How the funding winter can help the Indian startup ecosystem

Zerodha’s Co-Founder, Nithin Kamath, recently wrote a LinkedIn post about the company’s valuation—a much-hyped number in the Indian startup universe. He elaborated on Zerodha’s business risks, mitigation strategy, and how the company values itself (~10-15X of PAT, not revenue). Like always, Kamath was brave enough to value Zerodha much lower than its perceived market value.

While Zerodha, along with a few others, is an outlier (it’s a bootstrapped unicorn), the last couple of years, i.e., 2021 and 2022, saw the rise of 67 unicorns in the country. Then came the twist in the plot.

As the US Fed and other central bankers started hiking interest rates in the second half of 2022, foreign VC funds evaporated from the Indian market, leaving many neo-unicorns high and dry. Some have shed their unicorn status since then and are racing against time to secure new funds for survival. Incidents of large-scale financial misappropriation at a few startups did not help the cause either.

During my recent conversation with a seasoned VC partner, he exclaimed, “We will never experience the 2021 Great Indian Funding Festival again!” He was referring to the funding euphoria, where every founder was compelled to raise funds because their competitor did so (and would otherwise outpace them through marketing investments). At the same time, VCs also felt the inner urge to fund fast-growing startups before someone else did so.

Fast forward to today, we are in the middle of a so-called ‘funding winter’. However, a closer look indicates that the ongoing funding winter may benefit the ecosystem in the long term.

Here are four reasons why:

Secondaries can't be primary anymore

The 2021 frenzy encouraged many founders to seek lofty valuations for personal gain via secondary stake sale. In one such company, four co-founders sold their respective stakes for upwards of Rs 5 crore each, even as the company clocked an annual revenue of less than Rs 1 crore (and, of course, net losses). Two of these founders subsequently left the company.

It was not the only startup where founders chased secondaries more than their entrepreneurial passion. Today, investors have started demanding more stringent and meaningful exit clauses for founders. Thus, founders are now required to bring more commitment to the business and be accountable for their business performance.

Value over vanity

Any business starts with a purpose—to solve a problem with a significant addressable market. As a by-product, it adds to shareholders’ wealth and societal growth. However, such basics got misplaced during the Great Indian Funding Festival as every startup, VC partner, and media representative talked about and valued growth over unit economics, profits, and everything else.

There were always more funds available to cover the cash burn and boost the number of monthly, daily, and hourly active users on various apps, with little thought about the value provided to these users. This meant that you could always grow a business, even with a mediocre product or service, purely through cashback. As funding oxygen gets scarce, the headlines return to profitability, sustainability, creativity, and meaningful growth. Nothing can help the ecosystem more in the long run. 

Story making over storytelling

As many founders raced to maximise the private market valuation for their companies, storytelling became the most critical skill. Tell a story about how the company can grow their market share faster than the competitor, add some projections (a bit of creative imagination was not off limits), and you were good to go. There was always more than one buyer for the story.

Now that the high tide has retracted, founders must think hard about the actual success metrics vs vanity to make their story based on vision and disciplined execution. This grind will help the willing startups develop an authentic story that engages the audience without many freebies. Isn't it a win-win for all?

Truth will prevail

Amid the funding frenzy of 2021 and early 2022, human values such as honesty, empathy, and compassion took a backseat. A business and its founders were as successful as their market valuation. A higher valuation was a proxy for credibility and attracted more investors.

But as the spring receded, the hard lesson was learnt: truth alone triumphs. Everyone, including VCs, employees, customers, and vendors, will always value founders who dare to tell the truth, admit their mistakes, take feedback well, and course correct. This change alone will help India’s startup ecosystem rebuild its credibility and bring back focus on purposeful innovation.

The author is Founder, Wint Wealth, an online bond platform.