Embracing Resilience: How Startups & Investors Can Thrive In The Funding Winter

After the startup world witnessed a triumphant funding season in 2021, the second half of 2022 brought about a rude awakening for many entrepreneurs and investors alike. Inc42’s data states February 2023 as the worst month for funding since August 2019, with startups raising only about $251 Mn. As a result, year-over-year (YoY) funding amount and deal count both fell by 81% and 59%, respectively.

As the cold winds of the financial slump froze the river of venture capital investments, one thing became crystal clear — the Indian startup funding winter has officially set in.

What Is A Funding Winter?

For the uninitiated, funding winter refers to an extended period where the inflow of venture capital is lower than expected, making it particularly difficult for startups to raise funds. A funding freeze is often followed by employee layoffs, delays in capital allocation decisions, departmental budget cuts, lower valuations than past funding rounds, and more.

Many believe a funding winter to be a battle for survival. However, it is an opportunity in disguise for startup founders to test their mettle against fluctuating market factors and for investors to identify solid investment opportunities.

What Prompted The Indian Startup Funding Winter?

The Indian startup funding winter is in no way an isolated event; macroeconomic challenges and geopolitical tensions acted as catalysts in its decline. Investment cycles, like other economic patterns, go through peaks and troughs.

In this case, rising energy and living costs created strong inflationary pressures. The Russia-Ukraine war added a sense of sudden upheaval and instability that initiated a global economic slowdown, the aftermath of which impacted large parts of the world, including India. The uncertainty prompted investors to reinvest in their existing portfolios, which have proven to be dependable, scalable, and profitable.

The Short Tale Of Startup Deflation

According to the ASK Private Wealth Hurun India Future Unicorn Index 2023, only 24 startups from the list became unicorns (startups with a valuation of $1 Bn) last year, indicating a slowdown in India’s startup ecosystem. Additionally, 8 gazelles (startups that are most likely to go Unicorn in the next three years) were demoted to cheetahs (startups that could become unicorns in the next five years) and another 19 dropped out of the index entirely.

Does this mean the Indian startup and investment ecosystems’ pursuit of wealth creation and innovation is put on hold? Absolutely not.

The temporary deflation of the Indian startup ecosystem acted as an impetus for companies to adopt a balanced approach towards growth and profitability. For large startups with larger teams, the funding winter was a lesson in re-structuring— building a leaner and optimised workforce that focuses on recreating more efficient and effective business models. Early-stage startups witnessed better growth in this period since larger startups redirected their resources from aggressive marketing to customer acquisition.

The funding slowdown of the first quarter of 2023 prompted early-stage startups to grow beyond the ‘proof-of-concept’ stage and pushed larger startups to prioritise profitability in order to become unaffected by future external market conditions. As per Inc42’s data, the startup ecosystem witnessed a reassuring ascent from the February stats, reaching 15% month-on-month (MoM) to $1 Bn in May ’23 compared to $900 Mn in April ’23.

For investors, the funding winter acted as a litmus test, identifying clear emerging winners in the startup ecosystem. In the fast-paced world of innovation, the funding freeze allowed investors the opportunity to leverage lucrative deals in early-stage startups.

Navigating The Funding Winter

While the funding slowdown is expected to gradually come to a halt in 2023, good companies with strong business models will keep attracting investors all year round.

• To weather the funding winter, startups need to adopt cash optimisation strategies in their business operation processes, such as working capital management, limited research and development, and utilising proven marketing strategies to their utmost advantage.
• Startups that raised funding in the past year must explore ideas to extend cash runway as much as possible, including but not limited to putting large capital commitment decisions on the back-burner and revisiting debt repayment terms.
• Founders must focus on revenue generation by keeping track of key metrics such as lower customer acquisition costs, higher lifetime value for customers, and high customer retention via a value-added product that solves a core market problem.

For investors, the funding winter will result in more realistic valuations to match market realities, making this an opportune time to invest.

• Investors need to identify ambitious and talented founders that exhibit a strong aptitude for business and invest in companies that demonstrate passionate ideation with sound execution.
• Due diligence, especially in a funding crunch, is non-negotiable. Investors must build an ironclad filtering process that ensures only the most qualified companies with maximum potential for success make it into their portfolios.
• Investing is not a siloed activity anymore. Investors should seek avenues to build a network of fellow investors to support their portfolios.

Frequently asked Questions

Final Words

All investment cycles have their ups and downs. It is important for startups to undergo a period of funding slowdown in order to have a period of massive growth.

As the third largest startup ecosystem in the world, India will soon recover from what is going to be a short funding winter. After all, if winter comes, can spring be far behind?

Views expressed on Inc42 on July 9th, 2023