From Valuation To Value: Indian VCs Shift The Gears

With one quarter to go in 2024, we are beginning to another inflection point in the Indian startup ecosystem, with VC funds and investors, in particular, displaying a lot more optimism than just one year ago. And in particular, we are seeing a shift from valuations to value.

Much of this bullishness was on display at MoneyX by Inc42 last week, but even outside the spotlight of the stage, conversations revolved around true valuations, monetisation and profits, the IPO frenzy and exits. When just last year, perhaps the mood was a bit more sombre.

Indeed, over the past two months, we have delved into the factors that have given Indian venture capital firms this brighter view of things — including the improving outlook for exits through IPOs and the secondary market for startups.

But what’s often unspoken in these conversations is the rationalisation in startup valuations. The discussion around valuations is usually restricted to the public markets where we have seen debates on Zomato’s staggering rise to $30 Bn and beyond, and on the flipside, Paytm currently trading at over 70% lower than its listing price.

These fluctuations in valuations are pretty much expected in the world of publicly listed companies, but for startups, the conversation has pretty much always been about rising valuations, or when things go pear-shaped and there’s a big erosion — think, BYJU’S or Pharmeasy.

That’s until now. In 2024, there is a more measured and rational view on valuations and the fact that many startups are now coming closer to their true value than before. In particular, the fact that even smaller IPOs are gaining a lot of traction and interest is also a great sign for startup investors, and another factor behind the shift from vanity valuation to real value.

From Vanity Valuation To Real Value

Several noted investors told Inc42 last week that if the past decade was about backing the potential of Indian startups, the next few years will be about backing the value that has been created from this potential. And for many VCs, the age of unicorns is over, or perhaps the metric by which a unicorn is defined has changed.

Until FY23, only a handful of unicorns were profitable. But this tide seems to be turning in FY24 as companies have figured out ‘comfortable’ monetisation models. Zomato, Honasa, OYO have shown that companies can scale up and yet remain profitable.

It’s no longer the choice between profits and revenue that it used to be, and valuations, therefore, are not the metric by which to judge the startups that need to be celebrated.

Peak XV Partners’ managing director Mohit Bhatnagar admitted to having a problem with the term unicorn, because as an investor, it gives the wrong signal. He believes that valuation only truly matters at the time of an exit, and to get this valuation, investors have to back value.

“It’s time we look at redefining what it means to be a unicorn. While surely, it cannot always be about profits, we have to judge companies on how much revenue they are generating and are they closing the gap when it comes to going breakeven. This is the real metric and the days of chasing these vanity valuations are over,” he added.

In a similar vein, early-stage and angel investor Rajesh Sawhney believes that the wave of smaller IPOs, which have also delivered the returns to pre-IPO investors, shows that valuation was never the right north star for founders.

“Of course, valuations are important when you exit, but that cannot be the reason you invest in startups. Founders bargaining for a higher valuation is a red flag in most cases, and only in a fraction of investments does this pay off. But why take that risk at all? Venture investing is already risky,” Sawhney told Inc42.

Why Valuations Don’t Matter For Some VCs

Others such as Hiro Mashita, founder and director of Singapore-based m&s Partners, had a different take on valuations. Mashita said that as early investors, the potential upside can be so big that valuation at the time of investing is often immaterial.

Mashita pointed to his experience of investing in Razorpay’s seed round in 2015, when the company had just started out and was not making much revenue to its current valuation of over $7.5 Bn. He claimed his investment has grown by over 700X since the seed round. So for him, it was not about the valuation but the value that Razorpay could unlock.

Interestingly, Mashita also cited the example of Y Combinator founder Paul Graham, who once said, “Valuation matters far, far less than the decision of whether to invest or not. The spread between bargain and outrageous startup valuations can’t be more than 5X, in a world where the best investments can return 1,000X.”

Incidentally, Y Combinator also invested in Razorpay’s seed round, and the company is now looking to list in India by FY26 or next year.

IPOs & Indian Startup Valuations

Speaking of IPOs — many VCs have seen the writing on the wall for a number of years, and have held onto the belief that private valuations are just a number on a paper that does not matter for many years.

The fact is that many VCs feel vindicated about their thoughts on valuations today, than a few years ago, because of the fact that today startups are at the stage where they can grow into their valuations more easily.

The ripe market for IPOs is a big part of this vindication. Relatively small size of some new-age tech public listings this year and the spate of SME IPOs (even accounting for the potential bubble there) have also justified their patience.

When criticism around bloated valuations first came up in 2021 during the ZIRP investing bubble, Blume Ventures’ partner Sajith Pai wrote, “VCs found that the techniques that public market investors used couldn’t hold for younger, fast-growing companies with unpredictable revenue. Through long years of iteration, they came with the practice or protocol of playing long-term multiparty staging games to take the company from idea to IPO.”

At the time, Pai claimed the VC valuation process has been honed and has evolved over the years, and can at times lead to situations where certain startups seem to have ‘absurd’ valuation for their particular stages. But also he warned that comparing these valuations with public markets misses a big point.

“Over time, these ‘derived valuations’ correct themselves out, and in the long run, as the startups move to an IPO, the values converge with those of their public market counterparts,” Pai wrote in 2021

This seems to have presaged what we are seeing in 2024. A lot of the private market valuations are either sobering to meet public market benchmarks and when private companies go public, their valuations reach more rational levels seemingly automatically.

In many ways, this too is a sign of maturity of the market, of a necessary step in the evolution of Indian startups. Even the most absurd valuations tend to get corrected in the long run. And when they do, as they have now, the real value comes to the fore.