Singapore: The success of Amazon and Uber in India, and the country’s market not responding in correlation with the money being pumped in, has made venture capital (VC) firms cautious about investing in “localized copycats”, and this has in turn led investors to reduce the valuations of local e-commerce firms, says Nikhil Kapur, investment manager at Japanese VC firm GREE Ventures.
In an interview, Kapur also said that unlike in South-East Asia (SEA), Indian VCs had access to strong deal flows as the country’s angel investors’ community provided much-needed critical support in helping its start-ups take off. Edited excerpts:
After looking at data, you share the view that there was a Series A downturn in both SEA and India in 2016. What has been the impact of the downturn across both these regions? How did China escape this downturn?
There was a definite downturn in 2016 in the Series A stage; any data will give you the same answer. There are multiple factors to consider why this happened, but predominantly the Series B and Series C investors from India disappeared—read the likes of Tiger Global—when they saw global competitors such as Amazon and Uber executing successfully in India and the market not responding in correlation with the money being pumped in.
The whole investment thesis of localized copy-cats fell through and the Series A investors became much more cautious in what they would fund. As a result of all this, the valuations and round sizes in this stage have come down drastically. Where Series A round sizes were starting to go north of $10 million in 2015, now even $3 million in Series A is a difficult sum to gather without traction.
South-East Asia has seen similar effects, partly due to ripple effects from the US and India, and partly a mere coincidence that most funds were out fund-raising themselves during this time. I am likely not the best person to comment on the Chinese market, but post the market crash of 2015, Chinese capital seems to be moving away from the public markets and into the private markets, both domestically and internationally.
You share the opinion that seed-stage bulls are still raging in India, and that it is the country’s strong angel community, which has resulted in a good amount of deals coming through for its VCs. How long can angels sustain this in the absence of good exit stories?
That’s a great question and I believe liquidity is a key concern for some of these angels right now. While some of them are willing to wait out their investments till exits become more frequent in the market, a lot of them are clamouring for secondary markets to become more active in India. I have even heard demands of private market stock exchanges to be set up for the country. While liquidity is a definite risk for the medium-term sustainability of the market, I am still confident that angels will continue to remain active. For one, much stronger product companies are being built on the backbone of great talent that has shaped up in the past few years. Secondly, most of these angels are founders themselves and invest not just for returns but because they want to give back to the ecosystem.
What do you make of the ‘Super Angels in India’? I am referring to the likes of Rajan Anandan, Anupam Mittal, Pallav Nadhani, Amit Patni, Kunal Bahl, Vijay Shekhar Sharma, among others? How critical have they been to the country’s start-up ecosystem?
Extremely critical. These are people who have built and managed large-scale companies themselves. And not only do they bring much-needed early-stage capital into the market, they also bring a very strong network of investors, advisors, corporates, and talent. The days when family money could easily source good deals in India is gone. The days of even angel groups with, forgive me if I say so, dumb money, is gone. This is the age of operators and entrepreneurs, and the super angels will play the biggest role in shaping up the ecosystem in my opinion.
Why has South-East Asia not seen a strong angel investment community, and how has that impacted the start-up ecosystem?
According to CB Insights, in 2016, there were more than 500 seed-stage rounds in India that saw participation from an angel. In comparison, less than 10 seed-stage rounds were announced in Indonesia with participation from an angel. Clearly, the high-net worth individuals in the region do not believe in this asset class yet. There are a few reasons for this. Firstly, the ecosystem is not mature enough. The region is yet to see exits even to the scale that Myntra and Freecharge have seen in India and, hence, the belief in the asset class does not exist. Secondly, not many of the late-stage entrepreneurs in South-East Asia have found liquidity in their shareholding yet. While exits are fewer and far apart, secondary sales are less common in this region as the entrepreneurs don’t have much bargaining power in the larger round sizes. Overall, the lower angel activity results in a reduced amount of deal flow for the funds, significantly impacting the overall deployment of capital in the ecosystem.
We’ve seen several VCs in South-East Asia close reasonably large funds—on the basis of your argument that the lack of a strong angel investment community and angel investment networks here has led to a severe shortage of deals in SEA, where will all these VCs deploy this capital?
It will be difficult. At least in the short term, the funds will and already do find it challenging to source good deal flow. What this is leading to is that funds are moving in earlier and earlier. Funds such as East Ventures and Kejora (Group) are setting up accelerators and co-working spaces to get their hands on early-stage opportunities in Indonesia. Jungle Ventures has carved out a portion for Seed Plus, a separate micro fund to invest in seed deals. Monk’s Hill (Ventures) and Venturra (Capital) are in the market trying to take seed stage bets. Our own fund, GREE Ventures, has moved to earlier-stage capital allocation, into seed and pre-Series A stage. In the end, deploying capital is easy. The challenge is getting returns back, and this is what we as a fund try to focus on.
Dry powder with private equity (PE)/VCs active in India stands close to a six-year high of $7.1 billion, according to data from private deal tracker Preqin. Does this suggest an improved fund-raising environment? Or does this suggest lack of strong deal flows, or even a lack of confidence to deploy capital in India, considering the negative news that start-ups there have been attracting for a while now?
It clearly shows confidence in the market and the overall macro variables for India. No one has any doubts that India is the market to target after China. And as most institutional investors find it difficult to get their hands on the right fund-managers for China, it’s only likely that they’ll route part of their investments into India. There has been a slow-down in the market for the past 12 months for sure. But most funds sit on 10-year life cycles, and the money will eventually flow back. Good firms are still being built on the ground, and in fact the founders are much more sensible in coming up with the right business models these days. The market in my opinion is waiting for the final showdown—the US vs India battle to be fought on the home ground, post which the fund managers will shape their investment thesis accordingly.
Last year, GREE Ventures said it would be looking actively at India. Going by your arguments that the country has far superior deal flows when compared to SEA, why have we not seen more India deals from GREE?
We have already made one investment in the Series A stage into Flyrobe (an apparel rental site). We have just closed another investment, again in the Series A stage, that is yet to be announced. We are quite confident of closing a couple more within the early part of this year. All in all, our capital deployment into India has been at par, if not higher, than that in SEA. As a hands-on fund, we do not expect to make more than 20-25 investments overall, and we have already closed six in one year across different geographies, thus being on track with our fund deployment targets even in a slow-paced environment.
What are the trends in the start-up space in India and SE Asia that one should watch out for?
Investors’ interest will likely shift away from B2C (business-to-consumer) firms and towards B2B (business-to-business) firms. More and more product firms will be built from India. AI (artificial intelligence)-based solutions will be in vogue in both markets. And wishfully so, some local players will emerge winners against the foreign players in the market. Unfortunately, the last one seems to be the least likely to happen as of now.
Will India really follow the China trend—rapid growth in Internet users translating to a proportional rise in the numbers of those transacting online? If not, the business case of several start-ups, and even projections by VCs need to be re-written.
There is no question that Indian consumers will eventually move to the Internet economy. Currently, there are 50-odd million consumers buying online in India. The number is expected to cross 300 million by 2020. Regardless of when the market actually hits these numbers, the companies that will remain standing by that time will be among the most valuable on this planet, given that they’ll be targeting a huge aspirational class of consumers. As long as these companies are nimble enough to manage their own cash flows and maintain sound business models, they will succeed, and in return their investors will succeed.
In the past year in India, the VC scene has seen valuation markdowns, down rounds, business model pivots, shutdowns and investment write-offs. Why did VCs fail to read the warning signs?
This is just part of the investment cycle. Investors are incentivized to take higher risks, especially in this asset class. It’s natural that at some point, investors will end up investing more than they should have and beyond what the market fundamentals can take. When this happens, the market ends up correcting itself, but eventually comes out stronger than ever. Start-up cycles are always a boom and bust cycle, and this happens in every economy, including the US. A lot of investors and entrepreneurs took their eye off the bottom-line in chase of growth, but most of them have learnt their lessons and hopefully a much more robust cycle will be created now.
Your fund invests across Japan, Singapore and India. Why did you choose India ahead of China? What part of the corpus have you already invested?
Our fund has maintained a pan-Asia vision. As you can visualize, over the years, we have moved westwards, starting from Japan and ending up now in India. After building a solid foothold in the SE Asia, India was a natural progression. Given that I come from the country, it was also natural that we started investing in the market once I joined the fund. Lastly, the quality of entrepreneurs we have met in India has been really good and difficult to match elsewhere, further deepening our interest.
China is a notoriously difficult market to crack for anyone who does not come from the mainland. Further, the capital requirements for a fund to successfully operate in China are too high for us to consider as of now. Venture investing is like a marathon and you need to pace yourself. In the future, we might look actively at China, but for now, we are more than happy investing in the large emerging market base of India, Indonesia, and adjoining regions.