Merge, acquire, survive: Startups on consolidation route as funding slows

49 M&A deals in the first quarter of 2023 already as consolidation continues in the ecosystem

Upcoming companies are focusing on profitability and unit economics to stay afloat amid a funding winter, prompting consolidation by way of mergers and acquisitions (M&A).

Funding for Indian startups in 2022 fell 33 per cent year-on-year compared to 2021, according to a PwC report. Overall funding slipped another 75 per cent year-on-year (YoY) in the first quarter of calendar year 2023 to $2.8 billion.

As funding slows down due to macroeconomic headwinds, many startups across sectors are changing their strategy to reduce cash burn. The change is reflected in retrenchments and overhauls in cost structures.

In this capital-starved environment, M&A deals have remained relatively consistent as the lack of funds forces many budding companies to either shut down or be acquired by bigger firms. The year 2022 saw 246 M&A deals compared to 256 in 2021, according to data from Tracxn, a market intelligence platform.

This trend has continued in 2023, with 49 M&A deals in the first quarter. M&A deals this time are largely driven by B2C e-commerce, which has seen 11 acquisitions. Software-as-a-service (SaaS) and enterprise software sectors came next, each recording 10 such deals.

The three sectors have mostly contributed to the bulk of M&A transactions in recent memory, rounding out the top three in both 2022 as well as 2021.

Experts have said the startup ecosystem is likely to see further consolidation, largely in B2C E-commerce and quick commerce.

Investors in quick commerce expect some consolidation. “Right now, there are four or five players in the market. Like the food aggregator market which has now become a duopoly, we might see some exits in quick commerce as well…But it is going to take some time,” said one early-stage investor.

Industry watchers expect similar consolidation in fintech, which did better than other sectors in terms of funding. Consolidation in fintech will most likely take place to enter more profit-making verticals. The sector has seen more than 10 M&A deals this year, including NBFC lenders, internet first lenders, alternative lending platforms, etc.

“There is cautious optimism in the sector. We expect to see more consolidation this year. Companies with high valuations need to grow into them,” Vikram Chachra, Managing partner, 8i Ventures, a venture capital firm focused on fintech, told 'Business Standard' earlier.

“Highly valued companies that are already generating cash need to acquire more revenue. We may, therefore, see companies acquiring smaller startups. We will likely see rapid consolidation happening later this year. The market will look more oligopolistic, with strong winners emerging in different categories,” he said.

In edtech, which is the worst affected by the funding slowdown, large businesses are looking to diversify and acquire small struggling startups. The sector had seen 26 acquisitions (K-12 and online courses included) in 2022 but has lost steam since, with only 1 M&A deal this year.

At a time when investors are increasingly tightening their purse strings, India-focused venture capital funds are sitting on a pool totaling $12.88 billion, the highest since 2016, according to Prequin, a London-based investment data company. They are not willing to fire this powder keg liberally as they did until the first half of 2022 and are taking a long and hard look at valuations this time.

The Indian startup ecosystem in 2023 may, therefore, beat the year’s record number of M&A deals.