Two sides of the value markdown of startups: the Indian situation

Two sides of the value markdown of startups: the Indian situation

Markdowns may cause short-term disruptions including trouble obtaining capital and damage to a company's brand, but they can also spur strategic focus, cost reduction, and investor reevaluation.

Talk about valuation markdowns has grown commonplace in the Indian startup scene. These markdowns have two sides, despite the fact that they are often seen negatively. Let's examine the two sides of the debate on Indian startup valuation markdowns, emphasizing the difficulties and potential benefits they may provide. We can fully grasp the ramifications and effects of valuation markdowns by looking at instances from the Indian and international startup scene.

Valuation reductions are being seen by unicorns such as Gupshup, Byju's, Meesho, Eruditus, Swiggy, PharmEasy, Pine Labs, Ola, and Oyo. Stakes were lowered by investors including Baron Capital (US), SoftBank (Japan), Prosus (Netherlands), BlackRock, Janus Henderson (UK-US), Invesco (US), Vanguard Group (US), and Neuberger Berman (US). Was. Within these unicorns. The valuations of a number of significant Indian unicorns, such as Flipkart, Ola, Paytm, Zomato, and Snapdeal, have previously decreased. Investors such as T., Morgan Stanley, Vanguard Group, SoftBank (Japan), and T. Fidelity Investments (US) and Rowe Price (US) had cut their investments in these startups. These reductions are the result of many factors, such as heightened competition, difficulties with regulations, worries about profitability, and changing market dynamics. Major investors and mutual funds dropped their value of these firms as a consequence of the reduction.

The Negative Aspect: Difficulties and Fears

Declines in valuation are often brought on by changes in the market, heightened competition, or internal disputes. The effect on reputation, retaining employees, and fundraising obstacles are a few of the major issues. Fundraising from investors is a challenge for startups. It is challenging to draw in new investors or get follow-on investment rounds at low values. Additionally, valuation markdowns damage a startup's brand by raising doubts in the minds of partners, staff members, and both current and future clients. This calls into doubt the company's sustainability and long-term survival in numerous ways. Employee retention and morale are impacted by valuation markdowns. Employee demotivation results in talent loss when there is a perceived decrease in the value of stock options or equity awards.

Positive: Possibilities and Opportunities

Although there are immediate difficulties associated with value markdowns, they can act as a wake-up call and encourage constructive adjustments in startups. Revaluation of investors, cost efficiency, and strategy emphasis are a few of the major prospects. Startups have to reassess their tactics and methods of operation. They are compelled by this to concentrate on crucial elements like generating income, turning a profit, and long-term expansion. Streamlining processes, cutting down on wasteful spending, and optimizing costs are frequently top priorities for startups. Both efficiency and financial discipline are enhanced by this. Valuation markdowns often attract investors who see the possibility of long-term value. These investors may invest at a more favorable valuation since they are aware that haircuts may not always accurately represent a startup's real potential.

The trip from Grofers to Blinkit is a familiar one. But in 2016, investors such as SoftBank and Tiger Global (US) lowered Grofers' value. Grofers prioritized sustainable development and reevaluated its business approach in response to the markdown. In a similar vein, Flipkart persisted in innovating and fortifying its market position in the face of considerable valuation markdowns. Ultimately, Flipkart was valued at $20.8 billion when Walmart purchased a controlling share in the firm in 2018. This purchase showed that one of the biggest retail conglomerates in the world saw Flipkart's long-term potential and worth, even in the face of a decrease in valuation. In 2019, SoftBank significantly reduced the value of OYO, a company in the lodging industry. It was one of its principal investors, which caused its value to drop by more than half. OYO had difficulties as a result of this reduction, but it also prompted a strategic reorganization and an emphasis on profitability.

Examples of multinational startups that opposed valuation markdown by use of:

In 2017, mutual funds, including as Fidelity Investments, saw valuation markdowns on Uber, resulting in a 15% decrease in the value of their holdings. The reduction in price was ascribed to problems including legal obstacles, conflicts about the organization's culture, and continuous losses. Many mutual funds reduced their valuations of Snapchat in 2017. Concerns about Instagram competition preceded this unsatisfactory financial performance and other causes. A quarter or so was taken out of the company by Fidelity Investments, and other investors joined in. WeWork's worth dropped significantly in 2019. Due to worries about the company's governance procedures, business strategy, and growing losses, the IPO was delayed. Its value fell from an optimistic $47 billion to less than $10 billion as a consequence. All three firms, however, successfully overcome the markdown scenario.

Startup Lessons

The Indian startup community must realize that markdowns are a chance for businesses to become stronger and more robust, not the end. The possibilities and problems that startups provide are the two sides of the startup value markdown. Markdowns stimulate strategic focus, cost efficiency, and investor reevaluation while simultaneously posing short-term challenges such trouble sourcing capital and reputational damage. Startups must learn to manage the difficulties and seize the possibilities posed by value markdowns by recognizing both of these factors.

At the Indian School of Business (ISB), Surbhi Rathore holds the position of Academic Associate.

Hubris and haughtiness: What is causing Indian companies to fail?

Due to a shortage of finance, the unsightly conditions of the Indian startup ecosystem have come to light, including forensic audits, financial irregularities, a conspicuous lack of corporate governance, and acts of commission and omission. Does the system have a means to be fixed?

"Explain to me the distinction between magic and tricks," is the first question posed to the author of "Magician" during the private conversation. It is 7.30 p.m. on Monday evening, dark in Sector 62 in Gurugram, and the harsh cold is terrible due to strong winds. "Let me first explain what magic is," begins the second-time entrepreneur, who gained notoriety for being a magician during his previous business endeavor.

In 2014, the 34-year-old transports us. A 'consumer' firm, which he does not want to identify, was co-founded by an engineer from one of the best institutions. It had the potential to be disruptive and alter the dynamics of the consumer market. With a prestigious educational background, a potential service, and an inspiring tale, the aspiring entrepreneur used his alumni network to find institutional investors as well as backers and angel investors very quickly.

Being as quick as a rabbit when it came to getting financing was not miraculous, however. He was going to draw back the curtain. The creator starts to reenact the events from his "unforgettable past," saying, "The magic show hadn't started yet."

All of a sudden, a large group of people enter the Gurugram cafeteria. The soft background music is drowned out by the loud talk, so we both leave to carry on our chat. All it took to disappear into the past was a quiet little park, an unoccupied seat, and a calm environment. The creator remembers that during the first year of his business, he experienced tremendous growth and a false feeling of confidence. "It was banging on inside my head," he says. He said, "It was more than overconfidence." And I'm not to blame. "Every little or big thing made me feel more confident," he continues. An entrepreneur could not have hoped for a better start with fast finance, deceitful customer love behind enormous discounts, aggressive growth, a rising staff, an alluring lifestyle, and a massive scale established by burning capital at excessive rates. He remembers that "it was all magical and intoxicating."

The magic performance began now. The initial team was urged by the VC to spend money recklessly, provide discounts, and engage in land grabs. The directive was quite clear: "You have to become the biggest in your field." "You don't need to worry about money," a vice-chancellor said. "Remember that you must fail quickly and move on," said a different "founder-friendly" venture capitalist. The founder became more ambitious.

Supporters, meanwhile, kept their word. More investors joined the show, the business was advancing quickly, and the top line expanded quickly. He remarks, "It was magic," and that the advancement was genuine. He remembers, "My board started calling me a magician." After three or four years, the founders considered listing the firm because of the excellent product-market fit, skyrocketing sales, and spectacular valuations. began to tamper with. He inquires, "Do you know how a magician pulls a rabbit out of a hat?" "This occurs as a result of misdirection and deception."

The'sleight of hand' was discovered in 2016, two years later. The startup ecosystem descended into a fundraising loop. Many were left with dangerously short runways, some, like the one sharing his tragic tale, were forced to take dramatic steps, and most struggled to raise money. They reduced marketing and advertising costs, laid off employees, and scaled down operations in a few locations. He refers to the "breach" of commitment made by his supporters, who declined to provide further funds, as the reason why "my startup was gasping." He emphasized, saying, "I had to shut since the cap was empty. "No bunnies were present," he claims.

His voice is suppressed by the agonizing recollection of his first child's death. He stays quiet for a few minutes, then makes an effort to gather himself before continuing. He claims, "My VCs called me a trickster," alluding to the blame game in which he was charged with making careless expenditures over time. He asserts, "I have not engaged in any financial irregularities." Which term would you use to describe me: magician or trickster?He queries. He emphasizes that magic and tricks include a significant element of deceit. They are both cunning. He bemoans the fact that "you only get to see the trickster when the magician dies."

Let's go back to 2023. A slew of reported financial irregularities has rocked the Indian startup scene. GoMechanic was the first to launch in January. Amit Bhasin, one of the co-founders, acknowledged making grave mistakes in judgment when it came to financial reporting. On January 17, he described the challenging realities faced by entrepreneurs in a LinkedIn article. As business owners, we see issues, devise fixes, and seize every chance to expand those fixes to address gaps in the market. "But in this case, we went too far," he said. "We made some really bad decisions because we were so preoccupied with controlling money and addressing the internal problems facing the industry. We really regret having pursued innovations at any costs, especially in regards to financial reporting."

Let's go on to June 2021 now. GoMechanic allegedly made Rs 34 crore at the end of FY21. Tiger Global Management led $42 million Series C fundraising round for the business in June. Participating in the round were longtime investors Sequoia Capital India, Orios Venture Partners, and Chirate Ventures. Despite losing Rs 27 crore in FY21, the company's performance was nonetheless appealing to fans. However, when there is a more positive image to concentrate on, why would someone focus on losses? After receiving an unknown sum from Hero MotoCorp's Pawan Munjal, the firm, which had sales of Rs 57 lakh in FY2017, expanded to Rs 34 crore in only four years.

Fans were placing their money on inexperienced players, a bright future, and a promising present. "GoMechanic has experienced a very strong growth trajectory since Sequoia Capital India first partnered with the company in 2018," Sequoia India Principal Abhishek Mohan said in a June 2021 news statement. He emphasized that GoMechanic has geographically spread to several locations. Cities has a significant market share in spares, a $7 billion potential, and its staff has implemented technology very successfully across the value chain. Another backer emphasized their long-standing relationship, and he added, "This additional growth capital will enable the company to grow faster and take advantage of new opportunities." Oreos Venture Partners' Khan emphasised, "We invested with the company at seed and every round thereafter."

The development narrative was really advancing in a very remarkable way. In an article published on GoMechanic in 2021, the author admitted to not being dubious of the figures provided. Garages working with the firm rose from 145 in Q2 2019 to 617 in Q2 2021, according to the company. The numbers provided on the number of automobiles repaired over the same time were similarly astounding, ranging from 22,600 to 1.13 lakh. The business said that operational revenue for FY2022 grew to Rs 91 crore, and the development certainly appeared amazing.

June 2023 is the cut date. The investors in GoMechanic cleaned their hands after the company's founders acknowledged grave mistakes and financial irregularities, and the business was subsequently sold. "Why on earth has no one (on the startup's board) noticed misreporting or exaggeration all these years?" queries the founder-turned-VC cited above.Continue motivating them to go on. Why was the VC involved?He emphasized that there are no black or white aspects to reality. Brown comes in a variety of tones.

The'shade' should come first. The VC emphasizes that venture capital is not long-term, patient funding. It is founded on the ideas of extrinsic benefit and has a shelf life of around seven years. Secondly, VCs do not desire minor increases, even if this is a valuation game. "If you examine Byju's appraisal. He queries, "It continued to swell at an unusual rate, and nobody was worried about it for so many years." He claims that all of a sudden, the market is demanding sluggish growth, layoffs, and performance that is far below values.

Third, VCs willingly collaborate with founders. They overlook the fact, however, that their endeavor is only one among hundreds that VCs are considering. He claims, "They just need a silver bullet," and that it is unrealistic to think of venture capitalists as the founder's father figure. "That being said, the founder must be a responsible son," he emphasizes, emphasizing that a startup is the founder's own business. He states, "so he/she cannot afford to punch above his/her weight and be careless under pressure."

Why blaming the Vice Chancellors would be unjust is explained by Anil Joshi. "One need not inflate figures and misreport in order to move quickly and fail quickly," asserts the founder of Unicorn India Ventures, a venture fund that supports early-stage companies. emphasized that venture capital funds need to be used for growth rather than for unethical behavior. "It seems sense that one must live up to the value, but are there financial problems in all startups?He queries. "If not, why blame the VC model?"

It's interesting to note that there were other reported financial issues besides GoMechanic. There will be additional puzzles to solve in the Trail, BharatPe, and Zilingo cases in 2022. Astonished by the enormous problem that a lack of money created, Sequoia Capital remarked on the fundraising announcement in a blog post they made in April titled "Corporate Governance: The Corner." He emphasized, "We are excited to see what happens next, given the huge market potential of $5B+." This scale impressed more people than only Mohan. Orios Venture Partners managing partner Rehan Yar Khan gave him high marks. "This is a true 'garage' startup. We're glad we supported GoMechanic when it was little more than a plan," he said.

'Stone of an Enduring Company' was posted. A few portfolio founders are now being looked at for potential fraud or bad governance. These are really unsettling accusations. Founders have always been strongly urged to take the long view. The message said, "We discourage focusing on vanity metrics and instead emphasize the sustainable."

The blog post argued for some tolerance, taking aim at critics who accuse VCs of lacking due diligence. "Remember that there is rarely a business worth the diligence when investments are made at seed or early stage," the post said. If intentional deception and purpose are revealed, even investors in later stages may have unpleasant shocks after making an investment.

Everyone in the ecosystem liked this message. On Sequoia's blog, Sanjeev Bikhchandani left a remark. On April 17, he tweeted, "First, good governance begins in the minds of the founders." "No amount of oversight by investors, boards, audit committees, or auditors can guarantee that the company is well governed if the founders are not dedicated to this goal."

The activities of some founders have been universally denounced by commentators, analysts, and venture capitalists. According to Niren Shah, managing director and head of Northwest India, "it's a lot about ethics and integrity." He claims that the method in which new founders are mentored and trained has a significant impact on a variety of unethical actions. -must make a sacrifice. It is important for investors to understand that there are boundaries that cannot be broken. He believes that "founders must have very strong core ethics and integrity."

The CEO and co-founder of OffBusiness, Ashish Mohapatra, concurs. Values are inviolable, according to the venture capitalist-turned-entrepreneur. "A founder must be born with values. "I have no idea what to say if they vanish."

Mahapatra describes the way in which a founder falls into the trap. "The issue lies in the significant disparity that exists between your capabilities and those of your company," he states. Although many have a strong desire to succeed, not all businesses are designed to accommodate such a drive. Not every business can develop like a hockey stick. Easy,” he declares. In addition to providing funds, an investor will have expectations. But managing everything is the responsibility of the entrepreneur, he continues.

Actually, the founder bears the last shred of accountability. No number of measures done by the PE, VC, auditor, or board can guarantee that a business is adequately regulated and complies with regulations unless founders are dedicated to sound corporate practices from the outset. "The founders bear the ultimate responsibility," asserts Mayank Mehta, a partner at Pioneer Legal, a legal company with its headquarters in Mumbai.

Similar opinions are expressed by Piyush Sharma, director of the IIM-Ahmedabad Center for Leadership. Corporate governance is based on the idea of striking a healthy balance between the interests of different stakeholders, such as promoters, shareholders, workers, and consumers. "By striking a balance between the short and long term, credibility and transparency can be ensured," he argues, highlighting the fact that recent events have brought attention to the need for greater corporate governance in Indian enterprises. According to Sharma, "there is a need to have a regulatory body and make rules."

There is a loud chorus condemning misguided founders, but there is also a powerful voice pointing out the opposite side of the argument and making it quite evident that froth leads to fraud. "A bigger portion of the blame for this mess should go to PE and VC," asserts Sriram Subramaniam, the founder of the advice company InGovern for corporate governance. He claims, "After all, they deliberately look the other way and promote such misguided behavior as growth at all costs, fail fast, scale fast, and grabbing land."

The problem's roots are in the prosperous financing years. The business is well-funded, overpriced, and getting ready for more capital and appraisal. Up until the financial downturn, this cycle keeps going. Quoting seasoned investor Warren Buffet, Subramanian said, "You only realize who's swimming naked when the tide goes out." "GoMechanic and other contemporary instances are only the start. The true suffering is still hidden.

A Bengaluru-based creator, meanwhile, gave his account of the unspeakable suffering. "They (VCs) advised me to abandon all caution," a struggling business owner claims. Backers demanded steroid-led expansion, even though the initial business strategy called for modest growth. "Avoid turning this become a side gig. The creator was instructed to play a new game by acquiring talent at whatever costs, meaning that the scope of this project needed to be enormous. The end effect was extortionate pay for poaching. The originator, who wished to remain anonymous, said, "I knew I was riding a tiger, but there was no option." Significant cost increases, the beginning of winter financing, and widespread layoffs were the only options. He adds, "We're buying more time now."

In the Delhi-NCR, there is another fascinating narrative. The narrator is a foundling once again. He inquires, "How hard do VCs work?" "Shockingly, a lot of people write large checks in a matter of minutes. Yes, there were no inquiries made. You also know businesses that, according to him, either turned into unicorns with little income or had absolutely nothing to speak about financially. Why wouldn't a founder be persuaded or motivated to join the herd if instances like these are common? "Who wants to be left out? It's evident that this is a planet where dogs eat dogs. Others go ahead if I don't breach the rules."

"It all depends on the choices we make. I made a wrong choice, and I had to pay a heavy price for it," the second-time founder of the company says, cautioning other entrepreneurs not to try to be magicians and acknowledging that temptation will always present. "But if you decide to dance with the devil, you'll pay a price," he adds.