Funding winter leaves late-stage startups out in the cold

Indian startups raised $2 billion in Q1 2023, a 75% drop from the same period in the previous year, and the smallest quarterly number in nearly three years, according to CB Insights data. The number of startups that received funding in Q1 2023 was 271, compared to 561 in the same period during the previous year.

The funding squeeze has resulted in a series of layoffs and delayed stock listings, which is set to worsen. Experts and players in the startup ecosystem that DH spoke to called this a “fundamental reset” and predicted that this will continue at least through the first half of 2023. A full ecosystem recovery could take as long as 18-24 months, according to varied sources.

“India will not see a record fundraise like the year 2021 anytime soon,” said Karun Arya, Chief Growth Officer, GetVantage, an alternate investing platform.

Others agreed.

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“The growth-stage startups are likely to experience a slowdown in funding during the first two quarters of the year. However, it is anticipated that more significant funding rounds with flat valuations may occur towards the end of 2023 as both startups and investors work to safeguard their interests,” Krishna Raghavan, Founder, UnlistedKart, a platform that deals with stocks of unlisted companies.

Factors causing funding crunch

Contrary to popular perception that the funding dried up after the Silicon Valley Bank (SVB) meltdown, the Indian startups have been weathering a slimming fund flow since the first quarter of the calendar year 2022. High-interest rates and inflation have weighed on the investment climate globally. Indian startups which are largely dependent on foreign capital have seen a severe squeeze.

If anything, the collapse of SVB only exacerbated the situation as funds for startups, in particular, faded globally. For example, in the first quarter this year, in the US, investor funding for startups dropped by around half to $32.5 billion, while in China it fell 60% to $5.6 billion.

In India, during the pandemic peak, inflated valuations were fuelled by investors holding record amounts of capital. However, with increasing market volatility and drying liquidity, investors have adopted a “more cautious” approach, said Prashant Narang, Co-Founder, Agility Ventures, an angel investors network.

Along with startup founders, investors have also matured, learning from their past mistakes and are rethinking their investment strategy in light of lackluster IPOs, slowdown in consumer growth and governance issues, Pallavi Kanakagiri, Partner, IndusLaw, a multi-speciality law firm, added.

Dwindling operational capacity

According to experts, growth-stage startups have experienced a slowdown in funding in the last three quarters as they have to prove their profitability and have significantly higher capital requirements.

Challenged by this, companies took to different cost-cutting measures to conserve capital and prolong the exhaustion of funds. While some cut down their workforce, others pivoted their business models or looked for alternative funding sources to maintain their operations. The focus largely shifted from rapid growth to “revenue generation” and profitability.

Another common trend observed amongst startups was significant cuts in marketing and advertising budgets, compromising their brand visibility and customer acquisition efforts. Some others postponed their product development, delaying the launch of new products or features.

These trends are expected to continue in the next two quarters.

Expect more layoffs in the next 6-9 months

The funding winter coupled with the over-hiring seen in 2021 have triggered the layoff series for startups. The edtech segment was hit the hardest, with 14 startups laying off around 7,000 employees in 2022.

“Most startups raise money with a two-year horizon perspective. Startups that last raised in Q4 2021 now have a 6 months runway left. So layoffs are only going to get worse in the next 3-6 months as companies try to bring more operational efficiency,” said Edul Patel, Chief Executive Officer, Mudrex, a crypto investment platform.

Startups’ survival strategies

“Startups will have to think more about profitability and less on market acquisition at all costs, to be able to survive without periodic infusion of external capital as that is no longer a given,” Kanakagiri pointed. Sticking with their core business and extracting higher employee productivity is a critical strategy, said Ashish Kumar, CoFounder, Fundamentum, a VC Fund. Others talked of maintaining a lean organisation and focusing on customer retention, rather than customer acquisition as the other survival strategies.

“Prepare for another 24 months timeline before things get better and this is the best time to start” Tanul Mishra, Founder, Afthonia Labs, a startup incubator advised. “In India, we rely a lot on global funding. We need to start creating more pockets for funding our startups,” she added.