Where is the greater fool now?

On the current pain in Indian e-commerce (recent news about Yepme and Snapdeal)

A day ago I woke up to the news that Yepme.com, a big player in the Indian fashion ecommerce space, would be laying off 80–90% of its workforce. Not only that, but they were allegedly using a tactic to save themselves crores of rupees in severance — get employees to resign instead of actually laying them off! This morning the bold headline flashed at me, “Snapdeal orders mass layoff.” Snapdeal is letting go of nearly 1000 people and the founders are taking a 100% paycut i.e. no salaries until they get profitable.

Amidst a funding crunch, a painful yet much needed lesson is being learnt by the Indian startup ecosystem. Who is to blame? Perhaps the VCs who didn’t ask enough questions before pumping millions of dollars into a very nascent and immature startup ecosystem. Perhaps the media who turned founders raising capital into celebrities, rather than diligently studying the companies and getting inside stories on what was working and what was not. Perhaps the founders themselves, who instead of focusing all their energies into solving the problem they were set out to fix, got carried away with all the seemingly endless capital inflow, and almost turned into corporate VCs themselves as they acquired and invested in many smaller companies.

I was alarmed to read this quote by Flipkart co-founder Binny Bansal, “Investing in startups is the best charity I can do.” By definition, you do not expect returns from charity. By investing in a startup like Flipkart in the early days, I am sure none of its investors had charity in mind. And when you consider the startups that you invest in as a form of charity, you are doing their founders a disservice. Their goal, one would expect, is to build a sustainable, profitable business. Yes, there will be lots of positive benefits to society (like job creation and innovation), but the highest goal when you run a business is this: to maximize returns for your shareholders.

“Start-up” was probably the most loved word in the past few years. But the crazy spending by startups fueled by VC FOMO has given a few wrong signals:

1. It is okay to burn money at the cost of top-line growth, even when you know that you are not building loyalty by doing so.
2. It is okay to diversify away from the core business and “invest” in other companies and technologies that look attractive even if they are not intricately linked to your main offering.
3. It is okay to invest in very expensive talent through a big cash-based component.

There has also been the comfort of knowing that with such a large market to serve, capital will always be available.

The reason for the intense land grab may have been to establish themselves as clear leaders. Research has shown that pioneers/first-movers don’t always succeed. Wharton Professor Adam Grant makes the case for being second in his book Originals. Entering the Indian market late has clearly benefited Amazon as it saved the years and capital needed to educate the first time online buyer.

And recently ironically, some investors of the very e-commerce startups that have put many brick-and-mortar retail companies out of business, were seen asking for protectionism from the government.

Snapdeal’s Kunal Bahl has written a letter to explain the situation to employees and to accept blame for mistakes. It is good to do that, but the mistakes that were made would be seen by many Indian businessmen (who have been running bootstrapped “startups” for decades) as common sense in doing business. “We probably hold the record for the company that got written off the most number of times by Internet pundits” he says in his letter. I disagree. The big e-commerce giants in India have been repeatedly lionized by both media and their investors for successfully raising capital without looking at metrics that would suggest that they are actually on their way to building solid institutions.

There have of course been voices of reason (investors Haresh Chawla and Mahesh Murthy to name a few) but these have been drowned out by the euphoria.

As entrepreneurs and investors in India continue to develop the startup ecosystem and find role models and the right incentives to build lasting businesses, a few things that will hopefully be foremost in mind for entrepreneurs:

1. The only way for a startup to be is lean. There is no excuse to be otherwise.
2. Employees, even the junior-most, should be correctly incentivized with a significant portion of their compensation linked to equity.

And for investors, do not assume there will always be someone to pass the investment on to, especially if vanity metrics are what are being used to sell the business. The search for the greater fool may well lead to the realization that you were the ultimate fool.

Views expressed in the article are personal.