In the past decade, the startup funding scenario in India has evolved significantly. With 10 startups joining the unicorn club in 2018 alone, Inc42 DataLabs estimates that India will have more than 50 unicorns by 2020.
But for this to happen, the foundation has to be strong. A 2018 study by CB Insights showed that while less than 1% out of the focus group of VC funded startups have become unicorns, nearly 67% or two-thirds of the startups stalled at some point in their venture capital process and failed to exist or raise a follow-on funding.
While the study is based on US-based startups only, a similar problem exists in India as well.
And while it is easy to put your money on a proven concept, it’s a much tougher task to identify the potential Urbanclaps or Dunzos or Swiggys of tomorrow. Thus, the role of early-stage funds is an important factor contributing to the success of such startups.
As part of the Inc42 and Amazon Web Services’ (AWS) ongoing series – Over The Horizon, we write about investors who are impacting the Indian startup ecosystem. This time, we would like to move the spotlight on to some of the early-stage venture capital funds such as Menterra Ventures, Capier Investments, Parampara Capital, Astarc Ventures, Anthill Ventures, Endiya Partners, and SRI Capital, who hold the ability to spot diamonds in the mud and motivate the startups to dream big.
The Evolving Landscape Of India’s Early-Stage Investments
After the ‘spray and pray’ approach (in 2015) and the lessons learnt the hard way during the funding winter of 2016, Indian investors have become more cautious than ever. The number of bets per investor has gone down, however, the ticket size has gone up across stages.
According to Inc42 DataLabs, from 551 in 2017, the number of seed-stage deals have come down to 331 in 2018 — a 40% decline. On the other hand, the total amount invested in early-stage startups has gone up by a staggering 138%.
At present, there are over 416 venture funds who have a focus on the early-stage startups in India. The marquee VC funds like Kalaari Capital, Tiger Global Management, Accel Partners India, Sequoia Capital India, Blume Ventures, Nexus Venture Partners among others are already working in parallel with angel networks, HNI’s and corporate investors; and aggressively trying to bridge the gap between early-and late-stage ecosystems. However, a new breed of investors has entered the funding bandwagon and is supporting the early stage ecosystem.
Since the mechanism of an early stage, late or a growth stage varies, in order to understand how an early stage fund functions, how the selection criteria for startups functions, and to cater to other important factors which are considered when funds invest in the early stage startups — we connected with venture capital funds such as Menterra Ventures, Capier Investments, Parampara Capital, Astarc Ventures, Anthill Ventures, Endiya Partners, and SRI Capital.
These funds primarily make small ticket investments in seed stage, in mostly Pre-Series A and Series A funding rounds and have a fund corpus in the range of $7 Mn – $100 Mn.
The Analogy Behind ‘Most Preferred Sectors’
While most funds prefer to be termed as ‘sector-agnostic’, in the real-world VCs do tend to prefer some sectors over the others. This can be attributed to the core principles of the fund, the in-house expertise, the growing market size, and/or profitable experiences from the past.
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At the same time, a few funds are more concerned about the domain which startups operate within, namely Software-as-a-Service (SaaS), technology, consumer internet or others. For instance, Venkat Vallabhaneni of Parampara capital says, “We are sector agnostic but we usually avoid business models such as aggregators, marketplaces, app-only or ecommerce ventures.”
On the other hand, while talking to Menterra’s founder Mukesh Sharma on how deeply an early stage venture capital fund can be committed to solving the issues impacting masses at a ground level, he said, “We believe that big and game-changing differences in the outcomes will come only when we use big game-changing ideas that leverage the latest available science and technology. Business model innovations will merely give us incremental improvements. For instance, to reduce the cost of healthcare to 20% of current prices, or to increase farm yield by 5x, or to improve learning outcomes by 3x – a different approach is required,”
Here is a brief overview of investments made so far, by the early stage funds with whom Inc42 spoke with:
Overall, it turned out that deeptech, healthtech and enterprise tech startups have gained the maximum spotlight in the eyes of the early-stage VCs. As per an analysis by Inc42 DataLabs, in 2018 alone, in the early stage 31 deals were reported in enterprise tech, followed by 19 and 18 deals in deeptech and healthtech respectively.
But How Do These Funds Select A Startup?
As for Anthill Ventures, the mentors gauge the capabilities of startup founders with respect to market needs, their future plans to build world-class offerings and their humility in accepting the need to pivot when needs of the customers change. And, this has resulted in blooming of startups such as 91springboard, Roadzen, Travelio, Uniti Electric car and ShieldSquare (recently acquired by Israel-based Radware). Moreover, Vanga adds,
“The value of our portfolio (25 startups) has grown over 400% in the last three years with 70% of the companies raising follow on capital at a substantially higher valuation.”
For Parampara Capital, the importance lies in the presence of technology IP/innovation in the business model, a fully functional and marketable product, proof of market acceptance along with some revenue traction. This is how the fund identified S-Cube Futuretech — a startup that develops software solutions for the structural and civil engineering industry — and also recently got major exit from US-based Bentley Systems.
On the other hand, Capier Investments works with super-early-stage startups having little or no revenue, hence a startup’s team and their idea become the most critical element for Capier Investments whether or not to go ahead and fund. M.A further adds,
“90% of our portfolio of investments have been able to secure follow on rounds through new investors or through marquee investors and that is a great validation of our investment thesis.”
Apparently, the startup’s commitment to innovation, exciting technology and an impacting business model is non-negotiable, but that is not enough either. As Sharma from Menterra says, “Without serious execution discipline, financial results and impact, objectives will not be delivered. So, for us, financial metrics and discipline both are as important as the impact is and we do not sacrifice one for the other.”
And this ideology has helped the fund identify startups like Farm Folks, Biosense and EZ Vidya at their early stages.
Quite interestingly, SRI Capital, which offers higher ticket investments looks for a proven business model that can scale up if provided with strong capital and global network in the B2C sector. In the B2B sphere, the fund looks for a unique IP and credible US customers.
It is not always necessary for a startup to get a major exit, even building a sustainable business model is more than sufficient. And with that mentality, Astarc Ventures selects a startup on the basis of a deep-pain point being solved, large market size, quality of the founding team, the uniqueness of the solution, scalability, and defensibility.
Similarly, Endiya Partners looks out for product-based startups with global aspiration and has an exciting technology that helps people solve problems easily. And, that is the secret behind spotting the diamonds in the mud, which has given rise to startups such as Little Eye Labs, which was acquired by Facebook and other successful startups such as ShieldSquare (acquired by Radware), and IncNut (acquired by iStyle).
Early Stage Startups: The Growing Support System
The startups which took off between the ’90s and 2000s were either bootstrapped or primarily survived on the money from family offices. However, post-2010, with the rise of consumer-oriented online startups such as Flipkart, Zomato, Zoho, Ola and OYO, investor interest in startups grew. With their fast-growing appeal among urban dwellers, these startups made it easy for investors to see the value in Indian startups.
And once these trailblazers created India’s own unicorn club, India became an important business opportunity for the VC funds to ensure the deal-inflow in order to keep them afloat and deploy the funds at the right time in the right number of startups.
The most important thing here is building the right network. To this end, Parampara has built a network and has various stakeholders in the ecosystem such as investment bankers, venture capital funds, angel networks and incubators/accelerators who provide the fund with a funnel for sourcing deals.
At the same time, at the global front, Anthill Ventures has nine sourcing hubs globally where its venture partners are building local relationships with family offices, accelerators, funds and corporates.
Other than these, there are a number of channels opted by the early-stage VC funds to source startup deals. As Hari Krishnan of Astarc Ventures says, “There are multiple ways — inbound leads, referrals from the network of funds/angels, events which we attend, other founders, etc. We also have Venture Partner Programs where we have a few people helping us with sourcing deals, and also Refer a Startup program where anyone can refer deals and be a part of the success of the startups by sharing the upside through carrying.”
The Changing Funding Scenario
As per Inc42 DataLabs’ analysis, Chinese and Japanese were involved in a large number of deals with the total deal count standing at 77 in 2018 with an aggregate value of $3.6 Bn. One of the most widely known names in the world of investment – Warren Buffet’s Berkshire Hathaway – made a debut in the Indian market last year by investing $300 Mn in One97 Communications Ltd, the parent organisation of Paytm.
A lot of other US-based venture capital firms are making an entry into the country’s growing startup hub and some popular names among them are Insight Venture Partners, Think Investments, Northpond Ventures and Mithril Capital Management.
Chinese internet giant Alibaba is playing a crucial role when it comes to investing in Indian Startups.
Recently, China’s largest bank, Industrial and Commercial Bank of China has shared its plans to invest in India’s local startups and small-and-medium sized enterprises with a $200 Mn fund in its pocket. Among all, Japanese MNC holding conglomerate SoftBank the most active investor in India has roughly deployed over $10 Bn in Indian startups to date.
“India is on the cusp of tremendous growth in its startup ecosystem with impressive growth in the quantity and quality of all stakeholders — startups, VCs. PE players, lawyers, incubators, etc,” says Vanga.
The Rising Investor Party
The rising interest in the Indian startup ecosystem has led to the launch of multiple funds and international funds making their debut in the country’s startup hub. But, is this a threat to the funds working with small-ticket investments?
Krishnan of Astarc Ventures adds, “At every stage in the investment spectrum there are opportunities for a fund. So with bigger funds and increasing ticket sizes, the early stage of the spectrum becomes clear and there are many opportunities for funds like ours. We have also been partnering with larger funds to ensure adequate capitalisation of the startups who we invest in, to give them enough runway to achieve their future milestones.”
On the other hand, Reddi of SRI Capital says that being an early-stage fund, they tend to invest $1 Mn to 2 Mn at the Pre-Series A stage, which is, in fact, a positive point because major VCs in India only write Series A/B/C cheques. Even funds like Menterra, Capier Investments, Endiya Partners or Anthill Ventures do not find this as a threat. Instead, they say it tends to help startups cope up with the initial challenges where funds with bigger ticket investment will add more fuel to their tanks in the latter stages.
For most of the funds we spoke with, the participation of international investors in India is benefitting a lot of startups since they provide a wider network to them for scaling up. According to Vallabhaneni, this has also improved the exit possibilities for the investors since a lot of international companies have started looking at Indian startups for their technological capabilities which are evidenced by acquisitions made by Facebook and Google in India.
However, in the end, everything boils down to one question — Does a startup founder want you (an early-stage VC fund) to invest in their company? Well, while every budding entrepreneur may have their own ifs and buts, the VC’s Inc42 talked with, have a few suggestions for helping them pick the right investor:
- Whether the Investor truly adds value – that is, in addition to capital do they bring expertise, connections, know-how and other resources that can help a startup at different phases.
- Whether the investors share a similar vision for the company or not?
- Assessment of how prospective funds have partnered with their portfolio companies especially during a downtime.
- Track record of backing companies with additional funding and resources over a longer period which is critical for riding through difficult phases especially when the external funding dries up.
- Quality and structure of the LPs in the fund, their expectations and alignment with the fund manager are other areas to look at.
And as SRI capital’s Sashi Reddi rightly said,
“Founders should pick VCs who have real operating experience. All money might seem the same when companies are looking to raise funding but when there are tough times, the founders will need advice from people who have actually built companies.”