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This article was first published in the April 2020 China edition of 
Accounting and Business magazine.

Mainland China and the US dominate the market for unicorn tech start-ups but other parts of Asia are laying the groundwork for their own boom – even as global trade and economic uncertainties emerge as key challenges.

A recent report from the Shanghai-based Hurun Research Institute of all the world’s unicorns – start-up businesses valued at over US$1bn but not yet listed on any public stock exchange – found that China and the US account for 83% of the total.

China tops the October 2019 list with 206 of the 494 unicorns across 24 countries. The US has 203. There are a handful of unicorns in South Korea, Indonesia, Singapore and Australia, while Malaysia and Thailand are laying the groundwork for rapid growth.

‘These young companies, only seven years old on average, are the world’s most exciting start-ups, leading a new generation of disruptive technology,’ Hurun chairman and chief researcher Rupert Hoogewerf said in the report, adding that other countries ‘need to wake up and create an environment that allows unicorns to flourish’.

Capital support is essential for unicorns to grow. A recent study by PwC China of 101 rapidly growing high-valuation enterprises found that 80% expect a new round of financing in the next two years. Government policy and diversified financing channels have created myriad opportunities for both the companies and investors.

Despite their billion-dollar valuations, unicorns often face financial challenges that are becoming more pronounced. Good decision-making and cashflow management in the initial period are crucial for these companies, regardless of their geographic location, says Benson Wong, entrepreneur group leader at PwC Hong Kong.

‘If they take one wrong step, it will burn too much capital, and it is already hard for them to raise funds from outside sources at the beginning,’ Wong explains. ‘Most unicorns usually have weak income statements initially; they need to show the banks they have decent operating cashflows and outlooks.’

If a unicorn has a good idea but lacks strong backing, banks may be unwilling to lend them money because of the risk.

‘Angel funds, venture capital and private equity are better bets for early-stage unicorns,’ Wong says. ‘The ideal choices are strategic investors conducting businesses in similar industries, who see that the products of the start-ups could benefit their businesses. That way they can create more synergies together.’

Beware equity financing

With equity financing usually easier to obtain than debt financing, unicorns are often on the lookout for listing opportunities.

‘It is also a common exit strategy for the stakeholders,’ says Wong. ‘Some will be bought by other firms in private acquisitions, too.’

Mada Seghete, co-founder of tech unicorn Branch, warns that issuing equity to raise money isn’t necessarily a good thing as it comes at the expense of the team’s ownership of their business.

‘We will never, ever celebrate a fundraiser,’ she says. ‘It’s definitely important that you raise money to fuel your company. If you do give out a percentage of your equity, you dilute yourself and your employees. It really comes down to how much focus the government is putting on the unicorn space – how willing they are to create an environment for young entrepreneurs.’

Most economies in Asia Pacific are working to tap the power of unicorns by creating the conditions for these disruptive businesses to not only emerge but grow. Indonesia, Malaysia and Thailand are all working to develop powerful innovation ecosystems to compete with those created by mainland China and Hong Kong, South Korea, Japan and Singapore, according to a recent report on innovation in Asia by Lux Research.

‘While the infatuation with Silicon Valley is still prevalent in innovation circles, we are seeing an increasing interest in Asia, and rightfully so,’ Yuan-Sheng Yu, a senior analyst at Lux Research, said in the white paper State of Innovation in China. ‘China and South Korea may be the shining stars of Asia today, but we believe South-East Asia’s innovation landscape will inevitably lead to the next global boom in innovative ideas and unicorns.’

And they have had some success. In 2018, for instance, venture capital investments in South-East Asia topped US$7.8bn across 327 deals, according to Alvin Gan, head of IT-enabled transformation practice at KPMG in Malaysia.

Singapore, for instance, offers a promising environment for unicorns with tax incentives and funding. Its biggest unicorn is Grab, a regional Uber lookalike that is expanding quickly into financial services. Privately valued at US$14bn, Grab recently received a US$1.5bn cash boost from SoftBank and reportedly plans to invest in Indonesia.

South Korea’s largest online retailer, Coupang, was the country’s highest-value unicorn at US$9bn, followed by video game developer Bluehole (US$5bn) and mobile software company Yello Mobile (US$4bn). Viva Republica, a developer of mobile financial services, was the lowest-valued Korean unicorn at US$1.2bn.

In turn, Australia’s online design platform Canva has users in 190 countries and claims that 20 million people use its services each month. It is currently valued at US$3.2bn – triple its worth 18 months ago.

Uncertain times

While the number of unicorns has grown rapidly, market uncertainty could put a dampener on the future. Cathy Choi, senior analyst at BCP Investment in Hong Kong, says there has been less investment into unicorns in China over the past year as a result of the slowing global economy and the trade dispute with the US.

Newer developments like the Covid-19 (coronavirus) outbreak also cast a shadow on the outlook. Fitch Solutions Macro Research recently noted that it could revise down its China real GDP growth forecast to a range of 5.4% to 5.9% for 2020 due to the impact of the virus. ‘Unicorns are having trouble attracting investment,’ Choi says. ‘Investors now want to think twice before they close a deal.’

Research firm Preqin, a capital market intelligence company, backs that up. According to Preqin, the value of 2,209 venture capital investments into Chinese start-ups in the first three-quarters of 2019 was nearly half that of 2018. Though China still dominates the unicorn space globally, the drop in the value of investments may explain why the number of unicorns fostered in China fell 30% in 2019, compared with the same period in 2018.

‘Strategic investors, such as Tencent and Alibaba, have been a big driver of late-stage investing but that has slowed down quite a bit as equity values in the public market have decreased,’ says Jason Tan, partner and chief investment officer at Jeneration Capital.

Preqin has found that the number of venture capital transactions in mainland China and Hong Kong fell by about half to 1,375 in the first half of 2019, compared with 2,593 in H1 2018. In dollar terms, transaction values fell 66% year on year to US$59.2bn. At the same time, mega-sized funding rounds dropped to just two in 2019, from four a year earlier, with the slowdown mainly felt by late-stage companies.

Slowing to a trot?

The underperformance of China’s venture capital industry may mean that many Chinese start-ups could be at risk of a valuation slump, or might even have to close down altogether.

‘Greater China’s private equity and venture capital industry slowed down in 2018 and continued to slow in the first half of 2019,’ says Ee Fai Kam, head of Asian operations at Preqin. ‘It is getting harder to raise funds and close deals in China due to an economic slowdown, high debt and trade tensions with the US.’

Countering these issues with funding are the changes under way in China.

‘China is transitioning to a system powered primarily by domestic innovation, and new opportunities are being opened up for investors and fund managers,’ Kam says. ‘With technological innovation expanding into new sectors, there is a lot of potential to find new opportunities for investment in Greater China.’

Thanks to the government’s focus on innovation, Chinese graduates are more willing than their peers elsewhere to invest time and effort on innovative ideas and are more likely to create new businesses. Indeed, the Beijing municipal administration for market regulation reported around 180,000 new businesses registered in 2018.

The focus of innovation is, for instance, at the heart of the Greater Bay Area initiative, which groups together nine cities in Guangdong with Hong Kong and Macau to create a unified economic region.

‘Innovation is one of the main focuses of the initiative,’ Wong says, ‘and Chinese government agencies provide many incentives to help promote the development of innovative industries. Many other countries have failed to do so. But without government funding, the costs and risks of creating start-ups are much higher.’

Alex Ho, journalist

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