reporting. But, we also need media to cover this topic with diligence, facts and insights, not assumptions and flawed data set.
I am excited about the future of the Malaysian startup ecosystem and seeing more successful startups, scale ups and fund managers emerge from this amazing country. Reflecting back on my recent trip exploring the VC ecosystem in MENA, I see a vast potential for Malaysia and the wider SE Asia region, but the VC ecosystem will need to continue to evolve – rapidly and professionally.
The author is a strategic advisor to national fund-of-funds, governments and VC ecosystems globally. He has taught a wide range of venture capital executive education programs, including at IMD and NVP. He has worked with 250+ emerging fund managers and regularly hosts VC Masterclasses. His upcoming report on Scaling VC ecosystems is aimed at helping all stakeholders better understand how to create more mature venture financing ecosystems around the world.
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