The last two years have been a testing time for venture capital as well as strategic investors, who bet big on Internet startups in India. With no hopes on RoI (return on investment), they tightened their purse strings, which badly hit their portfolio companies who were burning dollars on customer acquisition and employee salary with the expectation of raising huge follow-on investments. But that did not happen and the consumer Internet space slipped into a huge crisis.
When investors (VCs and strategic) put a temporary stop on their aggressive investment pace, venture debt was the only glimmering of hope for many of the leaders in the consumer Internet space. Trifecta Capital and InnoVen Capital, the two leading debt venture funds in India, have had a busy time. By selectively supporting leading startups through supplementary funding in the form of venture debt, these funds have extended runway for these companies. With this support, many of these companies were able to gain valuable time to close subsequent rounds of funding.
Trifecta, launched in October 2014 by Rahul Khanna, a venture capital veteran and former Managing Director at Canaan Partners India, has already backed more than 20 companies across sectors, including e-grocer Big Basket, furniture e-tailers Urban Ladder and Livspace, logistics tech company Rivigo, and cloud telephony company Knowlarity. The debt fund now aims to make the final close of its US$73.5 million soon.
In an interaction with e27, Khanna spoke about Trifecta, debt funding, the current state of Indian startup ecosystem, and consolidation in the consumer Internet space.
The interview is edited for length and clarity:
What are the latest updates at Trifecta? How many companies are you planning to invest from this fund? How many firms will you back in CY2017?
Trifecta Venture Debt Fund has a target of INR 300 crore (US$47 million) with a green shoe option of INR 200 crore (US$31.2 million). We have already received commitments of over INR 400 crore (US$62.4 million) and are likely to see reach an overall fundsize of INR 500 crore (US$78 million) by the time we do our final close later this year. With recycling, the investable corpus is almost INR 1,000 crore (US$156 million).
We expect to make a total of approximately 50 investments during the fund life and for 2017, the number of investments will be 15-18.
What is the status of debt venture funding industry in India?
The venture debt industry is still in its early years. With Trifecta Capital raising the first venture debt fund from domestic institutions including banks, insurance companies and endowments, we’ve laid the foundation for a new asset class that will scale significantly in the years to come. From a market size perspective, venture debt is a subset of the venture capital market and we expect it to grow to between 10-20 per cent of all venture capital deployed each year.
The Indian startup industry went through a significant shake-up over the past 12-18 months. What triggered this change? Does this mean India is staring at a worst future?
Venture Capital generally happens in cycles. Historically, if there is a wave of opportunity, then multiple funds will invest. The years 2014 and 2015 saw a significant amount of capital infusion both by investors who were already in India as well as by those were relatively new.
If you look at the slowdown for the past 12-18 months, it was predominantly the function of some of the offshore investors pulling back. The truth is that VCs like Sequoia Capital and Accel Partners are still very much here. After the aggressive investing years of 2014 and 2015, many funds used 2016 to take stock of their investments and sharpen the focus on unit economics, burn rates and the path to profitability
Also, sectors like e-commerce which are very capital hungry, drew in in significant investments for their backend, distribution and infrastructure which needed to be built. The scenario has changed now. Now, if you are building an e-commerce company, you don’t need to build payments, you don’t have to solve for delivery or pickup — many these are now done by third party platforms.
The good news is that the best companies will survive and rest will go away. Venture capital is essentially a self regulating industry. This is the same pattern that has played out over the last 30 years in Silicon Valley. Having lived through the bust of 2000 during my time in the Valley, I’ve had the chance to see this up close.
Most importantly, with VCs like Sequoia that recently raised a Billion dollars and Accel raising almost half a billion, there is a fair amount of capital still available.
The overall consumer Internet in India has been under tremendous pressure. Why the sudden turn of events after a great year in 2015?
For a while there was a belief that you could do a little bit of copy and paste. I think what people are now realising that that is hard to do. There are some products that you can borrow from other markets and translate easily. For example, Facebook and WhatsApp were able to gain significant share without many changes. But there are some other things that cannot be translated easily, including the notion of trust economy. For instance, Airbnb will take a lot longer to scale in India than in the US because inherently there is an element of trust and recourse if somebody doesn’t keep their side of the bargain.
In India, we really suffer from a trust deficit. So what tends to happen is that things take a lot longer. Equally, sometime businesses over-promise, and in order to deliver to that level, they also over-invest. So let’s take example of Kingfisher Airlines. They wanted to deliver an experience that has never been experienced before which he eventually did, but they could not sustain it.
The other thing is that the Indian consumer has world-class expectations. You cannot necessarily get away by not giving them the best. If you look at people who try to sell India substandard product. They think it is a developing market so we can take them for granted. Those companies are quickly punished. One needs to do a much better job of expectation management and mindful of duration that it takes a lot longer. They also need to be mindful of regulations as that is the one factor that is often neglected.
E-commerce has probably been the worst hit due to an investment crunch, and as a result may companies were wiped out and some are on the verge of shut-down. There are just a handful of companies left now. Who do you think will win the e-commerce war?
I wish I knew, then I would have put all my money there! That said, I think e-commerce in India is not a winner take all market. While products that live in the air, like messaging enjoy massive network effects but when you’re dealing with real products and all the complexity of the market, it’s impossible for the winner to take all.
For instance, in telecom, you now have Jio and Airtel, and there is a merger between Idea and Vodafone. Now, there are only two-three players left standing. Everyone else is irrelevant.
In e-commerce, Amazon, Flipkart, Snapdeal and Shopclues are the leaders in horizontal commerce, and a lot of smaller players have disappeared. Since many of these companies were dealing largely with standard products, was limited and customer acquisition was accelerated through massive discounting. With the attention now shifting to verticals, you have opportunities like ‘home’ and ‘groceries’ that are getting lots of attention.
For example, in categories like electronics (mobile phones) scale make a huge difference. In a category like home, there may not be many brands. In this, there are lots of elements of differentiation where you can see standalone players will survive and horizontal players will acquire some of these vertical companies.
India is market for multiple players but we should not also count out legacy players. We have players who came predominantly from offline world. For instance, Croma. They are trying very hard to do something meaningful in the online space by leveraging their omnichanel foortprint.
Given a chance, which e-commerce company will Trifecta invest in — Flipkart or Paytm?
Venture debt is generally provided to companies that don’t have access to traditional sources of debt financing. Depending on the stage of the company the use of venture debt could differ. In younger companies, it is often used to fund working capital or extend runway. As businesses grow, they could use venture debt to fund acquisitions or do a pre-IPO round of financing.
While we have not had the chance to discuss the needs of Flipkart and Paytm, we would like to get comfortable with the nature of the burn in these companies as well as the path to profitability. Given that venture debt is usually a smaller portion of the total capital raised, our money would not be able to support extended periods of burn and discounting. However, if the end use is for building infrastructure, managing working capital, or enabling some consolidation., we’d be happy to explore the opportunity.
I think Paytm did a a great job of taking advantage of demonetisation by driving a massive level of adoption during a very short window. It is a different matter whether wallets will survive in long term, whether it will continue innovation in payments, or if the banking infrastructure will make wallets redundant. We like the idea of business that are creating some moats and the moats are not tied to discounting.
What does Stayzilla fiasco mean for the startup ecosystem? Why is the winding-up process still complicated in India?
It is very hard to talk about specific companies, but I think the winding-down process in India is still quite complicated. It takes anywhere from six months to a year to wind a company down. Part of this because when regulations were established many many years ago, there were unions and you had significant labor related issues. I think we now need to revisit at the winding down process. The Insolvency and Bankruptcy Act of 2016 should help, but we need to see how this plays out in practice.
That said, many first-time founders don’t necessarily have the experience of running large companies or managing money, and so unfortunately some of them make mistakes or fail to comply with the complicated norms of operating businesses in India. The interesting thing about Silicon Valley is that one in every three four founders has the experience of building once or twice before and they are less likely to make same mistakes again.
For us in India, we are still dealing with a large portion of first-time entrepreneurs many of whom have never seen the kind of money that was made available to them in the last couple of years. This puts additional responsibility on the Board and Investors to make sure that the right checks and balances are established early on in the life of the company.
Do you support an economy or a closed one? Do you think India should follow in the footsteps of China and make it a closed economy to protect domestic firms from foreign competition?
I think it is very hard to draw parallel between India and China. The market dynamics are completely different. The GDP is, may be, five time higher, the level or urbanisation is far far greater than India’s. If you look at connectivity, it is superior and infrastructure is world class. I don’t think we should draw a comparison.
I am not a big fan of protectionism. I think many of these US headquartered companies are doing a fantastic job of employment creation in India. They are actually serving the Indian consumer and I’m a big believer in the voice of the customer. The fact is that most VC’s in India raise money offshore so the capital is foreign in both cases. One cannot have double standards of saying financial investors can be global but strategics have to be domestic. All the large e-commerce firms in India are funded by global money and the competition is funded globally as well. So I don’t think there is much argument to be made there.
That said, compared to China, India is a much more level playing field for global companies. So Indian companies have to work that much harder to build their own play book and out-execute global majors. One needs to continue to innovate. If you compare Ola and Uber, Ola was the first do cash booking and prebooking. Ola was the first one to introduce a fleet of smaller vehicles. These deep insights around India and how to serve the consumer at scale will eventually determine the winners.
My view is that we should have a level-playing field, because capital needs to flow freely.
Lots of activities happening in India are backed by US-based VC funds and on the other side of the table, Chinese strategic investors like Alibaba and Tencent are buying into companies in India. Over the next 10 years, it will be interesting to see whether the Chinese players will have a bigger role to play in the Indian market or is it going to be American investors. It will be interesting battle to participate. I think US VCs should be paying a lot more attention.
Tesla is planning to bring its Hyperloop tech to India. Do you think India needs future technologies, or should the country focus on improving existing infrastructure?
I do think you need to purse all these things in parallel, because none of these things happen overnight. For example, you know what happened in the Airport infrastructure in India. Our airports are now the best in the world. So, if you keep fix issues in infrastructure, we can be the best. If you look at most of the European airports, they are 20-30 years old.
So, we need strong action on the infrastructure side. Whether Hyperloop is the best answer or not, I don’t know. But clearly we better public transportation because we are obviously going to face a huge crisis if we don’t improve our public transportation.
Can you name some startups that you think have the potential to make it to the coveted list of unicorns and why?
Some are already out there. For instance, Rivigo. We are investors in that company and are excited by how they are disrupting a very traditional industry like Transportation. By combining cutting edge technology with a unique Driver-centric operating model, they have made a significant impact on the ecosystem.
We recently invested in Big Basket. There’s a real opportunity to introduce better quality products from farm to fork while the same time remove the significant inefficiency in the value chain and pass the benefit to the consumer and farmer . They are addressing a very significant opportunity. We look at areas where the government has not been able to deliver and where the private sector can come in and play a role. Healthcare and Education are some areas that I can think can scale.
Image Credit: hasnuddin / 123RF Stock Photo
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