Is Russia becoming a new frontier for US venture capitalists? With local startups and incubators springing up like mushrooms, a number of foreign tech investors have started to operate in the country, which is striving for modernization.
Exemplifying the invest in Russia trend is Tiger Global Management, a New York-based international investment management firm. Over the past two years Tiger has invested twice in the Russian e-commerce platform Wikimart.ru – $5 million in 2010 and another $7 million in 2011 – and contributed $10 million in a round of financing for online travel sales site Anywayanyday.ru.
Tiger also has shares in Yandex, the Russian search giant that began trading on the NASDAQ in May 2011, and formerly held a stake in Mail.ru, a leading email service and portal.
Another vivid example, from April of last year, is the whopping $55 million financing round for private shopping club KupiVip.ru, in which US venture fund Bessemer Venture Partners played a notable part. Also of note is the rise of Ostrovok.ru, a clone of Booking.com, which received $13.6 million last July from western funds and business angels such as Zyngo founder Mark Pincus, early Facebook investor Peter Thiel and Skype founder Niklas Zennström, among others.
Ostrovok had been co-founded a year earlier by Serge Faguet, a Russian-born entrepreneur and Stanford Business School graduate. Before creating Ostrovok.ru, Faguet worked as an analyst at Google, then founded TokBox, a video communication startup based in the Valley.
Joining the trend is the prominent Silicon Valley incubator Plug and Play Tech Center, which got operations underway in Moscow last October with the selection of its first five Russian startups. The launch projects were selected by a panel of Plug and Play judges, including Saeed Amidi, the incubator’s founder and CEO.
Russia’s new appeal comes as a logical consequence of the fast growth of its innovation-led markets. Almost unknown in the country in the late 90s, the Internet is now used by almost one Russian in two – and is still growing fast. Last September the country outran Germany as Europe’s largest market by number of Internet users.
“There has been a lot of enthusiasm among US funds for taking elements of successful e-commerce and social networking companies in one geography and transplanting them into another geography – first, in China, now increasingly in Russia,” says Mac Elatab, an investment analyst at TrueBridge Capital Partners. “With a GDP-per-capita growth of around 13% annually from 1999 through 2010, Russian consumers have money to spend.”
Closing the gap in entrepreneurial spirit
Another appealing factor is the quality of Russia’s science and technology, which is rooted in the country’s history. “In computer science and materials science, the Russians are as good or better than anyone in the world,” says Bill Reichert, Managing Director of Garage Technology Ventures, a major US venture fund chasing Russian startups.
In terms of entrepreneurship, progress has been remarkable over the past ten years – with a scent of northern California now wafting in the Moscow air. “Both Silicon Valley and Russia have extremely smart people who are working to create innovative opportunities globally,” says Court Coursey, Managing Partner at Eric Schmidt’s Tomorrow Ventures.
“I found very insightful people who match the best in California for sure,” agrees Silicon Valley veteran Steve Blank, who took part in a dozen of educational events in Moscow and St. Petersburg last year.
Labor costs is another reason for high tech investors to come to Russia. Salaries are high in Moscow startups, but in a city like Tomsk, in Siberia – where every fourth inhabitant is either a student, a researcher, a university teacher or an employee of the Russian Academy of Sciences – a modest $2,500 per month, or even less, can prove enough to attract the cream of the crop among local engineers.
“The biggest pile of money I have ever seen” – a Silicon Valley veteran
Another positive factor differentiating Russia today from the era of the 1990s and early 2000s is that government is now supportive of foreign and domestic investment in private equity. This support goes well beyond words: at the federal and regional levels, the Russian state is investing tens of billion of dollars in innovation. With its massive subsidies and tax cuts for innovative projects, Skolkovo, the giant tech hub outside Moscow now nearing completion, has attracted dozens of global venture funds and high tech firms.
IT Park, near Kazan, stands as one of the largest technoparks in Eastern Europe, while the Tomsk special economic zone has attracted a number of domestic and international tech companies, including Nokia Siemens Networks, Korea’s Darim International and the US-based firms Monsoon Multimedia and Rovi Corporation.
Direct state financing is also provided through an institution called the Russian Venture Company, a fund of funds that has launched no fewer than 12 high tech funds in Russia and abroad.
State support and funding come in addition to a dramatic increase in available Russian and foreign venture capital. While fewer than two dozen funds were actually operating in the country just three years ago, there is now more money in Moscow than in many other innovation spots on the global map – “the biggest pile of money I have ever seen,” says Blank.
“This comes as a sharp contrast with the early 90s, when it was next to impossible to identify capital for a startup,” confirms Avi Hersh, a US private equity investor who started working in Russia just a few years after the fall of communism. “Positive spiral: as more young Russian enterprises are funded, then merged or acquired, it will produce more success stories, which in turn will provide more funding for the next round of qualified startups,” Hersh predicts.
Not all is gleaming, however, in Russia’s brand new startup industry.
One problem involves thoroughness. In a country without long traditions of entrepreneurship, Russian businessmen do not always present mature projects. “We sometimes see very raw startups, lacking sound business models or business plans or with weak management teams,” says Alexandra Rasskazova of BV Capital / eVenture Capital Partners, a venture fund operating from San Francisco and Hamburg.
Russia is considered by many VCs less attractive than other BRIC countries. The reasons for this include the country’s small population compared to China or India and its location – Moscow works at a twelve-hour time difference from California. Language can also be an issue, with relatively few Russians speaking fluent business-level English.
Russia still has a serious image issue as well. “Media coverage from Russia is almost uniformly negative in the US,” says Elatab. “That is not to say that only negative things are happening in Russia – the truth is somewhere in the middle. At bottom, I think the Cold War still impacts how both Russians and Americans view each other.”
Can Russian innovation be spared corruption?
Russia’s corruption and frequent breaches of rule of law – as exemplified over the last decade by the Khodorkovsky and Hermitage Fund affairs – are the greatest deterrent in the eyes of many foreigners. “The economic system seems to be driven by political acceptance instead of predictable rules,” says Blank. “So many entrepreneurs have told me they have no guarantee that what they are starting is what they will keep.”
This makes looking ahead difficult, in Blank’s estimation: “How can Russia have an innovation future in such conditions? When a new wave of startups began developing in the Silicon Valley 30 years ago, there was never a discussion of such things.”
“Russia has to fix this critical government issue,” adds Blank. ”Otherwise the brightest part of Russian entrepreneurs and engineers will leave the country, just like the Jews in the 1970s.”
While threats from aggressive Russian businessmen or corrupt Russian courts undeniably exist in Russia, more lucky entrepreneurs and investors tell another story – at least for tech startups at early stages. Esther Dyson, a US business angel who invested in 15 Russian startups as well as in the search giant Yandex, told East-West Digital News that she has never witnessed any serious threats of that kind.
Gleb Davidyuk of the Russian venture fund iTech Capital agrees: “In the digital sphere, greedy civil servants don’t know what to look for – or where. This helps the industry stay below various radar screens,” he said.
- This article will appear this month in the Russia supplement of the New York Times, a publication of Russia Beyond the Headlines.
