As easy money stops flowing startups shift their focus to profit

Indian startup ecosystem is making a hard pivot from growth to profitability. Startups and their investors are adapting, redefining priorities, and embracing new business models and cost efficiency. Image: Shutterstock
 
“For five years not one investor asked me when or how we would be profitable. That’s how easily money was flowing. It was crazy. Now every VC only asks when we will be profitable,” says a startup founder.  
 
Meanwhile, just last week Zomato, whose stock price has plunged 26 percent since listing, reported a surprise profit after tax (PAT) of Rs 2 crore in the three months ending June 2023—a first in the online food delivery giant’s 15-year history. In fact, a deferred tax of Rs 17 crore led to the single digit PAT figure; profit before tax stood at a neat Rs 15 crore.  
 

A few days later social commerce platform Meesho, backed by Prosus, Softbank and Sequoia, said that it had turned PAT positive in July 2023, helped by a 70 percent drop in customer acquisition costs from roughly Rs 250 two years ago to Rs 50-60 today. Although Meesho, which recorded a loss of Rs 3,251 crore on revenues of Rs 3,232 crore in FY22, still has a long way to go, the signs are upbeat.
 
“The Indian startup ecosystem is making a hard pivot from growth to profitability. Startups and their investors are adapting, redefining priorities, and embracing new business models and cost efficiency,” says Mohit Rana, partner at RedSeer, a Gurugram-based consultancy.  
 
The reasons for this “hard pivot” are many—higher cost of capital, higher interest rates, a decline in the value of technology stocks globally and in India, the recession in developed markets and an overall slowdown in consumer spending. But the most significant is that VCs are less willing to dish out cash. Consider how startup funding peaked to $50 billion in FY22 and dropped to $15 billion in FY23, as per RedSeer. That's a 70 percent nose-dive.  
 
As a result, startups old and new, big and small—once encouraged, and even incentivised, to remain loss making in order to gain market share—are spending frugally, reworking business models and focusing on sustainable profit.
 
Take the case of Paytm. Its stock took a beating on listing day falling 27 percent. It has since been clawing its way up by making significant improvements over the last few quarters to improve its contribution margin. So much so that it hit EBITDA positive before ESOP costs in the three months ending March 2023, two quarters ahead of its target. The stock is up more than 60 percent since the start of the year. “We are on our committed guidelines of becoming free cash flow positive by the year-end,” said CEO Vijay Shekhar Sharma during Paytm’s recent analyst call. 

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Even startups that grew quickly during a pandemic-fuelled tech boom are now increasingly focusing on unit economics. Zepto, for example, the poster child of speedy delivery startups, raced to a near-unicorn $900 million valuation in less than a year of founding in May 2022. Aadit Palicha, co-founder and CEO, told Forbes India earlier this year that Zepto’s expenses as a percentage of sales are almost 10x lower than in FY22 when the startup reported a net loss of Rs 390 crore on revenues of Rs 142 crore. “It’s all about driving better and better operating discipline and making the unit economics work,” he said.    
 
Meanwhile, newbie startups, born in the era of less money, have frugality built into their DNA. Consider how Manas Madhu, founder and CEO of Beyond Snack, which sells banana wafers under the brand name Kerala Banana Chips, says he “didn’t even dare” to spend money on marketing until he was “absolutely certain” about the product’s viability and demand. “We validated product market fit, ensured repeat sales and automatic market pull for the product, and healthy gross margins. Then we knew we had a sustainable, scalable model in place. Only then we spent on marketing—that helped keep the CAC low,” says Madhu. Beyond Snack, which has a presence in 8,000 offline retail outlets and sells online, is currently hitting Rs 3 crore in monthly revenue and is profitable.  
 
“In the past we have seen many companies try to hit profitability, but everybody took a lot longer to get there. But in this current crop, in the last two years, I am seeing that momentum towards profitability has been much faster than what we had seen in the past 10 years,” says Abhishek Goyal, co-founder of Tracxn, a data provider.   
 
He adds, “When I came into the venture ecosystem in 2008, there used to be a lot of scepticism about whether India will ever be a large enough market. I see the Zomatos and Meeshos coming close to profitability as a landmark event. It’s as though we have turned a corner saying that at this per capita income we are not losing much money to create the market. That for me is a coming of age.”   
 
RedSeer analysed around 100 unicorns—private companies with a valuation of more than one billion. It found a “substantial improvement” in profitability between FY21 and FY22, says Rana. While only 22 percent of the unicorns analysed had a clear path to profits in FY21, the number rose to 40 percent in FY22. Also, around 53 percent of unicorns are expected to become profitable by FY27, while 20 percent are likely to pivot to new models, get acquired or wind up.  
 
The disruption caused by Covid and punishing of lossmaking tech company stocks like Zomato and Paytm at the time of listing have actually helped the ecosystem, he says. “It led entrepreneurs to think very hard on what their core business is and defocus on the other things,” says Goyal.
 
Ninad Karpe, partner at 100X.VC, concurs. “Covid has changed the thought process” of founders and VCs alike. “They are now sharply focused on strong execution, not just momentum. By execution I mean doing everything to achieve sustainable growth, not just growth for growth sake,” he says.   
 
Karpe is also long on the “multiplier effect” of India’s strong public digital infrastructure including ONDC, the rapid growth of ecommerce in Tier 2 and Tier 3 towns, and the fact that devices like laptops will be available for as little as Rs 16,000—or the price of a smartphone—thanks to JioBook. “You put all this in a pot and what comes out is a very potent mixture which will only help our startups grow and scale in the medium to long term,” he says. 

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Globally, total venture funding in 2022 dropped by more than 30 percent, to $415.1 billion, although deal volume fell by only four per cent, according to CB Insights. Here too companies are forgoing growth at all costs to focus on profitability. Airbnb, for example, has increased take rates from its guests and hosts and cut marketing spends. Uber too has increased its customer charges and driver take rates.  
 
Yet dry powder is at its highest. India-focussed funds were sitting on the highest-ever unallocated capital at $23 billion in 2022, according to a BCG, Times Bridge and TiE report. It noted that the funds would mostly be deployed towards early-stage startups in 2023, with investors exhibiting “patience” and a “focus on profitability metrics” with growth and late-stage startups.  
 
“I think the term funding winter is not universal or ubiquitous in its application. The right folks with the right execution model and scalable business will not find it difficult to raise funds,” says Karpe.  
 
Focusing on the basics is the key mantra.   
 
(With additional inputs from Harichandan Arakali)