The global monetary policy and Pakistan’s precarious political environment are the main causes of VCs’ reluctance to invest in startups in that country.
The first quarter of 2023 saw disappointing startup funding in Pakistan. According to a report from venture capital and insights firm Invest2Innovate (i2i), startup funding in Pakistan increased by about 52% in Q1 2023 to $23.1 million from $15.2 million in Q4 2022, but that sum is still 86% less than what startups raised in Q1 2022 ($172.8 million).
Speaking to the media, Mustafa Fahim, a Middle Eastern strategy consultant and the former head of finance and strategy at Sastaticket.pk, explains that the majority of Pakistani startups experienced financial difficulties in 2022, primarily as a result of supply chain disruptions brought on by the Russia-Ukraine conflict.
The trade deficit and ensuing balance-of-payments crisis “exacerbated the problem in Pakistan in 2022.” Startups, he continues, “rely on external funding,” and when those funds ran out, “the majority of startups failed to convince venture capitalists (VCs) to invest in their ventures purely based on their unit economics.”
The global monetary policy and Pakistan’s precarious political environment are the main causes of VCs’ reluctance to invest in startups in that country.
Venture capitalists, according to Fahim, “will invest in a firm if they know that their rate of return (RoR) is higher than what they would get elsewhere…investors do not need to know who is in power.” They give consistency in economic policies more thought. Unfortunately, Pakistan does not have this.
Mubariz Siddiqui, founding partner of Carbon Law, a startup and venture capital (VC) focused law firm, comments on how the ongoing economic downturn has impacted Pakistan’s startups, stating that “Pakistani startups have had to face a host of challenges due to current macroeconomic conditions.”
He continues, “Lower funding availability and high interest rates have reduced the viability of debt, and the devaluation has reduced revenues of Pakistan startup in dollar terms” (which is the currency in which most startups raised funding and would need to return it in). The demand for goods and services has also been impacted by rising inflation, resulting in higher prices.
Pakistan experienced unprecedented floods in mid-June, leading to VCs becoming more hesitant and asking for detailed reports on how their business would be affected. Monetary policy measures after the Ukraine war increased the rate of return for startups to extremely high levels, making it difficult for most startups to achieve.
The Fed reduced interest rates in 2020 to revive the US economy, restricting investors’ options for income-generating assets. Startups and public equities were a more profitable option for private investors, as they offered a justifiable rate of return.
However, when the risk increases significantly due to macro factors, investors may question whether the return is achievable.
The phenomenon, however, is not unique to Pakistan. According to Siddiqui, “startup funding has decreased globally.” There are several reasons for this. Investment into markets like Pakistan has also been impacted as a result.
Additionally, the majority of Pakistani startups have already used a sizable portion of their available funds and are currently looking to raise more.
A more upbeat Syed Ommer Amer, a social entrepreneur who currently manages partnerships and placements for Institute of Emerging Careers, a non-profit Web3 tech skills accelerator, told media: “I personally feel that the future is promising for startups provided that Pakistan has a stable government and policies.”
He goes on to say that “a lot of good work that was almost finished is still up in the air because of the regime change,” in order to further explain this. The new government has delayed the launch of many programmes that were scheduled for national distribution. It is indeed worse than what we had to deal with during the COVID-19 phase, with inflation skyrocketing.
Ommer believes that the Pakistan startup sector has a chance to recover in 2023 due to AI-transforming industries globally and the market correcting itself. Founders who embrace emerging technologies and get their units right from Day 1 will bring in high revenue. This is a once-in-a-lifetime opportunity.
Fahim and Siddiqui believe that 2023 will be a tough year for startups of Pakistan in terms of funding due to the Russia-Ukraine war, political instability, and natural calamities.
Fahim believes that 2023 may not bring much stability for the startup sector due to the same fundraising challenges as other parts of the world, as well as the challenge of building conviction in Pakistan as a market.