How angelic are the Indian early stage investors?Jubin Mehta
Early stage first time entrepreneurs in India are a confused lot. Questions regarding funding and mentoring seem rather tormenting and often the entrepreneur is left groping in the dark. Should I raise money? Whom should I approach? How much does an angel invest? What criteria do they look at? These are just some of the issues that scratch the surface. Demystifying the whole space is a tough ask but a rather interesting Panel took upon this task at the India Internet Day.Alok Mittal, the Managing Director at Canaan India moderated the panel consisting of Sanjay Nath (Managing Partner at Blume), Shekhar Kirani (Partner at Accel India), Sameer Guglani (Co-founder of the Morpheus Incubator) and Mukund Mohan (CEO in residence at Microsoft Accelerator). Two accelerators and two early stage VC funds made for a spicy discussion.
First, the ugly truth
All companies are not fundable (because that is not the aim of every business). “Out of all the applications we receive, we can easily sieve out the 80% of the startups,” says Mukund about the companies that apply to become a part of the Microsoft Accelerator. The goal of an investor is to give returns to their LP’s for which they need companies that can give 10x-15x gains. Yes, early stage investors are not that number driven (especially the accelerators) because you can’t really predict much about a company which hasn’t settled upon a business model yet. But yes, more than 50% of the businesses don’t make the first cut (and this is not just specific to India).
What do the investors look at then?
“Build a business and everything else will follow,” says Sameer. “The stage at which we invest in, we only know the people and the seed idea. So our bet is completely on the team,” he adds. The team remains the primary concern for every investor but the next stage investors (angel funds, early stage VCs), have more data points to look at. They have the liberty to look at the business model and gauge the traction, so these aspects are measured but it finally falls to the team.
Canaan has invested in companies founded by people of some pedigree, people who’ve had some years of experience and know how a business is built. This is mainly the case with VCs like Accel as well because at the end of the day, they’re cutting cheques of a higher denomination (around $500k) and Indian VCs still haven’t built a high enough risk appetite to fund on the basis of just disruptive ideas. Blume Ventures believes in co-investing and this allows them to reduce the risk and invest in more number of companies.
Are accelerators and early stage VCs supposed to have aligned interests? Common sense would want you to say ‘yes’ but not really. “Of the 15 companies we’ve invested in over the last year, only 1 has come via an accelerator,” says Shekhar. What generally turns out to be the case is that many of the experienced entrepreneurs believe that an accelerator is for newbies and they tend to pitch directly to the VC's.
This is not always the correct way to go because there have been instances wherein companies who’ve been in existence for more than two years who went into an accelerator and came out with flying colours (IIMJobs of Morpheus and Qubole of Microsoft Accelerator are examples).
And the final aim for an accelerator is not to get the next round of funding (but that is how the entrepreneurs want to look at accelerators- a road to raise more money). “We promise more number of customers than what they came with,” says Mukund. “Funding is never our pitch to any of the companies. We help build businesses with our networks and we work as co-founders with every company,” says Sameer about the Morpheus Gang.
But, yes, at the end it'll come to follow on rounds
Okay, so accelerators help to grow your business but once you’re out and attained a certain growth, you’re bound to ask for more. And institutional funding will come into picture. You get funded if you’re good enough or sometimes we see startups juggling from one accelerator to another. This also points out towards the inability of entrepreneurs to fail faster. No entrepreneur wants to fail, but if things aren’t going anywhere, you might as well come back rejuvenated with a better business idea.
And this is where the whole debate about a series A crunch came in. Companies keep on trudging along and stagnate. To make the situation better, investors are willing to work for longer periods with entrepreneurs and help them sail through. And all the early stage investors understand this. "6 of our 40 companies have raised follow on funding," informs Sanjay. The ratio is ditto with Accel. And the intention is to take every company to this high growth level.
Entrepreneurs also need to be firm with the negotiations because dilution can hit hard.
The Dilution Game
Here’s an ideal case: The seed investor puts in money and takes 10% of the company. In the next angel round, the situation is reduced to: 67% founder, 25% angel and 8 % seed. By the time institutional funding comes in, the situation is: 40% founders, 10% ESPOs, 25% VC, 19% angel, 6% seed. And then someone is squeezed out. With each round, the size of the pie also increases (valuating your company) so sometimes it’s worth the dilution but the case in point is to be cognizant of these things before you fall into it. The founder needs to be very vigilant before signing any deal.
To wrap it up, here are the key points:
- Investors look for kick ass teams
- Sweet spot for early stage investors is $500k
- Build a business, funding will come
- Research about your investor before pitching
- Accelerators are there primarily to build businesses but also to make hard entrepreneurs, teach them the first lessons of entrepreneurship
- Negotiate well