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We have distilled here five things that venture capital (VC) players need to look at early on when considering the Indonesian market, based on our recent experience in this space.
- Storyline consistency. Early-stage investment is about innovation. An early check of the target’s business is key to ensuring the investor does not commit substantial resources and time before the legal and regulatory foundation of the target company has been independently verified. With the rapid proliferation of creative business models and technology advances, the regulations in Indonesia may not fully capture innovative products and services. However, that does not necessarily indicate a red flag. The key is to ensure that the business does not engage in “illegal activity”.
- Debt vs equity. Debt instruments have given more flexibility to investors in Indonesian start-ups since they rank above shares in case the target should go bankrupt. It is also easier to invest in a debt instrument in Indonesia since that will not trigger a foreign direct investment requirement while keeping an option open for the investor to obtain certain contractual governance rights. Investors may also opt for an investment structure combining debt with equity, along with staggered injections to manage investment execution risk as they monitor business growth.
- Indonesia’s domestic venture capital registration could change, incentivising local venture capital to partner with international financial sponsors. Indonesia’s Financial Services Authority (OJK) has published a draft amendment on venture capital companies (VCC) expressly allowing venture fund schemes where the VCC acts as a General Partner (GP) and a foreign investor can act as a Limited Partner (LP).
- Founders remain a key element. As in other markets, in Indonesia the founders are a key element of the business of the investment recipient. This boils down to three things: local market knowledge/network, leadership stability, and local workforce (retention and loyalty). If the investment thesis is tied to any of these three things, an honest discussion on how the business will grow should be held early, before investment terms are put forward. We see investors taking various positions on whether to retain the founders. While good leavers and bad leavers are not always part of initial commercial discussions or subject to serious negotiations, some investors recognise the value of the founders’ vision and capacity for execution, and put in place contractual incentives and/or a broad bad-leaver scheme to ensure the founders can make a critical contribution to the early-stage growth of the investment recipient.
- Market for exit is limited. While Indonesia’s IPO market has opened its doors to Indonesia-based start-ups, the public appetite is not yet deep enough to make multiple IPOs attractive every year. Structuring a bespoke trade sale provision early (eg through a lower negotiated price and flexible arrangements) could be the key to managing expectations and business planning.