Startup fraud in Asia may be blown out of proportion

Terence Lee co-reported this story. Queena Wadyanti contributed research.

With a string of startup scandals suffocating the news, it’s easy to see why some have soured on the ecosystem as a whole.

But just like how headlines make air travel seem more dangerous than it really is, the alarm bells raised on startup fraud in India and Southeast Asia seem to be overblown, an analysis by Tech in Asia shows.

Image credit: Timmy Loen

We found that only between 0.2% and 0.5% of startups in these regions have faced public fraud allegations in the past five years, with the latter figure excluding seed-stage startups.

How does this compare to overall corporate fraud? Research published in the business journal Review of Accounting Studies  reveals that 3% of large publicly traded firms in the US have been exposed for fraud.

Based on this figure, the authors calculated that 10% of these corporations commit securities fraud both seen and unseen every year. For startups in Southeast Asia and India to hit this level, we would have to assume that hidden or unreported cases outnumber reported ones by at least 19-to-1.

At the very least, we have found no evidence that startups in Southeast Asia and India commit more fraud than the large corporations that back them. In fact, investors can contribute to better governance: a research paper found less fraud in VC-backed companies in China compared to the average firm.

For Southeast Asia in particular, the low average returns among VCs may be a bigger concern for the startup scene.

Regardless, the amount of fraud in these regions may seem outsized due to the few high-profile cases that dominate the headlines. Our research has found that known cases make up around 3.8% of all startup capital raised, which seems high. But one company – Byju’s – makes up almost three-quarters of that figure.

As a result, investors tell us that scandals in the industry have worsened deal flow in the region, and in Indonesia specifically. However, local investors who can see beyond the hysteria may face less competition for good deals.

Not quite a roll of the dice

Indeed, Tech in Asia’s analysis found that VCs can actively reduce the odds of fraud in their portfolios. There’s a pattern: those with the highest ratio of alleged fraud were usually headquartered outside the regions of the firms they invested in. On the flip side, those with clean sheets tended to be local.