'Funds should back people who have the vision'

The heightened interest in the startup environment, and its impact on the economy is aptly visible in three significant factors: an increasing number of people exploring entrepreneurial aspirations, the significant, but recently tempered spate of investments in this category, and the completely deserving thrust and focus given by both the central and state governments — also evidenced in the announcement of the official definition of a ‘start-up’ by the Government of India!

The active funding environment has encouraged many qualified and talented young graduates and managers to embark on their entrepreneurial journey instead of seeking employment opportunities. In 2015, investments of over $9 billion were funneled in Indian startups. This figure is greater than the cumulative investments in the previous five years!

However, recent developments in the startup segment have raised concerns regarding the availability of funding. Statistics indicate a decline in the funds being infused into startups. As a sign of overheating in the Indian startup ecosystem, as per KPMG Venture pulse report, funding fell 18% in the last quarter of FY15 when compared with Q4FY14, and VC backed startups raised $1.5 billion over 114 deals.

The implied reasons could be the extended periods over which losses sustained and the reset in valuation metrics. Other reason could be that the spate of ideas in the initial phase of this phenomenal trend is likely to be high, which tends to settle down at a later  stage.

Another critical aspect is that there exist certain failed investments, which others could learn from and also make investors cautious. Often in the marketplace, the unicorns of the eCommerce segment are getting re-rated and this may have an impact on startup funding.

These developments may impact valuation metrics. Besides, unicorns may no longer be startups, but well-established businesses with billion dollars revenues or more and multi-billion dollar valuations. Even by the GoI definition, they do not qualify to be categorised as start-ups! The fact remains that these companies were established recently, started by the first generation entrepreneurs and in a  relatively short period of time, have disrupted the marketplace and achieved significantly high valuations.

This should positively encourage budding entrepreneurs to embark on this journey and investors to back them, provided of course they are backed by a sound business proposition.

Joining the herd

I believe the present situation is the natural course of evolution in any industrial or economic activity. Initial success of a few entrepreneurs and entities encourages the good, the bad and the ugly to join the herd. This results in a deluge of ideas, some of which may be viable while others may need to be discarded.

However, even the most seasoned investor may be tempted to provide an audience to give many of the ideas a hearing. And in some instances, just to hedge the risk of losing out on a billion dollar wonder, investors park some money in ideas which are probably are not fully fleshed out.

The instances of failures are not limited only to the startups. It is equally applicable to large established businesses that suddenly realise that market dynamics have changed dramatically.

In some situations it may require them to make drastic changes in their business plan, or shutdown in extreme cases. The factors that  drive this specific sub-segment of the economy are primarily two-fold: (i)A spate of meaningful and commercially viable ideas and (ii) The required risk capital.

Additionally, complementing factors such as an abundant talent pool, a viable and friendly operating environment and the ease of doing business also play a critical role in sustaining this momentum. Fundamentals of investing remain the same universally. A business venture should be based on an unmet need or significantly alter and enhance the transaction experience.

It should be based on a reasonably long and sustainable differentiator such as the technology, scale or other similar aspects. This is to avoid other me-too competitors immediately entering the fray, which might consequently result in competing purely on the basis of discounts  and the scale of ad spends. It is advisable if an idea targets a national market, if not the global marketplace.

Funds should back people who have the vision and integrity to implement a defined business plan. The fabled instances of finalising  investment deals  in coffee shops and gymnasiums are no longer fashionable; those were more incidental in nature. In the present time, evaluation of an idea or a business plan is more rigorous and diligent at the investors’ end, and hence slightly extends over a period of time.

Many of the investors that we have interacted with continue to remain bullish about investments in the startup segment, lining up huge investments in excess of billions of dollars. A good deal of funds are available to fund great ideas, with investors always on the hunt for investment opportunities, albeit with relatively more caution. This leads to the advent of discipline in presenting ideas as well  as funding  them.

The flip side of abundant gun powder being available for investments is the pressure to deploy the cannons. The investor community can thwart this pressure rather easily and employ a rigorous evaluation process to sift and identify the next billion dollar opportunity. The core attraction of the startup phenomenon is the impact it has on the larger economy.

Thankfully, the government  is creating the right  environment, sensible capital is still available in large volumes to meet the requirements of this segment and the Indian entrepreneurial spirit seems to be, at least for now, high and soaring!

(The author is the Partner, Deal Advisory, KPMG in India)