Indian entrepreneurial ecology in 2021: Is there a foam behind the large amount of financing and high valuation?

2022-11-21
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Author:Shi Yi
Source: 36kr

Editor's note: This article is selected from KrASIA, the original titleUnexpected things that defined Indian startup ecosystem in 2021 | KrASIA Year in ReviewAuthor: Moulishree Srivastava

Compared with 2020, India's entrepreneurial ecology in 2021 has undergone earth shaking changes.

The changes brought about by the epidemic cannot be ignored. In the past decade, Indian start-ups have generally pursued growth rather than profitability. However, they have to pursue sustainable growth and better economic efficiency per unit when they are hit by the epidemic and their funds are reduced in 2020. In the downturn caused by the epidemic, entrepreneurs improve themselves, look for directions, learn to gain more benefits with less investment, and build more risk bearing enterprises.

By the end of 2020, two trends that will set the tone for this year have begun to show signs: the large-scale digitization of South Asian countries and the recovery of venture capital.

Although the epidemic is still in the dark, 2021 is still a milestone year for India's entrepreneurial ecology. Millions of Indians consume content and services online and conduct more online transactions, prompting consumer Internet start-ups to obtain substantial financing and expand rapidly.

This allows VCs to deliver larger cheques and give higher valuations. The investment of Indian start-ups this year has reached 36 billion US dollars, an increase of more than 200% compared with 11 billion US dollars in 2020, creating 42 unicorn enterprises. Previously non mainstream industries such as cryptocurrency, games and DTC have become the favorite of investors. Not surprisingly, e-commerce is the industry that receives the most financing, attracting a total of 9 billion dollars, followed by financial technology.

Pocket full, large-scale start-ups annex small competitors and business related enterprises to promote growth, giving early investors rich returns. With the soaring investor sentiment, a large number of start-ups decided to go public in the bull market, which further stimulated international investors.

As 2021 is drawing to a close, KrASIA tries to summarize the year from a deeper perspective and analyze how some "accidents" have changed the entrepreneurial ecology of India.

Profitability is no longer the focus

In 2019, the failed IPO of WeWork, a shared office space, and the poor listing performance of Uber, a travel giant, had a huge impact on Softbank, exposing the problem of overvaluation of Softbank investment enterprises, and "adjusting the direction" became a hot word among global VCs. When Softbank tightened its pockets and asked the invested enterprises to cut spending and pursue profits, many investors in India also followed the footsteps of Softbank to make changes.

India's entrepreneurial ecology in 2021: Is there a foam behind the large amount of financing and high valuation?

With the outbreak of the epidemic in 2020, India has implemented the blockade policy, and local enterprises have no choice but to reduce expenditure to ensure the subsequent cash flow. Entrepreneurs and venture capitalists try their best to adapt to the new environment and find a new foothold to ensure positive unit economic benefits and build sustainable enterprises.

A year later, the view changed again. The valuation of enterprises is rising. More and more investors and higher and higher financing rounds are betting on the growth rate of science and innovation enterprises.

Arun Natarajan, founder of Venture Intelligence, a research company based in Chennai, India, believes that many companies that obtain financing from venture capital and have a valuation of billions of dollars do not have enough revenue to support their unicorn status, and it is far from being profitable.

"In the early stages, startups rarely talk about unit economic benefits." He told KrASIA, "In the past few years, there has been a dispute between growth and profitability. In the venture capital cycle, there is always a choice between the two. At present, venture capital and enterprises pay more attention to growth than profitability."

Many enterprises grow rapidly through financing and burning money. In order to justify the overvaluation, enterprises need to achieve the goals promised to investors.

"In many cases, overvaluation is also a trap. If you can't achieve growth as scheduled, the next round of financing will reduce the valuation." Anirudh A Damani, executive partner of Artha Venture Fund (AVF), a venture capital fund, told KrASIA.

The economic efficiency of enterprises that burn money is usually negative, and their unit customer acquisition cost is higher than the efficiency.

"Many start-ups, especially platforms, spend a lot of money on getting customers, and it is difficult to recover costs in the short term." Damani believes that "they pursue growth, but no one quantifies the cost of growth."

"An enterprise pursuing growth may not be able to obtain net cash profit, but it must be positive from the perspective of a single transaction. Startups should figure out how to achieve positive economic benefits per unit before the A round of financing. If startups continue to pursue growth when every transaction brings losses, they are actually accelerating losses, and the more they expand, the greater the losses."

Anil Joshi, managing partner of Unicorn Ventures, said that at this stage, venture capital focused on whether these rapidly growing start-ups could achieve customer acquisition, retention and increase market share.

He believes that digitalization has helped reduce the cost of getting customers for enterprises. Enterprises can spend the same amount of money to obtain more users and achieve faster growth than before.

"Startups now pay more attention to growth and gain a leading position. If their products and services have a high utilization rate and a high level of retention, they can naturally earn profits. Burning money is not a problem. If enterprises can retain customers and sell upward, they can improve the end value of users."

Inspiration from Paytm's poor listing performance

Although investors hope to exit through secondary market transactions, mergers and acquisitions, the IPO of Indian start-ups this year still exceeded everyone's expectations. Many high-profile enterprises, such as Zomato, a take out giant, and Nykaa, an omni channel beauty retailer, have made outstanding performances on the market. Other travel websites that have obtained venture capital, such as ixigo, PharmaEasy, hotel chain OYO, logistics company Delhi, and e-commerce company Snapdeal, are also interested in listing.

Damani believes that the successful listing of Indian start-ups "shows that the public market is interested in these companies."

In the frenzy of IPO,Paytm, a financial technology giant, was particularly prominent. India's largest IPO of US $25 billion fell 27% on the first day of listing

Indian entrepreneurial ecology of e-commerce platform in 2021: is foam behind large financing and high valuation?

Industry experts explained Paytm's poor performance with reasons such as excessive valuation, untested business model, and inability to identify the profit model. But Paytm is also a reminder for start-ups and retail investors, especially those young people who pour into stock trading software and expect high returns when they first invest.

"Paytm's IPO has given a very clear signal that start-ups that want to go public need to be clear about how to earn revenue and make profits. Under this premise, even if there are losses, it is not important." Joshi said, "Zomato has not changed since its listing because it has a clear profit path."

In addition to the high stock price, Paytm made another mistake, which was that he could not clearly explain his business model and how he planned to make profits.

"Paytm cannot sell its stories to Indian institutional investors and retail investors." Natarajan said: "It is difficult to explain their B2B business to ordinary investors."

"Startups going to the open market need to have a clear, direct and easy to understand story, backed by data, which proves that the enterprise has sustainable profitability or at least is expected to achieve sustainable profitability. Enterprises cannot say that their revenues and profits will decline, and people do not accept this kind of story, especially Paytm's story is still difficult to tell clearly."

However, some investors still believe that Paytm can survive this challenge and finally make profits, which is still a good investment target in the long run.

"Paytm's experience has been shared by many American companies. The valuation of start-ups like Uber has dropped sharply after they went public. This is the operation mode of the public market." Damani said.

"I don't think people expect Paytm's stock to double on the first day. After all, it has been sold at a discount in the gray market before. People investing in start-ups' IPOs should not expect immediate returns. It's traders, not investors."

Not another foam

This year, there are many well-known institutions investing in India, such as Tiger Global, SoftBank and Accel. More than 200 funds invested in India for the first time this year, making the competition in the local entrepreneurial ecosystem more intense. A large amount of financing poured in, and the single investment became higher and higher, and the transaction became more and more expensive.

"India does not lack good founders, but the competition for investors is still fierce. India is becoming more and more like Silicon Valley." Harsha Kumar, partner of Lightspeed, told KrASIA.

India's entrepreneurial ecosystem has matured a lot this year. Kumar believes that founders not only consider capital, but also what investors can bring to the enterprise. She believes that the amount of investment will continue to grow.

Many venture capitalists believe that the reason why the high valuation is reasonable is the rapid expansion of local science and innovation enterprises. Based on India's huge consumer infrastructure and digital infrastructure, enterprises still have great growth potential.

Investors also believe that the record capital inflow in 2021 is different from the financing boom in 2015.

Cross border information Indian entrepreneurial ecology in 2021: Is there a foam behind the large amount of financing and high valuation?

"In 2015, only e-commerce attracted the attention of investors. This time, however, it was completely different. Companies of all types and in all links of the value chain received attention, investment and growth." Joshi said, "Investors believe that investment is worthwhile. As investors' interest and confidence increase, valuation and growth will continue to improve."

Joshi believes that this momentum will continue, and since venture capital is still there, the valuation will continue to grow.

"Based on its market size and growth potential, India will be an investment hotspot for at least a decade. Even if the direction is adjusted due to external factors, (valuation) will recover in a period of time."

Article | Shi Yi

Editor | Zhao Xiaochun

Fig. | Unsplash

Indian entrepreneurial ecology of cross-border e-commerce in 2021: Is there a foam behind large-scale financing and high valuation?

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