Global Government Venturing report: South Korea

The sobering reality of South Korea’s limited natural resources and available agricultural land has forced its government to become a major player in tech investment and investment facilitation. Successive political administrations have relied on the exports of some of its largest conglomerates such as Samsung and LG, the first and third largest smartphone manufacturers in the world. But the dominance of these behemoths has become a barrier to further economic expansion for the country because, as large companies, they are slow to innovate. This is where a creative economy is needed to fill the innovation gap. Unfortunately, a combination of a highly risk-averse population, combined with outdated legislation and difficult conglomerates, has created an ‘anti-startup’ attitude in South Korea.

But that attitude is rapidly changing. South Korea’s new president, Park Geun-Hye, was elected last year on a mandate to reinvent the economy and she has been vigorously promoting entrepreneurialism. Apart from pro-startup government rhetoric and TV game shows about becoming an entrepreneur, her administration is investing billions into incubators and education. The government is very much leading the way in cultivating a creative economy and the results have been significant. There is already a silicon valley-style tech hub just south of Seoul and the number of entrepreneurs is steadily rising, particularly in areas like robotics.

The speed with which startups have begun springing up in South Korea (the total standing at over 28,000, double that of 2012) has attracted attention from foreign tech giants like Google and Facebook, who are setting up regional offices in the capital city.  

Law & policy

Venture capital is in short supply in South Korea. Whilst venture capital (VC) had a sustained resurgence in the late 1990s, with 29,000 investors injecting $485m worth of capital in 2000, that number had dropped to $3m by 2010, which represented 3% of total capital invested in South Korea that year. Although VC funding has picked up since 2010, with 417 VC firms now operating in the country, the numbers are in stark contrast to other countries such as the UK and US. There are several reasons for this, most notably South Korea’s risk-averse culture , which seems to have informed policy over the last three decades.

There are stringent contractual protections for investors who do decide to invest in a South Korean startup, the most significant being:

• There are certain rights to protect the return of the investor’s investment, such as a redemption right or a put option
• lInvestors are entitled to a partial refund (the amount to be agreed by both parties) should the business fail or the founder walk away from the company within five years of the investment. The investee is solely responsible to pay this back
• Investors have rights of participation in management such as changes of direction, audits and appointments to the board

Unlike the US, Korean law requires VC funds to be formed as stock corporations, as opposed to a partnership structure that is more common in the US. Critics of this have argued that it creates a more short-termist attitude, with investors focusing primarily on quarterly results – an attitude not best suited to the boom and bust nature of startups. 

This lack of foresight and focus on fast profits has meant that Korean VC firms tend to opt for quick exits from their investments. Korean firms tend to cash out via IPOs about 75% of the time compared to 25% via a merger or acquisition.

A lack of VC activity has not necessarily been detrimental to the growth of South Korea’s startup industry, quite the opposite in fact. The government has been forced to pump billions into schemes and initiatives to simulate growth, and further increase its participation in investment and financing.

For example, the government is permitted to heavily subsidise venture capital companies under the Special Law to Promote Venture Capital Companies, passed in 1997. Although well intentioned, there have been reports of companies entering into the high-tech industries simply to get a government subsidy. The new administration recently extended this law until 2017. 

There are also safety nets for entrepreneurs. Individuals who work for public bodies are  guaranteed their job back within three years, if they leave to launch a startup. And Entrepreneurs can receive tax breaks on their office space if at least 75% of the building is used by other startups.

President Geun-Hye recently announced new tax policies to incentivise startup mergers and acquisitions, and loosen regulations for larger companies to engage in deals with smaller, struggling businesses. The government is also keen to increase private individual investment by offering tax cuts and payment deferrals to investors that reinvest their returns into future business ventures. This has proved successful, as more successful Korean entrepreneurs are reinvesting back into the startup ecosystem.

The president also hinted at introducing a new crowd-funding system for wealthy individuals and a third stock market, the Korea New Exchange, for small business ventures. Experts have predicted that this could lead to a $4bn increase in venture investment over the next five years.

Funds, Finance and Investment

The government is the largest player when it comes to investment in South Korea. Government spending on research and development already accounts for 4% of GDP, and the newly-elected president wants to raise that to 5%.

She announced in early March this year, a three-year $4 billion spending package on startup initiatives, with the prediction that “unless we change the fundamentals of the economy and break from the trap of slow growth, there will be no future for us”.

This funding is being distributed as direct grants/investments, the creation of innovation centres connected with national universities and through agreements with many of the leading venture capitalists and accelerators in Korea. Currently, 10 private organisations have an agreement for 1:5 matching funding from the government, meaning that by the end of this year, 50 Korean startups will have received $600,000 in funding under the programme.

At the heart of South Korea’s startup drive are three government agencies that are primarily concerned with investment and R&D; the Ministry of Science, ICT and Future Planning (MSIP), The National IT Industry Promotion Agency and (NIPA) and the Korea Evaluation Institute of Industrial Technology (KEIT).

Both NIPA and MSIP are responsible for creating and investing in schemes that promote entrepreneurialism and startup technology. Late last year, MSIP launched the Born Global Startups programme, which offers startups business advice on attracting investment and business strategy planning on entering the global market. It has a specific focus on companies working in areas of 3D printing, medical devices and active-touch screens. The 20 chosen startups for the programme receive between $28,000 and $93,000 in government funding.

MSIP also launched three startup incubators, each with a $465,000 war chest to train and invest in 10 promising startups. The incubators collaborate with overseas accelerators for further investment and advice. Two further incubators, under the Global Business Incubator programme, were launched with the mandate of funding and training already successful companies who wanted to expand globally. Each centre was given $232,525 to fund more than 60 Korean people or businesses at home or abroad.

Long-standing NIPA is primarily an advocacy agency that supports the ICT industry by conducting policy research and promoting Korean businesses to foreign investors. It takes an overarching view of the future of the ICT industry, future trends and wha
t support businesses need. It also participates in investment to ‘foster growth’ in innovative companies and produces policy documents for the government. It has an investment remit of $300,000 for ICT growth technology development and $500,000 for applied technology development.

Investments and deals

The government has backed startups in the past that have gone to be very successful, including gaming companies Navr Corporation and Nexon, as well as anti-virus company AhnLab. However, the exact amount of money invested has not been disclosed.

Mobile communication app company Kakao signed a deal with the Korean government last year to create a $27m ‘entrepreneur fund’. The fund supports and invests in promising tech startups that are working on the next generation of mobile technology.

Government initiatives

A large portion of the increased R&D funds will be spent on robotics. When the president announced the startup stimulus, she acknowledged South Korea’s ageing population situation as a “silent, looming disaster”.

The government believes that service industry robotics will be a lucrative future industry, and there’s also the added bonus of solving the country’s aging population problem. Therefore, millions has been thrown at the advancement of robotics research and one of main government departments involved in this initiative is KEIT. 

Although the demand for service industry robots is minimal at the moment, the government is preparing for what it believes to be inevitable – widespread development and production of cheap domestic robots. KEIT has already pumped research money into companies that have made robots with artificial intelligence of a three and five year old human, but it also working on robots that can perform two or three simple tasks and making them as cheap as possible.

KEIT has five core programmes for R&D, with one specific programme to support development of SME technology, which has a budget of just over $276k, 13.9% of its overall budget.

In another, national government-driven initiative, the Gyeonggi Province Council has built a Silicon Valley copycat called Pangyo Techno Valley in the city of Seongnam, which serves as the country’s main tech hub. Pangyo was selected by the national government in 2005 to host the tech hub, and it was opened in 2012. It now houses 44 tech companies including instant messaging startup KaKao Talk (which is about to submit its IPO), security software provider AhnLab and greentech company SK-Chemical.