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Venture Answer: How a Crisis Can Lead to Business and Economic Growth

04.06.2020
Source: Harvard Business Review

Photo: Martin Sanchez / Unsplash

The COVID-19 pandemic has plunged the global community into a position of universal confusion. Not a single country, including Russia, was fully equipped for this new challenge. A business forced to survive non-working days while maintaining employee benefits was in a difficult situation. Entrepreneurial downtime inevitably leads to a decline in tax revenues, and an increase in the number of unemployed — in March-April alone, about 735 thousand people were officially registered.

The situation is exacerbated by increased rouble volatility and turbulent processes in world markets. The International Monetary Fund calls this crisis “Great Self-isolation” and believes that it will become “the strongest economic downturn since the Great Depression” and much more severe than the global financial crisis of 2008: according to forecasts, the global economy will decline to −3%, in Russia — to −5.5%.

However, researchers of previous economic crises have repeatedly noted that the more influential the crisis, the more powerful the subsequent innovation stage. The crisis always starts the process of technological modernization in many sectors of the economy. To win the fight for customers in the light of declining customer activity, you need to attack: e.g., introduce fundamentally new technological solutions, develop alternative services, and enter relevant markets. There are surprisingly many successful companies that have risen precisely in times of crisis. Analyzing the old examples, we can name the American Salesforce, which began development at the time of the dotcom crisis: having offered its customers a new model of cooperation — SaaS (software as a service), an IT developer was able to become a world leader in the market of CRM systems. Against the backdrop of the 2008 crisis, Airbnb and Uber appeared and grew. Companies that have fundamentally changed their approach to rental housing and taxi services (however, it should be noted that in the current situation, the economy of joint consumption was in the most vulnerable position).

In my opinion, the so-called “corona-crisis” will not be an exception in this regard — it can also lead to the birth of new heroes. But on one condition.

Venture Shoulder

This condition is the state of the venture capital market adequate to the momentum and the presence of “long money” on it. Although business angels, who make their first investments in start-ups, and seed venture funds are ready to work with high-risk assets, now they are losing their risk appetite: tighten requirements for potential investment targets, focus on managing the current portfolio and supporting the most promising companies in the current conditions. In contrast, “long money” — including the investment capital of insurance and pension funds — does not require a return in the next three to five years. This is a resource that many companies could rely on for increase, and some for survival. Yet, unfortunately, Russian insurance and pension funds are not currently participants in the private equity and venture investment market, as has happened in many developed countries. The modernization of the regulatory base in this direction has just begun. Today, the institutional function is primarily achieved by venture capital funds of corporations and with the state's participation. However, this is entirely insufficient for a developed market, involving a more complicated system of roles and investment limits.

New Economic Drivers

The list of leaders interested in venture capital investors in the new conditions predictably included projects related to the digital transformation of traditional social and corporate processes.

Among them is the EdTech industry: the closure of schools, affecting nearly 1.8 billion schoolchildren and students in 188 countries, led to multiple increases in the load on distance learning services. The investor request for any solutions in remote interaction has grown significantly: from entertainment and commerce to manufacturing and public services. And this even though the IT sector already occupied by more than 80% in the structure of the venture capital market.

Online retail is doing well. Experts suggest that as soon as the pandemic is over, one in ten people will have a habit of purchasing goods via the Internet, which means it is advisable to increase investments in the development of technological solutions, services for e-commerce platforms, automation of back-office processes and digitalization of operations in retail chains. Venture funds are actively developing the market of financial and technical services: the banking area is a grand arena for traditional business and new types of players, with each side contributing to the technological arms race.

The COVID-19 pandemic brought to the forefront projects in Life Science, pharmaceuticals, and biotechnology. Health care now is not just a promising market, but a matter of economic survival and a speedy exit from the situation of global disunity. Against this background, stimulus measures are being taken to support biomedical companies involved in the development of a vaccine against coronavirus and related technological solutions: new grant programs, accelerators for start-ups are launched, and the World Health Organization, with the support of participating countries, has announced international cooperation to accelerate the creation and production of new vaccines, tests, and medicines for COVID-19.

Significant growth is also observed in the telemedicine technology market. The tactics of social distance that most countries around the world follow to combat the spread of coronavirus lead to telemedicine consultations' promotion. Also, telemedicine is an opportunity to provide quality services in the e-health market for residents of remote areas. According to expert estimates, in 2019, the volume of the telemedicine market was $45 billion. By 2026, however, it is expected to exceed $175 billion, with an average annual growth rate of 20%.

However, some sectors have lost. Out of the unobvious, for example, in the USA, the volume of venture investments in private space dropped. Meanwhile, it is not difficult to guess what sectors turned out to be under the direct blow of the crisis. Russian investment funds speak of a decline in offline retail, the tourism and restaurant segments, entertainment related to natural presence, the construction and oil industries, and many other traditional ones.

At the Crossroads

The Russian venture capital market is quite young (about 20 years old) compared to its foreign counterparts. However, it represents a complex and developed ecosystem in terms of the structure and behavior of players. In the field of direct and venture investments, private and corporate funds, family offices, business angels, state institutions are actively working. There is an entire industry of intermediaries in the form of small investment banks and investment boutiques; there is competition among infrastructure players, such as accelerators, consultants, auditors, appraisers, professional mentors, and independent executives.

Of course, the market has many problems and growth areas: lack of “long” money, excessive regulation of state institutions, depriving them of risk appetite and limiting the flow of liquidity to the market, poor integration of entrepreneurs in the global investment community, a high degree of monopolization of some industries, reducing the possibility of exit for many companies.

Still, we see that there is an ongoing joint work of the state, institutions, and market players in all these areas. These restrictions are quite natural for the current stage of development of the industry and are quite conquerable. Today, the ordinary course of events has been broken by the global crisis. What's next?

The short-term scenario is adverse. In the second or third quarter, the venture capital market may stall. For the first quarter of 2020, investment programs of corporations and fund activity were slightly adjusted, but further statistics will deteriorate. This is not only due to the general shrinkage in business activity but also the complete transition of players to more conventional strategies.

However, in general, the post-crisis era may be a significant milestone for the Russian venture capital market. The Corporation and the states have undergone forced digitalization, which has radically changed the quality of processes. A substantial part of the world population was forced to change consumer behavior, and many customs acquired during the quarantine period will surely survive, creating a new kind of consumer. The global demand for new products and technologies created by the crisis can only be compared with tectonic shifts, such as the popularization of the Internet and the spread of smartphones.

In times of crisis, new champions have always appeared, and Russian entrepreneurs and investors today have a chance that not every decade falls. The central question is whether our market has enough specialists to give a phase transition in the form of a new generation of national champions and global companies with Russian roots. We waited for the time of the bold. It has arrived.

By: Alexey Basov — Deputy General Director, Investment Director of Russian Venture Company.



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