What the Brazilian Startup Ecosystem Needs to Succeed

Written on 2014-10-14

[UPDATE-1] Wow! This post ended up on the first page of Hacker News!

[UPDATE-2] This article was featured on Globo News, you can watch the show here—thanks for helping spreading the ideas :) Globo News Print

The year was 2002 and the dot-com bubble had just crashed in spectacular fashion. Business insiders and the public were very skeptical about the future of technology in general and Internet companies specifically. This skepticism made the entire American startup ecosystem, including entrepreneurs and investors, extremely pessimistic about the years ahead. Consequently, the chances of recovery looked very slim—until one company changed everything: PayPal.

PayPal was one of the few elite startups from that era to not only survive the dot-com crash but also thrive. During that same notorious year of 2002, it managed to do a successful IPO and, just a few months later, was acquired by eBay for the impressive sum of $1.5 billion.

Beyond boosting the confidence of the American startup ecosystem when it needed it the most, PayPal's success story established a fertile environment for the creation of many other highly successful startups. In fact, many of PayPal's original team members went on to directly develop or fund several new startups that became multibillion-dollar businesses, including household names like LinkedIn, Facebook, YouTube, and Tesla Motors.
PayPal Mafia

Brazil's Challenge

The Brazilian startup ecosystem is not currently passing through a period as bad as the post dot-com crash, but it hasn't produced any Internet company even remotely as successful as PayPal either. So far, our most valuable startup exit came from the comparison-shopping service Buscapé, which sold the majority of its stake to the multinational media company Naspers for $374 million in 2009. $374 million is certainly an impressive price tag, but it loses its appeal when compared to the billion-dollar acquisitions seen in other startup ecosystems around the world, including WhatsApp and Waze. Furthermore, Brazil has not seen another relevant Internet startup exit since the acquisition of Buscapé five years ago.

Brazilian startups that are thinking big (and they all should be, assuming the concept of risk-adjusted return is understood) face a difficult reality: although Brazil presents seemingly limitless potential for tech companies—it has the world's 7th largest GDP, and 50% of its 202 million residents have Internet access—startups that resulted in large M&As or IPOs are practically nonexistent in the country.

The Attack of the Clones

To change the current landscape, Brazilian tech entrepreneurs are working hard to create the country's first highly successful Internet company. Most of these entrepreneurs aim to achieve this goal by using the "clone strategy," which involves replicating successful US companies in Brazil. This strategy is very appealing because it dramatically reduces market risks—at least in theory—by following supposedly proven business models.

In practice, however, these American clones face greater challenges in the Brazilian market than expected. Two prime examples of this struggle are Groupon's clone Peixe Urbano and JustFab's copy Shoes4You. Peixe Urbano got off to a strong start when it was founded in 2010 but had to pivot away from the deal-of-the-day business model in order to survive in an environment of high competition and low margins, while Shoes4You had to shut its doors in 2013 after only two years of operation because of unique market conditions in Brazil that made it difficult for the subscription-based e-commerce company to generate enough revenue to match its high cash burn rate.

Startup clones often look good on paper, and some of them even gain strong initial traction. But after a positive start, they usually encounter problems with Brazil's unique customer base and the deep structural differences between the Brazilian and US markets. By the end of 2010, there was a Brazilian clone of almost every successful startup in the United States. However, none of these endeavors resulted in a standout success, and the majority failed or had to pivot their business models just to stay alive. Disappointed with this scenario, well-known venture capitalists such as Sequoia Capital and Accel Partners began backing out of Brazil and closing their regional offices in there just a couple of years after opening them.

Going Global (or Not)

Brazil's lack of internationalization is another challenge to all of its startups, whether they are clones or not. The social networking service Orkut is a good example of what this obstacle can represent. Although Orkut was originally started in the United States, it enjoyed mass adoption in Brazil. Because of this, its mother company, Google, announced in 2008 that Orkut would be fully managed and operated in Brazil. Orkut had, at its peak, more than 30 million Brazilian members and was by far the most popular social networking website in the country for the majority of the 2000s.

But Orkut's popularity in Brazil was not replicated in other countries, especially not in the United States. Around 2011, Brazilians suddenly started feeling isolated from the rest of the world and quickly abandoned Orkut for the more globalized Facebook. The loss of traffic for Orkut was so big that Google had to completely shut down the service in 2014.

Orkut's lack of internationalization was clearly one of the primary reasons for its demise. With markets and economies becoming more connected and globalized every day, Internet companies are finding it harder to achieve success if they only serve a local user base, particularly if that user base is not located in the United States.

Some of Brazil's current startup clones are trying to mitigate the lack of internationalization by focusing on global markets very early on. One good example is Easy Taxi, the Brazilian "brother" of ride services Uber and Hailo, which was founded in 2011. With the help of the venture firm Rocket Internet, Easy Taxi has raised $77 million, added 185,000 drivers to its platform, and established operations in 27 countries. Easy Taxi can already be considered a very promising and globalized startup that originated from the Brazilian ecosystem.

However, Easy Taxi still doesn't have any operations in regions like the United States and Europe, and it is not planning to expand to those key markets either. Will the absence in such dominant markets affect Easy Taxi's chances of becoming Brazil's first big Internet startup success case? Only time will tell, but Uber (an American company and global leader in personal transportation) expanded to Brazil in 2014 and is now directly competing with Easy Taxi. Uber operates at a much bigger scale and has the expertise gained from winning the most competitive market of them all—the United States—not to mention the fact that it is extremely well funded with a total of $1.5 billion in venture capital. With all that power, Uber is going to represent a big threat to Easy Taxi's aspirations to become the first big Internet success case in Brazil.

We Heart It is one of the very few Brazilian startups that has the United States as its primary market. The startup was founded in 2011 by two Brazilian entrepreneurs and consists of an image-based social network. We Heart It is a rarity among Brazilian startups because most of its user base is located in the United States. It currently boasts more than 30 million active users (and counting!) and is considered by some in the international tech press to be the next big social network platform. With its strong US presence and headquarters in San Francisco, CA, it's not a coincidence that We Heart It is one of the most promising Brazilian Internet startups to date.

Learning from the Best

Well-known global success cases such as Waze (Israel), Skype (Sweden), Rovio (Finland), and more recently the promising We Heart It from Brazil, all prove that it is both possible and beneficial for foreign startups to focus on the American market and be inserted into the American startup ecosystem. The United States has the capital and knowledge necessary for startups to succeed, and these resources are a direct result of its many past success cases, which pave the way for future companies to flourish.

The Israeli model: me at Waze's headquarters in Palo Alto, one day before Google announced the $1.1B acquisition.

This forward momentum caused by past success cases is exactly what is missing from the Brazilian ecosystem. In Brazil, we lack the critical mass seen in the United States of seasoned entrepreneurs and tech investors available to fund and mentor new startups. As a result, the country is not reaching its potential to create relevant and dominant global players in the Internet arena.

However, the adverse scenario facing the Brazilian startup ecosystem can be changed; Brazilian entrepreneurs do have the talent and the passion necessary to create businesses that are able to prosper not only in Brazil but also to win leadership positions in the rest of the world—as it has already been proven in other traditional industries. But for this same level of success to happen in the industries that are heavily affected by the Internet, Brazilians must be confident and brave enough to make the US market a high priority instead of being afraid to compete there. And by doing that, they will also be able to reach out to the already hugely successful American startup ecosystem—and this is key to achieving success in the Internet game.

By deeply connecting Brazilian startups with the American ecosystem, we will be able to learn from all of its past and current Internet successes (and failures). This "learning from the best" approach is what Brazilians really need if they want to build startups that will one day become global leaders in their industries.

And when the first massive Brazilian global hit finally happens, other Brazilian entrepreneurs will be inspired and be able to access the knowledge and capital channeled to the country by that previous success story. And this can be the trigger that creates an ongoing cycle of success inside the Brazilian startup ecosystem just like the cycle PayPal famously created in the United States after the dot-com crash.