TV Mohandas Pai & Nisha Holla
India hosts the third-largest startup ecosystem in the world, after the US and China. While the nation’s innovation economy is making giant strides, local capital availability is a systemic handicap. An analysis shows that while $136 billion entered the Indian start-up ecosystem between 2014 and 2022, this number pales compared to the $837 billion and $2.7 trillion that entered the Chinese and US ecosystems, respectively, during the same period.
Moreover, 80%+ of the inbound $136 billion comes from foreign investors—global venture capital (VC) funds, sovereign funds, crossovers, and institutional investors like insurance companies and pension funds of other countries. The explosive Indian growth story is central to every foreign investor’s Asia allocation, and they are reaping robust returns while the average domestic investor is watching from the sidelines. Apart from losing out on the returns, not owning a significant portion of India’s new growth engine brings multiple sovereignty risks into play—we risk becoming a digital colony whose value creation on top of its data, platforms and technology is not domestically-owned.
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The total value created by the Indian start-up ecosystem has crossed $500 billion, and estimates suggest it may reach $1 trillion by 2025. Internet penetration in the country has crossed 60%, and opportunities abound to provide higher value-add services to these digital citizens and to capture the super majority with the advent of 5G. Indian institutional capital, by and large, missed the first start-up innovation wave in India, and absolutely cannot afford to miss this next growth surge.
The total assets under management (AUM) wielded by Indian insurance is roughly Rs 60 trillion, with another Rs 20 trillion being with the pension funds. Of this considerable AUM of Rs 80 trillion, hardly anything has made its way into the innovation ecosystem in the country. This is despite the nation hosting more than 1,000 Alternate Investment Funds (AIFs), which include VCs, managing more than `6 trillion of capital.
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Over the past 30 years, tech VCs in the US have achieved consistent returns of 15%+ from the innovation ecosystem. The top 25% of Indian funds are showing superior returns, demonstrating that the Indian innovation ecosystem is growing at a similar, if not faster, clip. Further proof of a strong growth potential comes from the growing trend of multiple pension and sovereign funds, from Canada, the United Kingdom, Singapore, the Middle East, and the US investing heavily in the Indian ecosystem. The conclusion is clear—Indian AIFs have the institutional capacity to invest in and manage the inbound capital into the startup ecosystem. They have developed a robust, country-specific understanding of the risks involved with deploying this capital from the early stage, across various exits, such as initial public offerings (IPOs) and mergers & acquisitions (M&As). They have the human capital to make these decisions and manage the deployment of such funds, and the absorption capacity of the ecosystem is massive and growing.
Every year, Indian insurance companies and pension funds have an investable quantum of Rs 10 trillion. Even if 2%—Rs 200 billion—is committed towards the start-up ecosystem with a deployment horizon of four years, it will make a monumental impact on the Indian growth story. Domestic ownership of India’s tech ecosystem will rise sharply and allow Indians to exert more control over its destiny. It will cement the nation’s global trajectory as a Top 3 digital superpower.
The government and regulators of each sector must analyse the impediments to more domestic institutional capital entering the ecosystem, specifically institutional investors like insurance companies and pension funds. A notable example is the inability of institutional investors to invest in Fund-of-Funds (FoF). The Rs 100 billion FoF, a funding model that the Union government has rolled out with implementation through SIDBI, has been a game-changer in aggregating capital and deploying the same into AIFs, which then direct the capital appropriately into start-ups. India’s innovators urgently need more Indian capital to dominate this sector globally. If the FoF is expanded to unlock the flow of capital from insurance companies and pension funds, it will lend a significant fillip to the ecosystem.
To ensure that the innovation ecosystem’s tremendous absorption capacity is not dominated only by foreign capital, India also needs more FoFs. An Rs 500 billion FoF for specialised deep-tech industries, such as clean energy, climate tech, cybersecurity, semiconductors, digital health, etc., will be very useful.
India is already mobilising resources towards achieving technological superiority in these industries; the FoF will help aggregate domestic capital towards innovative early-stage companies developing promising technology. Unlike digitally-enabled start-ups, deep-tech ventures require more gestational capital for upfront R&D and capex costs; hence, an Rs 500 billion FoF can help seed these ventures.
India is today the fifth-largest economy, and is well on its way to becoming only the third economy to transcend the $10 trillion GDP mark, after the US and China. Tech-enabled start-ups and indigenous technologies are the two pillars of India’s 21st century growth engine, and it is imperative that the nation owns a significant portion of the value-add of the engine. Increasing domestic ownership via expansion of FoFs, incentivising institutional investment, and unlocking higher capital flow into start-ups and tech ventures via AIFs will allow for asymmetric returns for the nation, create many specialised jobs, and enable India to maintain technological leadership.
(Respectively, chairman, Aarin Capital, and technology fellow, C-CAMP)
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