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Silicon Cape will die

The start-up bubble will burst because we have not addressed the core issues around start-up funding.

Having been out of the start-up space for a while, I was intrigued to come across this great blog post entitled “Silicon Cape Must Die. What Must Rise?” by Mike Jones and the counter from Roger Norton who challenges some of the points raised by Mike.

For those who don’t remember the history of the organisation, it was launched a couple of years back by tech entrepreneurs Vinny Lingham and Justin Stanford and if memory serves me right they even got Johann Rupert to talk at the launch. The thinking behind the loosely put together organisation was to serve as a hub for connecting stakeholders specifically in the Western Cape tech start-up scene. Along the way they’ve co-opted a number of smart enthusiastic people like Roger to try rustle up some money and from time to time, the likes of First National Bank (FNB) will chuck them some money for goodwill.

Don’t get me wrong: the work they do is important and any contributions to help entrepreneurs should be celebrated, but two fundamental issues face the sector and all the hipster selfies in the world are not going to make them go away. This tech start-up bubble is going to burst and the energy that is going into it right now should be around finding and supporting the strongest.

The fundamental issue which has not been tackled is: “How do we move good start-up businesses rapidly through the funding cycle without burying them in fees?” The first statement is completely subjective but is backed up by views from Venture Capital (VC) experts across the globe. Bill Gurley told the Wall Street Journal that the industry is taking on too much risk and as Netscape founder Marc Andreessen says start-ups are burning too much cash right now, at a rate similar to the 1999 dot com bubble.

Let’s park that to one side though and focus on point two.

Question: Why does a VC firm put money into a start-up with no revenue, no customers and a vague idea on how it is going to make money?

Answer: They want to sell it to somebody else with a positive Return on Capital Employed (ROCE) net of the fees or cost of funding.

Problem: The ability to do this in South Africa is sorely stunted so VC professionals make their cost of funding so high that they end up hedging themselves out of the game.

I know of one Cape-based entrepreneur who has built up a R70 million/year (revenue) business over the same period that Silicon Cape has been running. He has taken VC funding but now the VC and the company are in effect stuck because they need somewhere to exit to. The natural exit point would have been the AltX where retail investors could participate at a decent multiple and the VC gets their money back. Unfortunately the eco-system makes it way too expensive to list and there is not the same retail or risk appetite from smaller institutional players to see a business like this move onto the exchange.

If Silicon Cape was deemed to be successful then that business should be sitting on the bourse. It isn’t because – to Roger’s point – the initiative is underfunded and [my view] is that there is an obsession with raising money (ala Silicon Valley) and not on delivering a return on capital – something that will make the sector attractive to other investors.

Justin, Vinny and Roger are all great guys who have made great strides in the region and their work should be applauded. But the reality is that they have day jobs running their own businesses. None of them has the time and some might argue the gravitas to go to Nicky Newton-King at the JSE and tell her that businesses A, B and C have to be listed on the bourse in the next three years, they need to be listed and have equity analysts covering the stocks and they need a free-float of say 50%.

It is the ability to see it through the cycle and co-ordinate it through the cycle, which is missing.

One of the most annoying phrases in the start-up scene is that a “business must pivot” [read business plan A didn’t work so let’s try something else and ask for more money] – maybe Silicon Cape needs to “pivot” and start narrowing its focus down to bringing a handful of companies through the cycle. That is going to require a business model and focus that just isn’t there at the moment… But it could be.



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