As recently as two months ago, most start-ups in India denied that a slowing economy and growing liquidity squeeze had had an impact on their business. But, the start-up ecosystem, typically less dictated by public market fluctuations, today is hurting from the ripple effect of a global meltdown and entrepreneurs in multiple industries repeatedly say, “Cash is king.”
Mint spoke with entrepreneurs and venture capitalists on the measures they are taking now or had taken in the past to survive an economic downturn. We have put together a checklist of things an entrepreneur should know about current conditions within the start-up industry and survival tips from those who’ve been there before.
Higher terms, lower valuations
Venture capitalists say the cost of raising capital has gone up significantly for start-ups. While several venture capital firms, or VCs, have raised funds in recent times, they are investing very cautiously, and at much lower valuations than even six months ago. Expect more terms and conditions in the contract—these may involve stricter performance metrics and protective clauses for the venture capitalist in case of further rounds, acquisitions or shutting down.
Down rounds in a down market
For companies that have already raised one round of institutional capital, a down round signifies raising the next round at lower valuations than before. “Flat rounds”, at the same valuation as the last round, have become fairly common for so-called series B, or second-round, financing in the last two months, with instances of down rounds popping up around, say investors. “Normally, there would be a 50-100% mark-up in valuation from series A to series B. Now, it’s either a flat round or maybe 10-20% (up),” says Suvir Sujan, managing director, Nexus India Capital.
A down round can result in complications as it also involves previous investors, and in the bargain, founders often lose out on equity. At the end, it boils down to a simple trade-off: Would you rather go without any money or give a bigger equity stake to keep your business sustained and eventually better its prospects of success.
It’s important to plan short-term
It’s important to ensure you have enough reserves to last for the next two years. New ideas and projects that may yield revenues a year or two down the line can go on the back burner. In some cases, you might increase your revenue by taking on short-term projects that are not necessarily part of your core business model. In the days following the dot-com bust of 2001, the founders of online auction site Baazee.com started a reverse auction business and took on consulting projects for companies that yielded a few million dollars. In 2004, founders Suvir Sujan and Avnish Bajaj sold the company to eBay Inc. for $50 million.
Link pay to performance
One way to increase efficiency and cut cost is to link employee performance to the paycheque. A start-up has two options here: It can offer chunkier employee stock options (Esops) in lieu of pay hikes, or it can increase the portion of variable pay based on, say, sales. Bangalore-based mobile advertising company, Gingersoft Media Pvt. Ltd, that operates under the brand mGinger, for example, has increased employee incentives based on sales by 30%.
Cut expenses wherever possible
Tabulate all your key operational expenses and find ways to minimize them. Retail apparel chain The Loot (India) Pvt. Ltd has listed out its top 10 expenses, which include manpower, rentals, taxes, advertisement, stationery, printing, maintenance and logistics. “We are encouraging (employees) to avoid paper wastage while printing by giving out a set number of papers to each department,” says founder Jay Gupta, citing an example.
Revisit and revise growth plans
Even if the slowdown hasn’t affected your business yet, it is advisable to revise or defer expansion plans unless absolutely necessary. Bangalore-based Printo Document Services Pvt. Ltd has reworked its strategy of having 26 stores by March. It will now have 22 stores and has decided not to expand into new cities.
Set realistic sales targets
In the current market, revenues will be low and the cost of getting customers high. In consumer-facing businesses, understand your capital burn rate and find ways to measure acquisition cost and value of a customer. Set your sales targets for next year accordingly.
Push for quicker sales cycles
On the enterprise side, corporate customers may not spend as much or as fast as you’d like. “Have an active control of your services or products and if a customer does not pay even after the grace period, stop the service,” advises Mohanjit Jolly, executive director, Draper Fisher Jurvetson India Advisory Services Pvt. Ltd. The firm is advising its portfolio companies to extend discounts to customers to encourage them to pay for services upfront.
Troubles with tranches
This is bad news that you have little control over, but venture capitalists typically invest the total capital agreed upon in tranches over time, incumbent upon certain conditions, typically linked to performance or execution of business model. As start-ups find it difficult to meet milestones that were set in a boom market, venture capitalists may back out of investing the full amount. “Some VCs are now renegotiating or trying to get out of further tranches. We’ll find the use of protective provisions (for venture capitalists) a lot,” says Shantanu Surpure, managing attorney, Sandhill Counsel, an Indo-US law firm focused on the venture capital and private equity space.
Talk to the team
Keep your employees informed?of?the situation the firm is in. Founders of start-ups have often taken the biggest pay-cuts in down markets. In such uncertain times, transparency may help unify and motivate the team. In 2001, when the founders of Info Edge (India) Ltd talked to their employees of the tough times ahead, senior team members offered to take a 30% deferment.
This list has been compiled after talking to DFJ executive director Mohanjit Jolly, Nexus India Capital managing director Suvir Sujan, JumpStartup co-founder Sanjay Anandram, Info Edge chairman Sanjeev Bikhchandani, The Loot founder Jay Gupta, Printo Document Services CEO Manish Sharma and mGinger CEO Chaitanya Nallan and Sandhill Counsel managing attorney Shantanu Surpure.