Macro headwinds creating a slowdown in
start-up funding is a short-term
phenomenon: Indian VCs
Siddharth Mehta
Founder & CIO
Many investors believe this is the opportune time to invest
It is not as bleak as it looks in the
world of start-ups. Top venture capital
firms said the ongoing slowdown of
new deals and funding in the Indian
start-up ecosystem is not a reflection
of the health of start-ups, but a trickledown effect of several macro
headwinds and geopolitical issues.
In the hindsight, many investors
believe this is the opportune time to
invest in early-stage start-ups with
strong business models at attractive
valuations for the long term.
Siddharth Mehta, Founder & CIO
at Bay Capital
told Business Line, “During Covid, the intent
was to create a safety net by providing money
to the consumers to help the economy bounce
back quickly. But as an unintended
consequence, a lot of this excessive liquidity
went into financial assets and speculative
activities. For instance, in the US and India, we
have seen investments into high-growth
stocks, crypto trading, and NFTs getting
popular. Over the last 12-14 months, India also
benefitted from this. We had the highest
number of unicorns, businesses got funded.
Everyone was getting funding quickly.”
Starting from January, there were supply
chain disruptions with China and its
restrictions, the Russia-Ukraine war, and,
most importantly, Fed’s stance on growing
inflation and the need to increase interest
rates.
“Fed and the US have been very much behind
the curve and have reacted slowly to inflation.
As they extracted liquidity from the financial
system, the first sectors to get hit are the
speculative assets where all the hot money
went. That’s why we saw crypto getting
decimated and popular stocks in the US
dropped 70-80 percent. A lot of excesses are
now getting corrected,” he added.
“All the tailwinds we had last year have changed
to headwinds. We had a flood of liquidity and
new money was getting printed. Almost 40
percent of the US dollars in circulation were
printed over the last 15-18 months. This, added
with record low-interest rates in some markets,
Covid-driven surge in some sectors like Edtech,
SaaS, gaming and bumper IPOs, have all
started to become headwinds over the last 4-5
months starting with inflation,” Ashish Sharma,
CEO & MD, InnoVen Capital told Business
Line.
Sharma added: “Reaction to this will be more
pronounced in growth and late-stage start-ups
because their valuations are already very high.
The investor base for mega-rounds of $100
million-plus is very shallow and few. All of these
investors are going slow now and there will be a
significant decrease in mega-rounds.”
Scope for early-stage start-ups
According to a recent mid-Q2 report by CB Insights, globally the number of deals are likely to drop by
22 percent quarter-on-quarter, missing the estimate of 6,904 deals worth $115.4 billion. So far, only
$57.7 billion has been deployed across 3,452 deals.
Last year, the private equity market was flush with liquidity with firms like Tiger Global raising $12.7
billion and SoftBank writing several big-ticket cheques. But now after reporting massive losses in the
stock market and reported financials, both the investment firms are now set to slow down funding
activities while eyeing smaller ticket investments into early-stage start-ups.
“Tiger Global had deployed $12 billion in a short span of 6-9 months. The fact that SoftBank and Tiger
Global are not there the way they were deploying capital over the last 12-18 months is going to affect
the ecosystem. That’s a good thing though given how they had distorted the market, making one
believe anything and everything can get funded,” said Mehta.
“The silver lining is in the early stage where there is a lot of capital. And
the time and horizon of exit compared to a late-stage start-up is much
longer. So, you can underwrite some of these risks. Even if this
scenario goes on for 24 months, it will still work out as the timeline for
exit could be anywhere around 7-8 years and by that time things would
improve. But if you enter a late stage, your timeline for exit is around
24 months,” Ashutosh Sharma, Head of Investment for
India, Prosus Ventures, told Business Line.
Short-term trend & consolidation
According to Mehta, the pace of deal activity will drop further in the second and third quarters, but
overall, this is a short-term trend, and long-term investors can utilize this opportunity to pick solid
and attractive businesses at lower valuations. The broader story of digital transformation has not
changed and will continue attracting growth, he said.
“The good news is all large investment firms in India and globally had raised a massive amount of
funds. Though some of them have deployed, most of them have still not started deploying that fund.
My view is that the ecosystem is in pause mode. Once some clarity emerges around the macro
situation, a lot of them will start funding again,” said Ashutosh.
“The opportunity for early-stage funding still exists. There is a lot of capital that has come in the early
stage and capital will shift towards it. Also, the valuation for the early stage as well will be correct.
Lately, we have seen very large Series A and seed rounds. That will taper off and we will be able to
see better start-ups. Growth and late-stage will suffer though,” Anup Jain, Managing Partner, Orios
Venture Partners, told Business Line.
Cash-heavy businesses such as quick commerce, D2C brands, and fintech and edtech products with
very little differentiation and operating in cluttered spaces, will find it difficult to raise funding.
Investors believe that either some of them will shut shops or are aligned to opt for acquisitions and
mergers.
For more mature late-stage start-ups such as Swiggy and Meesho, which had raised funding
recently, they will try to be leaner by downsizing verticals than raising fresh capital at lower
valuations. Another impact of such a change has been seen with ongoing layoffs across start-ups,
which is only expected to continue further.
“I believe flat is the new up right now. Even if they do a flat round, there will tighter terms with the
investors. So, a lot of these big start-ups will not raise funds now or the next six months, even for flat
rounds,” said InnoVen’s Sharma.
“If you are a company which burns a lot and you don’t have a decent runway, then my suggestion is
that you go out and raise as soon as possible even if it is at a lower valuation. Don’t make valuation
an ego question,” said Ashutosh.