The Evolution of the Early-stage VC Landscape in India

2 September 2015

Noshir Colah, Operations Partner
Aavishkaar

The Indian ecosystem for financing early-stage companies commenced during the technology boom in the late 1990s. Investors and entrepreneurs alike were trying to understand the ideas of innovation, entrepreneurship and scale, especially in the context of India. The boom, however, did not last long, with the meltdown in 2001 of the technology investing space. In 2003, when Aavishkaar began investing, the investor landscape was as barren as ever, with very few investors—and even fewer entrepreneurs—on the horizon. Given the vacuum, it was difficult to visualize the huge leaps that the early-stage investing space would make over the subsequent decade.

In the mid-2000s, the word “exit” was only a theoretical concept, and most investors had little clarity on this critical subject. With virtually no equity support beyond the limited initial investment round, funded entities with aggressive revenue growth rates were the exception rather than the rule. Without expansion, exits were bound to be a challenge. Fast-forward to 2015: the entire ecosystem has seen a sea change, from the nature of early-stage businesses and their financing requirements, to the nature and quantity of funding available.

On the demand side, the amount of funding required—even by start-ups or early-stage companies—has increased substantially not only for the initial investment amount but also for subsequent rounds of funding. While a decade ago, entrepreneurs might have been hesitant to seek more than INR10 million to INR20 million, today INR100 million to much larger amounts is the norm. In fact, Series A rounds of several hundred million Rupees for an “only-on-paper” company are not unheard of, even in traditional sectors. And once an early-stage company gains traction, its funding demands grow exponentially.

On the supply side, though the number of equity funds that invest in start-ups has increased substantially, there remains a relatively small group that will invest in unproven start-ups in the traditional brick-and-mortar space. But the picture brightens considerably once such companies reach the early-growth stage. Although the majority of early-growth capital is being routed to non-traditional sectors—online sales, mobile payments, rural marketing and delivery—such funding has become much easier for traditional brick-and-mortar businesses as well, especially in the health care- and agriculture-related sectors. Once a company has validated its business and financial model, raising subsequent rounds of equity is almost assured.

Supplementing early-stage equity funds are the new breed of venture debt funds. While equity is required for long-term funding needs, venture debt funds can step in for specific, time-bound requirements, such as bridge funding, pending the closing of an on-going equity round or working capital finance against a specific order (rather than general working capital funding on an on-going basis).

These increased funding requirements of early-stage companies—combined with the availability of appropriate capital—create a very conducive environment for funding un-validated business models.

While the ecosystem in India has evolved, there are several countries which closely reflect the India of a decade ago. Aavishkaar recently launched a fund focused on investments in select South Asian and Southeast Asian countries other than India. These countries are likely to experience a journey similar to India’s. Early investors who take the risks associated with a currently-underdeveloped VC ecosystem can gain in-country experience by the time the system evolves and competition intensifies.

Research