Research

Chou, Cheng-Hsien and Lin, Hsiu-Ying, (Research Assistant and Associate Researcher, Div. 6, Taiwan Institute of Economic Research)

1. Background

2018 was a very active year for venture capitalist and broke the record of the highest fundraised. However, before entering the year of 2019, a title of 'Darkness is Coming' was used in the World Bank's Report to summarize the pessimistic view on the global economy in 2019 and the IMF has revised its economic forecast downward twice. What would be the impact on early-stage investment during this global economic downturn? During the opening speech at the World Economic Forum earlier this year, Seth Klarman, the founder of Baupost Group read out 'The annual letter to the investors', which sent a warning to the investors that they must be aware of the potential risks during a major financial crisis. However, to the early-stage investors, the economic downturn may be the 'seeding year' for future high yields of the investment.

According to the statistics from Preqin and PwC/Insights, both the investment cases and value dropped on venture capital funds in Q1 2019, which showed that there has been a slow-down in venture capitalist activities. Reports of PwC/Insights even indicated that the global benchmark for startups - the Bay Area, showed a significant decrease in the number of investment cases and value in Q1 2019. The Silicon Valley Venture Capitalist Confidence Index, started in 2004, published the results in February 2019 based on their research on 28 California Bay Area Venture Capitalist in Q4 2018 and found investors' view on investment outlook was at its lowest level over the past decade in Q4 2018. Furthermore, KMPG's Q1 2019 venture capitalist report suggested that venture capital investment has started to fall after reaching its peak in Q4 2018, but still believed the trend remained healthy in this first quarter.

As for the status of Taiwan's early-stage investment in startups, based on research on Taiwan's venture capital data compiled by FINDIT team, the venture capital investment cases remained active in 2018, which continued the situation in 2017. There have also been many companies announced receiving venture capital funding in Q1 2019. With the downturn on the global economy, US-China trade war and power struggle that led to the law of restrictions on core technologies investment, all of these uncertainties led to investor's pessimistic views on early-stage investment in 2019. It is worth investigating how Taiwan's venture capital organizations look at the domestic and the global investment trend in 2019.

2. Purpose

Considering the status of global economy and the low level of Silicon Valley Venture Capitalist Confidence Index, FINDIT team is expected to run a small experimental research on domestic institutional investors regarding their early-stage investment funds confidence during first half and second half of 2019 to gain an insight on domestic institutional venture capitalist's view on investment outlook and factors affecting investment, etc.

3. Results

(1)Response Rate

INDIT research team reference the details and methods from related international researches on institutional investor's confidence and designed the '1H 2019 Venture Capitalist Confidence' questionnaire. The research was conducted on Mar. 26, 2019 at the 'FINDIT Spring Matchmaking Conference', where over hundreds of institutional investors participated and the total number of questionnaire collected was 52 with a response rate over 50 %.

(2)The Results of Taiwan Venture Capitalist Confidence in H1 of 2019.

A. Total investment case amount and value of the interviewed institutions - the changes in 2018 and the expectations for 2019.

(A)The changes (decrease/increase) in the total investment case amount

Based on the collected questionnaires from the venture capitalists, the number of investment case amount increased by 33% in 2018 compared to 2017. It was higher than the 20%, who responded 'decreased' and the optimism index was 13%. As high as 52% expected the investment case amount would 'increase' in 2019 compared to the previous year and it was significantly higher than the 11%, who felt there would be a 'decrease'. In 2019, the optimism index of 'the total investment case amount' was 41%, which increased by 28% compared to last year.

Fig. 1  Changes in the Investment Case Amount from Participated VA

(B)The changes (decrease/increase) in the total investment value

In terms of the change in the investment value, based on the collected questionnaires from the institutional venture capitalists, there were 41% responded 'increased' in 2018 compared to 2017, it was higher than the 17%, who responded 'decreased' and the optimism index was 20%. 57% expected the case amount in 2019 would 'increase' compared to the previous year and it was significantly higher than the 14%, who expected 'decrease'. The optimism index on 'Venture Capital Value' in 2019 was 43%, which increased by 19% compared to last year and it was slightly higher than the 41% on investment case amount.

Fig. 2  Changes in the Investment Value from Participated VA

B. Total investment case amount and value of startups in Taiwan (or startups with Taiwanese founders) from the interviewed institutions - the changes in 2018 and the expectations for 2019.

(A)Changes in the total investment case amount of startups in Taiwan

Based on the collected questionnaires, 30% responded to the investment case amount of startups in Taiwan 'increased' in 2018 compared to 2017 and it was higher than 23%, who responded 'decreased'. The optimism index was only 7%. As for the expectations for 2019, 36% responded 'increased' to the total investment case amount than last year and it was higher than the 14%, who responded 'decreased'. The optimism index was 22% on the 'Investment Case Amount of Startups in Taiwan' in 2019, which increased by 15% compared to the previous year.

Fig. 3 Changes in the Investment Case Amount of Startups in Taiwan (or Taiwanese Founder)

(B)Changes in the total investment value of startups in Taiwan

In terms of the changes in the total investment value of startups in Taiwan, 41% of the collected feedback responded to the investment value 'increased' in 2018 compared to 2017 and it was higher than the 21%, who answered 'decreased'. The optimism index was 20%. As for the expectations for 2019, 44% responded 'increased' to the total investment value of startups in Taiwan and the ones believed 'decrease' dropped to 15%. The optimism index was 29% in 2019 on the investment value of startups in Taiwan, which rose by 8% compared to the previous year.

Fig. 4 Changes in the Total Investment Value of Startups in Taiwan

C. The level of investable capital by the interviewed institutions - the changes in 2018 and the expectations for 2019.

In terms of the changes in the level of the investable capital, based on the collected questionnaires from the institutional venture capitalists, 23% of the investors responded 'increased' in 2018 compared to 2017, as high as 70% responded the same and only 7% responded 'decreased'. The optimism index was 15%. 29% expected the level of investable capital would 'increase' in 2019 and the ones believed 'decrease' has risen to 14%. The optimism index was only 15% on the level of investable capital in 2019, which was a 1% decrease compared to last year.

Fig. 5 Changes in the Level of Investable Capital from Participated

D. The Views on the Outlook of Global and Taiwan Venture Capital Investment.

(A)Expectations on 2019 Global Venture Capital Investment

Based on the collected questionnaires, 14% felt there would be an 'improvement' on the global venture capital investment outlook in 2019 compared to 2018, 52% felt it would stay 'flat' and 23% felt there would be a 'downturn'. Overall, the optimism index was 28% on the '2019 Global Venture Capital Investment Outlook', which indicated that the domestic institutional venture capitalists had a negative outlook on this year's global venture capital investment.

Fig. 6 Views on 2019 Global and Taiwan's Venture Capital Investment Outlook

(B)Expectations on 2019 Venture Capital Investment in Taiwan

In terms of the changes in the level of the investable capital on startups in Taiwan, 59% of the institutions believed it would stay 'flat' compared to last year, 14% felt there would be an 'improvement' and 28% felt there would be a 'downturn'. The optimism index was -14% on the '2019 Taiwan's Venture Capital Investment Outlook' and this indicated that the domestic institutional venture capitalists also had a negative view towards this year's outlook. However, it was less pessimistic compared to the global venture capital outlook.

E. The best area to invest/the most promising areas globally by the interviewed institutional venture capitalists.

(A)Top 3 areas with most potential from the global venture capitalists' point of view:

Investors think 'AI, Big Data and Cloud' or related fields are the most favorable by the global venture capitalists and the feedback was as high as 76%. The second area preferred by the venture capitalists are 'Healthcare and Medical' with 53% and the third place is 'Mobile and 5G Communication Applications' with 24%. Based on the feedback, the domestic institutional venture capitalists have a similar view as the reports from leading venture capitalists.

Fig. 7 The Industries with Most Potential by Global Venture Capitalists (Multiple-Choice)

(B)The areas with most interests from VA

The top 3 fields with most interests from the domestic venture capitalists are 'Healthcare and Medical' with 68%, 'AI, Big Data and Cloud' with 41% and 'Mobile and 5G Communication Applications' at third with 32%. Compared to the preference of global venture capitalists towards 'AI, Big Data and Cloud', the domestic institutional venture capitalists are more interested in  'Healthcare and Medical' related fields.

Fig. 8 Most Interested Industries by VA (Multiple-Choice)

F. Factors affecting institutional venture capitalists' confidence by the interviewed institutions.

Based on the above mentioned research results, the views towards the venture capital outlook for both global and Taiwan are pessimistic in 2019 based on the feedback from the interviewed institutional venture capitalists. And factors which affect investors' confidence, as high as 85% believed the key factor was 'the quality of startup's concept'. The economic outlook was the second factor. If the outlook was negative, then there would be a decrease in consumer spending on consumables and services, which would affect the startups focusing on B2C solutions. Interviewed investors felt the global economy trend has a greater impact than the domestic economy trend, as it affects the capital flow, the abilities for fundraising with institutional venture capitalists, a slowdown in international growth, etc. Stability on domestic political environment and opportunity for exit is around 30%.

Fig. 9 Factors Affecting the Confidence Level of Institutional Venture Capitalists (Multiple-Choice)

4. Conclusion

The most important global venture capital reports also noted that the inflated over-the-top market valuation on certain startups in the recent two to three years has slowly calmed down. The early-stage investment market will re-adjust and become rational. It is foreseeable that this year's venture capital investment will fall from the peak, the cycle for the investment rounds will be lengthened and this will be a trial to venture capitalists' judgment and their professional abilities to understand the commercial nature. To the venture capital market, this re-shuffling and adjustment can be positive.

Based on the research from FINDIT, in spite of the fact that over half of the domestic institutional venture capitalists hold a view on 'flat' towards the global and domestic venture capital outlook in 2019, the percentage on 'downturn' is still higher than 'improvement', suggesting that the investment outlook in 2019 may not be as optimistic. However, it is worth noting that although the feedbacks from the interviewed institutional venture capitalists were negative towards the domestic venture capital outlook, the optimism index on the investment case amount and value are still better in 2019 compared to 2018, which shows that some of the domestic institutional venture capitalists remain positive, and this would be great news for startups looking for fundraising. The interviewed investors also mentioned 'the lack of quality startup concepts' is one of the key factors affecting investors' confidence, therefore, how to be 'high potential' would be a lesson to learn for the domestic startups.

In the past years, startups have been in a hyperactive stage, however, there have been many worries lurking behind this enthusiasm. That is, entrepreneurship requires strengths. Many entrepreneurs tend to be a trend-follower and fail to deliberately think over key factors such as understanding of the industry, team working, knowledge of the market, product positioning, operation model etc. Without careful consideration and planning, it will not be able to intrigue investors and will soon be left behind.

All in all, regardless of the improvement or downturn on startup capital investment trend, in order to gain trusts from the investors, the startups need to work on improving their skills, product and service, which are the core competitive advantages, and provide real solutions to consumer problems based on the changes in the market. Only startups with potential for fast expansion and good cash flow management will win favor from the investors, and only a quality enterprise can survive the challenge of capital winter and achieve greatness.