Venture debt in Southeast Asia still at early stages: InnoVen’s Chin Chao

Chin Chao at the Asia PE-VC Summit 2016 in Singapore. Photo: DEALSTREETASIA

Venture debt as a percentage of venture capital in Southeast Asia is still low at approximately 5 per cent, compared to 10-15 per cent in more developed ecosystems, Chin Chao, Chief Executive Officer, Singapore and South East Asia at InnoVen Capital, said in an interaction.

During an earlier interaction in September 2016, Chao had said that venture debt was a $100-million opportunity in SEA but now admitted that this asset class has more distance to cover to get there. “We are not still not there yet but we’re getting there. We have seen specific cities that have quickly adopted venture debt as a beneficial funding option,” he said.

According to him, the maturing VC ecosystem in the region was creating opportunities for select companies to take on larger amounts towards venture debt, even as he pointed out that InnoVen closed the region’s largest venture debt deal to date in 2017 with a $15.4-million venture debt facility to online travel agent Yatra in collaboration with its India team.

With InnoVen mulling an equity play in India, Chin Chao said the firm may look at similar opportunities in other regions too. “We usually only consider equity investments in later-stage companies and only if they already have taken a venture debt facility from us,” he said.

Tech startups apart, the InnoVen chief executive added that the venture debt provider was also looking at a lot of consumer and F&B deals in the region due to the increased consumer consumption story.

Edited Excerpts:

Venture debt has now come up as a prominent asset class in the developed countries and now even India. How do you view its position as funding option in Southeast Asia? Is it seen as an established asset class? 

I’m pleased to see interest from investors who are allocating capital to venture debt funds, but I think it may still be too early to call venture debt an established asset class in any regions of which Innoven is present. Separately, venture debt has become a strong funding option for growth enterprises in Southeast Asia. And we are still in the early stages. Our calculations show that venture debt as a percentage of venture capital in Southeast Asia is still low at approximately 5%. Whereas, the percentages in more developed venture capital ecosystems is about 10% – 15%.

Since you have prominent operations both in SEA and India, how different is your operating style in both the regions?

There are more similarities than there are differences. Our style in terms of risk appetite is fairly consistent across all offices. Any differences in operating styles are primarily a result of the underlying differences in the maturity of the respective venture capital ecosystems. For example, in Southeast Asia, we tend to be surrounded by earlier-stage companies, whereas India is able to get involved with more mature startups at a later stage.

How large is the opportunity for venture debt in the SEA region? Within the Southeast Asian region, which countries do you see the highest adoption of venture debt, and which are the countries that you are most bullish about?

Back in September 2016, I spoke in an interview with you about how venture debt is becoming a $100 million a year opportunity in Southeast Asia. We are not still not there yet but we’re getting there. We have seen specific cities that have quickly adopted venture debt as a beneficial funding option. The highest adoption so far has been in Jakarta, Kuala Lumpur and Singapore. I believe that these three cities are key markets for us going forward because the VC ecosystem is more developed in these markets and venture debt works best when the VC market is mature.

Has the average cheque sizes cut by InnoVen seen any change in the last few years?

For most deals, the average cheque size has remained the same. However, we’re seeing select opportunities with larger venture-backed companies where their venture debt needs are much larger. This is because we follow the growth of our existing portfolio companies and as they mature we are able to explore larger deal quantums with them. Also, as the venture capital ecosystem in SE Asia continues to mature, we are naturally seeing a select number of opportunities to provide larger amounts of venture debt as more companies in the region have raised multiple, larger rounds of venture funding. For example, Innoven closed the region’s largest venture debt deal to date in 2017 with a US$15.4 million venture debt facility to online travel agent Yatra in collaboration with our India team.

Since venture debt usually tracks the trends of venture capital, have you had to modify your investment strategy over years?

Our strategy has not deviated much in general. Venture debt works both when venture capital funding increases and when venture capital funding decreases. When the level of venture capital activity increases, the amount of venture debt increases as there are simply more companies to provide venture debt to. When the level of venture capital activity decreases, the amount of venture debt remains the same or even increases. This is because many companies who otherwise haven’t considered venture debt now consider venture debt as a funding source. In both instances, we remain a complementary form of funding to venture capital.

InnoVen launched its office in China, which already has an established venture debt ecosystem, how easy or tough has your experience been? How different is your approach towards the Chinese market, given the competition, as compared to the other regions that you operate in?

Our team has been very excited about engaging with companies and investors in the China market. Venture debt has only begun gaining traction in China in 2016 but has since quickly increased in popularity as a form of financing for growth enterprises. Although it is quite competitive in the Chinese market, our China team has found that the demand for venture debt far exceeds supply in the market. Our approach in China is consistent with our approach across India and Singapore. Competition has not affected this.

For India, InnoVen is also mulling a bigger equity play, will you be keen on equity investments in other regions too?

Building up the venture debt business has always been the number one priority. That being said, we always have had the flexibility to make equity investments which is a very exciting opportunity. We usually only consider equity investments in later-stage companies and only if they already have taken a venture debt facility from us.

VC investments are now more diversified when it comes to sectors, more spread than the initial focus on only consumer tech startups. Do you agree? Are there any sectors that InnoVen is particularly bullish on? What about non-tech – do you see yourself get a first-mover advantage in some of these sectors, esp consumer and F&B?

As more VC funds are being set up, we do see more variety in the sector focuses of funds. Whether these are broad-based funds or sector-specific funds, the overall spread of industries has increased. For example, we’ve seen a lot of fintech-specific funds set up in the past few years. We’ve also more recently seen new AI-specific and blockchain- specific funds. My personal take on venture debt is that it should be sector agnostic and stage agnostic. I leave it up to our VC partners to predict the future on which sectors will drive the future economy.Interesting question. We happen to be looking at a lot of consumer and F&B deals because the growth in many of the economies in the region is still based on an increased, consumer consumption story.

How do you view the next one year for venture debt and InnoVen in the SEA, China and India?

I can only speak for SE Asia. We continue to build on our momentum, having already tripled the number of disbursements in FY2017 from FY2016. We also expanded our geographical footprint with loans extended to a Burmese travel-booking services company Oway, Taiwanese live-streaming platform M17 Entertainment, online Korean- beauty store Althea and Indonesian fintech services provider Akulaku.

When it comes to VCs and PEs, portfolio companies expect them to bring some expertise to the table and help them in their growth, in addition to just providing vanilla capital – but for venture debt, what are the expectations from portfolio companies?

We view ourselves as value add partners to our portfolio companies and are as involved as much as they would like us to be. Now given that we have offices in three different geographical regions (China, India and SE Asia), we are able to connect companies across geographies with relevant partners, customers and investors. Many companies have found this particularly helpful as they expand into new geographical regions.

With equity capital, whether from venture capital investors or non-traditional start-up investors such as hedge funds, not being readily available as before, are we seeing a scenario where startups – both at the early and later stages – are turning to venture debt only to tide them over the interim period between funding rounds?

No, we aren’t seeing that at all because we typically do not provide bridge loans. The risk-reward profile for bridge-loans simply doesn’t work for us. It’s like taking equity risk for debt-like returns. Instead, what we’ve been seeing is that companies are seeking venture debt because it is a much less dilutive source of capital and is simply a much cheaper alternative than raising equity. We’ve seen companies use venture debt in so many different ways, whether to plug a working capital gap, whether to launch a new geographical market, whether as additional marketing spend, whether to hire new staff or whether for R&D. The goal is to provide additional capital to increase valuation with minimal dilution.

Since venture debt, unlike traditional bank credit, doesn’t demand collateral against loans in the conventional sense, there is always the danger of money going down the drain if a borrower is unable to raise the next round of venture capital funding. As a firm, how much of a role can you play to help your portfolio companies raise their next round of funding?

Given that we work with many venture capital partners, we are aware of the types of companies that specific VC firms are keen to explore. Therefore, we are in a unique position to make connections for companies to new and relevant investors. And now that we have offices in SE Asia, China and India, we are able to connect companies with relevant investors in each of these regions and across regions; thereby expanding the universe of potential investors for Innoven’s borrowers.