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Most firms are on ventilators from day one; their survival is dependent on their ability to outlive cash haemorrhaging, says investment expert Raj K Mitra

Every startup in India wants to be the next unicorn.

Revenues are negligible for most and profits remain ever elusive, but business models are being tweaked every other day as if in search of a miracle drug to cure self-doubt while haemorrhaging cash! Yet, there are hardly any discussions on the fundamentals of business as entrepreneurs are focussed on valuations, while investors are focussed on finding an exit.

There’s ‘big daddy’ Amazon with its deep discount business model and own deep pockets. Then there are wannabe Amazons, such as Flipkart and Snapdeal. All three are losing INR 1 crore-INR 3 crore (US$150,000-US$450,000) a day, but Flipkart is being valued at US$15 billion based on its latest US$700 million funding round, while Snapdeal is being valued at US$7 billion. Moreover, with easy money doing the rounds, the market is increasingly getting flooded with either copycats or simply bad ideas.

Is the valuation game a con? 

Most companies are on ventilators from day one with no visible signs of a recovery. Their survival, after all, is dependent on their ability to outlive the cash haemorrhaging. On the surface, the valuation game seems like a grand Ponzi scheme – create a pitch to find a fool, and before the coffers dry up find a bigger one. The chain continues to expand until you run out of fools. But are VCs fools? Not really! For them, the cost of doing nothing could be even higher.

Warren Buffet, the Sage of Omaha, once said, “The investor of today doesn’t profit from yesterday’s growth.”

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This, in essence, means metrics related to a company’s historical numbers – user growth, traction et al — are nothing but vanity metrics. The hard truth lies in the company’s ability and potential to generate free cash in the future. It is all about sticking to the fundamentals.

If that is the case, how could Facebook pay US$19 billion (cash+restricted stock) to buyout Whatsapp when it hardly had any revenue? Even the US$1 billion buyout of mobile photo-sharing app Instagram was termed ‘outrageous’ in 2012. Today, it seems Facebook got Instagram for a damn cheap bargain as Instagram has dwarfed Twitter and even its parent Facebook in brand engagement.

Thus, we should not be worried about the current scenario, right? Wrong.

Valuation and business models are not a one-size-fits-all practice

Valuing pioneers with a technology platform that is hard to replicate is a different ballgame. Whatsapp was changing the social messaging game at that time, and with Facebook’s own messenger proving to be a dud, the mobile messaging service was threatening Facebook’s leadership itself in the social-mobile platform.

However, valuation is not a ‘one-size-fits-all’ methodology – what is applicable for pioneers may not be valid for wannabes or copycats.

Thus, behind the glitz of million-dollar fundraising and billion-dollar valuations lurk stories of eventual doom. A visit to the autopsy.io website is a revelation of sorts. Autopsy aggregates stories of failed startups launched with much fanfare. The reasons of failure are quite diverse – from “not being able to find a market” to “not something people wanted” and of course “co-founder disagreements”.

In India, for example, Housing.com — once a darling of the VCs — had raised US$100 million from Softbank at a US$400 million valuation a year ago. But when its existing investors wanted to sell it out in October, it reportedly got sub-US$50 million offers. The main problem is the absence of a sustainable and scalable business model!

Confusions about the right model reign supreme even among the Indian startup legends. Flipkart sold its logistics arm to WS Retail in 2012 only to buy the division a few days ago (in September this year), as it completes its transition to a marketplace model from an inventory-based model. Ola, India’s largest cab aggregator, has started buying cabs and lending them to new drivers, as it moves to a part-inventory model.

Now and later…

In India, the first to go out of business could be the online grocery stores. The reasons again are fundamental – wafer-thin margins, inventory and logistics issues and an inability to compete with hyper-local ‘kiranas’ (neighbourhood grocery stores).

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For now, bubble or no bubble, the party is still on. Look around, you will surely find either a startup entrepreneur or an angel ready to take the plunge. However, the art of attending a party is in knowing when to leave. In the absence of an exit route, there’s a need to keep the party going by allowing more and more to hop in. Until then, let the consumers make merry on investors’ money strategically called, ‘customer acquisition costs’ – simply put, a bribe to buy customer loyalty, which is again a myth.

But then again, aren’t unicorns a myth too?

This article has been republished on LinkedIn.

The views expressed here are of the author’s, and e27 may not necessarily subscribe to them. e27 invites members from Asia’s tech industry and startup community to share their honest opinions and expert knowledge with our readers. If you are interested in sharing your point of view, please send us an email at writers[at]e27[dot]co

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