Indian startup ecosystem buffeted by several headwinds in 2023 led to significant organisational repercussions in 2023 with over 35,000 startups shutting down during the year, said the latest edition of Bain & Company’s annual India Venture Capital Report 2024 in collaboration with Indian Venture and Alternate Capital Association (IVCA) on Thursday.
A confluence of domestic and global factors such as persistent inflation that kept interest rates elevated while investors considered potential growth headwinds in anticipation of a global GDP softening extended the funding winter, the report noted.
These challenges heightened investor expectations and vigilance coupled with softening global consumption and continuing geopolitical uncertainties that led to a decline in deal volume (from 1,611 to 880 deals) and average deal size (from $16 million to $11 million).
In terms of layoffs, over 20,000 employees were fired by leading startups with edtech comprising the largest share, according to the report.
However, 2024 is expected to be better in terms of startup closures. “We believe a significant share of restructuring and (startup) closures have materialized over 2023. Closures should be materially lower in 2024 as businesses that have viable economics or a clear path to growth are largely in the market now and will see investor interest,” Sai Deo, Partner, Bain & Company told FE Aspire.
Despite the decline in funding value and volume, the report said India still retained its position as the second-largest destination for VC and growth funding within the Asia Pacific region.
Importantly, the cycles of funding winters in the past wherein valuations dropped and the focus was back on profits were followed by the status quo wherein high valuations and growth at all costs were back on the priority list of founders and investors.
Deo said the focus ahead on growth and profits is believed to stay. “Investment activity (and hence valuations) over the 2018 – 2021 period were largely driven by a zero-interest rate macro environment (which in turn was fueled by a different set of drivers). In the absence of a significant macro shift in interest rates where capital is cheaper, we believe investment activity will account for both growth and path to profitability of businesses,” she said.
“Businesses with solid fundamentals and strong unit economics will continue to see strong valuations and investor interest in all types of environments,” she added.
Deepak Gupta, General Partner at WEH Ventures noted that while capital taps seem to be opening a bit in recent times but funding beyond seed will remain circumspect.
“This means even some good companies may struggle to raise as they have to come up for much-needed oxygen this year. Things should ease gradually as VCs come under pressure to deploy their dry powder but for the real quality plays or in fresher themes,” Gupta told FE Aspire.
The report noted that the emergence of governance crises (in startups such as Byju’s) and escalations in erstwhile lapses in VC-funded companies further heightened investors in 2023.
However, in 2024 and onwards, Deo said investors in general are taking a more proactive approach to portfolio management, that is, via instituting the right boards, governance structures, reporting mechanisms etc. (apart from nudges from the regulators).
“We expect this to be a critical priority for most funds,” she added.
In terms of areas gaining momentum, amidst a broader decline in software & SaaS deals, generative AI emerged as a breakout theme in 2023, with investments soaring to around $250 million last year from a nascent base in 2022.
“Impact of generative AI on investor sentiment is emerging as there is already investor recognition around the fact that it will need to find the right business models (if it’s in the application or workflow layer) or commercial models (if it’s an infrastructure-focused asset). The thesis should reflect in the pace, quality and valuations of investments being made in the space,” said Deo.