This article first appeared in Personal Wealth, The Edge Malaysia Weekly on November 11, 2019 - November 17, 2019

The last few years have seen Southeast Asia become a major focal point for private investment dollars. With the region’s 600 million-strong population and fast-growing middle class, its consumer market is the latest battleground for businesses looking to grow. Investment dollars have poured into the region, seeking large unicorns and even larger returns.

Looking ahead, Southeast Asia’s growing influence as a consumer market will give rise to a slew of technology-focused companies, many of which have the potential to hit billion-dollar status. In fact, Singapore-based private equity firm Asia Partner’s proprietary models suggest that the region’s tech ecosystem will see the emergence of many unicorns in the next 10 years.

“We are tremendously optimistic that there will be 20 more billion-dollar companies in the region over the next decade. Our projections mirror the findings of Bain & Co, which forecasts that 10 such companies will emerge over the next five years,” says the firm’s co-founder Nick Nash.

In fact, he and co-founder Oliver Rippel see China’s all-conquering consumer market (and the tech giants that have risen as a result) as a compelling proxy for the investment thesis that they are running in Southeast Asia. The firm focuses on growth equity in the region’s technology space.

To this end, the co-founders are bullish on tech-focused marketplace businesses that cater for Southeast Asia’s burgeoning consumer base. “We look at e-commerce businesses in the travel vertical. We also look at online car and real estate classifieds. We have seen a lot of offerings pop up in Southeast Asia for cars and even motorcycles, for example. Other than that, online education, healthcare technology and financial technology are all verticals that we look at,” says Nash.

Technology and business have become so intertwined in the last decade that the strict business-to-business (B2B) or business-to-consumer (B2C) delineations do not always apply to this new generation of tech companies such as online marketplaces.

Rippel explains, “We live in a world where the lines between these old descriptors [B2B and B2C models] are blurring. The very definition of the new marketplace business is that it links a broad group of suppliers with a broad group of consumers. In fact, these marketplaces serve both end-users and businesses that ultimately want to reach the consumer.”

The duo believe that their investment thesis is sound as their research has tracked compelling similarities between the evolutionary phases of the Chinese technology landscape and that of Southeast Asia’s. Evolving right alongside China’s technology is the country’s one billion-plus population. As it becomes more prosperous, its consumers will become an increasingly attractive market to sell to. Over the last 10 years or so, a number of Chinese billion-dollar tech giants have emerged to serve this population.

Rippel says China’s consumer market took its economy through four distinct evolutionary phases and that Southeast Asia is mirroring that evolution. “Looking back at the last two decades, China went through four distinct phases before it became the thriving technology ecosystem that it is today.”

The first of these phases was the development and widespread adoption of telecommunications infrastructure, or what he refers to as basic plumbing of the tech world. Next, came the so-called Internet 1.0, which saw the emergence of very large, mainly horizontal, consumer-driven e-commerce platforms.

“These broad-based e-commerce platforms covered everything from fashion to electronics. Examples include Amazon.com, eBay, Alibaba Group Holding and JD.com,” says Rippel.

Later on, within the e-commerce space, there was a shift away from the broad-based selling platforms, says Nash. As that generalist e-commerce space began to saturate, businesses evolved to develop e-commerce niches of their own.

“We started to see the emergence of specialised e-commerce platforms catering for just one particular segment. For example, fashion platforms have become very popular. Their interfaces are specifically catered to optimise the fashion shopping experience. In addition, these platforms go very deeply into the unique fashion supply chain for the benefit of fashion merchants,” he says.

This was the third evolutionary phase and one that China moved out of in the last few years.

According to Nash, China is currently in the fourth evolutionary phase. “We commonly refer to it as the online-to-offline (O2O) model. We are starting to see the emergence of omni-channel platforms that cover both the online and offline realms,” he says.

Last year, Chinese tech giant Alibaba opened a slew of supermarkets that use the O2O model. Founded in 2015, Hema has opened 150 stores across 21 cities in China, according to a June news report by Caixin.

It is possible for customers to purchase raw produce, have it delivered to on-site kitchen staff for cooking and then have the food ready for them at a designated dining area. The entire series of transactions take place via Alibaba’s payment app.

Nash says the pattern of initial public offerings (IPOs) by Chinese companies, broken down by sector, between 1995 and 2019 corresponds quite precisely to these four stages of industry evolution. “I would suggest that China is 11 years ahead of Southeast Asia in terms of affluence [based on per capita GDP]. Combining these ideas, it will not be surprising if Southeast Asia’s technology ecosystem is about 11 years behind that of China, as measured by the timeline of the IPOs.”

Successful exits

The two co-founders have unique credentials when it comes to identifying and building multibillion-dollar tech companies. Prior to joining forces, Nash and Rippel oversaw two successful exits in Asia ex-China — the 2017 New York Stock Exchange IPO of Southeast Asian technology giant Sea Ltd and the 2018 Walmart Inc acquisition of Indian e-commerce giant Flipkart respectively.

Nash joined Sea (formerly known as Garena) from one of the company’s earlier investors, General Atlantic, in 2014. Singapore-based Sea is a diversified Southeast Asian tech company that owns and manages online gaming platform Garena, e-commerce player Shopee and e-wallet provider AirPay.

Nash was appointed group president of Sea and he led the company to its listing on the New York Stock Exchange in October 2017. The IPO, which raised US$884 million, remains the largest ever for a Southeast Asian internet company. It had achieved an internal rate of return (IRR) of 67.7% as at end-July. Year to date, the stock is up nearly 177%.

An Asian-American, Nash moved to Singapore in 2011 to work with US investment firm General Atlantic. As principal and head of Southeast Asia, he opened and led its Singapore operations that year. “After making our first investment in the company that is now Sea, I ‘retired’ from General Atlantic and joined Sea as group president.”

Nash co-led the business alongside Sea founder and group CEO Forrest Li, overseeing the company’s region-wide expansion, the launch of Shopee and the eventual IPO. “I was intimately involved in leading the IPO journey which, very happily, turned out to be a major success for investors. We went public at US$15. The stock is now trading in excess of US$29.”

The counter was trading at US30.55 on Nov 6.

Rippel is a veteran of the Asian B2C investment space. Prior to co-founding Asia Partners, he was CEO of B2C e-commerce at Naspers, a large South Africa-based global technology investor. “Naspers is notable for being the largest shareholder (32%) of Chinese tech giant Tencent Holdings Ltd,” he tells Personal Wealth.

While at Naspers, Rippel was one of the early investors of Indian e-commerce giant Flipkart. He initiated the investment, served on its board and then brokered the eventual sale to US retail giant Walmart Inc at a massive US$21 billion valuation. The sale garnered a return on capital of 3.6 times, resulting in a net gain of US$1.6 billion for Naspers, on the back of an initial investment of US$600 million. “The Flipkart exit got Naspers an estimated IRR of 29%,” he says.

Rippel also spent almost nine years with eBay in various regional leadership positions.

Nash and Rippel have known each other since 2011 as they both came to Singapore around that time. In fact, they were already acquainted because Naspers was an indirect shareholder of Sea (Naspers is a major shareholder of Tencent which, in turn, is a major shareholder of Sea). “We have exchanged thoughts on consumer technology in emerging markets and Southeast Asia for a long time,” says Rippel.

Fresh off their highly successful exits, Nash and Rippel did what they saw as the natural progression for themselves — joining forces and setting up Asia Partners with three other friends; a Thai, an Indonesian and a Vietnamese.

Travel theme a strong pull

Perhaps unsurprisingly, Asia Partners’ maiden investment is indicative of the co-founders’ belief in Southeast Asia’s influence as a consumer market. In mid-August, the firm led a Series C funding round for Singapore-based budget hotel booking company RedDoorz. According to its website, RedDoorz has more than 1,000 properties across Southeast Asia.

According to Crunchbase, the funding round netted RedDoorz US$70 million, although Asia Partners declined to specify the size of its investment. RedDoorz has raised US$134.4 million to date.

The start-up is a customised platform catering for budget travellers in Southeast Asia. “RedDoorz focuses on budget hotel offerings and provides a very specialised solution for travellers as well as property owners,” says Nash.

Incidentally, per the co-founders’ views on the emergence of more Southeast Asian unicorns, they believe RedDoorz is well on its way to billion-dollar status.

The budget travel sector is a multibillion-dollar market, with hundreds of thousands of budget hotels across the region, says Rippel. “This is currently a very fragmented marketplace. The one and two-star budget hotels are often managed directly by the property owner, who probably has one or two small properties. These hotels tend to have varying levels of quality and service and face the big issue of low occupancy rates. RedDoorz increases occupancy rates for hotel owners by helping them professionalise and standardise some of their offerings.”

But the company faces a number of potential challenges to its growth. It is competing against a SoftBank-backed unicorn in the budget travel sector. Known as OYO, the India-based company has branched out to a multitude of global locations in recent years. According to media reports citing 25-year-old founder and CEO Ritesh Agarwal, OYO operates in more than 80 markets globally and manages more than 1.2 million rooms. As at July, the company was valued at US$10 billion, according to TechCrunch.

Nash and Rippel remain confident in RedDoorz’ prospects for a number of reasons. Among others, the hospitality business is not a classic “winner takes all” kind of market. “The hotel business is a multiplayer and often, a multi-winner sort of market. Our research on this theme found that there were very few players operating in RedDoorz’ space. And yes, one of those companies is OYO,” says Nash.

He adds that they believe the business of online marketing and distribution of budget hotels is fundamentally a local, rather than global, business.

On a broader scale, their research led them to conclude that technology businesses fall into three core categories — the global network effect, unique local winners and the local network effect. It is a central tenet of their investment approach, one that they say is incredibly predictive.

Companies in the first category include Alphabet Inc’s Google, Facebook Inc, Amazon Web Services and Microsoft. Unique local winners include Chinese search engine giant Baidu. And the third category includes Alibaba, Grab, Gojek and RedDoorz. The vast majority of emerging market tech companies are concentrated in the third category.

The model, among others, explains why the likes of Grab and Gojek outcompeted Uber in Southeast Asia, despite the latter raising much more capital globally. Uber, itself a beneficiary of the local network effect, albeit in its home region of the US and other Western markets, entered Southeast Asia without an appreciation for various hyperlocal customs.

For example, Gojek ran ahead of Uber in Indonesia because the former understood the latent demand for motorcycle riders to ferry passengers around. Gojek brought these services to market much earlier than Uber.

As for Malaysia’s Grab, it understood very quickly how Malaysians preferred to pay cash and thus, provided that as a payment option. Uber only followed suit much later during its short lifespan in the country.

Simply put, these locally founded companies had a better understanding of their immediate surroundings than other, much bigger and well-funded global rivals. That is why Nash and Rippel believe RedDoorz is such a compelling investment prospect, even when compared with OYO.

Woe the unicorns?

The early successes of RedDoorz and OYO notwithstanding, 2019 has so far seen a number of high-profile failures and missteps by once seemingly imperious unicorns. The list of failed or struggling unicorns over the past five years is growing.

Ride-hailing giants such as Uber and Lyft have significantly underperformed their IPOs earlier this year. Both companies have had long standing questions on profitability and cash burn rates, even well before going public.

Going back a few years, US biotechnology start-up Theranos, helmed by its charismatic founder Elizabeth Holmes, promised to revolutionise the medical testing sector. The billions in investments the company received sensationally made Holmes the youngest and wealthiest self-made female billionaire in the US at one time, according to Forbes.

In 2015, a Wall Street Journal exposé revealed serious allegations of fraud, with employee complaints revealing that the company’s supposedly breakthrough blood testing machines were inaccurate and not fit for purpose. The allegations sent Theranos into a tailspin, culminating in its closure last year.

Regulators filed fraud charges against Holmes and her former chief operating officer Ramesh “Sunny” Balwani. At the time of writing, the two are fighting the criminal charges in a US court.

The latest multibillion-dollar implosion is that of co-working start-up WeWork. Another company backed by the billions of SoftBank, WeWork saw a high-profile crumbling of its much-anticipated IPO, initially set for the second half of this year. Since then, founder Adam Neumann has been removed as CEO amid allegations that the company was vastly overvalued.

Last month, The Wall Street Journal reported that SoftBank had agreed to take a majority stake in the ailing start-up. As part of the agreement, Neumann walked away with a payout of nearly US$1.7 billion in exchange for agreeing to cut ties with the company he founded. The deal values WeWork at just US$8 billion, giving SoftBank a roughly 80% stake in the company. Just a few months ago, WeWork was valued at US$47 billion.

The growing list of failures has brought into sharp focus the detrimental impact on investors. Should high-net-worth individuals, limited partners and even public markets have an appetite for technology companies with opaque business models and a long-standing track record of heavy losses?

Nash and Rippel hasten to distance their portfolio company from recent technology struggles. “While it is difficult to comment on some recent tech IPOs as we were not investors in those companies, we observe that ultimately, investing in innovation requires a long-term horizon. We also note that the larger driver of venture capital investments and IPO appetite tends to be the broader, macro-IPO cycle [which occurs in waves and is loosely correlated to economic cycles], rather than the performance of any one or two particular companies,” says Nash.

They also note that RedDoorz founder Amit Saberwal runs a very lean operation and is careful to avoid the excesses associated with founders who have come into millions of investment dollars. Instead, they point to the outperformance of a slew of global tech IPOs over a 10-year period (July 2009 to July 2019). When ranked by aftermarket IRR, investors who bought into a slew of now-household technology IPOs and held the stocks until the present day would have been handsomely rewarded.

Between the respective IPO dates and July this year, investors would have seen returns of between 101.9% and 14.3% had they invested in any of the top 20 IPOs during the time frame in question. The proprietary ranking includes Facebook, HR solutions giant Ceridian HCM Holding Inc and Sea.

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