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“To me, ideas are worth nothing unless executed… Execution is worth millions."

That was the legendary Steve Jobs speaking, and startups and investors in India would do well to take note. Startups are struggling to raise seed and late-stage investments as the funding winter worsened over the past few months. It is not expected to get better for the next year or two either. During this period, investors must demand to see results, and startups must crank up execution of their big ideas, and chart their path to profits. The world can learn from the Indian experience after the global financial crisis.

The winter chill deepens for startups

According to Tracxn’s India Tech 2022 report, startup funding in the year so far has plunged 35% to $24.7 billion from the previous year, and 58% from the preceding quarter. This indicates the funding squeeze has only deepened as the year progressed. India added 22 unicorns in 2022, but none in October and November.

Late-stage funding tumbled 45% to $16.1 billion between January and November, while the number of seed-stage rounds dropped 58%. It clearly shows investors are becoming more circumspect as central banks, including the RBI, turn off the liquidity tap. Quantitative easing programmes have come to an end in advanced economies and interest rates are rising. With inflation expected to linger over the next few quarters, central banks are not ruling out more rate hikes in the new year. As central banks wage an an all-out war against inflation, the funding winter for startups will run deep into the new year.

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The big picture for startups

It’s time for a reality check: How long will valuations soar, creating unicorns on the promise of a better tomorrow?

Central banks flooded the markets with cheap money after the global financial crisis of 2008. That inflated asset prices, boosted stock markets and fed into the primary market, lifting startup valuations as well. Building and scaling businesses on easy funding and deferring a public offer for years without no thought to profits became common in the decade after the Lehman Brothers Inc. collapse.

After the pandemic set in, central banks continued with the liquidity gush for another couple of years. That finally led to a sustained surge in inflation worldwide, worsened by the supply crunch following the Ukraine war. As the easy liquidity ebbs, there will be consequences and assets will be right-priced. The crypto collapse is, in some measure, a consequence of that. The property market is cooling off in parts of the globe, including the US.

There are lessons from India’s experience in the mid-2000s as well. During the boom period, PSU banks kept lending, while corporates expanded operations on the back of easily available credit. It triggered the twin balance sheet problem – companies piled up debt while banks ended up a mountain of bad loans. It forced companies to put expansion plans on hold, while banks had to resort to massive write-offs to bring NPAs under control.

A similar scenario may play out in the startup ecosystem in case of a prolonged global slowdown, with recession in some economies. Many startups, including some unicorns, may find the going extremely tough, straining startup investors as well. Startups anyway have a high failure rate – the slowdown will only make it much worse.

Can unicorns become sustainable businesses?

Globally, unicorns -- startups valued at $1 billion and above -- have struggled to become profitable. Around half of the unicorns that go public in the US are expected to be loss-making. In recent years, the focus remained on thinking big – come up with the big idea and get easy, sustained funding. Execution of that idea did not get top priority. The world now has about 1,166 unicorns while India has over 100.

In India, many startups turned unicorns in a decade since founding, even though they continue to make hefty losses. Valuations surged while late-stage funding became divorced from performance and profitability. Capturing market share and scale became an end in itself, and even Wall Street showed a healthy appetite for loss-making unicorns. However, the global economic slowdown promises to change all this.

How soon should businesses become profitable?

It's a question that angel, venture, and PE funds will need to ask in an effort to seek accountability. In the stock market, a decade is considered long-term by many investors. Surely, there needs to be medium-to-long term targets for any business by investors to make returns.

Look at in another way. Is it better to keep pouring money at sky-high valuations into a few businesses, or should more startups with a sustainable business model be seeded to spawn a healthy startup ecosystem? It may mean fewer unicorns, but may give a lifeline to many more entrepreneurs. In emerging economies like India, that may create a more inclusive startup ecosystem. India’s small businesses, or the SMEs, are massive employment generators and better funding opportunities to them may be a lifeline for them.

Even as we celebrate unicorns, let’s remember India, and the world, needs to create millions of viable, sustainable businesses that can lift standards of living and create employment for millions.

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