14 October 2020

Venture in Russian

"The venture market is built on local knowledge and connections"

The "American Dream" for startups on Russian soil

Nikolay Podorvanyuk, Indicator

Why startups are a dishonest game, whether venture funds have money, what is the key to the success of technology giants and whether to wait for the market to fall due to the pandemic – read in an interview with Egor Abramov, investment director of the Fort Ross Venture fund.

"We have as many deals in a year as in the USA in a day"

– Let's start with a general question. Against the background of the pandemic in Russia, the number of investments in startups from the beginning of 2020 to July decreased by 43% compared to last year, startups themselves (and large companies) also experienced a lot of difficulties. Do you think the situation will return to the previous level, and if so, when?

– In the USA and Israel, we are not seeing a drop. Research shows that the investment market has not declined much. What we really see is that there has been a decrease in the number of exits due to M&A (mergers and acquisitions, mergers and acquisitions – approx. Indicator.Ru). But this is due to the fact that buyers have slowed down their work: you can't physically meet, and buying a startup even for several tens of millions of dollars on Zoom is an impossible process. During the IPO pandemic (Initial public offering, initial public offering – approx. Indicator.Ru ) also slowed down, but, as we see now, this is not a fundamental drop in the market, but a deferred demand. Strategic buyers will start buying at least twice as often as soon as activity recovers. The task of reducing costs has not gone away, so I expect there will be more deals. Now a window has opened to enter public markets, and there will be many IPO exits – one after the other. Most likely, the same will happen with M&A.

The second important point is how much money venture funds have. They have plenty of money: in the second quarter, the top 5 funds "raised" $ 20 billion of new money, which is $ 4 billion per fund. This means that they will be actively spent, and the funds did it right during the pandemic. Venture capital money is invested on the horizon for at least five years, now this horizon is lengthening to at least ten years, and this is also not the limit. A crisis of two quarters in length cannot significantly affect the market, but it can harm it locally. Of course, there are winners and losers, but so far I don't see any significant problems.

I was talking about the USA and Israel. If we go back to Russia… We did not work actively on the Russian market until the last moment. I would say that in general, the Russian venture capital market is quite unstable, the number of transactions is small, measured in dozens. Last year, 100-200 deals were concluded at early stages – and, of course, against the background of the fact that there are few deals, I'm not even talking about their size. A major deal with NGINX can seriously change the balance of forces in the market, and next year there is no such deal – and the market has not grown. That is, now even one major transaction can significantly affect the market. Plus, the Russian market is very closed. If you look at 2-3 top studies (for example, from RVC, PWC, Dsight), their results may differ greatly, because there is no reliable data on the market. In the USA there are companies like PitchBook or CB Insights that track almost all transactions (and in the USA there are hundreds of new transactions every day), and they, having statistics, can talk about something. And when we have as many deals in a year as in the USA in a day… But we decided to enter the Russian market, we decided to launch a new fund, because we see prospects here. We do not focus on what happened, because we understand that the market is quite small, and we plan to occupy a significant part of it and help it develop.

"We want Russian companies to start doing business abroad"

– Tell us more about the new fund. What projects will you consider, is it only Russia and the near abroad?

– The idea of the fund arose together with the Savings Bank, as he is our minority investor and an important partner. He is ready to actively consume innovations – he has an ecosystem, many companies work there, and they are not only engaged in fintech. The ecosystem covers almost all spheres of life: food, entertainment, transport. It helps a lot to attach any company there. We started our partnership with the bank with an offer to bring the best American companies into the ecosystem. We are doing it now – and we see that it works well, so we decided to go further. The Bank is interested in working with Russian innovations and companies from neighboring countries. The same principle applies as in California: you have to be there. In California, as well as all over the world, investors still prefer to invest in companies that can be reached in a few hours by car. The venture capital market is built on local knowledge and connections and therefore, in fact, is hyperlocal, despite the popular perception of investors that good deals can be found and reached remotely.

We see that there are many early-stage companies in Russia and few investors. It is very difficult for companies to make their first sales, especially in the B2B segment, and it is very difficult for corporations to work with startups in general. The sales cycle to corporations is complicated and long in the USA, it's just that there are many more corporations in the USA and therefore the results of B2B startups are better. For effective work with innovations and for effective interaction between startups and corporations, venture funds with knowledge of both the needs of corporations and the needs of startups are needed. we are already such an intermediary for startups for Israel and the USA. We are ready to become such an intermediary for early-stage startups, including with Russian companies. In addition to Sberbank, we have other partners – for example, MTS, X5 Retail Group, Megafon. We understand that we can benefit both sides: the startup will receive money and access to the first sales, assistance in product development. This is very important, because often at the first sales it turns out that the product is not exactly what the customer needs, but many customers are not ready to spend time on recommendations for its improvement. But it doesn't work that way, startups need to be developed – just like you develop a new employee who comes to your company.

But this is the first part of the puzzle. Second, we will use our competitive advantages as an international fund. We invest in top companies in the USA and Israel – these companies are well-known, they are among the top of their industries. We co-invest with the top 50 venture funds in the USA. This means that we are not toxic to them, we are partners. And it also means that we know all of them–and even if we don't, we can easily find out. We don't want to transport our companies there, we want to help them enter those markets. We want Russian companies to start doing business abroad, so that they become famous there. And, of course, it will greatly increase their revenue – in dollars. For us, as a foundation, it is super profitable, for startups too, and for our country too. There are Telegram, Yandex, VKontakte, and other very large and well–known companies - and I would like there to be much more of them. We have such a goal – not a commercial one, but, if you want, a mission: to hold our portfolio startups by the handle on funds, to suggest how best, where to start, to introduce them to top executives in companies that work in their industries, so that they understand how this business is being built there. So that they get a boost at the start, advice. And at the same time they could keep their R&D centers and know-how in Russia.

According to the figures, we want to raise the fund to 8 billion rubles, of which Sberbank is ready to invest up to 2 billion and remain in the "minority investor, but a big partner" paradigm. We are ready to invest in 100-200 companies – this is the seed round and Round A. And make subsequent investments if the companies grow. 

"In the USA, a queue of investors is lining up for a good startup"

– I can't help but ask. The political situation is difficult now, there are some sanctions against the same Sberbank. Does it interfere? Apparently, it does not interfere…

– We do not comment on politics in any way. We are an independent venture fund, and we are absolutely clean and not sanctioned. At the same time, we do not hide our ties with Russia anywhere. In particular, our name Fort Ross Ventures speaks for itself – we are already a bridge between startups and the Russian market and consumers. It's hard to believe in Russia, but in the United States, the venture capital market is a startup market, not an investor. In the USA, a queue of investors is forming for a good startup, and companies do not want to take a lot of money at once. The founders of a startup do not want to blur, they want to take a little money first, and a year later – again a little, but according to the estimate several times higher. They don't take money for more than one or one and a half years.

In such rounds, there is often a "fight" over who can put money into this round. Sometimes we lose, but more and more often we win, because we have something to show startups and CEOs/founders of well-known startups in which we invested are happy to recommend us as very good investors who helped startups enter the CE and Russian markets. We very often fulfill our promises and help startups with localization of solutions for the Russian market, search for partners and clients, as well as talents in local markets. Ultimately, this is a market with 250 million retail and 10 million corporate customers. We are invited to the rounds because we have managed to prove our impeccable reputation of investors who really work for startups in which they invest.

– Then tell us, what are your requirements for startups? Who can come? How and when to do it?

– We are currently in the process of fundraising – raising money to make the first closure of the fund – and we expect to do it this year, and then at the end of the year or the beginning of the next we will invest. This is a normal practice: first, announce the creation of a fund, and then raise money. Only after that we will be able to accept applications on an ongoing basis. Of course, there will be a form on the website to send an application. We will also participate in all events in Russia related to startups: fairs, hackathons, accelerators. Either we or the Scouts who work with us will be there. We hope that startups will reach us directly, including through Sberbank's big accelerator, 500 Startups. We will be watching the graduates very closely and attentively, attend the demo day, maybe, if colleagues allow, we will be on the jury.

As for the level, there should be a startup ready for seeding or for round A. Seeding is when there is a team of people, a minimum product, a certain number of first customers. If this is a B2C project, then a reasonable number of clients, if B2B – at least some pilot projects. There should be a minimum confirmed demand for MVP (minimum viable product, or minimum viable product, – approx. Indicator.Ru ). And, of course, the company must have a legal entity. After that, we will look at where the company is located. We need a "Russian corner" – that is, the company either does business in Russia or abroad, but at the same time there is a connection with Russia (a founder with Russian roots, a team, clients). The mission revolves around the "Russian angle", but it is quite flexible.

"An idea is at best 5% of the success of a startup"

– What should companies have areas of activity?

– We have a very broad investment strategy. We don't limit ourselves to any industries. We are a commercial fund, our task is to earn money. This means that the company should bring an exit in 5-7 years. This limits the range of projects – we do not invest in R&D, in scientific research. This is not our activity. We give money to teams that are already implementing a business idea that has been successful since the first day on the market. We are limited by this, not by industries.

– We communicate a lot with scientists, and among them there are those who think how to make a business out of their scientific project. Someone even forms companies, creates startups. What advice would you give them?

– There is no universal advice. Firstly, if we are talking about an idea, then an idea is at best 5% of the success of a startup. The rest is execution (execution – approx. Indicator.Ru) and timeliness. Secondly, there are different ideas. There are technological know-how – scientists who have invented something that others do not have. For example, Intel, Nvidia, and Tesla grew up from here. But many more companies are growing on the know-how of the business model, using existing technologies. Think about Airbnb, WhatsApp, Booking, Uber. The founder of WhatsApp in general originally created the application so that everyone who installed it could show their status to other users. This function is still there, but, in my opinion, it is not in demand at all. Then there were no messengers – there was ICQ, there was a la ICQ for phones. But there were no full-fledged messengers, because the essence of the messenger is that you need to open the application and start chatting there. This is inconvenient for the user. Everything has changed with the ability to make push notifications (Apple was the first to do this for the iPhone in 2009). WhatsApp was already ready then, it had 10-20 thousand users – they put up some statuses, but it was not in demand. The founders already wanted to close the application so as not to spend money on servers. But notifications appeared, and they quickly remade their WhatsApp to what it is now, and it hasn't changed since. It became the most popular in the world simply because people used some function in a smartphone. And that was worth $23 billion in the end. It turns out that the guys did a good service in the right place and at the right time.

But you are talking about scientists – this is primarily technology. People who make technological solutions often sell them poorly. A person either sells or invents – it's the same everywhere. Of course, there are examples of people who can do everything, but there are few of them. Therefore, people should meet each other. We need a place where a cool scientist will meet a cool salesman, and they will believe each other. In the USA, these are the campuses of institutes – Stanford, Berkeley, Harvard to a lesser extent. They are trying to develop both science-intensive history and entrepreneurship in one place in order to increase the likelihood that people will meet. I doubt that such meetings can happen on the Internet.

– Such a near-scientific "smoking room".

– Exactly. The Russian market is less developed in this sense. In Russia, they are trying to create innovative clusters – not without the help of the state. People who have ideas and the desire to commercialize them should go to these clusters. If I were a scientist and wanted to implement my ideas in a startup, I would move to the nearest cluster – in Moscow, Kazan, Perm – to live there, teach, do research, and this would increase my chance to meet someone. It is necessary, of course, to be socially active, to talk to people. But if you are not there, but in a place where there is no chance of meeting such a person, it's like going only to work and complaining that you can't meet a girl. A simple life principle works here: increase the likelihood that the person you need will be in the environment.

"People who start making startups are crazy people"

– Is there a universal advice on how to make your startup noticed by a major investor?

– I won't say anything new, there are no universal tips. People who start making startups are crazy people because it's a very unfair and unfair game. The element of luck is very high. At the wrong time and in the wrong place, the right idea will not work, but without implementation, proper execution will not work either. It is necessary that everything coincides. Any entrepreneur should... by the way, this is a big question – should he understand this? Any normal person, knowing that he has few chances, will not dare to do anything. Is it possible to call Steve Jobs, Elon Musk, Peter Thiel normal? This is a philosophical question, and I haven't answered it for myself. When they say that "a startup has come to us, and the founder is flying in the clouds," this may not be a minus, but a plus. This means that he has a chance to do something on time and in place at his fifth startup.

On the other hand, there is such a thing as a "serial entrepreneur" – a person who makes successful stories in a row. They may not be equally successful, but they are definitely successful and exactly in a row. This suggests that you can learn something very important that will make luck not so important. This is not connections, not money, not the ability to reach an investor, not secret knowledge. This is the execution. And here will be a tip for startups – to find the next big thing, the next big step. You need to work hard and not lose faith in yourself. You can lose faith in a startup and close it, but you have to believe in yourself. If Steve Jobs had lost faith in one of the ten steps where he was thrown out of companies, Apple would not have turned out, Pixar would not have turned out. You have to be a little crazy to come out on a big story some time again. When you build it, there will be no questions about how to find a major investor. A large investor will be looking for how to give you money. This is true for any country. I am sure that if, for example, Pavel Durov says that he is making a new project, there will be a queue of those who want to give money to him.

– That's what we saw with the example of TON.

– Well, yes. And they would have seen it on any other example. By the way, there is some kind of mystery in the field of venture capital and startups, which is still incomprehensible to me. I can't solve it, and that's why it was interesting for me to share it with you. But all the same, the main thing is to work hard a lot and not lose faith. You have to be honest with yourself: if a startup is bad, then you need to close it and make a new one. Here is a piece of advice that... is not an indication for action.

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