In 2021, India was undoubtedly the new unicorn factory where start-ups were the “ray of hope” in a Covid-ravaged landscape. Much has obviously changed since. And, unfortunately, mostly for the worse. What will the toxic brew of US inflation, pandemic persistence, and European war do to the Indian start-up ecosystem? What will be the impact of the expected slowdown on the Indian economy?
Spoiler alert: For early-stage investors, it’s a good thing. For late-stage and IPO investors, it’s not so great.
A recent survey of early-stage VC investment firms, to understand whether the slowdown in VC investing in the US and Europe applied similarly to the Global South, showed that it is largely consistent with the experience in India:
Velocity at pre-seed and seed has slowed only a little, but the later stage has slowed considerably, with investment rounds trending towards taking 3-6 months longer to close.
Valuations are coming down, slowly (as is typical during VC slowdowns). On average, pricing of earlier-stage deals are 15-20 per cent lower, and later-stage deals by over 30 per cent.
Competition for the best deals is expected to remain strong well into 2023, although nearly all firms believe today’s more sane pace of investing will continue for at least the next year.
So, what are the impacts of slowed investments on an early-stage VC portfolio and investing programme in India? Not much if the companies in the portfolio are well-managed, and have 18-24 months’ cash runway and/or a path to profitability. From a longer-term perspective, the slower pace means there’s more time for due diligence and to make better decisions.
To understand what sectors might do better, there’s a need to start with the fundamental question: How will India fare in the upcoming global slowdown? Deloitte, for instance, is optimistic, and expects India to grow by around 7.1 per cent in FY22-23 and 6 per cent in FY23-24But Nomura’s growth outlook for 2023 is 5.4 per cent.
Sectors that serve India’s domestic consumption are likely to do fine, while others that are more deeply bound to demand from the US and Europe are likely to take a hit. From an early-stage VC perspective, companies in fintech, edtech, and mass e-commerce are likely to continue to do well, provided they are not in the group of later-stage overvalued companies that were pursuing growth-at-all-cost programmes.
The scepticism of an investor in today’s testing times is understandable. Early-stage investors are now looking for substance beyond just vanity metrics. However, there is a silver lining. Even in this environment, investors are willing to back companies that clearly demonstrate capital efficiency, “mindful growth” and a clear path to profitability.
Most reckless-spending founders have now come to face the harsh truth — growth-at-all-costs is no longer in vogue and the flood of abundant capital has ended. The philosophy today is to identify companies with the holy trinity of success — solving problems for the masses, sound unit economics, and resilient founders. Finally, it boils down to the founders’ resilience and agility. It is not for nothing that they say: tough times never last but tough people do.
The writer is Managing Partner, Unitus Ventures