Colombia’s ITO Investment Gameplan: A Review of What the Country Did Right

In recent years, Colombia has established itself as one of the world’s most promising emerging markets, a transformation achieved through strong sustained growth and a proactive top-down approach …

Jim Glade and Conrad Egusa of Colombia Reports

In recent years, Colombia has established itself as one of the world’s most promising emerging markets, a transformation achieved through strong sustained growth and a proactive top-down approach to trade and foreign investment. The Andean nation is still overly dependent on industrial farming and an unsustainable mineral extraction boom, but the government’s attempts to diversify the economy are beginning to bear fruit.

In few cases is this more apparent than in the tech sector, non-existent a decade ago and now one of the burgeoning hubs for Latin American innovation.

According to ProExport, the government-funded agency tasked with promoting Colombian industry and investment abroad, information technology grew by 177% from 2007 to 2012, reaching US$6.8 billion in revenue, making it the third largest IT economy in Latin America. In 2012 alone, the BPO and ITO sectors exported over US$150 million in services abroad, earned an operating income of over US $1.5 billion and generated over 96,000 jobs, according to the Colombian National Association of Businesses (ANDI). Just two years after an initial US$8 million investment in a data center in Bogota, IBM more than doubled their investment in 2013 to build a new data center in the capital city. And ProExport reported that in the first five months of 2013, seven new IT companies came to Colombia with investments totaling over US$63 million, generating 239 new jobs.

This recent IT surge has been fostered in part by a moratorium on taxes for tech companies relocating to Colombia, but the country’s top-down investment in bolstering its human capital and encouraging the growth of a local tech market will have other, far-reaching benefits.  State-funded programs such as Digital Talent, run by the Ministry of Technology and Communications (MinTic), offer up to 100% forgivable loans to students who study certain curriculums. MinTic claims that by the end of 2014, 4,661 non-repayment loans will have been issued as part of the government’s campaign to promote tech education. President Juan Manuel Santos has said that he plans to make Colombia the first Latin American nation to be completely connected to the Internet, and his administration has already gone about the work of installing Internet kiosks in rural communities and laying high-speed submarine fiber optic cables to increase bandwidth.

As a result of these initiatives, the Colombian labor market has struck an attractive balance between high-level human capital and low operational costs. “Colombia’s advantage is the unique confluence of low-cost operations and an abundance of talent in working with cutting edge technology,” explains Michael Puscar, founder of GITP Ventures, an early-stage investment firm. Within two years of opening a local office for his previous business, which also had operations in the United States and China, Puscar had more employees in Colombia than all of his other offices combined. “The universities produce excellent graduates, but entry-level salaries for programmers are 60% lower than the equivalent in the U.S.,” he says.The next step for the Colombian tech sector is to parlay its talent pool into a domestically sustainable innovation ecology. That effort, as well, has been taken up by the state. Since 2012, government initiatives like iNNpulsa and apps.co have bolstered homegrown start-ups, providing them with capital and connecting them to the international investor scene. As of 2013, iNNpulsa has connected with over 25,000 companies and has awarded grants of up to US $800,000 to foreign investor groups looking to invest in Colombian companies. The more web-focused apps.co is expected to have awarded US$33 million in seed funding by the end of 2014 to university-based entrepreneurial programs and partnering accelerators according to The Atlantic.

These efforts have been largely successful thus far. The number of venture capital firms in Colombia jumped from one in 2012 to four in 2013, raising capital commitments to funds by 568%. In total, there are now 38 private equity, venture capital or seed funds — 14 of which are still in the fundraising stage — in the country.

Need for Private Capital

Ultimately, however, government funding is not a viable solution in the long run. As Michael Puscar will readily point out, there is no such thing as a free lunch. Government money comes with certain oversight requirements, which limits the ability of investment firms to take dynamic action when presented with an opportunity. The abundance of free money, moreover, could have a chilling effect on the startup scene, as startups become reluctant to part ways with valuable equity.

Even the government recognizes that the private sector will eventually have to take over the bulk of the risk. iNNpulsa Director Catalina Ortiz says the entity’s eventual goal is to begin “designing interventions that increase risk and participation of the private sector,” before phasing itself out of the market entirely. Ortiz admits, however, that iNNpulsa is “nowhere near an exit in its role as a hypergrowth promotion agency.”

Until such a time as it is not dependent on government subsidy, the Colombian tech ecology is likely to be constrained in its possibility for growth. Pedro Moneo, director of the MIT Technology Review in Spanish, recently said at a tech trade forum hosted in Medellin that the Colombian tech sector is “developed and mature.” Others offer a more measured assessment.

“A challenge Colombia has is that there are very few companies acquiring startups, as opposed to in the US where this commonly occurs with businesses such as Google and Facebook buying smaller startups,” says Edinson Arrieta, the co-founder of Espacio, a co-working space in Medellin. This is a recurring problem people in the industry will bring up, as the lack of viable exits for investors translates to a lack of ready capital for the startups themselves.

Some of this, to be sure, is part of a bigger problem in Colombia, where credit can be difficult to come by for the entrepreneurial-minded. “In the States, what’s the typical way of getting started? You max out your credit cards, you go to the bank and get a loan, and you take a shot on your dreams. Here getting credit is almost impossible for many people. And if you do, a 60-month loan could come with 20% interest,” says Puscar, who agrees that improving access to capital is a necessary aim for the tech sector. “I get pitched all the time by companies where, if they were in the States, they would have just borrowed money from a bank. They’ve got revenue, they’ve got assets, they’ve got customers, they just want to grow their businesses. But because capital is so difficult for people to get their hands on, they come to people like me, and there are precious few of us in the community right now.”

Government Efforts

As part of a broader initiative to reduce administrative red tape for foreign business and incentivize foreign investment — an effort documented in the World Bank’s 2014 “Doing Business” report — the government has taken steps to encourage the relocation of capital to Colombia. Some of these, as mentioned above, have been successful to an extent. But so long as it’s restricted to certain sectors or to foreigners, this sort of outreach has its limits. “I think looser general lending practices would be of huge benefit to the country, not just to tech companies. If people can get loans, then they’re starting businesses, creating jobs, and that makes Colombia a more attractive place to do business, a more attractive market, and ultimately, pours more money back into the economy,” says Puscar.

The other problem with the government’s approach is that it often becomes muddled in what can be a messy bureaucracy and what Puscar calls an “extremely intimidating legal code.” “While we’ve seen some improvement, the system continues to suffer from a lack of uniformity,” says Langon Colombia SAS founder Alan Gongora. “For example, it is still fairly common to receive divergent answers to basic procedural and even substantive questions from different branches of the same government agencies. Sometimes even within the same agency you’ll hear one thing one day and another the next. It’s frustrating and it makes businesses very nervous.”

Gongora, whose law firm represents internationally based clients in Colombia, says that the country would benefit from greater clarity in its relevant legal and accounting codes in particular. “Technically, what you have is one national legal system being applied across the country with some local variations. However, certain portions of the local legal code remain rather vague and get interpreted in different ways depending on where you are or what’s at stake. That makes it hard to know where you stand from one year to the next. And if you talk to business people, they will tell you that this creates a tremendous disincentive to experiment and take long-term strategic risks.”

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Still, Gongora agrees with Puscar’s assessment that Colombia provides investors and businesses with a huge potential upside and that the country has created a nurturing environment to develop its tech sector, among others. One example is the creation of multiple “Zona Francas” or free trade zones that benefit from a flat 15% income tax and no tariffs on materials imported into the zone, among other benefits. According to Gongora, “The process of obtaining access to these Zona Francas has become “increasingly professionalized, compared to several years ago.” He says that after all the requisite documentation is organized, access should be granted in a matter of weeks. “The free trade agreement with the US that came into effect a couple of years ago was definitely a catalyst,” says Gongora of the process. “That had the end effect of making things a great deal more streamlined … However, it is clear that there is still a ways to go. The paperwork is still an issue (not everything can be done online).”

In regards to Colombia’s business evolution, Puscar comments, “You just have to look at it as them maturing, as them learning things from how they operate abroad, learning things from investors and businesses. And they’re changing things. Changing the laws. And eventually it will be a mature investment economy.”

This article was written by Colombia Reports reporter Jim Glade with the help of Conrad Egusa, co-owner of Colombia Reports and Publicize.

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