Latin America the 2020's Digital Revolution
Something big is happening in Latin America. Regional entrepreneurs are demonstrating an impressive ability to fill market gaps, deploy new business models at scale, and the grit required to launch successful ventures in the region. These visionaries are transforming millions of lives for the better, transitioning an entire region from analogue to digital, generating jobs at scale, and delivering massive value for their shareholders. During the past decade startup values multiplied 32 times from an estimated $7 billion in 2010 to $221 billion in 2020(i). Most of the growth took place in the past four years. Foreign institutional investors lured by lower entry points and potential for attractive risk-adjusted returns are now investing alongside regional experts during the early innings of this transformation. While funding round sizes and valuations have increased it has been concentrated in terms of countries and sectors. We believe this is changing rapidly presenting compelling investment opportunities beyond only the three largest geographies and industries. Ten-fold growth across tech-enabled industries is possible providing Integra investors with the opportunity to access differentiated return streams, exceptional entry points and portfolio diversification as Latin America plays catch-up with the American and Asian gig economies.
In 2020, Latin America’s burgeoning tech industry struck a record number of venture capital deals as some of the region’s most-valuable startups saw their businesses blossom despite — and in some cases due to — the pandemic. Investors inked 488 deals with entrepreneurs, topping the previous mark set in 2018, according to the Latin American Private Equity & Venture Capital Association (LAVCA). The startup revolution had legs well before digital solutions became essential however the closures and lockdowns of COVID-19 accelerated the early stages of this evolution.
Source: LAVCA Industry Data, Bloomberg
This momentum has held strongly into 2021: as of March, the region has seen nearly $1.3 billion in equity funding year-to-date. Top deals include a $400 million Series G to challenger bank Nubank in January and a $205 million Series F to express delivery service Loggi in March both in Brazil while startup funding in Mexico continues to accelerates emphasized by Mexico-based Justo raising the largest Series A ever for Latin America at $65 million. Most recently, in mid-April, Mexican startup Kavak has raised US$485 million in a new round of fundraising, increasing its valuation to a staggering $4 billion.
This is significant as it marks a tipping point for Spanish-speaking Latin America. These are just a few examples of Latin Americans filling market gaps and creating products and services that better serves both consumers and suppliers by leveraging technology and business models working in other geographies.
Throughout Latin America leading tech-enabled startups, sometimes referred to as “tecnolatinas”, exhibit compelling venture investment characteristics in addition to distinct potential for impact. This is mainly a result of their potential scalability and capacity to ignite and consolidate entrepreneurial innovation ecosystems across the region. The movement while relatively nascent has a solid foundation backed by exceptionally talented entrepreneurs. These disruptors are rapidly transforming Latin America often doing so with purpose creating more sustainable and resilient opportunities for people across the region.
It is not only the tech enabled “tecnolatinas” but also the privately held middle market companies, or “zebras”, that exemplified agility throughout the pandemic. We want to identify these resilient firms that flexed “founder/entrepreneurial” might during COVID-19 digging deeply to pivot, reinvent and exceed client expectations. These are companies with resilient, future-ready business models positioned to ride secular trends and pull away from industry peers. They also tend to be firmly anchored in their communities. We believe these zebras, established companies familiar with the grit, endurance, innovation and resilience necessary to thrive in Latin America, remain well worth investor’s attention. Zebras demonstrate that founders are not only behind successful startups but also the successful middle market companies that will play a vital role in igniting the middle market throughout Latin America. This is especially important as these zebras become tech-enabled unlocking synergies between established and disruptive firms.
Source: LAVCA Industry Data
In a region where secular trends are favorable for digital natives, we also recognize the disruptive characteristics of digital transformation. We believe diversification between the tech-enabled growth companies and the zebras has the potential to bring resilience to investment portfolios. In addition to diversification such portfolio construction also has the potential to unlock unrealized value through integrating synergies between the high-growth and the established firms.
Source: Surfing Tsunamis, LAVCA, IMF, World Bank, KPMG, IVC
Integra is deeply rooted in Latin America's booming Venture Capital scene
How can Integra Groupe help you gain exposure?
Our Investors are seeking differentiated deal flow with venture capital returns with quantifiable impact. As locals, we are investing in visionary entrepreneurs, providing resources to scale big dreams and solving hard problems. We accomplish this by challenging traditional ways of doing things bringing together ideas, people and possibilities to accelerate value creation. We are constantly looking beyond GDP by investing in founders that are redefining entire industries and creating new economic opportunities for millions of people.
By providing solutions beyond sectors Integra embraces the convergence of multiple industries and their potential to accelerate the circular economy. By looking at the investment universe through an outcomes-based lens we are able to approach the venture ecosystem in a manner which optimizes the opportunity set. The current stage and overall size of the regional VC ecosystem encourages such a generalist approach guided by impactful outcomes.
Our team is creating better outcomes with an investment philosophy deeply rooted in traditional financial analysis with an outcome focus: for inclusion, equality, development and transformation. For Integra, these investment outcomes drive our stakeholder stewardship and reinforce our vision for bringing dynamism and building a more resilient Latin America.
Integra Groupe Advantage
Tipping point for the digital economy
To quote Mastercard “in 2020 we digitized”. While the pandemic helped the region to accelerate greatly we are still in the early stages of a sizable transformation. The pandemic changed the way the world uses technology, catapulting many niche innovations into everyday use by people stuck at home under lockdown. Easy to use digital applications became a “must-have” versus a “nice-to-have” as they helped solve everyday challenges of lockdown in many cases improving upon incumbent offerings. The way the world and Latin America in particular pays is one of the most transformed habits of daily life accelerating change across banking, payments and e-commerce.
In Latin America 40 million people were banked for the first time during the five months after the pandemic(iii). Before COVID approximately 45% of Latin Americas made an online transaction. After the pandemic, that figure almost double to 83%. While credit was reported to be the payment method used most often online, it is followed closely by debit, which is projected to be the fastest growing payment method for e-commerce volume through 2023(iv). Digital payments on the platform of Mercado Pago, the finance arm of MercadoLibre, more than doubled in the second quarter, and its CEO sees China’s Alibaba and its huge payment affiliate, Ant Group, as a model to follow. MercadoLibre’s payments drive offers a tantalizing prospect of an e-commerce-to-digital-wallet ecosystem that could come to dominate in Latin America in the same way Alibaba and Ant are ubiquitous in the world’s No. 2 economy.
Before and especially as a result of the pandemic the ability of fast-growth companies to power through — and profit — remains somewhat undiminished. Latin America is home to over 650 million people, twice the population of the United States, with a younger demographic than most developed economies and a highly profitable, rapidly growing yet antiquated financial system dominated by a handful of local players.
When it comes to the venture ecosystem, the region has a five-year private capital penetration rate of only 0.18% compared to 1.86% in the United States. Still, private capital has had a meaningful effect on Latin American businesses, including social and/or environmental impact enterprises.
Some of the fastest growing and most influential companies across the region are backed by private capital investors, such as Prisma Medios de Pago in Argentina, XP Investimentos in Brazil, Rappi in Colombia, and Kavak in Mexico. In a region where access to bank lending is scarce, private capital has a vital role to play in providing businesses with long-term financing to address local consumer and industrial demand. This is also reflected in terms of technology as percentage of GDP when compared to other geographies. Despite technology sector market cap as % of GDP growing at an average YoY rate of 65% since 2003 it still totals just over 2% versus 39% in the United States and 27% in China according to 2019 statistics(v).
*Average tech market cap as a % of GDP between 4Q19 and 3Q20. Source: Capital IQ for market cap data (“Tech companies” definition excludes telecom), World Bank Open Data 2019 for GDP, Atlantico Analysis
After enduring dark times Latin America and the world are ready for a comeback. The pandemic has intensified existing trends and as citizens feel safer and inoculations continue consumers should return stimulating pent-up economic activity. The latest round of fiscal stimulus in the U.S., along with the vaccine rollouts across the world, are making economist broadly confident about the global economy this year as reflected in the April 2021 World Bank revised growth numbers. Following this crisis, like others before, we see transformation continues to accelerate as critical problems wait to be solved, more foreign capital flowing into Latin America and digital transition provides fertile ground for the gig economy to flourish. As the fastest growing digital region the rollout of 5G, IoT and smart infrastructure worldwide with only amplify this evolution. IT spending is projected to total $4.1 trillion in 2021, an increase of 8.4% from 2020(vi) from which LatAm will likely benefit.
Technology companies are displacing incumbents
Globally, particularly in the US and China, innovative technology companies are creating more value and taking leadership positions in terms of broad market rankings versus legacy businesses. Both retail and institutional investors are investing in this rotation as shifting profit pools exacerbates the gap in economic profit between the top corporate performers and everyone else.
In Latin America, we are just now seeing technology heavyweights displace large state-owned and commodity linked enterprises as the largest regional firms by market cap. In fact recent McKinsey research has discovered that between December 2018 and May 2020, the top quintile of companies grew its total market-implied annual economic profit by $335 billion, while companies in the bottom quintile lost a staggering $303 billion.
The velocity of value creation from industries and companies that started at the top of the curve before this crisis are proving to be resilient, while those that were at the bottom are actually destroying value. This trend is true both in the United States and Latin America. There is a larger trend occurring: a gap is opening and creating a pattern that has been evident since 2010 with the pandemic now accelerating the divide(vii).
Looking back even further, to 2000, the top 5 companies in the S&P were General Electric, Microsoft, Exxon, Citigroup, Pfizer and in 1990 Exxon, Philip Morris, General Electric and IBM(viii). To put this in more tangible terms, imagine investing $1000 in Apple in October 2010, a single Apple share cost less than $10, meaning $1,000 would buy you more than 100 Apple shares. Today, it would be worth $12,957.42 meaning a profit of nearly 1,100%(ix). For Latin America the story is just beginning as this “great rotation” continues.
Companies are becoming more valuable more quickly
This new “golden-era” of digital transformation in Latin America has led to the creation of 28 unicorns as of March 2021 up from 17 in December 2020. Post-covid value creation is occurring far more quickly than prior with firms like Uruguay’s dLocal and Mexico’s KAVAK jumping from $1 billion valuations in December 2020 to more than $4 billion respectively by April 2021(x). According to research from the IDB, the time to achieve a $1 billion valuation has been steadily decreasing with the help of digital technologies and solutions, such as mobile and cloud computing, and more mature ecosystems. While it took decades for pioneers such as Totvs to achieve that value, the latest unicorns (such as C6, Loft, Ualá) achieved that status less than three years after they were founded. This is encouraging foreign investors to take a look at Latin America as local trends as the venture scene potential continues to increase.
While unicorns get a lot of attention, and rightfully so, the other startups with valuations in the millions should not be overlooked. At the conclusion of 2020 there were 1,005 technology companies born in the region that raised over $1 million. These companies are collectively worth $221 billion, raised $28 billion, include 28 companies worth more than $1 billion, and have over 245,000 employees(xi).
Source: Surfing Tsunamis, Tecnolatinas , LAVCA, Crunchbase, Pitchbook, Techcrunch, Research Reports and Media Reports, World Economic Forum
Not just Fintech and E-Commerce
Regional founders are leveraging global technology trends to fill market gaps across sectors that are prone for disruption and require local customization. VC funding has been mainly concentrated in fintech (22% of 2019 deals) and e-commerce (6% of 2019 deals) whilst these two sectors dominate the ecosystem in terms of value creation. Startup activity is spreading and valuations rising across industries with 16 sectors containing companies worth more than $500 million. Most (86%) of the ecosystem value is concentrated in only two countries: Argentina and Brazil. The region’s 28 unicorns represent 79% of the ecosystem value. This however is rapidly evolving as investors start to realize the potential of regional entrepreneurs and compelling business models outside the big three economics.
Source: LAVCA Industry Data
From local to global attention
For the past decade venture capitalists in Latin America have started to embrace the potential for a shift towards a more digital economy given several gaps in the market and limited penetration of consumer platforms. What started as a mainly local initiative, funding for the region’s unrealized value is catching the attention of global institutional investors rocketing the startup ecosystem to the next level. In particular, Softbank, the Japanese conglomerate’s fund has a $5 billion bet on the digital development, of which it already has invested $2.3 billion in companies such as Rappi, Banco Inter and Gympass. This “Softbank Effect”, deploying the largest-ever technology fund focused exclusively on the fast-growing region marked an enormous change in how institutional investors view venture potential. Venture capital investments in the region have nearly doubled annually for the last three years according to the Latin American Venture Capital Association (LAVCA). Last year funding hit a record $4.6 billion after doubling the year prior. In 2020 a record number of deals, 488, we completed during the pandemic.
Increasing options for exits are also gaining attention. Historically global investors have found exits to be complicated in Latin America. With trepidation of stranded long term private investments they have foregone potential value creation. This exit barrier to entry is lifting as capital markets further maturing. The record number of IPOs, strategic acquisitions and investments by multinationals further quantifies the value to be unlocked by investors.
Integra Groupe is deeply rooted in the evolving regional venture ecosystem. Our local team is working with visionary entrepreneurs disrupting the status quo and improving the lives of millions. As early arrivals we are establishing a firm footprint in the Latin American venture capital world. With the relative size of the investable universe and growing exit options we believe first movers will benefit in securing the most attractive deals and providing stakeholders with higher risk-adjusted returns. If investing with the potential for higher risk-adjusted returns and the possibility to help solve some of the world’s most challenging problems is of interest to you please join us as we bring more dynamism to Latin America’s economies.
(vi) Gartner, April 2021 World IoT forecast