That global venture capital slowed down in Q1 2022 might no longer be news to you. But global numbers can hide diverging realities around the world, and a closer look at regional data shows us that it is indeed the case.
According to CB Insights’ latest State of Venture report, the amount of funding flowing into U.S.-based and Asian startups did decline, in line with the global trend. However, their European, Canadian, and African counterparts attracted more dollars in Q1 2022 than they did in the previous quarter. Finding out why will keep us busy over the week — but today, our focus will be Latin America.
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Latin America is an interesting place to dive into what might be coming for startups. Why? Because VC investment in the region didn’t start slowing down in the last few weeks: Dollar funding has now fallen for three consecutive quarters in the region. In other words, this mood swing precedes the war in Ukraine, the technology stock selloff and signs of a global slowdown by several months.
Some of the questions raised by Latin America’s VC deceleration are the same as elsewhere: How can private investment into startups sustain an accelerated pace when interest rates are rising and public valuations are tanking? Other interrogations, however, are more specific to the region: Did valuations get too high, too fast compared to other regions? Did FOMO peak earlier in Latin America? Does long-term bullishness still make sense?
To appreciate what’s happening south of the U.S. border, we crunched some numbers, because this wouldn’t be The Exchange otherwise. We also pinged two investors with interesting perspectives on the region: Amy Cheetham, a partner at Costanoa and Mexico-based Belgian VC Jonathan Lewy, co-founder and managing partner at Investo.
If you care how the sausage is made, you might be interested in knowing that our initial interpretation was met with some pushback from our experts — which always makes things spicier. Onto our numbers and analysis!
Beyond data
The Latin American section of CB Insights’ report starts with an overview of regional trends, followed by country-by-country breakdowns. This caught our attention, perhaps disproportionately. See the dollar volume evolution for yourself, comparing Q1 2022 with Q4 2021:
VC investment in Q1 2022, in dollar terms:
- Latin America overall: $3 billion, down 25% from Q4 2021.
- Mexico: $258 million, down 59% from Q4 2021.
- Brazil: $1.5 billion, down 32% from Q4 2021.
- Colombia: $457 million, up 56% from Q4 2021.
- Argentina: $47 million, down 46% from Q4 2021.
- Chile: $182 million, down 17% from Q4 2021.
Our first instinct was to dive deeper into the discrepancies between, say, Mexico and Colombia, but Lewy questioned this approach.
“I think it’s a mistake to look at things on a country-by-country basis,” he said, pointing out that founders from all over Latin America are now based in Mexico — and vice versa. But perhaps more importantly, successful LatAm startups “need to have a regional vision,” which makes their home country less relevant than it might seem at first.
It wasn’t just Lewy pushing back on country-based breakdowns: When we told Cheetham that data indicated a smaller decline in Chile and an uptick in Colombia, she replied that it seemed “odd.” She ventured an explanation, saying it might be “partially due to Chile and Colombia having less developed startup ecosystems,” and therefore places where “investors are choosing to take early bets … as they’re less competitive than Mexico or Brazil at the moment.”
“Less competitive” here means “less expensive” in VC terms.
Combined with declining dollar volume, deal volume does seem to indicate that investors are taking a larger number of smaller bets.
CB Insights reports that 283 deals closed in LatAm in Q1 2022, 8% more than in Q4 2021. That’s also more than in all quarters of 2021 except Q3’s high of 297 deals — with the usual reminder that there tends to be a lag in quarterly deal data, meaning the final countdown might prove superior.
For what it’s worth, here are the current country-by-country tallies:
VC investment in Q1 2022, in deal terms:
- Latin America overall: 283 deals, up 8% from Q4 2021.
- Mexico: 32 deals, down 18% from Q4 2021.
- Brazil: 153 deals, up 1% from Q4 2021.
- Colombia: 29 deals, up 81% from Q4 2021.
- Argentina: 19 deals, up 111% from Q4 2021.
- Chile: 18 deals, down 5% from Q4 2021.
Less money, but more deals — this might be key to digesting how Latin America can be both in and out of sync with the rest of the startup planet.
Global context
Latin America doesn’t exist in isolation, and the same factors that have led to a global slowdown are also present in the region. On the macroeconomic front, Cheetham named “interest rate volatility, inflation and slowing GDP growth across the region” as drivers, noting that “we’ve seen all of these metrics change markedly in the last six months.”
In Brazil, for instance, interest rates started climbing in August 2021 and are now near 12%, which undoubtedly makes venture investments less attractive than they used to be. From that angle, Cheetham said, “this pullback is more emblematic of a global pullback from later-stage investors than it is specific to LatAm.”
Another trend that is hitting Latin America is the valuation turmoil of public tech companies. Fintech stars such as Nubank parent company Nu, PagSeguro and Stone have seen their market caps suffer in the U.S. stock market where they listed, while Brazil’s home-based IPO opportunity is virtually closed today. Cheetham expects this situation to have an impact on late-stage fintech financing in the short term.
“This is a knee-jerk reaction to global market volatility, and LatAm is not immune to that,” she said.
Being susceptible to global trends is one thing — but does it paint a full picture of what’s happening in Latin America? The Costanoa partner doesn’t think so. In her view, it’s “only half the story.”
The rest of that story
There are contributing factors to Latin America’s venture slowdown that are specific to the region. On one end of the spectrum, the overall investment slowdown could be a correction after some overheating. On the other, the rise in deal volume indicates that early-stage activity is resisting the overall decline well.
“I’m long-term bullish on LatAm, but valuations have spiked in the region relative to the exits we’ve seen and I think we’ll see a pullback in late-stage valuations and investments as expectations come back to reality,” Cheetham said. “That said, at the early stage, investors are making seven- to 10-year bets and they are less impacted by current exits and public market volatility.”
It is never easy to point to when things got out of hand. Looking at quarterly data for Brazil and Mexico, it may have been in Q2 or Q3 2021, which look like outliers in retrospect. Record amounts of funding were in part due to mega-rounds in newly minted unicorns or soonicorns, themselves driven by FOMO, but the huge figures may have reached their peak.
One of the main FOMO drivers for Latin American startups in recent quarters among foreign investors was the lure of attractive prices, as valuations were lower than in the U.S. for comparable performance. However, this started to change, which could explain some of the course corrections we are seeing.
Without pointing fingers, it was during 2021 that the valuations of some regional unicorns rose much faster between rounds compared to CB Insights’ “median step up” of 2.6x that was seen in Q1. When those companies’ public competitors struggle on the stock markets, the valuation gap between startups and their potential exit value becomes more blatant and results in new benchmarks.
Talking about the valuations he’s seen in Q1, Investo’s Lewy said that most of the declines happened around Series C and beyond, with Series B rounds only “a little bit” impacted. As for Series A deals, he saw “slightly less enthusiasm, but not a huge difference.” Translating this into numbers, he estimated that a deal that could have closed at a $200 million valuation a few months ago might now average some $160 million — “an adjustment, but not a huge one.”
When it comes to early stage and seed, the picture is very different, Cheetham and Lewy both said. It’s been “very hot” in 2022’s first quarter, with “very high valuations,” Lewy told TechCrunch.
“If anything, I’m seeing more seed and Series A deals now than six months ago,” Cheetham concurred.
What to expect
Is early-stage activity simply enjoying a grace period? After all, public market troubles tend to drip down stage by stage, starting with later series. But there are reasons to think that seed deals might remain unscathed, at least for the time being.
“I don’t expect a major slowdown in early-stage funding in the region,” Cheetham said. She cited “the amount of angel money flooding the market,” as well as “an explosion of new funds that are dedicated to the region that will continue to drive funding.”
Recent news seems to prove her right: As you may have read on TechCrunch, SoftBank “is spinning out its Latin American investment arm into a new autonomous entity, dubbed Upload Ventures, that will back early-stage companies in the region at a pace of about $100 million per year.”
With lots of dry powder still to be deployed, there’s significant inertia at play, which might last long enough for seed-stage startups to never be affected, Lewy suggested. But even if it were the case, it would only lead to lower valuations: “Some companies that have been raising seed rounds at $20 million valuations might drop to $10 million or $15 million,” he predicted.
Taking later stages into account, however, makes us anticipate lower tallies. Cheetham said that “2021 will be hard to top in terms of funding flowing into the region.”
“It feels natural that things would start to slow down as funds who historically haven’t been focused on the region rebalance and rethink their strategy in light of a global slowdown and challenging macroeconomic conditions.”
Funds that were only dipping their feet into LatAm might be taking a break for now, but one thing will remain. A few years ago, there were doubts about the region’s ability to create large tech companies. With Rappi, Nubank and others showing otherwise, the concern has completely disappeared, Lewy said.
This can explain Cheetham’s long-term bullishness: “I expect funding to rebound — there are so many talented founders and teams building in large markets [that] this slowdown feels temporary and certainly doesn’t feel as though it has impacted early-stage startups significantly.”