Alumni is going for highest return possible with its portfolio of investments, where success will result in the first investors making 100 times their money. At the seed investment stage, the company is providing seed capital to concept stage businesses where a prototype does not yet exist. The return distribution is similar to that of the flourishing UK biotech industry, where it is expected that 16 out of 20 investments fail outright, three return some capital to investors and one delivers a block-buster drug, where 100-fold returns are possible.
As is the case with the UK biotech startup sector, Alumni is pursuing an ultra-long term investment strategy, where returns will be delivered in a minimum of five years and many will only be achieved within 10 – 15 years.
The three competitive advantages Alumni seeks in investee companies
Alumni’s value will be underpinned by replicating three key competitive advantages built up by the founder with his involvement with a similar Southern African company over the last six years: Any and all investee companies have to fulfill the following exacting criteria, before Alumni will back them.
- Technology – the enabling technologies that Alumni will invest in will need to be patentable within South Africa and provide a commercially quantifiable competitive advantage by:
- reducing the cost of providing that technological service by an order of magnitude when compared to the competition
- have a well-defined multi-billion dollar global market niche, once in-cluster companies have provided a case study of successful instalment
- be fundable within the constraints of the Section 12J Venture Capital Company rules
- Local relationships – core to Alumni’s success is a community-centric approach towards host governments and local communities that will enable it to:
- Obtain rights over prospective oil and gas exploration acreage at a fraction of the cost of the competition with minimal financial commitment.
- Strong relationships of cornerstone high net wealth investors will increase the probability of the company securing feedstock agreements with Eskom to use natural gas to alleviate electricity shortages in the region. The reduced capital expenditure and speed of deployment gives the government a vested interest in Alumni’s success. The company’s marketing focus on skilled black professionals means that it will build on its already strong relationships within the technocratic levels of local, provincial and national government.
- Work done to date with local communities and municipalities has created relationships where the local communities are able to give vital scientific intelligence to improve the probability of discovery, while a broad-based community share ownership will increase the probability of a long-term harmonious relationship between the central government, local government and the community for the multi-decade duration that the resource is being extracted.
- Financial engineering – the founder’s involvement in a previous startup in this sector has acquainted him with funding mechanisms that materially reduce financial exposure to these long-term initiatives:
- Technology innovation reduces the capital needed at the pre-resource phase by 90% – as described above
- Grants: Technology projects will be selected, where they have a high probability of securing grants: The founder has been involved with companies where three Special Programs for Industrial Innovation grants have been secured, while the German Government has indicated support for one of the projects, the Natal Provincial Government and for another with the British Government, potentially coming in with the £15m grant for a third. None of this is confirmed but shows the potential leverage that grants can play in reducing the remaining 10% of exposure.
- Research and development tax credits can also play an important role, so companies need to qualify for both UK research and development tax credits, where they will be allocated a sister company in the UK to market their technology globally and for the sister company in the UK to obtain up to 20% of all research and development funding deployed to the South African company to cover overheads. South African companies can also partner with profitable larger corporates, who can claim Section 11(d) allowances where they will receive back 42 cents for every rand invested in a research and development joint venture.
- Targeting cryptocurrency investors – cryptocurrency investors have had an impressive run with Ethereum increasing by 3000% in six months, and Bitcoin by 1000 fold in seven years. South Africans hold an estimated 2% – 3% of all cryptocurrency in global circulation. This equates to approximately R40 billion of liquid assets available for reinvestment. Where gains are of the capital nature, they will be taxed at a maximum of 18% for individuals (or 40% of marginal income tax rate), whereas the S12J VCC deduction (see below) will be at the marginal rate or 45% for top rate taxpayers.
- Section 12J Venture Capital Company status – for the risk remaining after all these interventions, investors can deduct at 45%.
We have an experienced team that has created standardized due diligence (DD) packs that investee companies need to produce before being considered. The DD process we use is very comprehensive and includes an assessment of all the major business functions. The outcome of the full DD will be presented to our Investment Committee for a final go/no-go decision.
These companies will by law need to be registered in South Africa. They will however all have the intention to scale globally through a standardized mechanism where they partner with a company in the UK which will assist with marketing, business development and post-sales customer support from a London-base. Alumni will only target ultra-high potential companies with long-term potential returns of 100X in 5 – 15 years (IRR 35% – 250%) on each investment in the success scenario. Note that due to the early stage of initial investment, a high attrition rate is expected – where an 80% failure rate should be tolerated – as is the case with UK Biotech.
Our detailed investment criteria for the technology investments include:
- The potential for 100 fold or more returns on success
- Rigorous assurance that the companies fulfill the three investment principles
- Strong ethical foundation on which the business is founded
- Strong technical team with a track record in innovative science
- Operational gearing (profits increase faster than revenue)
- Startups and pre-revenue businesses
- Strong bias towards BEE entrepreneurs
- High growth potential market opportunity – cross border growth prospects with export potential
- High gross margin and high potential for recurring revenue
- Potential to globalize the product using Alumni’s local and international relationships
- Strong competitive position within their targeted sector with differentiated Intellectual Property (IP) – products should be unique
The recent amendments to Section 12J of the Income Tax Act permit registered VCC’s to invest in the technology companies such that the book value of assets post investment does not exceed R 50 million. The oil and gas exploration plays are allowed to receive up to R500 million.
The combination of the financial engineering and this increased threshold allows Alumni to invest in opportunities that traditionally would require significant institutional investment or international development funding.