I’ve written previously about my distaste for Rocket Internet here. I don’t believe in their philosophy towards entrepreneurship, and I think they represent what I’ve called “the corporatization of entrepreneurship.” Furthermore, I would caution those considering joining the company to carefully evaluate Rocket’s historical treatment of founders and employees before accepting an offer. My sources indicate that it can be a very unpleasant place to work, and while the learning experience may be valuable, there are plenty of other options out there for those looking to build an entrepreneurial skillset.

Nonetheless, I recognize that opinions based on personal values (such as those I enumerate above) can differ dramatically from conclusions drawn from dispassionate analysis (such as those I elaborate below).

Recently, I conducted an investigation into how the practice of business model replication (i.e. cloning)  impacts emerging markets. The idea was to avoid moral, ethical, or pride-based judgements, and evaluate business model replication – particularly the variety practiced by Rocket Internet – purely on the basis of whether it is good or bad for the emerging markets of the world. In other words, if economic development is the ultimate objective, are Rocket’s activities beneficial or destructive?

The results of my analysis may surprise those who have read some of my previous posts. After speaking with dozens of emerging market entrepreneurs, venture capitalists, and former Rocket employees – and after examining some of the relevant scholarly literature on the subject of emerging markets venture formation – I conclude that the practice of business model replication is almost overwhelmingly positive, as it leads to several measurable economic and technological benefits for emerging market inhabitants. In other words, as much as we may love to hate Rocket Internet, the reality is that the company is having a positive impact on the emerging markets in which it operates. At least from an economic development perspective.

This study was conducted for one of my Wharton classes, so the writing style is decidedly academic. Nonetheless, I thought my readership would find it relevant, so I’ve posted it here in its entirety. Footnotes / references are at the bottom of the essay. Please note that the section which describes Rocket Internet and its business model contains some material recycled from a prior blog post, but the bulk of the analysis is brand new. If you’d like a PDF copy of the report, complete with bibliography, feel free to contact me at baldwint@wharton.upenn.edu. I also plan to post this to scribd at a later point in time. In the meantime, enjoy, and as always, I encourage feedback and commentary.

The Impact of Business Model Replication in Emerging Markets

By Thomas Baldwin, 4/1/2013

Introduction

Business model replication – the practice of copying an existing business model and developing it in another market – has been in existence since the development of modern day capitalist society. More recently, however, the practice of cloning has been institutionalized, driven by the rise of several organizations whose explicit strategy is to identify promising business models from developed world markets and deploy them simultaneously across several emerging market geographies. This phenomenon – dubbed the “Attack of the Clones” by the Economist Magazine – has been the subject of considerable debate in recent months, eliciting heated opinions from several prominent members of the startup and venture capital communities.[1] While proponents argue that business model replication is a natural feature of competitive startup environments, detractors condemn these “clone factories” as unethical imitators whose focus on execution as opposed to innovation casts an unflattering pall over startup ecosystems across the globe.

Questions of morality and pride aside, few market observers have tackled the more important question of whether the practice of business model replication in its more modern manifestation – which primarily involves porting ideas from developed economies to developing economies – is an overall positive or negative for emerging market societies at large. In the author’s view, this is the key issue to address, for it touches upon themes that are of fundamental importance to hundreds of millions of emerging market inhabitants worldwide. For these individuals, accelerated rates of internet penetration, heightened inbound flows of foreign capital, and greater levels of inter-market knowledge transfer can yield meaningful changes in the longevity and quality of life.

In this study, I examine the impact of business model replication in emerging markets. I deliberately avoid forming moral judgments regarding the acceptability of cloning practices, choosing instead to perform a holistic investigation of the effects – both good and bad – of modern day copycatting. I argue that, from an economic development perspective, the practice of business model replication is almost overwhelmingly positive, as it leads to several measurable economic and technological benefits for emerging market inhabitants.

A Note on Methodology

The research process used to form the insights contained in this analysis leveraged two main sources of information: (1) Primary sources consisting of in-person and telephonic interviews with several emerging market entrepreneurs, venture capitalists, and former Rocket employees; and (2) secondary sources comprised of academic works on a variety of topics related to entrepreneurship and venture formation in emerging markets. Given the lack of scholarly literature on the subject of Rocket Internet, the section of the paper which deals with the company is based primarily upon interviews with individuals familiar with its business model and practices. In many instances, interviewees requested anonymity, so direct attribution of particular statements or assertions was not often possible. However, exhibit 1 in the appendix contains a complete list of all the individuals who were consulted for the purposes of the research contained in this paper. It is important to highlight that the conclusions contained in this analysis were formed by the author himself, and do not necessarily represent the views of those interviewed for this report.

A Brief History of Business Model Replication

It is instructive to begin the present analysis with a brief overview of the history of business model replication. The idea of copying someone else’s business idea has existed since the dawn of capitalism; indeed, it harkens back to the writings of Adam Smith, and lies at the very core of what it means to operate in a competitive economic environment. Business ideas and business models cannot be patented, and what cannot be patented, can be copied.[2] As such, business model replication has functioned as a legally viable competitive tactic for centuries. However, only recently has this approach taken on an institutional form, with several entities explicitly leveraging business model replication as their principal approach towards doing value creation, and applying this approach on a massive, global scale. As I will argue in my research, this shift holds significant implications for startup ecosystems, venture capital firms, and populations across the world’s emerging markets. In the section that follows, we examine one of the primary actors in this brave new world of geographic business model arbitrage.

Rocket Internet

The most prominent propagator of startup clones is Rocket Internet, a firm operated by the Samwer brothers from their headquarters in Berlin, Germany. At the helm of the company is Oliver Samwer, a German known for his distinctly un-PC approach to communication.[3] The firm can best be described as a clone factory: it identifies promising business models that have been successfully executed upon in developed market A, and replicates them in emerging markets A, B, C, D, and E. It does this rapidly and efficiently by tapping a pool of in-house developer / designer talent that provides programming support across the portfolio. It leverages cross-portfolio synergies in a massive way: because its core competency is cloning across multiple markets, it re-uses much of the same coding / UI design to quickly set-up startup websites in different geographies.

With regard to logistics and operations, Rocket Internet resembles a manufacturing production line of sorts. Managers receive thick process manuals that describe exactly how things should be done from start to finish to establish a new operation in a new country. As for talent, Rocket has traditionally poached bankers and consultants from top firms to become “Founders” of Rocket-backed startups. It also recruits heavily at top-tier MBA programs (see exhibit 2 in the appendix for a recruiting email sent to the author from a Rocket Managing Director)[4]. Rocket seeks smart, process-driven professionals who operate well under conditions of extreme pressure. It gives these individuals a multimillion dollar initial budget, a very small sliver of equity (generally in the range of 0.5% to 3.0%), a large salary (as much as 10 – 15 thousand dollars per month), and the “Founder” title.[5]

Rocket Internet has developed a reputation for ruthless efficiency and hawk-like agility. Conversations with the author’s interlocutors paint the picture of a firm that moves extremely quickly, is incredibly data-driven, and is relentlessly performance-focused. The author’s interviewees also indicate that Rocket hires fast and fires faster, an ode to the performance-based culture of the top-tier investment banks and consulting firms from which it draws many of its hires. Over the past few years – and particularly over the course of the past 18 months – startups incubated by Rocket have popped up across the globe at a highly accelerated rate. Rocket currently operates 53 startup clones across 60 geographies, the majority of which are found in the emerging markets of Central and South America, East Asia, Southeast Asia, and Africa. See exhibit 1 below for a snapshot of Rocket’s portfolio.

Exhibit 1: Current Rocket Internet Portfolio[6]

The author’s primary research suggests that Rocket’s rapid growth has come through an almost obsessive focus on the top-line. The company is widely known to pour marketing dollars into its new ventures, growing them as quickly as possible in an effort to drown out local competition and own the respective market.  Rocket monetizes its investments by seeking buyers for its startups, and some of its most successful exits have come by selling to the originators of the concepts they have cloned. See exhibit 2 below for a snapshot of Rocket’s history of exits.

Exhibit 2: Rocket Internet Exits[7]

 

In the wake of Rocket internet’s successful sale of Ebay clone Alando to Ebay, and it’s sale of Groupon clone Citydeals to Groupon, the company amassed a significant “war chest” of capital for use in the establishment of ecommerce startups across the emerging markets of the globe.[8] Additionally, the company raised additional holding and portfolio company-level capital from sources including AB Kinnevik, Quadrant Capital Advisors, Summit Partners, Holtzbrinck Ventures, JP Morgan Asset Management, Access Industries, New Enterprise Associates, and Millicom.[9] In total, these various capital providers have poured over USD $1B into Rocket internet and its portfolio of clones.

This enormous capital position has enabled Rocket Internet’s portfolio companies to act in ways that traditional VC-backed startups cannot, in markets that traditional VC-backed startups have avoided. More specifically, Rocket Internet seeks to gain first mover advantage in underpenetrated but fast growing markets across the globe, and does so despite the substantial capital runway that the development of successful ecommerce ventures in low internet penetration-economies requires. Rocket’s strategy is to enter into challenging emerging markets, establishing market dominance through the deployment of massive amounts of capital to overcome logistical constraints and consumer awareness challenges.

Following in Rocket’s Footsteps

In the wake of Rocket Internet’s success, several organizations that operate under a similar business framework have come into existence. These include Springstar, based in Berlin, Germany, and Project-A, also based in Berlin, Germany.[10][11] Each of these entities engages in geographic business model arbitrage, although they may also incubate original business ideas as well. Regardless, their existence, and the ongoing emergence of similar clone-focused incubators, suggests the consolidation of an entire industry based around the transportation of existing developed world business models to emerging market geographies. As mentioned earlier in this study, this trend shows no signs of abating; to the contrary, it is gaining significant momentum, and it bears important implications for emerging market economies. It is to this important area of study that we now turn our attention.

Business Model Replication in Practice: Impact and Implications

In evaluating whether business model replication is ultimately good or bad for the denizens of emerging market economies, we must perform a holistic analysis which incorporates the positive as well as negative externalities associated with this practice. My review of the effects of business model replication in emerging economies conclusively demonstrates that – while perhaps unsavory from a moral or ethical perspective – the strategy of copying first world business models and implementing them across large numbers of emerging markets is overwhelmingly positive for those residing in emerging geographies.

Positive effects of business model replication

Development of localized ecosystems of startup service providers

Recall from our discussion of Rocket Internet above that the firm is notorious for its ability to spend enormous sums of capital in an effort to “crack” underdeveloped emerging market economies. A case in point is Nigeria, which until recently had an extremely inchoate ecommerce ecosystem. Most VC-backed startups would view the Nigerian market as unsuitable for market penetration, due to its decrepit shipping and logistics infrastructure, relatively low level of internet penetration, and lack of consumer familiarity with online purchasing. Rocket, however, views Nigeria as the ideal market in which to launch startup clones, and given its Croesus-like cash position, the firm is completely comfortable operating on a cash flow negative basis for several years until achieving the scale necessary to reach profitability.[12] From a long-term perspective, this approach makes sense: while extremely costly in the short term (hence the need for a capital war chest to support significant capital burn), the “winner” in the race to own Nigeria’s ecommerce economy stands to reap handsome gains in the future.

What is the effect of this cash guzzling strategy? One observable impact is the almost single-handed creation of ecosystems, or clusters, of startup service providers. Because Rocket enters geographies where few traditional startups dare ply their trade, and because their portfolio companies are prepared to spend massive amounts of capital on the services that fuel their growth, Rocket catalyzes the development of “ecommerce economies” – clusters of online marketing agencies, graphic design firms, consumer research shops, and printing companies. As Michael Porter points out, such specialized industry-specific clusters foster high levels of productivity and innovation, thereby exerting a positive influence on the emerging market economies in which they are located.[13]

Accelerated development of supply chain / logistics infrastructure

Just as Rocket fosters the development of localized startup ecosystems in emerging market economies across the globe, so too does the company accelerate the improvement and build-out of local supply chain and logistics networks. Again, this relates to Rocket’s seemingly limitless capacity to deploy capital to support the growth and maturation of its startup portfolio, and its propensity to enter underdeveloped economies where the infrastructure necessary to fulfill ecommerce orders is lacking or unsatisfactory. When Rocket enters markets like Indonesia, Nigeria, or Mexico – where ecommerce penetration is limited and firms specialized in order fulfillment are limited in number and sophistication – it forces the local market to more quickly develop the infrastructure and supply chain requirements more typical of advanced ecommerce ecosystems.

Take, for example, the case of Mexico, where Rocket-backed Linio has raised over $45M of third-party capital in an effort to become the country’s Amazon.com. Toby Clarence-Smith, a Wharton MBA and former Linio summer intern, states that:

“Linio is definitely having a profound impact on the logistics landscape in Mexico. For instance, none of Linio’s logistics providers had dedicated ecommerce teams or offerings by the time I started my internship. But by the time I left, all of them had created teams or procedures dedicated to ecommerce. Also, whilst Cash on Delivery was something already offered, Credit Card on Delivery was not, and so Linio worked hand in hand with the logistics companies to create a CCOD offering. Moreover, these logistics providers have started to understand the nature of ecommerce clients, for instance learning to adapt to situations when the client is not at home to receive the order. This phenomenon could also be seen in other important infrastructure providers, such as payment gateways. Paypal for instance created a dedicated team to work with Linio in order to improve the checkout process. It’s a win-win for everyone, including those like us who want to enter the market as well.”[14]

Inter-market knowledge transfer

Several of the author’s interlocutors highlighted knowledge transfer across geographies as a significant positive externality of emerging markets business model replication. As former Rocket Internet employees, these interviewees had been afforded direct exposure to Rocket’s globally interconnected network of satellite offices. Linked together in a hub-and-spokes arrangement, with the Berlin headquarters office serving as the central core of the network, these satellite locations serve not only as operating platforms for local clones, but also as intelligence gathering outposts.[15] Each location accumulates significant amounts of data about areas as diverse as the effectiveness of online vs. offline advertising, the suitability of different business models across geographies with divergent levels of socioeconomic development, tactics regarding how to overcome emerging markets scalability challenges, best practices around local hiring, and many others. This information, in turn, is shared horizontally – from one satellite office to another – and vertically, from the satellite offices to the headquarters office.[16]

The impact of this inter-market knowledge transfer is positive for emerging market economies. It heightens the likelihood of successful venture replication, leading to the creation of successful entities that hire local employees, produce and sell into local markets, and contribute to local GDP growth.[17] Additionally, the knowledge accrued through inter-market transfer is passed on to local employees, who leverage this business intelligence to become higher caliber workers, or to successfully launch local ventures of their own. Viewed from a holistic perspective, the movement of knowledge between and across emerging markets – a process greatly facilitated and accelerated by entities like Rocket Internet – is thus a force for positive change in developing economies.

Acceleration of ecommerce habituation

Industry literature has identified lack of familiarity with online purchasing as a key impediment to ecommerce penetration in emerging markets. For example, Japhet Lawrence and Usman Tar state that:

“Most cultures in developing countries do not support ecommerce and the conditions are not “ripe” because of lack of confidence in technology and online culture (Efendioglu et al, 2004). The social and cultural characteristics of most developing countries and the concepts associated with online transaction pose a much greater challenge and act as a major barrier to adoption and diffusion of ecommerce.” [18]

In light of this innate cultural resistance to online purchasing, one can argue that the transition of a given consumer population from a consumption framework centered around offline purchasing to one based in part on electronic commerce is subject to a gradual process of habituation. More specifically, it is only after repeated exposure to the messaging, advertising, and consumer engagement associated with sophisticated ecommerce operators that a given consumer group will begin to engage more meaningfully in online purchasing.[19] This explains why it has historically taken so long for ecommerce to become a significant driver of overall retail consumption in emerging market economies.

Mexico offers an example of this phenomenon. In a special report on the state of ecommerce in Mexico, the consulting firm Boston Consulting Group identified several key factors delaying Mexico from achieving the rates of ecommerce penetration seen in more advanced emerging market economies. The firm highlighted the dearth of sophisticated ecommerce offerings – and consumers’ resulting lack of familiarity with online purchasing processes – as a key cause of Mexico’s underdeveloped ecommerce ecosystem. The report stated that“Mexico needs a greater number of [ecommerce] firms offering large selections of online products and services, positive online purchasing experiences, and strong levels of online engagement via social media.”[20]

According to Toby Clarence-Smith, Rocket’s Latin American Amazon clone, Linio, is having a dramatic effect on the state of ecommerce in Mexico. Having raised over $45M in capital from investors including AB Kinnevik, JP Morgan Asset Management, Summit Partners, and the Tengelmann Group, the company is investing heavily in a concerted online marketing campaign designed to rapidly break down Mexicans’ natural reluctance to purchase online versus in person.[21] While quantitative data is hard to obtain, anecdotal evidence suggests that the company is accelerating ecommerce habituation in the country of 110 million people.[22] Importantly, the Rocket strategy of pouring enormous sums of capital into online marketing in order to familiarize emerging market consumers with the world of online retail is being repeated across the developing economies of the world.

Skills development for future emerging markets entrepreneurs

As described in the preceding section of this analysis, Rocket Internet operates almost like a factory assembly line, with established venture formation practices passed down from headquarters to startup management teams across the globe in order to speed the development of new companies. This process has the beneficial effect of operating as an “education” of sorts for Rocket employees, who receive a fast-paced, immersive knowledge development experience in areas such as online marketing, inventory management, delivery optimization, customer segmentation, and others. Indeed, Rocket has frequently been described as a “training grounds” for aspiring entrepreneurs, providing a low-risk means of obtaining an entrepreneurial toolkit that can later be leveraged by former employees to build non-Rocket startups.[23] Given the extremely high turnover rate at Rocket portfolio companies – it is generally accepted that most employees will not spend more than a year at a given entity before departing for greener pastures – it could be argued that Rocket acts a rotating door that provides skills development to large numbers of aspiring entrepreneurs.

In the author’s view, the educational impact of Rocket is an important positive externality that must be considered when examining the question of the overall impact of business model replication in emerging markets. The development of large numbers of highly-trained former Rocket employees, many of whom go on to build new ventures of their own, is a decidedly positive phenomenon for emerging market economies.

Negative effects of business model replication

Reduces inter-firm collaboration, incentivizes secrecy

Several of the author’s interlocutors identified heightened levels of secrecy and reduced collaboration within and across emerging market startup ecosystems as a negative effect of Rocket’s activities across the globe. These individuals offered anecdotes which portrayed Rocket as a ruthless competitor, hungry for inside information that could be used to undercut its rivals and gain a competitive advantage. One Brazilian entrepreneur described being asked by a local Rocket representative to attend a meeting to discuss a potential opportunity, only to realize during the meeting that the Rocket employee was simply probing for information, and had no intention to work towards any kind of mutually beneficial agreement. Weeks later, this entrepreneur witnessed the launch of a Rocket-backed clone of his startup.[24]

Stories like this, it is argued, spread rapidly throughout entrepreneurial circles in emerging markets, creating an atmosphere of secrecy and insularity. According to proponents of this view, the resulting reduction in inter-firm collaboration is damaging to startup ecosystems, because transparency and sharing help firms gain access to the strategies and best practices that lead to successful venture development.

In the author’s view, the preceding argument – that Rocket’s presence in a given market creates an environment of secrecy – is tenuous at best. While Rocket’s information gathering tactics may indeed be somewhat more nefarious than those of other firms, it is difficult to directly tie Rocket to reduced inter-firm collaboration. Indeed, one could plausibly argue that – given publically available information that denotes specific firms as Rocket-backed – collaboration continues to occur, just among non-Rocket startups as opposed to the entire startup community.

Stifled innovation, culture of copycatting

The author’s interviewees consistently mentioned that Rocket Internet, and its adoption of business model replication as the core component of its value creation strategy, sets a “negative example” for aspiring emerging market entrepreneurs. These individuals argued that Rocket is promoting a distinct form of entrepreneurship, one in which stealing others’ ideas is viewed not only as acceptable, but as desirable. Rather than emphasize the traditional entrepreneurial values of creativity, ingenuity, innovation, and resourcefulness, Rocket instead embraces geographic arbitrage and “shock and awe” execution as the twin pillars of its venture formation strategy. This, in turn, may lead young emerging market entrepreneurs to interpret entrepreneurship as a clone-driven road to riches, as opposed to an organic process underpinned by creativity and a desire to solve big societal problems. According to my interviewees, this is “bad” in the sense that it stunts the development of truly disruptive ventures that dramatically improve the lives of emerging market citizens.

There is little empirical evidence to support the assertion that Rocket causes aspiring entrepreneurs to pursue copycat entrepreneurship instead of innovation-driven entrepreneurship. Furthermore, even if it could be conclusively shown that Rocket promotes a brand of entrepreneurship geared towards business model replication, it would be difficult to argue that this is actually a bad thing. It is possible, for example, that if Rocket were not present in a market, there would be fewer entrepreneurs in general. From an economic development perspective, given the choice between an ecosystem rich in entrepreneurs pursuing business model replication, and one characterized by a general paucity of qualified entrepreneurs, most would identify the former as preferable.

Concluding Thoughts

In the preceding analysis, I reviewed both the positive and negative aspects of business model replication in emerging markets. The aim of this review was to examine the fundamental question of whether the practice of “geographic arbitrage” – the porting of business models from advanced industrial economies to emerging market geographies – is a positive or negative phenomenon. More specifically, if economic development is the ultimate goal, are the activities of firms like Rocket Internet beneficial or destructive?

My examination into the practice of business model replication has conclusively demonstrated that it is indeed a force for positive change in emerging markets. While geographic arbitrage may have some negative externalities, they are difficult to quantify and measure. Moreover, even if these negative effects are real, they do not outweigh the many positive ways in which business model replication acts on emerging market economies.

The mechanism through which Rocket Internet and its peers drive economic growth operates on several levels:

• The creation of localized ecosystems of startup service providers. Rocket Internet’s demand for startup-related products and services catalyzes the development of startup ecosystems which enable and empower the development new businesses
• The accelerated development of supply chain / logistics infrastructure. Rocket Internet forces logistics providers to modernize, thereby speeding the development of the infrastructure that underpins ecommerce economies
• Inter-market knowledge transfer. Rocket Internet facilitates the flow of business knowledge across and between emerging markets, leading to improved prospects for the development of new emerging market ventures
• Acceleration of ecommerce habituation. By introducing new consumers to the world of online retail, Rocket Internet and its peers set the stage for the development of online economies across the emerging markets of the world
• Talent development. Rocket Internet provides training for emerging market entrepreneurs, offering a skill set which can later be used to pursue other value-added entrepreneurial projects

Each of the above bullets represents a driver of economic growth, either directly or indirectly. Startup ecosystems, for example, serve as the foundation for the development of new ventures which can create jobs, provide skills development, and introduce groundbreaking new products and services. A stronger logistics landscape benefits not only Rocket Internet portfolio companies, but all those who seek to transport goods within and across national boundaries. Inter-market knowledge transfer brings new knowledge into emerging markets, which in turn supports innovation and value creation across a range of industries. Ecommerce habituation creates the psychographic conditions under which online business can grow and flourish, creating a new avenue for economic growth. Talent development strengthens a nation’s human capital, empowering new generations of entrepreneurs to tackle important problems and create tangible social value. Thus, in each of these ways, the practice of business model replication is positive phenomenon that drives economic growth in emerging markets.

It’s nearly 3pm on a rather cloudy Thursday afternoon here in Philadelphia. I’m in John Huntsman hall, the imposing brick and glass edifice which forms the physical and spiritual core of the Wharton community, and it feels eerily deserted. Why? In keeping with tradition, the vast majority of my MBA peers have taken a few days off, swapping the dreary, snowless streets of Philly for the powdery slopes of Breckenridge, Colorado. While my friends tear up the pow pow over in ski country, I’m lying low here on the east coast… great way to save some dinero and escape the MBA masses for a bit. Also, the perfect opportunity to reinvigorate my blog with a brand new post! Today, I’ll be discussing what I believe to be some of the key impediments to the growth of the venture capital / startup ecosystem in Brazil.

The Global Proliferation of Startup Ecosystems

Before diving into the meat of my analysis, it’s worth taking a look at the global ranking of startup ecosystems conducted by The Startup Genome Project. They’ve done an excellent job of breaking down what defines an ecosystem, the factors that condition their strength or weakness, and the variables that mediate their growth prospects. The report also describes the rapid emergence of dynamic new ecosystems across the world, stating that:

“While nearly all high growth technology startups have historically emerged from no more than 3-4 startup ecosystems, namely
Silicon Valley and Boston, this trend appears to have reached its end. Simultaneous with a global explosion of entrepreneurship
has been an explosion in the rise of new startup ecosystems around the world, and a new found maturity in others.“

I love this quote because I believe it captures the essence of a fundamental shift in how we conceptualize venture formation and venture investing globally. Silicon Valley will always remain a juggernaut in the world of startups / venture, but truly prescient entrepreneurs and investors are beginning to look outside the Palo Alto bubble for unique and compelling opportunities that present the possibility of truly outstanding returns. I believe São Paulo (which is currently 13th in the global ranking) is on its way towards becoming a powerhouse ecosystem. But in order to genuinely achieve a world-leading position as a catalyst for innovation and company creation, a few things need to happen. And that is what this post is about.

Exits, or “Can I get an Instagram Please”

We haven’t seen too many big exits in Brazil. Exits – whether through IPO, financial sponsor purchase, or strategic acquisition – are the lifeblood of an ecosystem; they are the combustible that fuels the fire of the industry. Exits generate the financial returns that LPs and GPs seek, and (in most cases) they represent the ultimate realization a founder’s entrepreneurial dream.  Perhaps most importantly, exits provide the economic justification for the existence of venture capital and the startups capitalized by it.

While a few prominent exits mark the history of the Brazilian VC / startup world – such as the 2009 purchase of Buscapé by Naspers for USD $342M – such success stories are few and far between. Brazil needs more and larger exits to demonstrate to the global VC community that it can deliver VC-like returns, and to prove to domestically-inclined funds that venturing beyond US borders can yield positive, black swan-style outcomes.

Imagine the impact of an Instragram-esque exit in Brazil? There’s something about a 312x return that gets people fired up… An exit of that magnitude would attract additional capital and talent, inspire new generations of young people to build companies, and generally grow and enhance the ecosystem. Can Brazil deliver a mega-exit? While I don’t see anything on the horizon, I’m long-term optimistic (for reasons that I’ll go into in another post).

More acquisitive Strategics

We need Brazilian companies to become more acquisitive. This point is closely linked to my commentary above regarding the importance of exits. One of the great things about the San Francisco ecosystem is its abundance of big, cash-rich tech companies who buy startups as a means of catalyzing innovation, obtaining top talent, and acquiring new technologies. Intel, Google, Apple, Cisco, IBM, Oracle, Microsoft, Amazon…. The list goes on and on.

While it’s unlikely that Brazil will ever come to possess such a powerful panoply of acquisitive tech titans, I do believe that some of Brazil’s existing tech / media companies will become more positively disposed towards startups in the future. Ecommerce companies like Nova Pontocom and B2W could snap up smaller, vertical-specific ecommerce startups in an effort to gain a strong foothold in a particular product segment. Media conglomerates like Abril already recognize the importance of digital media, and may use startup acquisitions as a means of accelerating their transition to a digital world. Finally, it’s quite possible (in fact, likely) that cross-border startup acquisitions will pave the way for established US companies to enter foreign markets. Could Zappos (Amazon) buy Dafiti? It’s not beyond the realm of possibility…

The Halo Effect

Check out my snazzy powerpoint graphic below. Can you see the positive feedback loop, the self-reinforcing cycle? I like to call this “The Halo Effect,” a not-so-subtle reference to the fact that – in Silicon Valley –successful entrepreneurs become highly active angels, seeding future ventures and thereby creating a virtuous circle forged of capital and mentorship. This is another reason why Silicon Valley really is the “fertile crescent” of the startup world, why it’s given birth to so many outstanding, world-changing companies. Accomplished entrepreneurs in Silicon Valley give back in the form of money and expertise, and this tradition of “closing the loop” has helped create an explosion of ongoing innovation and company creation that shows no signs of abating. It’s a cycle that feeds on itself and grows stronger over time. Awesome!

We need this in Brazil. We need more successful entrepreneurs to redeploy the proceeds of their exits into new ventures and new entrepreneurs. You see some examples of this – Hernan Kazeh and Nicolas Szekasy (Mercado Libre), Romero Rodrigues (Buscapé), Florian Otto and Felix Scheuffelen (Groupon Brazil), Kai Schoppen (BrandsClub) – but not nearly enough (and too few of these guys are actually Brazilian!). My hope is that the positive feedback loop that has helped created such a rich entrepreneurial ecosystem in Silicon Valley will begin to take hold in Brazil. I think it will – it’s just a matter of time (and more exits!!!).

That’s it from me for now. As always, I welcome your comments and feedback, and I encourage you to check back often. Até mais!!

In my last post, I outlined how the world of B2B startups has evolved in Brazil over the past few years from a more theoretical perspective. In this post, I will provide a more tangible view of what “dark pool” markets in Brazil look like, and identify some of the top B2B startups that are disrupting them.

The companies listed below represent the “creme de la creme” of the Brazilian B2B  startup world. I have met and engaged with the founders of each of these companies, and I would personally bet money on all of them. Why? Because the Founders have (1) Vision (they have charted a path to the creation of something massive); (2) Magnetism (they have the charisma, poise, and presence to attract top talent and intelligent capital); (3) and Drive (they possess an unrelenting, irrepressible determination to achieve success no matter what). The icing on the cake when it comes to each of these companies is that they’ve made the wise choice of focusing on dark pool markets that are large, ripe for tech-driven disruption, and unlikely to attract the attention of predators like Rocket Internet.

Without further ado, the four Brazilian B2B startups that I would personally invest in (in no particular order):

Printi: Florian Hagenbuch and Mate Pencz are inarguably two of the smartest guys in the Brazilian startup scene. They did a masterful job lining up a $1.2M seed round amidst an increasingly challenging capital raising environment. What I really love about this business, however, is the market it targets: the sleepy, old-school backwater that is the Brazilian printing industry. This is a textbook dark pool market, so unsexy and complex that few have ventured to disrupt it over the years. These market attributes – which might scare off your typical entrepreneur – are exactly what attracted Florian and Mate to the idea. They saw in the unsexiness of the market an opportunity to operate relatively competition-free, leveraging technology to slowly but surely take a bigger and bigger share of this massive market. I interviewed Florian and Mate for the Wharton Journal – check it out to learn more about their highly compelling business model.

Emprego Ligado: This is a 500 Startups-backed B2B startup focused on leveraging SMS technology to connect blue collar job seekers with prospective employers. I know cofounders Jake Rosenbloom and Derek Fears quite well, and they are rock stars (don’t know the third co-founder, Nathan Dee, but if Jake and Derek are any indication, he’s a machine as well). They have vision, they have execution, they have scrappiness and resolve. They were one of the first teams to understand that designing solutions for home-grown dark pool markets – as opposed to simply tropicalizing foreign business models – is a great way to achieve the kind of outcomes VCs look for. In the words of Jake, “the companies that will become truly sustainable in Brazil will be those that are designed specifically (not just localized) for the Brazilian marketplace.”

4Vets: I freaking love this business model. Classic case of targeting a dark pool market that’s gone unnoticed by everyone else. Bernardo Arrospide and Benjamin Lewis came to Brazil and discovered that the way in which pet stores, veterinary hospitals, and animal clinics procure products is antiquated and obsolete. It’s all done offline, which involves lots of phone calls, time-consuming trips to regional distributors, costly delays, time and money wasted. Why not offer a one-stop online shop for these businesses to obtain what they need to run their day-to-day operations from the comfort of their offices? This is what these razor-sharp Wharton entrepreneurs are doing. They’ve already signed exclusive distribution contracts with a few US companies to bring never-before-seen pet products to Brazil, and they just won first place out of more than 500 applicants in the LatAm startup challenge. This one is a no-brainer, I’d definitely invest if I had spare funds!

Itaro: These guys get it. They’ve gone after a super-unsexy, super-large market, built an impressive team with a deep bench of entrepreneurial talent, and lined-up a strong roster of investors anchored by Brazil’s vaunted angel investing duo, Kai Schoppen and Florian Otto. Itaro sells “tudo para seu carro” (everything for your car). At the moment, tires comprise the bulk of sales, but the longer term vision is to become the dominant provider of car products & parts to the massive number of mechanics and car repair shops across the country. I met with the founding team recently (led by Jan Riehle) and was blown away by their execution capability and the depth of their market knowledge. Another company I’d love to put money into.

That’s it for now. Haven’t decided what my next post will address, but I promise you it will be interesting and relevant… so stay tuned.

I’m back at the Startup Mansion here in Sao Paulo today (correction: I was at the Mansion when I began writing this post; now I’m back at the Wharton School in Philadelphia). As you can see, the “Luigi” mural that is being painted in the main work area is nearing completion… pretty cool, pretty edgy. I wonder if the guy who is painting the mural is being compensated in equity by one of the startups here. Reminds me of the guy who made a fortune after taking equity in exchange for designing and painting the murals at FB headquarters…

This week has been insane – since I broke the news about Rocket Internet gearing up for an IPO this past Saturday, I’ve been flooded with inquiries about the implications of the potential event. I’ve also been busy meeting with lots interesting entrepreneurs, VCs, and eCommerce professionals who are actively shaping the future of the Brazilian startup ecosystem – and the Brazilian economy more broadly. Absolutely fascinating. I love this stuff!

I promised in my very first post to address the topic of B2B in Brazil. So here we go. I begin with an analysis of the macroeconomic dynamics that led VCs to heavily “overweight” B2C businesses in their portfolios. I then discuss the major driver of the shift in attention towards B2B (and away from B2C). Finally, I identify four B2B startups that I would personally invest in.

The underpinnings of the B2C frenzy

Let’s begin with a quick overview of how trends in VC investing in Brazil have evolved over the past year two years. I discuss this in a prior analysis, but it’s worth touching upon once more in the context of this post. Back in 2011, B2C businesses were all the rage, with investors clamoring to get into a number of sexy, consumer-facing deals. Peixe Urbano, Baby.com.br, Olook, Shoes4you, Oppa, Belezanaweb, Petlove, Elo7, Hotel Urbano… All of these B2C startups raised capital – usually at very favorable valuations – from top-flight US and Brazilian investors including Tiger Global, Redpoint, Accel, Kaszek, and Monashees, among others. Check out the comprehensive list of who got funded by whom here.

At the time, investing in consumer-facing companies made lots of sense. Brazilian GDP growth was on fire, posting a 7.5% increase in 2010. This growth was in large part consumer-driven: the government pushed banks to expand consumer credit, making it easier for lower income consumers to finance purchases of cars, domestic appliances, and other consumer goods. Equally as important were government programs designed to usher previously marginalized segments of society into the consumer economy. Programs like Bolsa Familia and Minha Casa, Minha Vida helped push millions above the poverty line. More specifically, between 2005 and 2011, a staggering 40.3M Brazilians rose from classes D and E (comprised of those individuals below the poverty line, with little-to-no consumptive power) to class C (middle class). In 2011, for the first time in Brazilian history, the middle class represented the majority of the population (54%). This sea-change in the socioeconomic composition of Brazilian society resulted in a dramatic increase in consumption across the economy, making consumer-facing startups look like worthy bets for VCs.

And bet they did. As described above, VCs piled into investments that tapped into the theme of “the rise of the Brazilian middle class.” I would argue that VCs became overlevered to this theme, and that – like any rational investor – they are now looking to diversify away some risk by moving away from B2C.

To be clear, it’s not that the Brazilian consumer today is struggling – far from it. The Class C consumer group in particular remains an important driver of Brazil’s economic growth. But just like an overeager child who eats too much ice cream too quickly, too much consumer exposure across the portfolio can give a VC a real headache (especially when a consumer-play goes sour). Hence the rise of B2B, both as a diversification tool, and as a smart way to tap into big, hugely inefficient markets where few others are playing.

Disrupting the dark pools

The need to move away from plain-vanilla consumer plays and into businesses that tap existing but as-of-yet undisrupted markets is one of the biggest drivers of VC’s rising interest in B2B business models in Brazil.

“Dark pools.” You usually hear this term in financial circles, where it is used to describe trading networks that are opaque, obscure, and hidden from the public eye. But the term is also well-suited to describe a market phenomenon found within the world of startups. In startup land, “dark pools” are markets that are large, unsexy, obscure, and poorly understood. Markets that represent massive business opportunities, but that most people don’t bother to look at; markets that remain antiquated and undisrupted long after the low-hanging fruit within the B2C space has been picked; markets that won’t attract the likes of Rocket Internet. Dark pool markets can most often be found within the B2B arena, because this is the domain of the non-obvious.

Identifying these dark pools of unexploited market opportunity requires a willingness to think outside the box about difficult problems faced by everyday businesses (not consumers). These opportunities are by definition less well understood and less obvious. It’s easy and natural to come up with B2C ideas, because as buyers of everyday goods and services, we intimately understand consumer problems and can thus more easily conceive of the B2C business ideas that would solve them. The B2B opportunities often escape us because they exist behind the scenes, at a level removed from our day-to-day consumptive activities. But they do exist. In fact, they are plentiful. And those savvy enough to identify and exploit them will reap big rewards down the line.

Four Brazilian B2B startups that I would invest in

The best way for me to paint a compelling panorama of this hidden landscape is to talk about some of the startups who are disrupting dark pool B2B markets in Brazil at this very moment. I have met and engaged with the founders of each of these companies, and I would personally bet money on all of them. Why? Because the Founders have (1) Vision (they have charted a path to the creation of something massive); (2) Magnetism (they have the charisma, poise, and presence to attract top talent and intelligent capital); (3) and Drive (they possess an unrelenting, irrepressible determination to achieve success no matter what). The icing on the cake when it comes to each of these companies is that they’ve made the wise choice of focusing on dark pool markets that are large, ripe for tech-driven disruption, and unlikely to attract the attention of predators like Rocket Internet.

So which companies would I invest in? You’ll have to check back on Tuesday to find out

Até a próxima gente!

Footnote: The “Vision, Magnetism, Drive” framework for identifying investment-worthy founding teams is an adaptation of a framework I learned about in Professor David Bell’s class on Digital Commerce at Wharton. Professor Bell in turn learned about the framework from Kirsten Green, Managing Partner at Forerunner Ventures, who uses it to help evaluate investment opportunities at her fund.

Yesterday, Sarah Lacy of Pando Daily responded to my post on Rocket Internet’s IPO preparations in a typically Silicon Valley-centric report which fails to grasp the international implications of a potential public offering by the Samwer brothers. While I respect her track record as an astute observer of tech trends, I fundamentally disagree with some of her assertions. In this post, I explain why.

(1)    Lacy says that the news of a potential Rocket IPO is not a big deal, that no one in the startup world will care. WRONG. The startup universe does not revolve entirely around Silicon Valley. Yes, Silicon Valley is far and away the most important and dynamic startub hub on the planet. It is without a doubt where the overwhelming majority of VC returns come from. But there are other fast-growing startup ecosystems all over the globe, full of intrepid entrepreneurs trying to build and scale new businesses in new markets. And there are lots of emerging market VCs who have put significant capital into ventures that may be threatened by an increasingly well-capitalized army of Rocket clones. I can assure you that for all of these individuals, a several hundred million dollar public offering by Rocket would be a very big deal. I won’t belabor the point here, as I’ve elaborated upon it in a prior post. But from my seat here in Sao Paulo – and from my recent conversations with emerging market entrepreneurs in markets such as Indonesia and Nigeria – this is undoubtedly big news. Ironically, I think Lacy knows as much herself, although she would be loath to admit it. Why else would she dignify my “effusive” reporting with a post of her own?

(2)    Lacy says Silicon Valley investors would never invest in those who steal “color palates, names, and code.” Really? Why is New Enterprise Associates an investor in Payleven, the Rocket-backed Square clone? Why is Summit Partners an investor in Lazada, Rocket’s Asian Amazon clone? Lacy’s assertion that Silicon Valley is too proud to put money into clones seems off base in light of the facts.

(3)    Lacy says that entrepreneurs in the Valley no longer pay much heed to the machinations of Rocket. I’m not so sure about that. If I were Stripe, for example, I would probably be paying attention to Rocket’s moves. As David Meyer of GigaOM points out, Stripe is available in the U.S. and Canada. Paymill, Rocket’s Stripe clone which launched a mere five months ago and just raised $13M from Holtzbrinck and Sunstone, is available across 34 countries in Europe and elsewhere. I find it hard to believe that a Rocket IPO – if it were to include Paymill – would not hold major repercussions for Stripe and its investors. Especially given Stripe’s intentions to expand internationally.

The Birchbox / Glossybox battle serves as another example of how US startups and their backers are almost certainly keeping a wary eye on Rocket. Glossybox is Rocket’s Birchbox clone. Despite being launched well after Birchbox, Glossybox is now live in 16 countries, versus Birchbox’s 4. In terms of capital raised, Glossybox recently announced 55M Euros in total funding, versus only $11.9M to date for Birchbox. I’m quite sure Katia Beauchamp (who I interviewed previously here) and her investors thus find Rocket Internet more than a little irritating. I’m not saying Glossybox will ultimately take home the grand prize – and moving more slowly on the international front is probably a deliberate strategic move for Birchbox – but I’m sure they would regard the news of a Rocket IPO as a material event as it pertains to their competitive landscape.

(4)    Lacy seems to imply that Rocket provides “angel money” to new ventures in emerging markets. This isn’t really accurate. Perhaps I’m being a bit nitpicky here, but I want to make sure everyone understands the reality of the situation. To be clear: Angel rounds are usually about $300,000 to $400,000 in size, and are funded by Angels. Rocket generally gives its startup “founders” $10M or more to launch a new entity, and the money doesn’t come from Angels, it comes from Rocket and Rocket’s investors. These are institutional entities, not angels.

Yes, as Lacy points out, there isn’t much mentorship or credibility attached to this capital. That’s because Rocket isn’t looking to nurture a relationship with a talented entrepreneur who came to them with a disruptive idea. A traditional entrepreneur dependent on VC capital to fuel growth would demand these things from investors. But Rocket doesn’t really work with individuals of this ilk. Rather, Rocket recruits bright but generally risk-averse former bankers and consultants and tells them to execute on a business model according a defined strategy that comes from Germany. They don’t need to offer mentorship or credibility to recruit these folks.

That’s all for now. Felt compelled to set the record straight. As I alwasy, I welcome your comments and feedback. Check back soon.

A short while ago, I broke the news that Rocket is preparing to go public. I received the information from credible sources that are close to the company. The news is not surprising, but it holds dramatic implications for the international startup scene. Here is my initial analysis of the impact this event will have on the tech world:

• Likelihood of long-term success dramatically increased. Rocket is building an empire of emerging market Amazon and Zappos clones. These companies absolutely devour money as they ramp up to reach that coveted $1B USD revenue threshold. If you’re ever read “Delivering Happiness” – the book about the Zappos story – you’ll know what I’m talking about. I believe that this capital raise consolidates Rocket’s position as a global internet behemoth and dramatically increases the likelihood that they will be a major player on the international startup / eCommerce scene for a long time to come. In short, if the raise happens, they will be relatively comfortably positioned to endure the brutal  multi-year period of negative cash flows that their portfolio companies must go through before reaching maturity.
• A pause in the proliferation of new Rocket clones. Not sure about this, but a close friend suggested that this news may herald the beginning of a consolidation phase for Rocket. Over the past year, they’ve been launching clones across the globe in a frenzy of copycat activity. But with this raise, Rocket may decide to hold off on the formation of new ventures and instead decide to focus on nurturing existing firms until they become self-sustaining. As I mentioned above, achieving this is a very expensive proposition. Hence the capital raise.
• Competitors have serious reason to worry. I’ve alluded to this in a previous post. Rocket Internet is an execution machine, and they take no prisoners. Firms going head-to-head with Rocket in the hopes of dominating big emerging market verticals will have a rough road ahead. Thankfully, most eCommerce markets are not truly “winner-takes-all”, so more than one player can operate profitably. But this will definitely make life more difficult for those competing with Rocket clones.
• Those who haven’t bought into the Rocket model will be forced to take a serious look at it. It’s an ugly model that attracts significant criticism, and the long-term fate of Rocket – even if the raise happens – will remain the subject of debate. But if this event occurs, lots of people will take a closer look at this business model. Because it appears to be making lots of people lots of money. At least on paper.
• Big Payday for the Samwers and their investors.  Following up on my prior point, these guys have already done quite well financially, particularly in the wake of the acquisition of Citydeal by Groupon. But this capital raise will significantly increase the paper wealth of the Samwers and the investors who put money into the Rocket Internet holding company.
• Validation. I can literally visualize the smile on Oli’s face if this deal goes through. He doesn’t seem to care too much about all the negative press he and his company get. But I’m also sure he doesn’t appreciate the individuals who consider him nothing but an imitator, a hack. This capital raise will put an imprimatur of validity / credibility on Rocket Internet, and give serious pause to those who would love to see him fail. He’s already a very credible force to be reckoned with, especially in the wake of all the capital JP Morgan has put into portfolio companies, but this very well may be the nail in the coffin for Rocket haters. Schadenfreude will have to be put on hold.

That’s it for now. If you think I’ve missed something in the post above, please do let me know by commenting.  I will follow-up with more information on this event as it becomes available to me. Check back soon, and have a great weekend!

ROCKET INTERNET IS PREPARING TO GO PUBLIC. I am officially going on the record as the first individual to break this news. According to credible sources that are close to the company, the clone factory led by the infamous Samwer brothers is preparing to raise capital in a public offering. This is a mega-event that will send shock waves throughout the startup world. It is not very surprising, and others have commented on this possibility before. But it certainly holds significant implications for venture capital firms, startups, and entrepreneurship ecosystems the world over. In a follow-up post, I will provide an initial analysis of what this news heralds for the developed as well as emerging market tech worlds. But here is what I know at the moment:

• JP Morgan is the favorite to lead the deal as Advisor to Rocket Internet. This makes sense given JP’s track record as a capital provider to Rocket’s clone portfolio.
• Ernst & Young will serve as auditor for most of the LatAm ventures.
• PWC will serve as auditor for the Brazilian entities (Dafiti foremost amongst them)
• No word yet as to who will audit the Southeast Asian startups
• No information as to the size of the raise, although it is likely to be in the hundreds of millions of dollars
• Pricing not likely to occur for some time

Make no mistake. This is a big deal. Big payday for the Samwers. Seismic shift in the way we think about venture formation in emerging markets. Even bigger threat for developed-world startup founders. Massive credibility boost for the company belittled as a soulless imitators of other’s genuine innovation. I will follow up shortly with additional thoughts and perspectives, so stay tuned!