Every year, Deloitte releases a survey of venture capitalists from a dozen countries. As emerging markets tech investors, the question that always stands out to us is: “What is your overall confidence in investing outside of your home country…?” Year after year, U.S. VCs express the lowest confidence level.
This reluctance is especially surprising given certain well known trends, not least of which is the globalization of the Internet. Today, nine out of 10 Internet users reside outside of the United States. The rise of smartphones is set to tilt this balance yet further. Mozilla’s upcoming $25 handset will put smartphones within reach of all but the most impoverished consumers.
There are several possible explanations for U.S. venture capitalists’ reluctance to look outside of their domestic market. Tech investors may simply be succumbing to the same home bias that afflicts investors across asset classes.
However, certain venture-specific constraints may be at play as well. Many investors believe that physical proximity to their portfolio companies improves their ability to add value to them. It can also take months or even years of effort to build a network in a new market.
Logistical constraints are a factor too. It takes at least 10 hours to reach most notable international ecosystems from San Francisco. Finally, the United States has historically accounted for two-thirds of venture-backed exits. Thus, investors often have legitimate reasons to feel more comfortable in their own backyard.
Why, then, should Silicon Valley investors go through all this trouble to consider new markets?
In short, U.S. tech investors may miss the next wave of major exits. Ernst & Young recently asked global tech executives where they plan to focus their M&A efforts next year. Two-thirds of them expect to allocate the majority of their acquisition capital to emerging markets.
When asked why, they said their overwhelming motivator is the desire to gain market share in these fast growing regions. This makes sense. After all, 86 percent of users of the top 10 Internet properties (Google, Facebook, Yahoo, etc.) now come from outside of the U.S.
This growing relevance is intensified by the positive feedback that exits can create for startup ecosystems. After selling their companies, successful tech executives become angel investors, mentors, and leaders of the next generation of great companies.
Silicon Valley serves as the best example of this phenomenon. 400 companies and VC firms here can trace their roots back to Fairchild Semiconductor. More recently, early PayPal employees have gone on to found Linkedin, Tesla, Palantir, YouTube, SpaceX, Yelp, and Yammer, among others.
The lack of cross-border investment leaves both investors and entrepreneurs shortchanged. Entrepreneurs from Mexico to Dubai frequently tell us that Silicon Valley knowledge, expertise, and resources are in high demand in emerging markets.
Silicon Valley VCs have an opportunity to leverage this need in order to access high quality entrepreneurs and help them scale their businesses. The resulting outcomes serve both parties well.
The economics of venture capital are set to shift as emerging markets look towards game changing exits. The ramifications of these exits on local ecosystems will be significant. Whether most venture capitalists are positioned to capitalize on this opportunity is less clear.
Martin Gedalin and Zach Finkelstein are investors at Lumia Capital. Lumia Capital is an expansion-stage VC partnering with leading tech companies in under-invested emerging markets and forward-thinking US companies targeting these markets to accelerate growth. Follow them on Twitter at @martyged and @zfinkelstein.
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