2023 Year in Review & 2024 Expectations
For readers who are new here — a big hello! I do a year-end review and prophesize how things might unfold in the next year for the venture capital and startup ecosystem in India.
Being a VC investor, you are always searching for the best deals, win over the best founders to partner with you, or trying to be a helpful no intrusive guide to your portfolio companies. With multiple meetings, context switching and always being ‘on’, this piece serves as an introspective guide for me to pause, reflect, and think about the learnings from the year in transit and hopefully look at the year ahead.
I have previously written about my first-year journey at Bertelsmann here (2-part series) and 2022 Year in Review and 2023 expectations here
Overall, 2023 was a bleak year for VC funding in India. Startups raised only $7b this year- the lowest ever in 7 years and down from $25b in 2022 and $37b in 2021. Investors turned cautious & choosey and many struggled to deploy in quality assets. Notably seed stage also saw a 60% drop in funding YoY.
Only 2 new unicorns were born this year- Zepto & Incred vs. 22 in 2022. 2023 also saw the highest startups that deadpooled (shut down or returned money to investors)
Fintech retained pole position with $2.1b in funding, followed by retail ($1.9b) and enterprise tech ($1.5b).
The harshness of 2023 meant that fewer new startups were founded and professionals stuck to their ‘safe’ jobs rather than joining a startup at the mid to senior level with ‘hefty’ ESOP packages.
Below I put together some of my observations in 2023 and what 2024 might hold for the startup & VC industry.
Pendulum Swinging from One Extreme to Other with Complete Reset:
If there was a word that should be given an Oscar in the VC industry in 2023, it would be Reset! Reset in company building, in efficiently hiring, in allocating resources, in growing with sanity, in raising the right amount than being gluttonous, in investors getting and spending more time to diligence what matters, in corporate governance practices and putting appropriate controls….phew the list is endless indeed! Even as I read my earlier piece from Jan 2022, I can’t help but chuckle at the liquidity boom where most investors felt ‘Invincible’ with their companies raising up rounds or getting acquired within 12–18 months of being funded at 1.5–3x of the last round prices.
From Sajith’s piece (a friend at Blume Ventures), “I had two quick cash exits — one for 2x in less than six months after our investment, and the other at 4x in under a year of our investment. It was a surreal period (2020–21) when it felt like I could do no wrong. That said, to be honest, it wasn’t that my performance was extraordinary relative to my peers. The amount of money sloshing around lifted up all valuations. But all of this madness wasn’t to last”.
Many startups suffered from a nasty indigestion caused by the excess liquidity boom of 2020 and 2021 where they raised multiple rounds at a faster velocity and a pace never seen before.
No one could guess that the Fed-fuelled liquidity party would be busted so quickly and abruptly giving a nasty hangover-driven 2022 which spilled into early 2023. But this paved the way for a much healthier reset in habits with most startups going on a ‘fast or liquids only’ diet (read: specific target-linked bridge rounds) to grow with limited resources. More on that next...
Most companies take a ‘time out’ in H1 2023 introspecting and rebuilding with what matters the most- cashflow and profits:
To rewind 2023, the first half of the year was quite slow on sourcing with limited deal flow in a few sectors such as Agritech in the ‘early growth’ stage where our fund operates (Series A-C with an initial ticket size of US$3–15m).
There was a general ‘timeout’ taken by startups to put their house in order or ‘grow into their rich valuations from the pandemic era’, especially in the SaaS/ Enterprise Tech space.
In H1 I recall speaking to a lot of SaaS companies ($200k-$500k ARR) to understand their business and stay in touch then actively evaluate them for a raise. This was also because a few sectors that were emerging- and getting funded- DevOps, Generative AI, Web3, etc. were early from a company maturity and monetization perspective.
Further, the best of the lot in the SaaS/ Ent Tech preferred to wait it out for the market to recover rather than be ‘harshly rewarded’ for their efforts as median EV/Revenue multiples (common valuation method in SaaS) contracted sharply and reached even lower than the pre-pandemic multiples (image below)
Source: Chiratae Ventures, Zinnov Report on India SaaS- Jun’23
Within Fintech, themes such as lending, fintech enablers, and supply chain financing continued to attract us as we evaluated a few companies in depth.
In Agri/ Climate tech, there were quite a few interesting companies (although a tad early for us) that we spoke to in insect protein feed, carbon credit marketplace, managed large-scale organized farming, dairy value chain, and B2B food processing platforms in H1 among others.
There was another interesting observation in the period- a few companies that were badly damaged during COVID with their revenue hitting rock bottom revived with much better profitability metrics. I saw this trend with a company in the B2B cafeteria management SaaS space and another in the B2B office commute area.
Profitability/ Building Sustainable Businesses in; Growth at all Cost, Flawed Unit Economics models out:
The most valuable lesson learned and reemphasized in 2023 was that a sharp focus on the bottom line makes companies sustainable and investor attractive.
In 2023, I saw a visible shift in pitch decks emphasizing and prominently highlighting target EBITDA/ CM3+ve by a certain period rather than focusing on how quickly their topline was growing. I hope that this emphasis on unit economics, on building companies frugally continues even when the cycles turn again!
Although companies at an early stage need to balance the fast growth/ market share capturing mindset with an eye on unit economics eventually supporting the business at scale. It’s not necessary and often not possible to become profitable post a Seed/ Series A round itself!
A few portfolio companies also learned a hard lesson about building frugally and efficiently with limited capital. In the process, they became nimbler and it was remarkable to see a significant improvement in profitability for a few of them.
It was also interesting to see how company PR and narratives change with the flavor of the season. While in 2020 and 2021, companies publicized their large rounds or how quickly their topline was growing; by 2022 and 2023 the narrative and positioning had changed to profitability. This was also being used to grab investor attention in a last-ditch attempt in some cases.
Overall it is extremely hard to execute on bottomline efficiencies with a sustainable growth than on topline growth and it tests the strength of the business model. 2023 showed who was running naked when the winds of profitability blew! But to cover up, few erred on unscrupulous practices….
Corporate Governance and The Cleansing of Bad Practices:
In a race to fulfill the lofty promises or raise the next round, some companies entered the rabbit hole and dug their own grave. Ultimately it is the founders/ founding team and their ethics that make or break a startup. The company culture percolates from the top and malpractices are eventually filtered out with deep scars that tarnish the founders forever. I am still surprised as to why founders brazenly adopt such practices knowing fully well that eventually they will be caught out and shamed forever.
2023 saw a lot of corporate governance lapses some of which were truly shocking! It’s appalling to see founders who committed fraud and lost a ton of investor money going on to start other ventures or raise a seed round.
But over the last few quarters, I have also seen more investor scrutiny around revenue recognition, margin/ inventory/ cost reporting, financial controls, and processes which has led to the due diligence time extending in a few cases.
There is also a conscious shift by companies to inculcate the right corporate governance practices and set up the right processes from Day Zero. Restoring LP faith is critical as corporate governance lapses made some LPs jittery to opt for direct investments. I feel that the punishment for such malpractices should be made more stringent which disincentives such behaviours in the first place. Barring such founders to startup ever again could be one practice that could be adopted. Or creating a public ‘Hall of Shame’ for founders with convicted frauds like what Forbes did recently.
Ultimately startup building is excruciating but that does not call for selling your morals to try and win by unfair means. Corporate governance is a collective responsibility of all stakeholders — the board, investors, leadership team and we all must play our part to help the ecosystem win and succeed fairly and honestly.
The Unraveling of Tech IPOs Making IPO Eager Tech Startups Go in Deep Freeze on Listing Plans:
The initial sizzle and eventual fizzle of tech IPO’s made late-stage startups or soonicorns learn from the carnage that some public tech companies witnessed.
Few listed at expensive valuations as investors banked on their growth potential. But as the bubble burst these publicly listed tech companies sharpened their focus on moving to profitability and growing sustainably. Their eventual resilience and recovery started getting rewarded by retail investors. Getting to real cash profitability was more important than GMV/ revenue growth now.
This painful lesson has been a blessing in disguise for the next breed of tech startups waiting for IPO. It was as if the older siblings went through fire and faced the ultimate test to eventually crawl, and now walk. This has helped their younger siblings waiting on the sidelines to focus on what matters the most to public investors before listing.
Some have indeed shown a surprising turnaround. Consider OYO, which was projecting its first-ever profitable quarter with Rs. 16cr PAT in Q2’FY24 and adjusted EBITDA of Rs. 800cr in FY24. While the macro tailwind of massive travel resurgence helped, their margins improvement (GM from ~10% in FY20 to 33% in FY21 and 40–41% in Q1FY23 and contribution profit from 5% in FY20 to 22–23% in Q1FY23) is impressive! (although debt and repayment timelines on the loans could still pose hurdles)
Or even more impressive Meesho reported its first PAT (single-digit crore rupees) in July’23 becoming the first horizontal e-commerce company to attain profitability! A feat that even Amazon and Flipkart are yet to master! The sharp improvement in profitability is being rewarded with investors acquiring secondary in Meesho or in talks for a secondary stake in Oyo.
The next set of tech IPOs will hence position profitability, free cashflows or margin improvements much more prominently than how aggressively they are or can grow their toplines which is a ‘coming of age’ moment for these companies.
More Active Tracking Helps Close Deals Faster in SaaS/ Ent Tech in H2 2023
Best investors have always tracked good companies and the trend was accentuated in 2023 as investors got more time for diligence and track progress every couple of quarters against the milestones set
A lot of growth investors spoke to SaaS/ Enterprise Tech companies in the $500k-$2m ARR range in the past 12–18 months. Companies that hit their targets and grew sustainably were happily lapped up by investors. I saw this with a company in the document extraction space, a couple in the ISO compliance automation space, and one in collection tech among others.
I feel this is a much better practice where you can track the company’s execution and form a working relationship to evaluate investor-founder fit over 2–3 quarters before writing a cheque for them. This is also better for founders, as they can see investors’ interest and maturity over time in terms of their thesis and choose to partner with the ones they feel, will be most value-additive on the cap table. Best founders usually have the luxury of choosing the investors they want on their cap table.
Profitability Buzz Makes Few VC Investors Adopt a PE Mindset!
Towards the last quarter, I also saw a few VCs back startups which were more traditional businesses with plain old fundamentals in place. A lot of VCs invested in tech-enabled financial services or became interested in banks than pure play Fintechs!
This was seen in the funding of Vridhi Home Finance, Navadhan, GrowXCD, Seeds Fincap, wealth management- NEO and small finance banks like Shivalik and Nainital in discussions.
The liquidity cycle also feeds into such investment decisions- the recent India Shelter Finance listing & Five Star Finance in Nov-22 have provided stellar returns to its VC/ PE investors
I expect the trend to continue in 2024 with VC funds also being divided into three camps- seeking startups building with profits first, second with growth first and third with a healthy balance.
And with that let’s move into how I feel 2024 might unfold!
2024 Predictions
In my expectations for 2023, I had written that there would be pain and cleansing of the unsustainable growth practices of many startups for the first 2–3 quarters. It would peak by Q3/Q4 of the year which could see the darkest times for the ecosystem. But inevitably things would revive, and the sun would rise for the startup ecosystem by Q4’23/ Q1’24.
While the script has played out mostly, the pain is lasting longer and the sunrise is delayed :p. This is due to a host of issues. ‘Geopolitics’ is the biggest market risk in 2024 as investor polls also show.
US growth has been a surprise in 2023 and consumption has normalized in China which are positive signs. The biggest question remains if the US will go into recession in 2024 with economists and financial institutes vastly divided. Add to it, China’s property slump, the eurozone economy stagnating, and prolonged war can quickly make things messier and uncertain.
That uncertainty might lead investors to flock to safer assets which might adversely affect riskier asset classes like PE/ VC funds.
I feel that the US will be able to avoid a recession in 2024 and be able to manage a soft landing. Central banks will keep rates ‘restrictive’ for at least a couple of quarters before declaring a premature victory in the fight against inflation. Fed could keep the rates on hold in H1 which means that things will continue to remain slow (urgh!) in the investment world. In India, the General Elections in Apr-May ’24 will also mean that best startups will like to wait out the uncertainty for a few quarters and for the valuations to become more ‘aggressive’ to their liking.
At the other end, there could be intense competition with too many funds chasing too few quality deals leading to a ‘price inflation’ for top decile companies that still hit the market in H1.
But I expect the rebound to be a lot quicker and more aggressive by Q4 ’24 if the macroeconomic situation stays strong. PE-VC dry powder at US$58b remains a record high in India and investors would start deploying more actively having learned from the harsh lessons of 2021/22 from H2’24
There is a lot of sanity in the ecosystem- focus on building sustainable ventures with plain old fundamentals, infusing good governance and ethical practices, being frugal, and not burning aggressively to gain market share- all these good practices will continue to compound for startups who have adopted such behaviors in 2024.
In terms of sectors, I will be on the active lookout for startups building in the following areas among other interesting themes which emerge.
Fintech: Supply chain financing, segment-based (education, vehicle, home loan, etc.) lending, fin infra/ BaaS, credit on UPI & financial distribution platforms
SaaS/ Enterprise tech: Gen AI will fundamentally reshape all sectors and will be the most promising area to track, industrial SaaS/ robotic automation, vertical SaaS, Dev Ops, AI/ML/ platform plays, and cyber security will be other areas.
Agritech: Farm processing, precision farming, data analytic plays, fresh produce supply chain, allied areas (aquaculture, poultry, livestock), and biotech (insect protein, animal-free milk, genome seed discovery, etc.) will be of continued interest.
Space tech is another area I continue to be excited about especially with the innovations happening and quite a few startups moving closer to the commercialization phase in the next 18–24 months.
Overall, I feel that 2024 will be the Year of AI. AI will move from being a buzzword to creating a substantial tangible impact vastly improving productivity and creating efficiencies across sectors. Be it Big Tech, Fortune 500, or any medium enterprise, the focus will shift from having a 5–6 member side-project type R&D team to treating AI as a core part of their business. They will substantially devote efforts and spends to understand, collaborate, and acquire companies in AI to stay ahead in the innovation curve. Mid to large enterprises will be amply supported by startups aiding them to accelerate the transition and I expect a lot of M&A activity in the space.
We will also witness the potential ramifications of the unbridled AI growth (Sam Altman’s OpenAI saga is still fresh!). Shockingly, a Salesforce report states that 55% of workers have used unapproved GenAI tools and 64% have passed GenAI work as their own. The legal, ethical, and privacy implications are huge, and I do expect the enabler segments- cybersecurity, LLM workflows, legal, and privacy-tech startups to also sprout up.
‘Resilience’ and ‘mental elasticity’ were the key trending terms in 2023 that I saw many of our portfolio founders and otherwise great founders display to stay in the hunt in the ecosystem. Startups and founders who survived and improved unit economics won the biggest battle in 2023.
It’s now time to sustain momentum, drive realistically achievable targets, and accelerate the pedal (when you have hit PMF for early stage, CM2+ve or almost +ve for growth to late stage startups) and aim to become durable Centaurs building for the next decade!
I hope that the good habits from 2023 are remembered and sustained for years and decades to come! Here is to a more optimistic 2024!!
The views and opinions expressed in this article are those of the author and do not necessarily reflect those of any institute or organization he is or was previously associated with.
