Plague of overvaluation in the startup world

As startups sail through rough waters, boards need to ensure future alignment and take more responsibility to guide and support founders during challenging times.

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  • Storyboard18,
| July 18, 2023 , 10:17 am
Bajaj Auto currently has 80 percent market share in the ICE segment. This serves as a substantial and efficient distribution platform for their electric offerings. (Representative Image: Annie Spratt via Unsplash)
Bajaj Auto currently has 80 percent market share in the ICE segment. This serves as a substantial and efficient distribution platform for their electric offerings. (Representative Image: Annie Spratt via Unsplash)

The Indian startup world has been on a roller coaster ride for the last few years owing to disruptions on a macro scale. While it experienced a sharp funding peak during FY22 totalling $50 Bn, a gradual onset of funding winter over the subsequent quarters led to a 70 percent drop in FY23 to 15 Bn. Mohit Rana, Partner at Redseer, elaborates that the increasing cost of capital and interest rates, recession in developed markets, a decline in the value of tech stocks, and the slowdown in consumer internet growth have all been challenges for sustained funding. Consequently, startups are focusing on expediting their path to profitability and reducing burn rates.

Elaborating on private unicorns and publicly listed companies valued over US$ 1 Bn, the Redseer partner offers interesting insights comparing the two. There are about 100 unicorns and less than 400 public companies with a market cap of over $1 Bn. While tech has an outsized impact on the economy, there is also a tendency for overvaluation in the startup world. Ownership of founders in startups is also limited (0-20 percent) in 59 percent of private companies, as compared to public companies (50 percent plus) in 65 percent of public companies. As startups sail through rough waters, Rana stresses that boards need to ensure future alignment and take more responsibility to guide and support founders during challenging times.

Discussing profitability he draws parallels between listed tech companies in India and their global peers and adds, “Listed tech companies have made significant improvement over the last five quarters. Paytm launched new products, expanded into new business segments, and upsold/cross-sold to existing customers to increase revenue per customer and reduce CAC. Zomato increased take rates from restaurant partners and delivery costs from customers.” He continues, “A similar path to profitability has been observed from global peers as well. Uber increased take rates to 28 percent in 2022 – an increase from 15 percent in 2021, reduced incentives to drivers, and expanded revenue streams. Airbnb optimized and maintained cost discipline in workforce & marketing and increased fees from guests and hosts.”

Projecting four years down the line, Redseer’s analysis of 100 unicorns suggests substantial improvement in profitability, with the number of profitable unicorns projected to grow from 30 in FY22 to 55 in FY27. The strategy consultants say that 50 percent of unicorns are expected to become profitable by FY27, while 20 percent will likely struggle due to regulatory challenges, plummeting demand, and unclear business models. They also expect some of the struggling unicorns to pivot to new models, get acquired, or close entirely.

On the bright side, the strategy consultants predict that profitable unicorns in India could generate 5X the profit in FY27 as they did in FY22. The top four sectors expected to drive the highest pool of profit in the coming years are FinTech and financial services, B2B, SaaS, and eCommerce. During the same period, they also expect a decline in losses made by companies. However, many of these negative margin companies are expected to see funding changes, a drop in valuation, and a move to a much lower growth trajectory.

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