It's springtime for India's startup financing industry and here's what made it happen
Subtle but important changes are reshaping startup financing, as the action returns to a critical sector.
“Rajan is a true angel,” says Amarpreet Kalkat, co-founder, Frrole, an AI-powered social intelligence startup that offers services to businesses. In an ecosystem where business-to-consumer has been the flavour of the season and deep tech-based startups a rarity, Frrole has had its share of rough times. So, when in 2017 Kalkat was desperately trying to raise a bridge round, Anandan came to his rescue.
“I met him at an event in Jaipur. He took 10 minutes to understand the need and write a cheque. Once he was in, obviously, everyone followed,” says Kalkat. That Rajan’s move represents a leg up for the ecosystem is a view that echoes far and wide in the startup world.
“Indian VCs often have investment banker pedigree with little entrepreneurial experience. Rajan Anandan joining, with his vast experience, knowledge and networks, will give it a big boost,” says Saurabh Srivastava, chairman, Indian Angel Network.
Anandan’s move is ultimately just one executive movement in a large industry. But the timing as well as his role in championing India’s internet economy and its entrepreneurs makes it emblematic of larger shifts underway in the ecosystem that funds India’s startups. There are a number of other developments that are signaling subtle but important shifts underway in this space.
“We are seeing both maturing and deepening of the investor landscape, which will have significant implications,” says Alok Goyal, partner, Stellaris Venture.
Spring Follows Winter
The first wave of venture capital (VC) investors arrived in India in the early 2000s with global giants such as Sequoia and Norwest Partners. Homegrown companies such as SAIF Partners and Helion Advisors joined the fray, too. Often led by investment bankers with deal-making in their DNA, VCs in India behaved herd-like and topdown demonstrating low risk appetite. It was a good start.
“Remember, Silicon Valley is over a century old. It’s the cycles of experiences that bring maturity. By that yardstick, Indian VCs have done a fantastic job in such a short time,” says Murali Talasila, partner and innovation leader at consultancy PwC.
In terms of fund availability, the harsh winter that set in late 2015 appears to have thawed well, with VCs retooling for the next phase of growth. Successful tech entrepreneurs such as Sachin Bansal (of Flipkart), Kunal Shah (of Freecharge) and Girish Mathrubootham (of Freshworks) turning investors has provided both heft and depth to the funding scene.
The behemoth of the investing world, Softbank, decided to quit being a ‘tourist investor’, opening its India office early this year. Temasek-backed Vertex, a global venture fund, has decided to drive India investment decisions through a local office rather than out of Singapore. Quitters are returning.
Mohanjit Jolly, the erstwhile head of DFJ India, shut shop and relocated to the Silicon Valley in 2016. He is back. Last November, he set up Iron Pillar, a growth-stage venture fund. Amid tough times, many funds shut down, imploded or saw partners exiting. Wiser, many of those partners have resurfaced, launching new funds like A91 Partners, with a more focused investment strategy. Slowly, among a sea of generalists, more and more specialist funds with knowledge and expertise — for instance the agri-tech focused Omnivore Partners—are mushrooming.
Global incubators and accelerators in India are seeing frenzied growth. While Y Combinator is increasing its India intake, others such as Techstars and Entrepreneur First have rolled out their India programmes. “They will accelerate the maturity of the ecosystem,” says Ashish Goel, co-founder, Urban Ladder. Specialist ones such as the SaaS-based accelerator Uppekha are entering the fray betting on new business models—it gets no equity until the startup achieves a pre-decided revenue milestone. The source of capital in India, too, is diversifying.
A new breed of MNCs (Philips and Alibaba, for instance) are ploughing in funds. Multiple new funds from countries as diverse as Japan (Beenext), China (Shunwei), South Korea (Mirae) and Abu Dhabi (ADIA) are deploying their capital. Finally, domestic capital, too, is betting on startups. Indian corporations such as Reliance, Mahindra & Mahindra, Godrej and Hero Motorcorp are making investments in startups.
“Indian VC ecosystem has been nascent. Most investors in their institutional capacities have never built startups,” says Jay Krishnan, ex-CEO, T-Hub. The playbook has mostly been about customer acquisition and market growth, not profitable business. Exits have been poor. The funding drought between 2016 and 2017 has taught some tough lessons. There are early signs of a reset and a rethink in the investor landscape.
New Government, New Hope
The frothy boom days of 2014 may be a faint memory. But exactly five years back, this was another world. NDA government had just taken over the reins. ‘Achhe din’ held out new hopes. And India’s startup world was on an adrenaline high. Amid irrational exuberance and mostly copy-cat entrepreneurs, competitive funds-flush investors chased deals and flavours of the season, driving up valuations. Entrepreneurs big and small, including the likes of Ratan Tata, set up family offices and turned angel investors.
NDA government’s Startup India campaign in 2015 helped along with momentum and some funds. The sobering reality hit home shortly afterwards. Many VC funds such as DFJ, Sherpalo and Canaan Ventures closed shop or exited India. Several startups such as TinyOwl and Stayzilla folded up. In 2016 alone, more than 1,000 startups reportedly shut down.
Snapdeal is perhaps the best example of the good and the bad times. In 2015, it bought Kunal Shah’s Freecharge for over $400 million. In 2017, starved of funds, Snapdeal sold Freecharge for $60 million and later laid off many employees.
The startup India story had begun to sour. Poor exits, declining valuations, troubled investments and funding squeeze became a recurring theme. Japanese giant Softbank wrote down $550 million in its India investments Ola and Snapdeal. Here’s the macro picture: Since 2006, some $38 billion is estimated to have been invested in India’s startup ecosystem, of which $34 billion is foreign money. Even if one takes a 2X return, this would mean at least $76 billion that ought to return. The VC ecosystem has not even returned $38 billion.
“So, there is obvious pain in the ecosystem,” says Sharad Sharma, co-founder, iSPIRT Foundation. 2019 is looking like a replay of sorts for both India and startups. A new government is set to form next week amid hope and optimism. Green shoots are visible in the startup world too.
“Both investors and entrepreneurs have learnt lessons. India is maturing. The confidence in the ecosystem is returning,” adds Sanjay Nath, managing partner, Blume Ventures.
A Higher Orbit
The reset is at multiple levels. The first thing Krishnan notices is that the deal size is getting bigger ($1 million plus at seed stage) and entrepreneurs older (often more than 40 years), and therefore, more experienced. After chasing fancy targets like GMV (gross merchandise value) and market share, there is a greater appreciation of basic values such as favourable unit economics, strong management team and great consumer experience.
“VC funding is a marathon, not sprint. Investors realise it now. From growth at any cost, they are now focusing on business foundation, customer experience and efficiency,” says Sanjeev Aggarwal, who has co-founded Fundamentum, a technology fund, with Nandan Nilekani.
Share of domestic capital is rising. Sudhir Sethi, founder of Chiratae Ventures, says when they raised their second fund, the contribution of domestic capital was just 20%. “Last October, India’s share crossed 50% in the fourth fund we raised. We learnt very early that rupee capital is stable and also brings a lot of knowledge and networks,” he says.
Chiratae—with people like Ratan Tata, Infosys cofounder Kris Gopalakrishnan, Asian Paints’ Manish Choksi on his advisory board — aims to bring a lot more than just capital to startups. Partly linked to this is a slight recalibration of how entrepreneurs and their family offices are making investments.
“In 2015, many Indian family offices and UHNIs (ultra high networth individuals) — from Ratan Tata to Mohandas Pai— got excited about investing directly in startups. Many of them are now routing their funds through institutional vehicles,” says Arun Natarajan, founder, Venture Intelligence.
Others are moving on to their next stage of evolution cycle as the gen-next takes over. Previous waves saw both Indian investors and startups inflicted by imitation syndrome with a venture factory strategy, a phenomenon that has played out in other markets like China as well.
Now wiser, a grounds-up differentiated approach with a focus on deep-tech, innovation-led startups, is beginning to emerge. Not surprisingly, B-to-B startups are gaining both traction and funding. With them, hybrid funds straddling multiple markets – especially the US and India – are gaining currency.
“We are seeing world-class Indian startups looking to build global business. I am excited about investing in them,” says USbased Sumant Mandal, managing director, March Capital. Investors have often misjudged the India market.
In the 1990s, MNCs such as Nike and Levis got their business calculation wrong by overestimating their target segment and India’s middle class at 300 million. That mistake “basically got repeated by VCs chasing the internet middle class in the last decade,” says Sharma.
As a result, VCs mostly funded undifferentiated B2C startups, often copycats from the West chasing urban online consumers, thus ignoring startups that solved real problems of Bharat. Not surprisingly, amid bruising competition and deep discounts, the path to growth, profitability and exits was not easy.
In fact, many investors missed some of the biggest waves such as digital payments. Humbled, many are course correcting. The strategic shift to Bharat is now discernible. Sateesh Andra, managing director of Endiya Partners, says specialised niches like cyber security and semiconductors have begun to get attention.
Thanks to Reliance Jio, India’s digital consumer base has been surging (pegged at over 500 million), thus gaining a critical mass and opening up new possibilities. “What we were dreaming about the internet economy now looks possible,” says Sunil Goyal, managing director, YourNest Venture.
Two opposing but important trends are playing out. On the one hand, we are seeing the emergence of full-stack investors such as global giant Sequoia, who are expanding to have funding continuum across a startup’s lifecycle from Pre-Series A to late stage. Simultaneously, there is a rise of niche, specialised investors who are focussed on specific sectors (Omnivore) or specific lifecycle stage.
Fundamentum, focused on growth stage startups, says it offers patient capital with a time horizon up to 10 years. Partly, Sequoia’s Pre-Series A bet is a natural progression. Globally, Sequoia is a full-stack investor. After a decade of existence in India, it is now feeling bolder to enter earlystage investment. Also, among the world’s top five startup ecosystems, a bigger India play has become critical for most global investors.
“Since Sequoia came slightly later in startup’s lifecycle, it missed a few good opportunities. Surge will help solve that problem,” says Mark Kahn, managing partner, Omnivore. But he also hopes that Surge will improve things for early-stage entrepreneurs.
“Hopefully, deals will get fairer. Sometimes, especially the not-so-well connected entrepreneurs, have to give away too much for too little.”
But there is another factor that is pushing Sequoias of the world to rethink their strategy, in India as well as globally. Talk about Softbank and their disruptive play with the $100 billion Vision Fund. “Think of it like this. Everybody is fighting, competing for the deals. Suddenly, somebody gets a nuclear weapon. How do you deal with that?” says a Bengaluru-based serial entrepreneur and investor, who has dealt with Softbank in a few deals.
A mega $100-billion fund disturbs the ecosystem and skews the power structure is a unanimous view among investors. “Imagine, you have 10% stake in a startup and Softbank comes and takes 40%. Suddenly, your ability to exit 10% is now at Softbank’s mercy. Well… god save you if you are in competition. There is no way you can compete with its muscle power,” says another NCR-based entrepreneurturned-investor.
Getting into early-stage investing is more complex and logistically difficult but it does help investors like Sequoia have a good deal flow and also gain entry at a lower valuation. At the beginning of another growth curve, India’s startup world is brimming with new hope. With funding drought fresh in investors’ memory, clear-headed rationale guide their investment strategy. But in this volatile world of startup financing, where boom-and-bust cycles are part of the game, irrational exuberance will return some day.