What foreign founders should know in order to create a global tech company

Widespread availability of cloud services and the explosion of Internet access via smartphones allowed global entrepreneurs to easily launch digital businesses. However, according to CBS Insights, the majority of the world’s unicorns are currently based in the US (54%) and China (23%).

A lot of articles have been written about the possibility that the next wave of tech giants could come from anywhere in the globe, but this hasn't really materialized so far. In this article, I'll explore why this is the case and what founders should know if they want to create the next Facebook or Alibaba.

Copycats are opportunistic ventures

Startup copycats may sound good in principle, as they are less risky and ride the market optimism expressed around the original business model. However, over the long term, the majority of copycats, if not all of them, will experience a premature death or become irrelevant if not acquired by a larger company.

My working theory is that copycat business models only work in China, a country with a population of 1.4 billion people and more than 860 million Internet users. Furthermore, the Chinese government has a non-official policy of blocking foreign competitors when they threat local incumbents or disturb “the social order” (i.e.: can not be controlled or censored by the authorities). Therefore, any entrepreneur outside China willing to copy a successful startup from the US will probably never achieve a global status.

The Groupon clones from the 2010s are a great cautionary tale. Between 2010 and 2012, many clones around the world were acquired by the original Groupon, media groups and other investors at the peak of their hype.

Brazil, at one point, had more than 1,400 Groupon clones. All of them are now dead or became irrelevant. Even Peixe Urbano, Brazil's most successful copycat, fell from grace. Despite being valued at hundreds of millions of dollars in 2012, the site was sold to Baidu in 2014 by a tiny fraction of its former valuation. It still continues to operate but on a much lower profile.

The same phenomenum occurred all around the world and the copycat model began to be sabotaged within. The original Groupon, valued at $16 billion in November 2011, is now (as of Dec' 17) worth less than $3.2 billion. The stock reflects the acquisition of Living Social, in 2016, the second most successful Groupon clone.

Copycatting is not a viable business model because it is not scalable and sustainable enough to vindicate high valuations outside China and the USA. Even Rocket Internet, the world’s #1 copycat factory, with investments in hundreds of companies, had their stock slammed by investors in the last years (valuation in Dec' 17 was lower than $3.4B). I bet their valuation will deteriorate over time.

The recent wave of Uber clones, in my opinion, will suffer the same fate of the Groupon clones, with the exception of Didi. After raising so much money to invest in subsidies, the valuation of ride sharing clones will probably drop dramatically as they won't be able to compete with their deep pocketed inspiration (Uber). Investors, entrepreneurs and local ecosystems may suffer immense setbacks.

If you are an entrepreneur who wants to build an influential global company, my advice is to focus on original products that create demand and/or solve real problems anywhere. Or, if you decide to enter a competitive category, do not only copy the pioneers but build something people do find useful and add a repeatable and scalable business model.

For instance, the instant messaging Viber, born out of Israel, began to differentiate from its competitor WhatsApp by selling stickers, games and credits for international VoIP calls. The startup was acquired by Rakuten in 2014 by $900 million and as of Sept. 2017, it boasted more than 920 million users registered.

The same successful story can be told about Spotify, the Swedish music streaming service that outlived pioneers such as Pandora Radio and heavyweights such as Apple Music, Youtube Music and Amazon Music. Spotify focused on affordable pricing, great selection and easy to use interface on all platforms. The startup is valued northwards of $13 billion.

It is ok not to be the first but it is not ok to not be the best. By only copying someone else, you"ll always be one step behind and at the will of the copied business' performance. Don't cut corners, innovate and focus on the long term.

You can’t have a global company anywhere

The media loves to repeat the mantra that anyone, anywhere, can create the next Google. This is true as talent is not country, race or religion specific. However, the statement implies that global companies can grow in any city in the world. In my experience, this is far from the truth and it is more likely that you'll need to move your operations to the closest tech cluster.Why? There are several reasons.

The first is related to talent. If you reach the success of a Facebook, Amazon or Tencent, you'll need to scale your startup by hiring hundreds or even thousands of the best engineers, designers and product managers available. The chances are that your hometown location won't be able to provide the tech talent necessary to sustain this hyper growth unless you are in a large metropolitan area. The availability of great universities churning capable professionals all year around is of utmost importance, therefore it is not a coincidence some regions in the US, Europe and China host today's top tech clusters. Also, global tech businesses are conducted in english and again, unless you're born in a Scandinavian or english speaking country, attracting english speaking talent to where you are located is really tough.

Secondly, great startups need a streamlined environment to thrive and, unfortunately, the business environment in most of the world is full of corruption, high taxes and bureaucracy that will slow down even the best entrepreneurs. Try to do business in any emerging country and you'll understand what I am talking about. Any startup that wants to go global and be influential need a place that obey the rule of law and honor contracts. In many cases, potential small and medium sized startups are incorporated in other jurisdictions to make sure they can prosper.

And last but not least, to be successful on a global scale, your startup and your team must prosper by merit and not by who you know. In other words, your ecosystem needs to foster a meritocracy based mindset instead of a relationship based one. If you live in a place that is not progressive enough regarding entrepreneurship, diversity and modern management techniques, you're doomed from the start and the chances are that your success will be local or, at best, regional.

I believe the only type of tech startup that can be run from anywhere and still be successful globally to a certain scale are gaming companies. This is more due to the unstable nature of the gaming business and the widespread distribution channels provided by Apple and Google than anything else.

Focus on growth, not on revenue

In most places in the world, sound economics are practiced and focusing on turning a startup profitable seems to be the right thing to do. Therefore, companies are valued by a method called discounted cashflow (DCF). Sophisticated financial buyers interested in acquiring a company will run “as complex as they want” calculations to figure out how much they are willing to pay today for the rights to earn a business’ future free cash flow.

However, the Internet and smartphones have changed things upside down.The problem in the digital world is that most tech startups may take many years to generate positive cash flow and are usually pre-revenue when evaluated at the present. That would make their valuation to be zero for the near future.

To solve the problem, some ecosystems like Silicon Valley basically abolished the DCF model for a framework that is seen by outsiders as controversial, opaque, and subjective. As an extrapolation, this methodology could be analog to quantum physics: people know it exists, but they have no idea how it works.

In order to elaborate a fair startup valuation, Silicon Valley type investors take into consideration the founding team’s track record, the potential of disrupting a large market, growth rate (users or any other metric), retention, the existence of proprietary technologies, how feasible is it to scale up the operations, and the “momentum” of that business.

In practice, what happens with this Silicon Valley methodology is that the valuation of an early stage startup becomes what the founders are able to sell to investors. A good story, salesmanship, confidence, a great team and supply and demand are key factors that may define the valuation. Regular economics are not taken into consideration because these startups are too early and pre-revenue. Like before the Big Bang, the common rules cannot be applied.

Investors are willing to pay so much for tech startups with no profit because they are more likely to grow exponentially and be worth a much higher multiple than conventional companies, as the majority of startups can scale up without a proportional increase in fixed costs. Facebook, for instance, lost money from 2004–2008 and, in 2016, made $10 billion in profit. Its market capitalization, as of September 2017, was worth 37 times its earnings.

My advice to future tech entrepreneurs willing to start world changing companies is to embrace the Silicon Valley framework and, if possible, move to a mature ecosystem where investors won't use discounted cash flow to evaluate your startup. In the digital space, an early focus on profits may end up crippling the startup growth and thus its survivability in the long term. The cosmetics may not make sense or look reassuring, but they definitely work if you become the #1 or #2 in your vertical.

In non-mature ecosystems, though, if you need money to grow your business, you''ll be left with investors using the traditional DCF model, which may work only for e-commerce or business models that generate quick cashflow. However, if you are competing globally, it is unlikely you''ll be able to raise enough money to grow as fast as Airbnb, Slack or Uber and win the long term game.

The value of your company will probably follow the rules of the ecosystem you are based on. You cannot have Silicon Valley priced rounds in places where investors value cash flow. If this affects your survival or competitiveness, your options might be to either migrate or change your company’s profile to focus on cash flow. Both come with many challenges and must be thought through carefully.

Thanks for reading.