Tales from the Start-up Trenches — the year value champions trump valuation champions

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Kashyap Chanchani & Avijit Goel

As we move from the biggest year for the Indian start-up ecosystem to FY23, we spoke with more than 50 growth investors and founders—and here is what we learnt.

FY22 was annus mirabilis for India’s start-up ecosystem. It finally delivered on its promise—big bang IPOs, spectacular listing pops, cash M&As, a vibrant secondaries market, higher growth, lower burn, all attracting new pools of capital never seen before. The defining trades of the Bull Run were the pre-IPO trade and piling on to the market leader.

Come May 2022 and it's already a different world when it comes to raising growth capital, even as the early-stage funding party continues. The biggest change is in the personality of growth capital: from scale-at-all-costs driven exuberance to caution-laden optimism. (Mind you, it is not pessimism; the Indian entrepreneurial ecosystem is well past that gate)

While segments such as cross-border SaaS, web3, fintech and infra continue to remain hot with minor multiple contraction, we see the defining investment theme around India's consumption story changing dramatically.

The reason: friction points of doing business at scale in a seemingly endless but practically diverse and limited market. This is becoming apparent for businesses where growth and scale (fuelled by the pandemic and funding) ran ahead of the strength in the underlying assets.

Across several market leaders, we see growth rates stalling, burn increasing, and liquidity events being pushed out. In short, the ‘money in and multiplied out’ funnel has stopped working as effectively.

There were two parallel swim lanes last year. One, populated by the highly capitalised loss leader and the other, with the lesser-capitalised silent builder. The leader was driven by ambition and applause; the underdog kept learning, iterating, and solving for fundamentals through frugality. And he has the loss leader to thank for being the metaphorical Dronacharya; an unwitting teacher to a frugal insurgent.

The belief that capital will correct for fundamentals wasn’t entirely false. While all founders agree that early over-capitalisation is a distraction, they also say that it helps them test different things. To our surprise, we are now seeing dozens of frugal insurgents across verticals from consumer brands to ed-tech to retail-tech and beyond who’ve learnt from the loss leader in what not to do.

A founder in the community-based commerce space mentioned that learning from some of the expensive first movers in the space she learnt to front-end monetisation early into her model. The early movers in this space find it difficult to cover for these costs at scale, many sleepless nights later.

A founder in the offline distribution-tech space sharply chose his markets and limited his category play after learning what not to do from the loss leader in the category. The loss leader could afford to commit these mistakes creating an unintended playbook of experiments at scale for the much wiser-in-time entrant to learn from. In effect, capital hastened these learnings for the space, allowing for multiple under-the-radar founders who were building quietly through the pandemic years.

This year shall see the breakout of these lesser-discovered, fundamentally strong assets and founders. And we have the exuberance of FY22 to thank in large measure. Slowly but surely, we are seeing growth investors beginning to look beyond the horn-effect of the loss leader and embracing these value champions over valuation champions.

Now, an ambitious founder meeting a large market and validating the opportunity with scale and growth is good, but not enough. Before parting with the money, thoughtful growth investors are going deep into the trenches to see if the growth and scale are a by-product of strong underlying assets.

And they are willing to wait. Investment Committee meetings are not being summoned at a day’s notice and oversubscribed rounds are no more a reason for throwing a hat into the ring.

As a growth investor, success last year was driven by sharp elbows to get into competitive rounds; success this year will be about having sharp nails to dig beneath the surface. And there lie dozens of unsung value champions.

The writers are partners at The Rainmaker Group. Views are personal and do not represent the stand of this publication.