Brazil's Start-Up Generation

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Photograph by Victor Affaro for TIME

Innovators Walter Silva, Marcelo Marzola and Phillip Klein of Predicta.net

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Lins' quest for entrepreneurial success is an aspiration now shared by many young Brazilian mavericks. "Over the last five years, more college graduates have become enamored with the idea of starting their own business," says Michael Nicklas, an angel investor who runs SocialSmart Ventures, based in New York City, and focuses on early-stage Internet ventures in Brazil. "There is a raw-talent pool in the technology sector. The country has one of the strongest Java, open-source and Ruby communities in the world. The fact that the Internet, cloud computing and open-source databases have lowered the capital requirements of launching a tech business has created the opportunity for these webmasters to strike out on their own."

Nicklas has been scouring the countryside — from Belo Horizonte to Curitiba to São Paulo — for three years looking to put his money to work. A serial entrepreneur, he has been impressed with the country's early adoption of social media. That has led him to invest in three upstarts, including Compra3, a company that has developed a unique buying platform for social-media networks that gives users discounts and cash back on purchases and allows them to comment on items. After sinking $150,000 into a 2.5% stake in the business, Nicklas helped founders Bruno Medeiros and Andre Monteiro refine their business plan and prepare for their August road show in the States. The hope is that VCs will dole out $12.5 million in equity finance so the company can consolidate its model in Brazil and break into the North American market. Compra3 already has a partnership with Walmart and 18 Latin American retailers, including Americanas.com. "Nicklas is our bridge to foreign investors, and we need his connections to get to the next level," explains the 29-year-old Medeiros, who has been spawning new businesses with his own money since he was 19.

Those connections are key, since there is a huge funding gap in Brazil between seed-financing rounds and the second and third rounds of venture capital critical to growth. Instead, most of the investment capital flows into private-equity funds. There are now more than 30 PE funds, with some $12.3 billion in assets under management, according to LAVCA. These funds — for example, Advent International's $1.65 billion Latin America Private Equity Fund V that closed in May — specialize in large buyouts, M&A and infrastructure projects. But even that capital pool is tiny when you consider that India, a BRIC rival, boasts a private-equity market five times as big.

Against the Odds
According to marcus regueira, a former investment banker in the U.S. and founding partner of DFJ FIR Capital, Brazil still suffers from inefficiencies with capital flow and an IPO market that has barriers to entry for small- or medium-size companies. To find liquidity, VCs have to be attuned to the domestic market and know how to figure out strategic partnerships or exit strategies for their portfolio companies.

Another inhibiting factor has been the lack of local expertise on how to operate a private-equity or venture-capital limited partnership. That's why FINEP is taking an active role in training local businesspeople on the ins and outs of being a general partner. Some foreign transplants, like private-equity firm Advent International, do this on their own. They hire top collegiate engineers, send them to U.S. business schools for their MBAs and then groom them to become partners in the firm. Many are even placed as interim CEOs.

And vestiges of the past remain. Brazil's taxation and regulations are among the most onerous in the world for business. The corporate income tax rate is 34%, and Social Security taxes and other compulsory employee benefits add up to a whopping 80% to 90% of an employee's salary. That's not to mention taxes on bank loans and Brazil's somewhat archaic labor laws.

Considering the challenges, any entrepreneur able to launch a business and survive is part of an elite class. "It takes a superstar who is an astute cash manager from the get-go to win in this market," stresses DFJ FIR Capital's Regueira. "This is economic Darwinism at its best." Gustavo Caetano, the founder and CEO of Samba Tech, a three-year-old company that has created a platform to help third-party developers migrate and distribute video over the Internet, is another survivor. In just three years he built his business with a $100,000 loan from his father into a profitable $7 million-a-year concern with 50 employees. It has been growing at an annual rate of 300%. "In Brazil you need to have a strong payback model right at the beginning. VCs won't wait to see if one day there is an exit for your company since they don't want the risk. In the U.S., a start-up is cut some slack. It can operate for two years without any revenue. We don't have that luxury."

There are signs that times are changing. More overseas venture capitalists interested in diversifying their assets are looking at Brazil. They are being prodded by institutional investors, who for a second consecutive year ranked the country as the second most attractive emerging market (after China) for private-equity investment, according to the 2010 EMPEA/Coller Capital Emerging Markets Private Equity Survey. "A lot of investors feel they are overweighted in Asia and are turning to Brazil," says Alberto Camões, founder and managing partner of Stratus Venture Capital, which is raising a $300 million private-equity fund.

What Brazil needs to turn the trickle of outside funding into a river is a dazzling IPO that generates global buzz and demonstrates the breakthrough thinking and true grit of the Brazilian entrepreneur. The hope among local VCs is that this will happen within the next two years — perhaps to a company like Predicta.net that has so much potential.

The possibilities are legion. Just ask Great Hill Partners in Boston. It took the firm four years to make an 860% return on its investment in BuscaPé, an e-commerce services provider; it sold a 91% stake for $340 million to Naspers, the South African media giant, last September. Nicklas sums it up nicely: "Venture investors run in herds, and when they see fertile ground, they swarm in to stake a claim. Now they have Brazil in their sights."

This article originally appeared in the August 23, 2010 issue of TIME Asia.

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