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Can Silicon Valley still dominate global innovation?

Can_Silicon_Valley_still_dominate_global_innovation

Take an evening walk on 17th Cross Road in Bengaluru's HSR Layout district, and you bump into tech types stepping out of their start-up's office and into one of the local microbreweries.

They might work for Udaan (e-commerce), Vedantu (education technology) or another of the growing herd of private start-ups valued at US$1 billion (S$1.3 billion), whose proliferation in the area has prompted locals to dub it "unicorn street". That name might be outdated, says Mr Mohit Yadav, co-founder of Bolt.Earth, a unicorn wannabe housed in the MyGate building. "Unicorn neighbourhood" would be more apt, he chuckles.

HSR Layout was not always the start-up hub of Bengaluru, itself the start-up capital of India. Five years ago, Koramangala, a few kilometres to the north, was the place to be - until rising office prices pushed out new start-ups. The fact that young firms are beginning to eye an ever-wider region to set up shop hints that Bengaluru is maturing as a venue for ambitious technologists. The city is home to 26 unicorns, and last year attracted US$13 billion in venture capital (VC).

For decades, Silicon Valley's position as the birthplace of high-growth technology companies was unassailable. The small patch of land has given the world, among others, Hewlett-Packard (founded in Palo Alto in 1939), Intel (Mountain View, 1968), Apple (Los Altos, 1976), Google (Menlo Park, 1998) and Uber (San Francisco, 2009). Mark Zuckerberg moved in only four months after founding Facebook in Cambridge, Massachusetts, in 2004.

As recently as 1999, the valley attracted a third of global VC investment. In 2011, 20 of the world's 27 unicorns had their headquarters in America, according to CB Insights, a data provider. Only four other countries boasted even one.

Silicon Valley is still home to 136 unicorns, more than any other place in the world. But as Bengaluru shows, such clustering is no longer confined to a narrow strip of land in northern California. Unicorns can be found in 45 countries. Of the more than 1,000 that trot the globe, nearly half reside outside America. The share of all VC flowing into American start-ups has declined from 84 per cent two decades ago to less than half.

The diffusion of capital beyond Silicon Valley in part reflects huge growth in tech in recent years that lifted many boats. But it will endure beyond the ups and downs of the investment cycle. Even as tech valuations slid during the fourth quarter of last year and first quarter of 2022, the share of funds flowing to firms outside America has remained high at 51 per cent.

Of the places that have burst onto the start-up scene, some are mature, such as Beijing, London or Tel Aviv, and often global in their ambition. Others, including Bengaluru, Singapore or Sao Paulo, are in earlier stages of hub-dom.

All enjoy a broad pool of technical talent, deep links to other parts of the world and local risk capital. Together, they are redrawing the map of global innovation - creating one that is more dispersed, diverse and competitive.

REDRAWING THE MAP

Many of the new clusters look different from the original one in Silicon Valley - although some share its pleasant climate. They also differ from each other. The more mature hubs tend to spawn more "deep tech" firms working in complex areas like artificial intelligence and other sophisticated software aimed chiefly at corporate customers rather than consumers. But whereas Israeli and British start-ups often look across their countries' borders, Beijing's are focused almost entirely on the domestic market.

Younger innovation hubs, including Bengaluru, Sao Paulo and Singapore, look a bit more alike in that their focus is regional rather than global. Instead of breaking new ground, they often adapt existing business models to local market conditions. As disposable incomes rise in new regions, consumers become willing to pay for similar "technification of services", says Mr Peng Ong of Monk's Hill Ventures, a Singaporean VC firm.

Mr Anand Daniel of Accel, a Silicon Valley VC firm, calls this the "X of Y" playbook. And so Flipkart (e-commerce) is the Amazon of India; Nubank (fintech) is the Revolut of Brazil; Grab (ride-hailing) is the Uber of South-east Asia. That helps explain why 70 per cent of South-east Asian unicorns and 80 per cent of Latin American ones are either in fintech or consumer Internet. Still, hyper-localisation means each hub is distinct.

The boom in tech clusters has been fuelled by several structural developments. The worldwide spread of high-speed Internet and smartphones has allowed start-ups to serve customers just about everywhere from just about anywhere. "Rapid technology adoption has made the market so much deeper", says Mr Abheek Anand of Sequoia India, the Indian arm of a Silicon Valley VC stalwart.

Cloud computing and freely available developer tools have made starting a company much easier. At the same time, as growth rates in mature markets have slowed and competition for investments has risen, venture capitalists have started looking elsewhere for their next big bet.

The pandemic appetite for all things digital has fuelled these trends. Some 60 million South-east Asians, nearly a 10th of the region's population, became new netizens in the past two years alone, according to Bain, a consultancy. The number of companies in India and South-east Asia generating US$100 million of annual revenue has jumped by an order of magnitude in recent years, observes Mr Anand.

If the democratisation of technology and global VC were the whole story, however, start-ups would be springing up everywhere. They aren't. The Economist has looked at start-up funding and valuation data for the 10 countries with the most billion-dollar start-ups. We have found that nearly 40 per cent of these unicorns herded in the country's top start-up city.

Between 2011 and 2021, the top city's share of national VC funding rose from less than 50 per cent to nearly 70 per cent for London, from 24 per cent to 60 per cent for Berlin and from 15 per cent to 34 per cent for Bengaluru.

That suggests that clustering remains no less powerful a force than when Alfred Marshall coined the notion of "agglomeration economies" in the late 19th century.

Once a city gains a foothold, additional activity is pulled in because of increasing returns to scale. It is easier to do business and recruit when suppliers and talent pools are nearby. Ideas flow more easily when employees from rival firms frequent the same pubs (or microbreweries). Even wide adoption of hybrid work is unlikely to change that; people will still want to meet in person and it is easier to do this when the persons are nearby.

A deep talent pool is the most obvious ingredient of a successful cluster. Famously, Silicon Valley benefits from proximity to brain trusts such as Stanford or the University of California, Berkeley. Tel Aviv has both universities and recruiters from the Israeli Intelligence Corps, which like elite universities, enlists the best and brightest.

Participation in such elite units is an immediate signal for a venture capitalist looking for a start-up founder to back, or a start-up seeking to hire young technologists. Bengaluru has nearly 70 engineering colleges. More than 55 per cent of Indians on LinkedIn, a professional social network, boast technical skills, such as those needed for programming.

Only Germans are technically savvier, and merely by a whisker; for Americans and Britons, the share is around 42 per cent. "Where else can you quickly hire a few thousand engineers?" marvels Mr Shailesh Lakhani, a colleague of Mr Anand's at Sequoia India.

Talent alone is not enough, however. Tokyo had the brains to produce global technology giants such as Sony (in electronics) and, more recently, Rakuten (in e-commerce). Yet the Japanese capital has struggled to nurture a vibrant start-up scene.

One possible reason is the continued dominance of Japan Inc by keiretsu (conglomerates). Another is the country's insularity. In one survey from 2019, the country ranked 53rd in the world in English proficiency; less than 8 per cent of Japanese speak it fluently. Foreigners tend to have a hard time gaining status in Tokyo's business circles. Outside venture capitalists have been shunned.

That hints at the second critical factor: openness to people and ideas. Migrants are a disproportionately enterprising bunch: you need a bold streak to move somewhere new.

Around 60 per cent of America's most valuable tech companies were started by immigrants or their children. European hubs such as Berlin, London and Paris, each of which is home to 10 or more unicorns, have large immigrant populations. China lacks foreign founders but its start-up hubs like Shanghai and Shenzhen draw plenty of "sea turtles", returnees who had studied or worked abroad.

It is hard to determine to what extent connectedness spurs start-up activity, as opposed to the other way around. But the two go hand in hand, and almost certainly feed off each other. Professor Rene Belderbos of Maastricht University has examined how often inventors in a city co-author patents with inventors abroad, and how this changes over time.

Unicorn-rich Bengaluru, San Francisco, Singapore and Tel Aviv all feature in the top 10 of Prof Belderbos's ranking of cities based on the growth in such linkages. Unicorn-poor Tokyo has seen a decline in connections.

Bengaluru illustrates how talent and openness combine to create start-up magic. The city's fondness for newfangled technology dates back to at least 1905, when the local maharajah diverted a nearby supply of hydropower to make it the first city in Asia with electric streetlamps.

Four years later, it built the Indian Institute of Science, a prestigious university that remains a magnet for clever Indians to this day. Migrants make up more than half its population - a statistic India's tech grandees invariably cite when explaining the city's success.

It has also long been connected to the world. Texas Instruments, an American electronics-maker, chose Bengaluru for its first regional office in 1985. Infosys and Wipro, Indian information-technology (IT) giants based in Bengaluru since the 1980s, have served global software customers, making the city "the world's back office".

When India's closed economy opened up in 1991, the city was the natural place for foreign companies and capital eyeing the country's vast market, says Mr Nandan Nilekani, co-founder of Infosys. That in turn drew ambitious domestic upstarts seeking connections and cash.

Yet Bengaluru might not be where it is were it not for a third ingredient: the presence of local risk capital. For enterprise to thrive, it needs backers who understand the ecosystem and are willing to feed it. This can be founders and employees of earlier start-ups, who become angel investors for the next generation, notes Ms Rana Yared of Balderton Capital, a VC firm.

Former employees of Flipkart, which Walmart bought in 2018, have gone on to found 225 start-ups, including five unicorns, according to Tracxn, a data provider. Those from Grab, Lazada and Sea Group, a trio of Singaporean tech darlings, have founded or run more than 1,000 firms.

A local capital base also encourages another important type of risk-taking. Employees must be able to leave existing firms and join or even start competing ones. Professor AnnaLee Saxenian of Berkeley has argued that Boston's Route 128, also near to top-notch universities, was outcompeted by Silicon Valley in the 1980s because it lacked this free flow of people between firms, perhaps in part because of stricter enforcement of non-compete agreements than in California.

In some cases, the state can step in to provide early backing. Besides having a long bench of angels that stretches back at least to Bill Hewlett and David Packard, Silicon Valley has enjoyed its share of government contracts in its formative post-war years, particularly from the Defence Department.

Fairchild Semiconductor, whose employees included the future founders of Intel, Sequoia Capital and Kleiner Perkins, depended on government procurement for much of its early growth. Bengaluru, home to military-research outfits, and Tel Aviv also have strong links to their countries' armed forces, which can act as buyers of first resort.

Some governments support start-ups with capital rather than contracts. Take Singapore, which has more unicorns per person than anywhere bar Israel. Mr Edwin Chow of Enterprise Singapore, a government agency in charge of the city-state's start-up policy, puts this down to schemes aimed at attracting investors and founders.

For instance, a big programme from 2009, modelled after a similar one in Israel, matched every US$1 from investors with nearly US$6 from the public purse. At least 15 funds qualified for the scheme, which allowed the investors to buy out the government's stake at its original face value, adds Mr Ong of Monk's Hill.

How much credit such top-down policies deserve is hotly debated. Historically, attempts to will clusters into existence have mostly foundered. Germany poured €1.5 billion (US$1.6 billion) into a Bavarian cluster initiative in 1999. France funnelled a similar amount to its poles de competitivite in 2005. Malaysia's BioValley complex, launched the same year at a cost of US$150 million, was soon derided as "Valley of the BioGhosts".

A Canadian experiment in supporting start-ups failed because it was so well-funded that private investors stayed on the sidelines. In 2009 Prof Josh Lerner of Harvard Business School concluded that "for each effective government intervention, there have been dozens, even hundreds, of failures, where substantial public expenditures bore no fruit".

Most investors and even some policymakers agree that Singapore's success has more to do with its entrepot status, pro-business laws and political stability. That said, the Government's push may have been a spark that lit a well-oiled lamp. Mr Justin Hall of Golden Gate Ventures, a Singaporean VC firm, reckons that the leg-up from the state may have accelerated Singapore's ascent by a few years.

THERE BE UNICORNS

The importance of talent, openness and risk capital will persist. But the clusters that thrive, thanks to a combination of the three, will continue to evolve. As the younger clusters mature, the "X of Y" playbook will gradually give way to more advanced tech, as is happening in China.

They will also become more globally minded. Already about 30 per cent of India's current herd of 60-odd unicorns primarily target international markets, says Mr Dev Khare of Lightspeed India Partners, one more VC firm.

And new cities may join the ranks of tech hubs. Lagos, Nigeria's commercial capital, already looks poised to become the dominant player in the African fintech scene. In March, Nigerian start-ups were better represented than those of any other country except two at Y Combinator, a famed Silicon Valley start-up accelerator.

Hot technologies such as the decentralised world of cryptocurrencies and so-called Web3 may seek out places with favourable regulations (or lack thereof). FTX, a cryptocurrency exchange valued at US$32 billion, has just moved to Nassau, in the Bahamas. The weather is nice there, too.

© 2022 THE ECONOMIST NEWSPAPER LIMITED. ALL RIGHTS RESERVED.



Source: The Straits Times © Singapore Press Holdings Limited. Reproduced with permission.