6 changes in the Indian startup funding scenario

Friday May 13, 2016 , 6 min Read

Today, the Indian startup funding scenario is at its unpredictable best. While 2014 and 2015 witnessed huge funding rounds, with the emergence of food-tech startups, hyperlocal and aggregators, in addition to e-commerce platforms, 2016 has had a mellowed beginning. Apart from the slowdown of funds inflow, we now hear more of startups shutting down and merging or conglomerating.

According to a report by KPMG, done in association with a New York-based startup research firm, investments in Indian startups declined 24 percent quarter-on-quarter. The closure cycle of investments has become long, with more focus on business economics and due diligence, exhibiting preference of sense to hype.

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In this article, I give my perspective on what has changed in the funding scenario in the Indian startup ecosystem in the last six months:

Focus shifting to business unit economics:

Unit economics are the direct revenues and costs associated with a particular business model expressed on a per-unit basis. The fundamentals in this case are:

Lifetime value (LTV): The amount of revenue a single unit generates during the entire duration of a customer's usage of the service.

Cost per acquisition (CPA): How much it costs to acquire one unit.

To the extent that LTV exceeds CPA, there is a business. This is a simple concept: the direct expenditure you incur in your business should not be higher than direct revenue earned, on a per-unit basis. Unit economics indicate the strength of the core values of a business and is used to determine whether a business model can be successful and profitable.

If a business is not making money at the smallest data point, there is all probability that it will not make any at any given point. Most hyperlocal and foodtech startups are incurring losses at the basic unit level. It is a positive sign that investors are no longer content with just the overall projection and valuation of a business. They have also started paying attention to the investment core, and focussing on unit economics, with startups having to pass strict due diligence investigation.

This, in turn, has led to an increased awareness among startups. They are forced to put across practical projections and realistic figures.

Cockroaches are getting some love

Cockroaches are not so creepy creatures after all, at least according to some investors. This is the battle of the consummate survivors, the cockroaches versus the flighty tempters, the unicorns.

Unicorns, I.e., companies valued at $1 billion or more, were in vogue until last year. Investors swooned over them, infusing large funds into these exorbitantly valued companies. This year, it seems like the frenzy has stabilised, and investors are more inclined towards cockroaches - startups that are bootstrapped or can survive a downturn with strong business models and sound bases, and those that can self-generate funds and are not dependent only on external funding for their survival.

Down-round funding

A 'down round' is a funding round where investors further invest at a lower valuation than the valuation placed upon the company earlier. Unicorns like Flipkart and Zomato have struggled this year to maintain their valuations, with their numbers being struck down by more than one institution. This is an inevitable outcome of the frantic investment deals that happened over the last few years.

Down round will soon become a reality, and will be here to stay. Frankly, there is no harm in that as it will only bring some sense into the market. On the upside, startups are now being pushed towards stretching their limits in building world-class products or providing world-class services with due regards to concept of propriety. Due consideration is given to make optimum use of their resources and enhance their profitability.

Conventional businesses are back in favour

Another trend that startups are witnessing of late is the shift of senior to middle-level employees to conventional companies. According to a recent ET report, a few of the top-level employees from unicorn startups have moved to conventional businesses.

I was talking to an eminent VC who believed the biggest problem startups face is probably premature scaling. A lot of the money is wasted in this process. The eternal swell stream of venture or angel funds is also drying now.

Apart from the imminent fund crunch, startups are also not being able to keep up the commitments they made while making these appointments. Offering non-fund based incentives like employee stock ownership plan (ESOP), employee stock purchase plan (ESPP) is the most in-thing in a startup. However, the execution of these instruments is a different story. The conversion of ESOPs into equity of the company hardly ever sees the light of day. Quite naturally, these factors have ushered in an air of disappointment.

Mergers or acquisitions in same or allied sector

The adage 'birds of a feather flock together' seems to be the mantra in the startup ecosystem at the moment. Mergers of startups operating in the same or allied sector have become quite frequent. This is making the investment portfolio of common investors of startups more centralised. Such kind of mergers not only curtails competition but also leads to efficient utilisation of the available market from the investor’s perspective. The acquisition of Flipkart and Myntra and hyperlocal logistics player Roadrunnr and food-ordering platform TinyOwl in an all-stock deal are the most prominent examples.

(Disclaimer: The views and opinions expressed in this article are those of the author and do not necessarily reflect the views of YourStory.)