Why Amazon And Entrepreneurs Are Bullish On Mexico

Imagine a country with 100 million mobile phones, but just 15 percent of residents have a credit card. A country where more than half of the population is under age 27, but less than half has Internet access. That, in a nutshell, underscores the opportunities and challenges for innovators and investors evaluating Mexico’s emerging innovation economy.

To get a first-hand look, Silicon Valley Bank in June organized a trip to Mexico City for two dozen U.S. and Latin American investors to meet with some of the nation’s leading entrepreneurs and investors, as well as government and university officials.

There is a lot happening to justify the growing confidence of U.S. and international investors in the fledgling innovation sector of Latin America’s second-largest economy.

While Brazil’s tech ecosystem dwarfs that of Mexico, we found an energized and developing Mexican sector primarily focused on Internet infrastructure, mobile communications, e-commerce, financial services and education.

The stable Mexican economy is fueling overall growth, and technology companies are bolstered by a burgeoning middle class in addition to the youth-centric population primed to go mobile. And while doing business for foreigners (and natives) still can be challenging, the government in recent years has implemented key legal and financial system reforms.

Healthy Increases In Venture Fundraising And Investing

Venture fundraising and deal making is growing, with support from the Mexican government and international groups for entrepreneurship.

The Latin American Private Equity & Venture Capital Association (LAVCA), a co-sponsor of the trip along with Endeavor, issues a business-friendly scorecard for Latin American nations, with a focus on private equity and VC funds. It ranks Mexico third, behind Chile and Brazil.

LAVCA reports that in 2014, fund managers invested US$1.31 billion in 49 Mexican deals, the second-most active Latin American country after Brazil. That represented a 102 percent increase over 2013 in capital deployed and a 63 percent increase in the number of deals.

The storyline we heard in Mexico reflected hope and high expectations. Here are my observations of the opportunities and challenges.

Opportunities: E-commerce, Fintech And Telecom In Demand

Mexico may lag in terms of Internet access and online purchasing, but we are seeing signs of change. Amazon in late June began selling physical goods and introduced third-party marketplaces in Mexico, calling the event its biggest international launch ever.

Although Mexico has other online marketplaces, such as Rocket Internet-backed leader Linio, the push by Amazon is a timely test of Mexican consumers’ appetite for online shopping. The hope is Amazon’s investment and market know-how will grow the overall e-commerce industry.

Mexican entrepreneurs, U.S.-trained ones who have headed back to their native home, and foreign entrepreneurs, mostly from other parts of Latin America, are attracting funding with a heavy focus on information technology and financial services. According to LAVCA, 49 percent of VC investments made between 2011 and 2014, measured by amount invested, were in information technology, followed by 22 percent in financial services.

We heard from several startups about how they are extending financial services to the huge swath of the population that is essentially unbanked or underbanked. Kueski co-founder and CEO Adalberto Flores, who had worked for U.S. tech companies for a number of years, has set up the country’s first online-only consumer lending platform in his hometown of Guadalajara. Kueski, which specializes in micro-loans up to USD$450, launched its algorithm-driven lending platform in January 2013. To date, Kueski, an SVB client, has made tens of thousands of loans through its platform.

Flores told us the lack of formalized banking, even for the middle-class, presents an enormous opportunity in Mexico and much of Latin America. Kueski has raised $3.75 million in funding from top investors, including U.S.-based Core Ventures Group, CrunchFund, Sobrato Family and Ariel Poler, for which Kueski marked their first Latin American investments. CrunchFund partner Patrick Gallagher joined the company’s board of directors, in what is a rare example of a brand name U.S. VC joining the board of a Mexican startup.

Mexican and international incubators and accelerators, including 500 Startups and Wayra, are active promoting entrepreneurs, while the Mexican seed and early-stage VC markets are getting a boost from two dozen new seed funds partially supported by Mexico’s National Institute of Entrepreneurship (INADEM).

SVB chose to go to Mexico now because we wanted to see what’s happening at this formative stage, even if it’s still challenging to find immediate opportunities and navigate local industry, financial and legal practices.

Challenges: Low Appetite For Risk, Modernizing Business Practices

For many investors, it still may be too early: There are few examples of strong IPO or private sale exits. Local managers seldom co-invest, which can hamstring entrepreneurs’ access to capital at key times. Mexican angel investors can’t deduct investment losses against gains, a key benefit in the U.S.

And for everything in between, gaps in staged financing create some concern among foreign VCs about the burdens they may face to support companies through their life stages, as local funds don’t have the size to keep going.

The Mexican government has initiated reforms in recent years, such as liberalizing stock ownership rules and promoting the public listing of companies, but much of the country’s wealth is controlled by affluent families. Of those companies traded on the Mexican stock exchange, we were told that 40 percent are still functionally privately held by the founding families. When acting as investors, this control-mentality is very much present.

While the skilled workforce is growing, one Mexican entrepreneur told us that his top engineering team is based in the Bay Area, not Mexico. There are more than 100,000 engineering graduates each year, but the top ones typically are recruited by U.S. tech giants or choose Mexican multi-national companies. Few are going to startups, a reflection of a low-risk appetite that seems to persist.

Still, we definitely felt the energy and impending cultural shift to adopt technology and reward entrepreneurship, with a goal of finding solutions to some of the country’s toughest challenges.

From the point of view of U.S. and Latin American investors on the trip, Mexico may present challenges for funding, operating and scaling businesses. But most of us left Mexico City eager to share the opportunities we now see.