February 26, 2024

Value Creation Over Valuation

By Yashveer Yadav, Chief Business Officer – India, Oister Global

India’s startup scene has witnessed an undeniable boom, with billion-dollar valuations and “unicorn” statuses becoming all too commonplace. Yet, amidst this celebratory frenzy, a critical question arises: are we focusing too much on valuation and neglecting the fundamental aspect of value creation?

Prioritizing value creation over inflated valuations is crucial for the long-term health and sustainability of the ecosystem. While valuation measures a company’s worth based on its perceived potential, value creation focuses on the tangible benefit it delivers to customers, investors, and all stakeholders.

The obsession with high valuations can be detrimental. Chasing this metric at all costs can lead companies down a dangerous path, prioritizing rapid growth over building a solid foundation. This results in unsustainable practices, compromised quality, and eventually, disillusionment when reality falls short of inflated expectations. As Harvard Business School professor Michael Porter argues, “The goal of any business is to create customers, not stock quotes.”

This “valuation frenzy” creates a disharmony where priorities are skewed. When inflated valuations outpace actual value creation, it’s often a signal for investors to exit. Conversely, when value creation surpasses valuation, it presents an opportunity to build a strong position in a company with solid fundamentals.

The dynamics of value creation differ across industries. Consumer businesses typically see value precede valuation, as customers experience the product’s worth before its market perception catches up. Technology businesses, however, often require substantial upfront investment to build technology and achieve scale, leading to early valuations based on future potential. This necessitates a longer-term perspective, where value creation comes after establishing product-market fit and scaling effectively.

Similarly, early-stage startups may rely on initial valuations to attract funding and build their foundation. However, as they mature, the focus should shift towards demonstrating measurable value creation, which will naturally lead to sustainable and justified valuations.

For investors, partnering with funds, managers, and entrepreneurs who prioritize long-term value creation, while remaining mindful of sensible valuations, is key. This strategic approach fosters sustainable growth and minimizes the risk of investing in inflated bubbles.

Here are some key takeaways for investors and stakeholders in the Indian startup ecosystem:

  1. Focus on fundamentals: Look beyond the hype and assess a company’s core business model, customer value proposition, and long-term potential for profitability.
    1 Harvard Business Review, 1996
  2. Track metrics that matter: Monitor key metrics that demonstrate actual value creation, such as customer acquisition cost, customer lifetime value, sustainable revenue growth, unit economics and profitability.
  3. Prioritize sustainable growth: Don’t be swayed by the “get big quick” mentality. Encourage companies to focus on building a solid foundation and achieving organic, sustainable growth.
  4. Advocate for responsible valuations: Encourage founders and funds to be realistic about valuations and avoid the temptation to inflate expectations for short-term gains.

By shifting the focus from fleeting valuations to genuine value creation, the Indian startup ecosystem can build a future that is not only exciting but also sustainable and beneficial for all stakeholders. This requires a collective effort from investors, entrepreneurs, and policymakers to prioritize long-term vision over short-term hype, where every “unicorn” is not just a gold rush fallacy, but a symbol of genuine value and lasting success.

Frequently asked Questions

Q. What is the significance of prioritizing value creation over valuation in the startup ecosystem?
A. Prioritizing value creation is crucial for the long-term health and sustainability of startups. It focuses on delivering tangible benefits to customers, investors, and stakeholders, rather than merely achieving high valuations based on perceived potential. This approach ensures the development of a solid foundation, sustainable practices, and real growth, avoiding the pitfalls of rapid but unsustainable expansion.
Q. What are the potential downsides of startups focusing excessively on achieving high valuations?
A. An excessive focus on valuation can lead startups down a dangerous path of prioritizing rapid growth over solid fundamentals, resulting in unsustainable practices, compromised quality, and eventual disillusionment when the reality falls short of inflated expectations. It can create a valuation frenzy that misaligns priorities and may signal investors to exit.
Q. Do the dynamics of value creation and valuation vary across different industries?
A. Yes, the dynamics differ significantly across industries. Consumer businesses often see value precede valuation, as the product’s worth is experienced by customers before the market perception catches up. In contrast, technology businesses may require substantial upfront investment, leading to early valuations based on future potential, necessitating a longer-term perspective for value creation.
Q. What key aspects should investors consider when evaluating startups in the Indian ecosystem?
A. Investors should focus on fundamentals, tracking metrics that demonstrate actual value creation, prioritizing sustainable growth, and advocating for responsible valuations. This approach helps in identifying startups with solid business models, customer value propositions, and long-term profitability potential, fostering sustainable growth and minimizing the risk of investing in inflated bubbles.

Views expressed on The Economic Times on Feb 23, 2024

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