Growth of Venture Debt in India

Ivy Cap Ventures recently announced their intention to raise a 500Cr Venture Debt fund. This is close on the heels of similar announcements by firms like Trifecta and Innoven (the article also alludes to these), signaling the growth of another facet of India’s startup/investor ecosystem.

I had contended in an earlier post that Venture Debt makes a startup inherently risky because it creates scenarios where there are fixed outflows with variable inflows. It increases the risk of bankruptcy and possibility of liquidation events. And while the overall logic stands true, it looks like there is ‘traditionally minded’ money that is willing to fund corporations the classical way through debt instruments that are backed by reasonably good collateral. Maybe, there might be sound businesses that have a hardware component to the business model – where there are frequent working capital issues – that can be addressed best by debt instruments.Finally, there could be enough scenarios where businesses with  strong cash flows are simply not able to attract the valuation they desire – leading to the prospect of significant (and undesired) dilution at each funding round – and stimulus for the growth of this alternate funding vehicle.

More than anything, these developments, along with the emergence of the Series B ecosystem, signal the very presence of ‘startups’ in India that are now in mid-stage.  In that they have enough revenue, cash flow and reserves to be deemed as ‘lendable’.  Therefore reflecting an overall validation of the maturity of this exciting industry.

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Why Rupee Appreciation Matters for VCs

Actors in the startup arena often gloss over macroeconomic data like current account deficits, inflation, balance of trade, fiscal policy etc because a lot of this data is often not relevant to the economics of the companies they invest in.  Their reasoning is largely justified – because the challenges that early companies face are often (but not always) different from mid-larger companies, especially those in imports/exports, that are more exposed to currency movements.

However, currency movements are important to LPs (and by extension GPs should take note) as it directly impacts the IRR of the fund for foreign investors and by extension, their capital gains. If the currency of the country in which the fund is domiciled depreciates rapidly, then it wipes out quite a few of the gains of the fund. This is one reason why it’s a bit harder, or at least used to be harder, for Indian GPs to raise funds.

The recent appreciation in the Rupee is interesting for this reason – on the one hand it proves that good governance leads to swelling foreign exchange reserves – which translates into noticeable currency gains. Leading to the premise that continuation in current economic policies will lead to further currency gains and that funds raised in the next few years will actually accrue gains from currency appreciation alone (or at least not to be subject to significant downside risk).



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Maturing of the Accelerator Ecosystem in India

Like most mature startup ecosystems, India has steadily being building up it’s own enviable set of accelerators on key cities. These accelerators provide many important financial and advisory benefits to foster growth:

  • Access to industry mentors
  • Expertise in growth strategy (including creation of repeatable sales cycles) and Go-To-Market
  • Logistics support – accounting, digital marketing, and more
  • Basic Office Infrastructure
  • Technical expertise – in building scalable and fault-tolerant systems
  • Access to VCs. and other investor groups for the inevitable next funding round.

Probably the biggest benefit is a combination of three or more of the above elements to ensure that a startup inculcates the required discipline to become a true growth machine. Often, startups have very rosy (and unrealistic) expectations of their product’s potential in the marketplace. Going through a structured 6 to 12 month accelerator program helps create an organized, realistic and achievable growth trajectory – a critical component of attracting institutional money from Series A onward..

While most participants in the early stage industry view accelerators as being accretive to the ecosystem, there is the occasional dissenting voice too. Some argue, cynically, that corporate accelerators are built to promote in-house products and services that are adjacent to those of a startups’s offering; and that, there is just superficial interest in genuinely helping the startup. Others argue that corporate involvement often stymies innovation as significant time is spent pursuing that one (often elusive) deal – often to the detriment of the startup.

While the final jury is out on this one, I think that in the mid to long term there will be 8-10 reputable accelerators in India that will function like the famed Y Combinator (which by the way also takes Indian startups now) in the USA.  Startups that make it here will get guaranteed funding and go through rigorous bootcamps that will inevitably result in follow-on financing and a bevy of offerings to turbocharge near-term growth.


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Importance of a repeatable sales cycle

Startups often get quizzed by potential investors about the selling process – questions like – “Who is the decision maker for your products”, “How do you locate them?”, “What is the length of the sales cycle” “Where do you get your leads and how much does each lead cost” and so on.

While this might appear as being a bit too onerous, there is a sound (at least from an investor standpoint) reason for doing this. The investor is trying to determine if the startup has mastered the art and science of making a sales deal, and has the organizational structure and discipline to replicate this model to thousands of such deals. In other words, they have a proven repeatable sales cycle.

Having a repeatable sales model is one good indicator of startup maturity because it often implies that they have gotten some key data points right. These startups can exude more confidence about their predictability of their business model – as an investors it’s really encouraging to hear something like this:

“We sell to VP of Marketing at SMEs globally. We attract them through Google Adwords with an effective CPL of $100. A typical sales cycle is 3 months and we compete against Company A and B in 90% of the deals. We beat A on price and B on easier customization of features and integrations with existing systems. Lifetime value of customer is $600”

It’s encouraging because it’s easier to see how a startup like this would ingest a funding round to get a predictable number of leads, and by extension customers. While not perfect, having a repeatable sales model is far better than building a product that is searching for a market, of having to navigate org structures to locate decision makers, of having revenue lumped at different times in the year, and other uncertainties.


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Rise of B2B invoice financing

A new, and rather Welcome addition to the PE asset class in India is the rise of working capital financing. Alok Mittal wrote a nice, concise article explaining the benefits of this type of financing.

Invoice Financing is an extremely handy tool in the hands of B2B startups especially in India where payments, at least in certain verticals, are notoriously late. I have met many startups (where the product involves a hardware component) that are very leery of taking upon big orders – specifically because they are not confident of handling the working capital flow inherent in addressing a large incoming order. Indeed, many of them raise a round of financing just to be better-prepared to address a larger market with confidence.

I believe that this asset class with do well as long as the interest rates do not outweigh the benefits of getting financing. Remember, Equity financing typically does not involve any explicit cost – Preferred dividends/Buybacks are often paid out only in ‘adverse’ situations – but during the early years post-financing the proceeds are used to build the business. In success scenarios this equity merely changes hands — with just administrative expenses being the only explicit cost borne by the startup.



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Why the HR industry is ripe for classical disruption

A recently article rightly points out how India (and the rest of the world) can reap huge rewards by leveraging modern age technology into virtually any HR process: hiring, predicting performance, retention, choosing optimal benefits, among others.

The explosion in data on virtually every person and corporation on the planet combined with state-of-the art technologies (including the latest wave of machine and deep learning) ensures that no one has to be ‘dumb’ about any HR process. Nor do HR managers have to follow cookie-cutter approaches to any of the processes outlines above. Rigorous data analytics can help identify ideal candidates and in less time, to predict a person’s performance in a job function with good accuracy, and provide us with a variety of tools and dashboards to make optimal use of a person’s capabilities.

I predict that a wave of cloud-based startups will emerge in the HR technology space that will fundamentally alter how we look at traditional processes. I also suspect that forward-thinking companies like Linkedin will invest fairly heavily, organically or inorganically, to maintain bleeding-edge skills for both recruiters and candidates.

I interact with a good amount of startups that are specifically attacking the hiring problem by developing technologies dedicated towards making hiring easier and more efficient – using data to ascertain a certain candidate’s suitability for a position – by using predictive models that ingest data from a variety of sources: social media, corporate profiles, and more.

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Why later stage VCs buyout early investors

There is constant chatter in the startup/VC ecosystem on the practice of later stage (Series B or later) investors buying out ‘early’ investors (Seed, Angels, etc).

Later stage investors come in with larger rounds of financing ($10m or more) with often eclipses the investments of earlier entities which often range from $10k and up. For good or for bad, these early investors have influence on the startup’s future direction from voting rights, vetoes and more. This often acts as an irritant to later-stage investors that need a direct decision making process between themselves and founders on all strategic matters. Therefore, the need to ‘clean out the cap table’ and purchase shares from all early investors.

Of course, this practice violates a basic tenet of capital efficiency – that is the need for each Rupee to go towards growing operations – marketing, sales, hiring, office space and more. Buying out early investors ends up being a ‘necessary evil’ – kinda similar to paying investment banker fees. In other words – frown on it – and then grudgingly agree.

Like most things in the VC world, there is not much publicly available data and information is largely anecdotal. My take is that there is an increasing number of such deals happening at ticket sizes > $10m, where the existing cap tables is fairly crowded and the existing investor base is unusually vocal (thereby creating significant nuisance value).


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