The great Indian startup battle: Founders vs Investors

Since the end of 2016, Aggarwal has opposed SoftBank’s efforts to increase its 25-27% stake in Ola. During that period there were persistent rumours about a merger between Ola and Uber, which also counts SoftBank as its largest shareholder.

Aggarwal’s stand against SoftBank has come at a cost: a delay in fund-raising and a lower-than-expected increase in Ola’s valuation. That is quite literally the cost of refusing money from SoftBank—most other investors aren’t as generous with handing out high valuations. Many of SoftBank’s portfolio companies including Paytm, Oyo, Policybazaar and Delhivery have seen their valuations jump from the levels of 2015, when the previous funding boom ended.

Though Ola has maintained a slender lead over Uber in the ride hailing market, reduced losses per ride, seen a huge increase in sales, entered international markets and diversified into new businesses, the company’s valuation has moved only slightly higher from the valuation of $5 billion that it had secured in 2015.

Ola and SoftBank declined to comment.

The standoff at Ola, combined with other instances of power struggles between investors and star founders, has also had an impact beyond the company. Many entrepreneurs now view venture capital investors warily. They are demanding stronger rights for themselves and trying to limit those of their investors.

In India, investors have had the upper hand in dealings with entrepreneurs. That is a typical feature of a nascent startup ecosystem. But after a short period of 18 months starting from early 2014 when it seemed like Indian founders were becoming powerful, in the last two years, founders of three of India’s leading startups have had a particularly tough time with their investors.

Founders vs Investors

In 2017, Kunal Bahl and Rohit Bansal of Snapdeal were locked in a months-long boardroom row with SoftBank and Kalaari Capital, which wanted to arrange a sale of the struggling online marketplace to bigger rival Flipkart. Finally in August 2017, the Snapdeal founders blocked the sale, angering many of its board members and other investors.

Last May, Flipkart co-founder and then chairman Sachin Bansal was forced to leave the company ahead of its sale to Walmart Inc. after Tiger Global managing director Lee Fixel and other board members opposed Bansal’s attempt to return to a bigger operating role at Flipkart.

A few months later, Flipkart’s other co-founder Binny Bansal resigned from his position as group chief executive officer (CEO) and chairman after an investigation by Walmart into the allegations of personal misconduct. The misconduct charges weren’t proven and Walmart’s move to make the investigation public led to speculation that the American retailer had forced Bansal out.

In this backdrop, Aggarwal’s stand against SoftBank-Tiger assumes significance for entrepreneurs, who naturally take cues from iconic founders.

Investors said some founders at mid-stage and late-stage startups have been discussing instituting a dual-voting structure and setting thresholds on the ownership of individual investors. A dual-voting structure would give entrepreneurs control over voting rights and decision-making regardless of their relatively low ownership in the company. Setting thresholds on the ownership of investors would put limits on the influence of a single shareholder.

For the same reason, entrepreneurs are also trying to restrict the rights of investors to sell to another investor at a time when such secondary share sales have turned into the most important source of exit for startup investors. Even standard terms like vesting of founder shares and drag-along rights, which allow large shareholders to force minority investors to sell their stake during the sale of a company, are being challenged. Simply put, entrepreneurs are scrambling to exercise more control over their companies.

The shifting dynamic

These entrepreneurs look longingly at the control enjoyed by some US startup founders such as Facebook’s Mark Zuckerberg and Snapchat’s Evan Spiegel, whose disproportionately high voting rights ensure it’s tough for investors to wrest away control of the companies from these founders. “There have been repercussions because of the events (at Ola, Snapdeal, Flipkart) on the ecosystem," said Madhukar Sinha, partner at venture capital (VC) firm India Quotient. “Founders are becoming more aware of these things and they are asking questions. This is largely happening after the Series B stage when there’s serious money involved… There is a certain level of mistrust between founders and investors. What we are saying as investors that let’s work this out. These discussions need to be done in a logical and sensible manner."

Entrepreneurs have become more aware and assertive about their rights, said Rutvik Doshi, managing director at Inventus (India) Advisors, a VC firm. “But most term sheets in the early stages have become fairly standardized and balanced with respect to the entrepreneur interest and the VC interest. In the late-stage rounds, with large amounts of capital coming in, it can mean stricter terms depending on who has the higher negotiating power. Things can move in either direction. That’s where things are different," Doshi said.

Sagar Yarnalkar, co-founder and CEO of grocery delivery startup DailyNinja, said founders become less secure in their positions as the company matures.

“At the series A stage, the founder is more hands-on and most of the decision making takes place through the founder, which makes them feel secure. However, at a series C, D stage, when a founder comes out of the daily operational decision-making process along with a larger board, they tend to feel that they should protect themselves more," Yarnalkar said

The shift in the investor-entrepreneur dynamic has been years in the making. In the early years of the startup ecosystem investors wielded all the power. There were only a handful of VC firms that bet on early-stage ventures. Internet entrepreneurship was seen with scepticism. But over the past five years or so, many internet startups led by Flipkart have become hugely successful. Exits, either through secondary share sales or merger and acquisition (M&A), have increased in number, enriching investors, founders and dozens of key employees. With this wealth creation, some entrepreneurs like Sachin Bansal, Binny Bansal and Bhavish Aggarwal became entrepreneurial icons.

Now these and other founders in their capacity as angel investors, public figures and mentors exercise significant influence over other entrepreneurs. The relatively small size of startup successes compared with China and the US means that investors are likely to continue to be in the ascendant. And the capital-intensive nature of consumer internet businesses means that investors will own a majority in most companies. But after the success of startups like Flipkart and Ola, founders are increasingly willing to challenge the dominion of investors.

Another startup CEO who declined to be named said founders should ask experienced entrepreneurs for advice on handling investors. “Yes, we look at the term sheets more carefully now. And the best thing to do is to run it past other experienced entrepreneurs because they would be the best people to guide since they have more experience with investors in the past. It could be a Sachin Bansal from Flipkart, or Printo’s Manish Sharma," he said.

Ola valuation

In late 2017, Tiger Global managing director Lee Fixel resigned from Ola’s board. Around the same time, Aggarwal blocked a proposed sale of Ola shares by Tiger to SoftBank. Earlier that year, Ola had made sweeping changes in its shareholder terms for exactly such a scenario. According to the amended terms, SoftBank was barred from buying more equity shares in Ola without approval from the firm’s founders and board of directors.

In November 2017, Ola said it closed $1.1 billion in a funding round that had stretched for more than a year. The company added then that it was in advanced talks to raise an additional $1 billion from existing and new investors. More than 15 months later, Ola hasn’t even received half of that $1 billion. Potential investors are wary of backing a company whose founder has differences with SoftBank, the most powerful investor in the tech world, people aware of the fund-raising discussions said.

“If Softbank was involved in Ola as much as it is in Oyo, Paytm, Policybazaar, etc it would have seen a much higher valuation. There aren’t many investors such as Softbank who can pump in that much money at such sky-high valuations. But it’s not a black and white or a positive/negative thing. Some founders would not want to cede control," a venture capitalist said on condition of anonymity.

This month, Ola closed a $92 million round from Sachin Bansal valuing the firm at more than $5 billion. Bansal had received over $1 billion from selling his 5.5% stake in Flipkart to Walmart last year. The entry of Bansal will strengthen Aggarwal’s position in the standoff with SoftBank. Aggarwal is also in talks with other investors to raise more capital.

Yet there is persistent speculation among investors that Ola will take money from SoftBank again at some point. The company requires significant capital not just in its core business but to fund its other ventures. If it does raise cash from SoftBank, the odds are that it will be on Aggarwal’s terms. “Unlike Snapdeal, Ola isn’t struggling or desperate for cash. And Bhavish has proved himself to be a first-rate entrepreneur. He still has a very good equation with Masa (SoftBank CEO Masayoshi Son). In this situation it’s not unlikely that there will be a compromise and SoftBank will end up investing again in Ola," a senior investor said on condition of anonymity.