Even as the start-up ecosystem in India is growing leaps and bounds attracting huge investments from investors, the way some of these companies are using their cash has raised question mark about their sustainability yet again. The latest to join the debate is Avnish Bajaj, one of the early e-commerce entrepreneurs who is now driving investments at venture capital firm, Matrix Partners India where he is a co-founder and managing director.
In a Tweet Storm on Monday, Bajaj said that "burn rates are too high" in the start-ups space in India while at the same time entrepreneurs are not doing enough to curb spends despite knowing that the next round of funding might be far away. "Companies raising 50, 100 million dollar rounds is not going to come back anytime soon; as poor capital intensity kills returns," said Bajaj in a tweet. "So, companies should focus on building businesses the right way and take an axe to burn rates."
Bajaj, way back in 2,000, cofounded Baazee.com, an online marketplace which four years later got acquired by eBay. Earlier, Nikesh Arora, vice chairman of Japanese investor Softbank had also expressed worry over the way some start-ups were burning money on marketing instead of perfecting their products in the early stage. "There are very few companies in the West that have become very big companies who invested hundreds of millions of dollars on marketing in the early stages of their lives," Arora had said last October.
Similarly, T V Mohandas Pai, a former Infosys top executive turned investor also agreed that e-commerce sector is headed for a shakeup as e-commerce companies are burning cash by subsidizing products to grow their customer base.
Of late, venture funding in the start-up space is showing signs of drying up with companies, especially in the FoodTech space, bearing the maximum brunt. Finding it hard to raise their next round, several players such as Zomato, TinyOwl and Foodpanda have laid off staff and are scaling down operations in order to reduce cash burn.
"Burn rates are still too high - million dollar monthly burn rates still de riguer and not shocking enough," said Bajaj. Bajaj shared figures of what he considered optimal burn rates for start-ups in the early stage of building their businesses.
In India, Matrix Partners has invested in scores of tech-backed start-ups such as Ola, Practo, Chumbak, Housejoy, DailyHunt and TinyOwl.
According to Bajaj, money between each round should be rationed to last for 18 to 24 months. A start-up that raises seed funding of Rs 3-4 crores, should restrict peak cash burn to Rs 30 lakhs per month.
With Series A funding of $2-3 million (around Rs 13 - 20 crore), a start-up can increase its monthly cash burn to Rs 70 lakh.
Bajaj says that to multiply traction and iterate on their business model, a start-up can double its monthly cash burn to Rs 1.5 crore - Rs 2 crore after a Series B round of $6-8 million, and in order to demonstrate a scalable and sustainable business model, a company should cap its peak monthly burn at $1 million after a Series C round of $15-20 million.
He said, start-ups with cash burn higher than their net revenues equates to an "impending disaster". Also, in order to avoid dilution, founders should only raise money when their firms are worth 10-25 times the money they've raised.
Experts say, many successful companies globally such as Facebook, WhatsApp, Twitter or Tinder, have grown to billion dollar scale with minimal marketing spend in their early days. "Anybody who spends big money on advertising will die. All of these guys (who are spending huge money in marketing and advertising) are in a death spiral," Mahesh Murthy, founder of digital marketing company Pinstorm, told Business Standard in an earlier interview.
A study by brokerage firm Kotak Institutional Securities which looked at the financials of 22 top Indian e-commerce start-ups during the fiscal 2015, found that losses grew by 293 percent to Rs 7,884 crore on a combined revenue of Rs 16,199 crore. Among the companies surveyed, health tech start-up Practo was the only start-up whose losses were lower than its net revenue.
However, e-tailers such as Snapdeal, Amazon and Flipkart who are considered trendsetters in the Indian start-up ecosystem are slowly moving towards profitability. While they posted a massive combined loss of Rs 4,984 crore, revenue growth outpaced growth of losses.