Ultra high net-worth individuals and others with investible funds are keen on investing in startups, an activity that has largely been the preserve of private equity and other venture capital funds.
The Rubicon has been crossed. The notion that business needs to mature and start making money to attract investors has been shattered (sort of). The recent slew of startup initial public offers (IPOs), with their stellar listings, is an indication of the vibrancy of India’s entrepreneurship ecosystem. Much to the dislike of guardians of the traditional school of thought that values financial-outcome numbers above all else, startups trying to reshape elementary aspects of consumer behaviour are now the harbingers of innovation. Scores have become unicorns, with valuations of $1 billion plus. Alongside, the way that the ultra-wealthy invest their money is also witnessing a paradigm shift, paving the way for the entire ecosystem to benefit and thrive.
India is a hotspot for startups. This year alone, Indian startups have raised more than $23 billion, spread over 1,000+ deals, with 33 startups entering the coveted unicorn club. Investors have displayed a willingness to risk more money on fledgling businesses, as the average deal size has doubled to $35 million, with Zomato’s success in raising funds as the gold standard. But the story encompasses a lot more. The much-anticipated listing of Nykaa, Policybazaar, Paytm and Oyo, among others, has led many ultra-high net-worth individual (UHNI) investors to believe that this funding boom may not be a momentary blip after all. Recently, Freshworks Inc was listed on NASDAQ, soaring past several tech stocks popular with Indian retail investors.
The investing world, like the startup scene, is evolving rapidly. Funding typically works in boom-and-bust cycles, and while the current frenzy of activity may taper off, the boom will likely reappear, led by India’s tech startups. This promises to be an exciting decade. We have already seen the emergence of a number of online platforms, all aiming to democratize access to traditional products and services through low-cost, digital-only solutions. In addition, advances in artificial intelligence, machine learning and automation are delivering faster and lower-cost solutions at a time when digital adoption has accelerated across segments, spurred along by the covid pandemic. A shift in international perspectives on China has also made India a relatively more attractive destination for global investors. With the burgeoning of private wealth in India, UHNIs are turning to venture capital and private equity portfolios as an asset class, with startup investing in focus. Today, significant numbers of high net-worth individuals (HNIs) and UHNIs are exploring options to invest in startups and small businesses. They can now even invest in cutting-edge tech companies that were once the exclusive domain of venture capitalists and institutional money managers. This means they can now diversify their portfolios away from public markets and invest in private companies in fields of enterprise ranging from fitness products and food to breweries and video games.
Over the last decade, we have seen the advent of full-service private wealth management services set up as ‘family offices’ that cater to Indian UHNIs and invest heavily in the domestic startup space. Typically, UHNIs don’t want to get involved in vetting startups, as they are not very familiar with the startup ecosystem, but they don’t want to miss out on an opportunity. The most prudent way for HNIs, UHNIs or others to invest in startups is through a venture capital (VC) fund that is equipped to judge the future prospects of investee companies. As a result, these investors prefer to invest in alternative investment funds (AIFs) by relying on a specialist fund manager to do the due diligence. In addition to early-stage startups, AIFs can also invest in private equity, small and medium enterprises debt, real estate, among other assets, as part of an alternate investment strategy. Alternatively, depending on the size of their corpus, these investors can set up in-house units to evaluate startups or go through investment offices that serve multiple families.
While new-economy IPOs represent a high-risk investment strategy, a very low level of subscription would mean institutional investors do not see a strong investment proposition. In contrast, a very high level of oversubscription would leave retail investors with very little allotment. Therefore, HNIs and UHNIs must cut through the clutter and seek out entrepreneurs who lead hyper-growth startups. Those who have had the experience of stints in other startups or are armed with otherwise impressive business backgrounds have done remarkably well in recent times.
It is incumbent upon professionals who support ‘family offices’ to set out a few ground rules to help investors avoid pitfalls. For example, they must proceed with caution and build their portfolios gradually. Investors must also spread their bets. For every Zomato or Paytm or Byju’s, there are hundreds of promising startups that will not live up to their initial hype and fade away. For every startup that becomes a multi-bagger, there will also be dozens that turn out to be duds. Family offices should hardwire all this into their investment strategies.
By 2025, startups are expected to raise a whopping $100 billion. Together, HNIs and UHNIs are likely to contribute almost 30% of this funding. In the years ahead, HNIs, UHNIs and family offices will hence play a key role in the development of India’s startup ecosystem. For an Atmanirbhar Bharat powered by desi startups, we can look inwards rather than Westwards for the rocket fuel of funding. That would boost our self-reliant success.