With funding depleting, is the Indian startup ecosystem going from boom to bust?

Riding high on the generous inflow of funding from the investors last fiscal, the Indian startup ecosystem rightly boasts of being the third-largest in the world today with over 100 unicorns (valuations of $1 billion or more) emerged in the last decade. Startups mushroomed everywhere; growing by the day and making headlines with mind-blowing valuations attracting envy-inducing large funding.

The market was upbeat and so were these young entrepreneurs with innovative ideas and great business models.

The valuation mantra

The trend that caught India’s fast-growing startup ecosystem was the bump in valuations. The business models centred on this and hovering about, however abstract these could be, ignored business fundamentals. Valuation and not value addition drove this lot, egged by investors.

Unpredictable cash flows were projected through attractive balance sheets and business plans. The whole process hinged heavily on some calculated yet highly uncertain future scenarios. Threat perceptions always were played down, letting hope lead the sentiments.

Investment and unicorns

Hundreds of startups raised about a record $35 billion in investment in 2021, heralding proudly the 100th unicorn, and the whole world sat up and watched in awe. Business profitability was ignored as ascending valuation was toasted and boasted about.

Akin to the Rs 500-1,000 crore cinema box-office clubs, there has been a mad rush among all startups to become unicorns through high valuations, no matter if their balance sheets keep bleeding. Fundamentals were ignored in this process. The bubble was waiting to burst!

Rising interest rates started hitting the investor sentiments, hence their advice to the startup founders was to focus more on profitability. Disastrous tech IPOs and hammering in the market have pushed the investor community on the backfoot and to be circumspect.

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Turbulence

With offline businesses opening up big post-pandemic, online engagements started slowing down.

A spike in inflation and a hike in interest rates after the abundant liquidity last year has hurt startup funding, as investors cut down on investments, allocating their money to bonds instead. Volatile geopolitical scenario, especially with the ongoing Russia-Ukraine war, rising crude oil prices, uncertain IPO market, ascending inflation etc impacted the investor community’s sentiments, resulting in their application of brakes.

Layoffs, shutdowns, funding crunch…the party seems to be over for the Indian startup community.

Feeling the heat

After a blockbuster funding party that lasted for nearly two years, startups have entered a bleak phase now.

According to a Bain & Company report released in collaboration with Indian Venture and Alternate Capital Association, the Indian startup ecosystem is likely to witness a shift in the pace and quality of venture capital (VC) deals in 2022.

The first signs of a slowdown in fundraising by the Indian startup ecosystem are showing up. According to KPMG’s Venture Pulse report, VC investment in India slowed somewhat in Q1CY22 relative to record totals during the second half of 2021. VC investment in Q1CY22 reached $7.9 billion across 300 deals, said the report.

When business experiments don’t work out and the chips are down, human resources become the first casualties. Over 8,000 executives have already been fired by several heavily funded startups, including Indian startup’s poster boys—the unicorns—when the investor community whipped around their sticks.

Cost-cutting ensues when growth slows down and fund inflow constricts, but retrenchment becomes the easiest route to conserve cash.

Advising earlier to chase growth, the VCs now sing differently and ask the startups to simply focus on profitability, cutting on the cash burn.

Marshall’s Law?

Did the “law of diminishing marginal utility” catch up with India’s startup ecosystem against its calculations, catching them off-guard?

The narrative changes when the chips are down and hobbled. The industry leaders and market experts offer various explanations and observations to highlight the wrongs while prophesying further doom before the situation eases off later.

Nithin Kamath, Founder and CEO of India’s largest brokerage firm, Zerodha, words the scenario aptly: “misjudging the market size and opportunity, then setting wrong expectations and chasing valuations are probably the biggest reasons why startups fail.”

Course correction

Let’s come out of the mindset of surviving with market money for growth and scaling up. Be prepared for the pitfalls, if you wish to be swayed with the market money. When the market is controlled and dictated by external factors, the latter tends to bully and the market moves with its associated sentiments, following its trajectory—up yesterday, down today! 

Can we not, for a change, focus on the followings?

a.     Sustainability

b.     Profitability

c.     Brand equity

d.     Value additions

All these with a clear roadmap, of course.

When India’s startup ecosystem is made to run like the stock market, driven by the investment community, it’s destined to be impacted by external push and pulls. Beware and accept this as a fact.

The time is now for a course correction.

Horses for courses—let’s follow this time-tested mantra in business and be prudent in resource selection. Let’s cut our coats according to the cloth, not the other way round. If we need to borrow money, we must have the capacity to return on time with the interest. Profitability and market growth must be focused on. Revenue earning should precede everything else. If leaving yourself to the sway of unpredictable market sentiments, be prepared to get deluged, swamped and possibly washed away when it floods, if the dam isn’t built in advance, for mitigation.

Laying off is not the rescue plan but a cover-up for unimaginative selection and planning failures.

Some industry observers say that this type of tempering is good for the entire ecosystem and helps to ensure the fall is not severe after the rise and the hyped-up course gets corrected.

Brian Tracy, in his recent book, Entrepreneurship, suggests as a matter of fact that, “People think the role of the entrepreneur is to take risks, but taking risks is not the role of the entrepreneur. The role of the entrepreneur is to mitigate risk, to alleviate risk, to eliminate risk.”

India must support its startup ecosystem for the country’s economic and technological growth, but only after the course correction. Value addition with profitability, and not valuation, be the guiding factor for startup entrepreneurs. The investor community also needs to act sensibly and responsibly for mutual gains and sustainability.