The Great Indian Start-Up Dream!

(This is a slightly dated article and first appeared at http://www.harbus.org/2017/great-indian-start-dream/ )

What do you get when you have 500 mn new internet users, a young and productive, burgeoning middle class and a workforce which defines global standards in technology? A vibrant and dynamic startup eco system i.e. India! Over the past 3 years, > $3 Billion was invested in startups in India. Leading venture investors like Sequoia, Accel, Bessemer, Lightspeed, Matrix, Nexus, SAIF made more than 300 investments in 2015 alone and more than 200 in 2016. Global giants like Uber are finding it hard to beat local competitors like Ola. In fact Uber ended up going against its fundamental principle of no cash payments to succeed in India. Bangalore is today known as the Silicon Valley of India with coffee shops breeding technology startups in the bylanes of Indiranagar and Koramangala. Much like San Francisco, there is an app to get you anything home delivered be it food, laundry, flowers or even cash from an ATM! Popular media has also recognized entrepreneurs as the alpha profession with series like TVF Pitchers becoming runaway successes.

To an average person this might seem surprising but if we look deep enough, there are several reasons why Indian technology startup ecosystem is booming.

Encouraging Macros:

Depending on which source you choose, economists project a 7% — 8% GDP growth rate for India over the next few years. The country is home to more than 300 million mobile internet users and is expected to add another 500 in the next 5 years. With the launch of Jio — led by Mukesh Ambani’s Reliance Industries’ multi billion dollar investment in optical fibre cables –high speed 4G internet is now available free of cost to >100 Million people. New home construction is expected to grow leaps and bounds in the next 10 years. At the same time, there hasn’t been a more stable government in power in the past 30 years. The scene is thus set for massive consumer growth. No wonder the public markets are valued at all time highs. In fact some argue that the same has been happening over the past 5–7 years with large consumer companies having grown over 15% year on year. However, a closer look reveals that growth hasn’t really moved beyond the top 5–7 cities. There is still a massive opportunity in consumer outside of Tier 1 cities.

Offline Retail has disappointed:

One of the biggest things that struck me the first time I visited the US was the massive offline retail stores in every part of the country. Even today, offline retail is more than 90% of America’s consumer economy. However, the same is not projected to be true for India due to several reasons. Firstly, the high rental costs swing the retailers P&L on its head with rent as a percentage of revenue for even best in class Indian retailers touching often as high as 10%. Similar numbers for the US are low single digit. Secondly, the Indian consumer goods supply chain is massively broken. Example there are at least 5–6 middlemen in even the best supply chains. Consequently, inventory turnaround days end up being as high as 150 as compared to often less than 30 for US retailers. Thirdly, poor infrastructure and logistics makes it almost impossible to penetrate any area outside of Tier 1 cities. As a result, 60–70% of stores are concentrated in the top 5–7 cities in India. It is no surprise that >60% of SnapDeal’s transactions come from outside of Tier 1 cities. Lastly, and one needs to visit India to know this, shopping in India isn’t an experience — it’s often a nightmare consisting of poor traffic, heat, pollution and opaque prices.

Talent and the Indian dream:

Indians make up one of the largest proportions of the technology workforce world over especially in the Silicon Valley (hint Google’s CEO, Microsoft’s CEO). The basis for this is a strong engineering education system spearheaded by the IITs which is a pipeline into Masters programs in technology and business in the USA. Top recruiters for Indian students at technology schools are Silicon Valley giants and at business schools(including HBS) are consulting firms like MBB. Promise of a vibrant future and security of a dollar denominated bank account led to a lot of these Indians to return to India to create impact in the early 2010s. This is around the time when some of India’s largest tech startups Flipkart, SnapDeal, Zomato were started from people educated at premier Ivy league business schools and having experience at top technology companies. Today this reverse brain drain is at all time highs with more and more Indians wanting to return to India. A complementary effect is that of top Indian students choosing to remain within the country. Today, more and more IIT graduates are happier staying within India due to availability of top engineering, entrepreneurial, consulting and banking jobs being available within the borders of India.

A culture of frugality:

Costs and wages in India are much lower than the US. This has been the basis of technology outsourcing for the past decade or more. Today this same principle combined with talent moving back to India from the Valley is creating globally competitive technology companies based out of India. FreshDesk and Zoho are prime examples doing multiple hundred million dollars in SaaS revenue but based largely out of India. Moreover, culturally Indian entrepreneurs (for the most part!) tend to be thrifty and conservative with capital. For example SG&A and Marketing as a proportion of Revenues tend to 3–4X lower for Indian companies as compared to their US counterparts.

A host of opportunities:

Apart from the obvious low hanging fruit of consumer goods and services moving online, there is a host of big bang opportunities waiting to be exploited in emerging India. < 10% people have access to formal credit yet >55% use informal credit channels. Cash usage is >90% with <20 million credit cards and close to 1 million POS machines in a country of >1 Billion people and >50 Million SMEs. Recent forward looking regulations in P2P payment and alternative credit have made it possible to attack these opportunities with technology and FinTech has spurred in the past 2 years. Similarly, with <10% health insurance penetration and the lack of any organized electronic medical record system or hospital management solution healthcare is an industry waiting to be disrupted using technology. Education, logistics and agriculture are also seeing technology disruption (often led by HBS alumni J eg Rivigo, Avanti etc)

Challenges:

All this being said, the picture is not totally rosy. Firstly, this is but the first generation of entrepreneurs in a country used to getting a stable, government job. Inexperience and lack of proper mentorship are some of the key problems this crop of enthusiastic and capable founders face. Similarly, venture investors are also new to the country and have struggled with systems of control and regulation. Housing.com’s debacle and the recent issues with SnapDeal are some examples of this inexperience in the ecosystem. Secondly, regulatory environment is still very uncertain. While the government has taken steps to promote ease of doing business, full implementation is still a distant dream. There is however enough promise of laws that facilitate entrepreneurship. Thirdly, recent layoffs have led to speculations around a bubble being burst. There is no doubt that valuations had reached unsustainably high levels but the macro picture remains strong and IMO this is but a blip in the long journey of creating value. Lastly, exits are conspicuous by their absence. There are several reasons for this. National Stock Exchanges haven’t seen enough technology listings and lack liquidity and investor interest for some of these new age startups. Global technology powerhouses like Google, Facebook, Microsoft and Cisco haven’t yet started acquiring younger companies. Most importantly, even decade old startups are yet to book gross profit.

All in all, India is fast emerging as a center for technology startups helped by strong macroeconomic factors, a rising middle class and growth in internet penetration. However, challenges of inexperience, regulation and a lack of liquidity events for investors continue to exist, making several global investors wary of entering the subcontinent. That being said, the long term horizon looks to be very positive with several interesting opportunities being available to those willing to be patient and forward looking.

The author is an ex-entrepreneur and investor from India.