SMBA Rises Up to the Challenge

Korea's venture capital rose above one trillion won for the first time in 10 years with the new venture investment amounting to a record high, causing the rise of a so-called second venture boom. We at BusinessKorea, sat and interviewed with the Korean government department of Small & Medium Business Administration - Business Start-up & Venture Bureau, Director General Seo Seung-won, to hear his viewpoints on this issue.

Q: Since overcoming the recent financial crisis last year, Korea has seen the appearance of a so-called second venture boom, which has entailed a kind of revival in venture investment. What is the background to this and how is the government reacting to it in terms of policy?

A: In 2010, venture capitals' new venture investments amounted to 1,091 billion won in total, recording 25.8% year-on-year growth. It was the first time in 10 years that the sum exceeded one trillion won. At 1,583.8 billion won, the amount of the venture funds newly raised also set a new record. In the meantime, in January 2011, venture investments increased 154% from a year earlier, rising from approximately 43.8 billion won to 111.6 billion, clearly highlighting that the upward trend of last year is continuing.

We can find three reasons for last year’s surge; demand, supply and the environment. In terms of demand, the financial crisis winnowed out those promising enterprises, while the investment pool has widened following an increase in the number of new start-ups and venture firms. As of late December 2010, the number of venture companies totaled 24,645, which is the highest in history.

On the supply side, institutional bodies as the Korea Finance Corporation (KoFC) and National Pension Service (NPS) augmented their investments, maximizing newly raised funds. This helped expand venture capitals’ leeway to make investments. On the environmental side, economic prospects improved, to which the stock market responded positively, while the government continued to promote start-ups, new growth drivers and the green industry in general.

The Korean government’s policy to foster venture firms focuses on creating a virtuous cycle in which the establishment, growth, failure and restarting of a venture company can proceed without a hitch. For that purpose, the government is stimulating the foundation of innovative venture businesses in various ways, e.g. campaigns to spread entrepreneurship, business incubators and the creation of 15 start-up colleges. At the same time, the government is planning to raise a new venture fund totaling 1.4 trillion won through the use of FOFs (funds of funds), which will help promote the flow of capital into new businesses.

In addition to these endeavors, the government will strengthen its credit recovery support for struggling entrepreneurs so that they can rise again and make another challenge without fear. They will also be able to receive some backup in terms of guarantee.

Q: These days, many people are saying that the venture investment principle of high-risk and high-return be maintained along with efforts for systemic deregulation. What is the possible policy direction regarding this?

A: Recently, we can see more and more venture capitals making safer, risk-free investments, with this attributed mainly concerns about payback and profit fluctuation. Rookies, who are risk-prone by nature, are realizing that it is becoming more difficult to attract the capital they need under such circumstances. Meanwhile, relatively more matured companies that are right ahead of IPO are enjoying more investments than ever before.

There is also a practice of priority loss appropriation demanded on GPs, or general partners, when a venture investment fund is grouped. This deters venture capitals from making more aggressive investments.

The government, in response to this, is planning to expand funds that are exclusive to start-ups while increasing pertinent incentives. With regard to such practice, it has recently decided not to demand priority loss appropriation regarding funds invested through the government’s FOFs.

The government is also planning to advise major venture fund investors such as the KoFC and NPS to ban the custom, which we expect will trigger more voluntary participation in the private sector.

Q: Unlike the United States, home to creativity-centered companies like Google and Apple, Korea is said to be likely to follow the way of Japan, which has less such innovators. What are your feelings in regards to this?

A: Taking a look at our venture ecosystem, we can see firms with over 100 billion won in sales, global No.1 players and super gazelles companies following each other. Here, the term super gazelles company refers to recorded firm with a turnover growth rate of at least 20% for three consecutive years.

In 2010, a total of 242 Korean venture firms posted 100 billion won in turnover each, while 38 players swept the global markets as the most dominant players in 2009. The ratio of super gazelles companies to those with 100 billion won sales or more was 5.4% in 2009. Of the 14 firms included are Celltrion and Golfzon.

In particular, among the so-called first-generation ventures, NHN and Humax have surpassed a trillion won in turnover and grown into world-class enterprises, while many more such as Ticket Monster and Kakao Talk are quickly emerging as trailblazers.

While it makes no sense to say that Korea’s venture landscape lacks dynamism and cannot be a breeding ground for creative innovators, it is true that we have yet to catch up with the United States, where angel investment in start-ups and venture firms is alive and kicking and a second chance is open to all.

As such, the Korean government will continue to help promising venture firms get adequate investments by revitalizing the angel investment and payback markets. Furthermore, the government will not forget the importance of a second chance, allowing more businessmen who desire to get up on their feet again the opportunity to do so.

Q: The government is known to be promoting start-up investment in a bid to deal with youth unemployment. Could you give us some details about this?

A: This year, the government is planning to raise approximately 100 billion won for new businesses by investing up to 70% of its FOF. As of late 2010, it is operating 27 start-up funds, worth 338.9 billion won in total.

The government will also push more investors to invest in fledgling companies by providing various bonuses when a venture capital with a high ratio of investment in three year-old or younger companies requests financial assistance to raise a start-up fund.

To that end there are already strong incentives for venture fund managers and investors in place. Specifically, venture capitals running start-up funds will be subject to an IRR (internal rate of return) for PRP (performance review and planning) lowered from 5% to 0%, although this will be limited to FoF shares. If the IRR is 5% or more, 50% of the excess profits otherwise acquired by the FoF will go to those participating investors and fund managers.

Q: It has been pointed out that systemic improvements need to be made to reinvigorate the payback market. What does the government have in store regarding this?

A: Currently, there is no M&A market for the sake of collecting investments in a company to be listed. This has hindered to some extent venture capitals’ investment in start-ups.

Therefore, the government is gradually strengthening relevant areas, while leading the expansion of the payback market by means of M&A and secondary funds. In particular, by procuring the acquirement funds needed during the course of M&A, it has scaled up its M&A-purpose funds from 714.6 billion won last year to 800 billion won.

The KoFC and the FoF have made investments in secondary funds in order to take over old shares not collected when existing funds are dismissed. The size has increased from 182 billion won to 300 billion in the past year. In addition, the government is cooperating with the Financial Services Commission to expand the free board market up to a level that compliments the KOSDAQ.

Q: Please introduce the state of venture investment in foreign companies and how the government is helping to enhance venture capitals’ global competence.

A: Korean venture capitals’ investments overseas have surged since the financial crisis, ascribable in part to an improvement in investment conditions.

Korea concluded MOUs for joint funding with the governments of Israel in November 2010 and the United Arab Emirates in December 2010. These will serve as a cornerstone for promising Korean small businesses to make inroads into overseas markets more quickly.

At present, local venture capitals and investment agencies in those nations are involved in detailed talks. Before this year’s end, a US$150 million-worth joint fund will be raised.

However, not content with such accomplishments, the Korean government aims to continue to enhance local venture capitals’ global competence in cooperation with major nations. In this context, it will hold venture capital-related seminars and promote investor relations so that local and foreign venture capitals can strengthen their networks. At the same time, the government will facilitate fund raising by means of FoF investment on a rolling basis. A fund can benefit from it if foreign capital constitutes 30% or more of the raised amount.

Q: Please introduce the state of venture firms’ overseas business. What policy does the government have to assist SMEs’ overseas market penetration?

A: As is well known, the Korean market is not particularly big. As such, overseas penetration is a must for small businesses to grow. Well aware of this, Korean venture firms are fully engaged in overseas expansion.

Some 40.6% of all Korean venture companies are doing so either directly or indirectly, that is, by running offices and branches or exporting goods. In 2009, their total exports reached US$11.7 billion, approximately 3.2% of the country’s total.

The government has introduced various measures to help such expansion, such as utilizing private networks like the International Network of Korean Entrepreneurs (INKE) and Venture Gallery, while holding hands with leading corporations boasting advanced overseas business networks. The government continues to help SMEs enter

Small Business Innovation Research(SBIR) of the U.S. so that they can participate in technological development projects and access the procurement market. The government plans to further diversify support channels in the future.