Karteek Pulapaka

Karteek Pulapaka, Co founder and Partner at Java Capital: He is the Founding Partner at Java Capital with over 15 years of experience across Venture Capital, Fintech, Software Services and Investment Banking industries. He is a Beta Gamma Sigma honours MBA graduate from IE Business School & Kellogg School of Management, a podcaster, and a startup evangelist. He’s an investor in companies such as BharatX, Yellow Metal and EatBetter

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Is Funding Winter Truly Here?

The current situation shouldn’t discourage tech talent to seriously consider promising startups. Considering over $450mMillion of ESOP buybacks have been announced in 2021 by startups, it is unimaginable that this kind of wealth creation can be done by working for traditional companies

Photo Credit : ShutterStock,

Nowadays, if you open your tech section in your newspaper you will be forgiven if you thought it was all gloom and doom in India’s tech space. Headlines such as 'Fintech layoffs just keep on coming', 'Pandemic boom to season of layoffs' and more such ominous ones greet us on a daily basis now. There is a cause for concern. 

From the public sources we have access to at least 48 startup companies have laid off over 12,200 employees to rationalise costs. But the real number could be twice as much higher. The Edtech sector is by far the most affected with 201 companies having laid off employees or shutting down entirely. Add to that, the layoffs from tech giants such as Meta, Twitter and hiring freezes at companies like Amazon and Wipro, it paints a very bleak picture.

How did we get here?

These developments seem all the more worrisome especially coming after a year of bumper funding rounds and unleashing of record breaking unicorn companies from the Indian startup ecosystem. Indian startups have raised an eye-popping $38.5 Billion in 2021 compared to $10 Billion in the pandemic hit 2020. This is a massive 3.8 times improvement over the past year and comes especially at a time when Asia’s other tech powerhouse China has shown only a 1.3 times increase in VC funding in 2021 vs 20202. It is only natural to expect 2022 to at least match if not better the previous years numbers. Several factors explain why this didn’t materialize.

First, the year 2021 is far from a normal year. Coming out of the immediate aftermath of the pandemic, many central banks of the world’s leading economies slashed their interest rates and unleashed waves of Quantitative Easing. 

The United States, the world’s sole super-power, led the way. The Federal Reserve revised the interest rates down to a target range of 0 - 0.25 per cent, the lowest it has been since the Great Recession of 2008 that stemmed from the subprime mortgage crisis. 

And after it ran out of room to further reduce the interest rate, it went on to stimulate the economy with a whopping $4.6 Trillion in QE3. 

Suddenly, investors are flush with cash but they can’t invest all in domestic tech companies with highly inflated valuations already. The largely tech NASDAQ index has seen an unabated boom since 2009 from a low of 1,300 to around 13,000 at the beginning of 2021. 

A similar story played out in the private markets as well. Private SaaS companies, for instance, were valued only at a 28 per cent discount to their public counterparts which were themselves overvalued with some valued at a whopping 78 times Annual Run Rate (ARR). 

Naturally, all this money needed to go somewhere and found its way to emerging markets with higher growth and higher return potential.

This has resulted in a bumper year of funding for Indian startups in 2021. Almost 88 per cent of all the growth rounds were led by investors based outside India in 2021. To be fair, the Indian startup ecosystem would have bettered the pandemic hit 2020 by a wide margin even without this external macro-economic stimulus. But, with easily available money it seemed like a year of funding on steroids.

Now, this year we are seeing moderation kicking in. The Federal Reserve has begun Quantitative Tightening and increased the target rate several times this year to 4.0 to rein in rampant inflation. Furthermore, the fears of recession and missed earnings targets meant NASDAQ has plummeted over 28% in just one year alone. 

With some public tech companies trading at attractive multiples, some of the same investors who lapped up private tech companies in India at high valuations are now reticent. This has led to a degree of market correction in valuations for startups and in many investors taking a wait and see approach.

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What happens next?

Firstly, we should make no mistake in noting that startup companies have raised over USD 18.4 Billion this year so far in growth capital (Series B and above). While it is only a tad bit more than half of USD 35 Billion raised last year, it is still more than 2020 and 2021. Furthermore, the activity in the Series A stage held up very well with USD 2.9 Billion invested this year so far in 309 rounds to USD 3.4 Billion invested last year across 339 funding rounds. In fact, 2022 Series A funding is more than 2019 and 202 combined.

Source: Tracxn

This clearly shows that early stage funding in the ecosystem is still robust. An average seed round this year is around USD 1.25 Million compared to USD 850K last year. This can be seen as a sign of investors cushioning their investee companies with enough capital to weather the growth funding slowdown. 

Most early stage venture capital funds are also encouraging their existing portfolio companies to extend their runways by as much as 18 - 24 months. Which means companies are preparing to operate in a lean fashion and survive with stronger emphasis on the business fundamentals rather than unbridled experimentation.

But, there is still an acute need for skilled engineering talent across the board. These companies will be looking to absorb some of the people being laid-off and it is not unusual for founders to appeal to those losing their jobs elsewhere to consider joining their companies. However, gone are the days where companies are willing to shell out paid vacations and super bikes to lure talent. One might also wonder whether employees laid-off by startups would still prefer joining another startup. These employees would have been offered ESOPs instead of market salaries and if the startup shuts down, those ESOPs are worthless. The current situation shouldn’t discourage tech talent to seriously consider promising startups. Considering over USD 450 Million of ESOP buybacks have been announced in 2021 by startups, it is unimaginable that this kind of wealth creation can be done by working for traditional companies.

Finally, it is worth noting that dry powder, a term used to define unallocated capital a fund has to deploy, held by funds is estimated to be anywhere between USD 12 to USD 16 Billion. These funds will have to be deployed by the fund managers in the next 18 - 24 months. So, we will see a revival in the deal making pace at moderated valuations but to predict exactly when this happens is more art than science.

Disclaimer: The views expressed in the article above are those of the authors' and do not necessarily represent or reflect the views of this publishing house

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