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Indian Startups: What Explains Reduced Funding in Startup India?

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Table of Contents

Top Reasons for the Slump in Funding of Indian Startups

Why Reduced Funding of Indian Startups is Temporary?

How Can Indian Startups Improve Funding?

Conclusion

India’s startup ecosystem, ranked third globally, comprises over 99,000 recognized startups and 108 unicorns valued at $340.80 billion, showcasing its robust growth. Indian startups contribute to innovation and job creation significantly, creating one million direct jobs in 2022. In 2023, the India startups ecosystem witnessed reduced funding, marked by a decline in both deal volume and funding amounts during the first half.

Venture Intelligence reported 332 deals valued at $17.6 billion, a notable drop from the previous year’s $21.7 billion. This funding dip, coupled with a decline in foreign direct investment inflows, reflects evolving dynamics in the Indian startups investment landscape.

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Top Reasons for the Slump in Funding of Indian Startups

Read and find out about the possible reasons for reduced funding of Indian startups, even in a booming India economy.

Global inflation

The rise in inflation rates globally has prompted central banks around the world to raise interest rates as a countermeasure against escalating prices. Naturally, this has a ripple effect on the borrowing expenses for startups and businesses. In India and startups, this pattern is leading to elevated interest rates on loans, subsequently affecting the cost of capital for startups.

Read on – Indian Economy in 2023: How Tech Sector Layoffs Is Having an Impact?

Tax considerations

The relocation of operations and headquarters from overseas back to India by numerous Indian startups has raised concerns among investors. This is due to the substantial financial burden associated with this shift.

Notably, PhonePe, a prominent fintech startup in India, recently relocated its headquarters from Singapore to India. It resulted in significant tax repercussions for its investors. This event, referred to as reverse flipping, emphasizes the intricate nature of tax regulations and how they influence cross-border business choices.

Indian Government’s assessment of startups

High-growth top startups in India frequently undergo swift expansion and valuation upswings that may not necessarily correlate with revenue generation. This disparity often seems to be a red flag for the tax authorities, presenting a challenge for the government to grasp the intricacies of these valuation dynamics. As a consequence, high-growth new Indian startup companies may encounter regulatory obstacles and face uncertainties related to taxation.

Demand for parity in taxes

Advocates in the startup ecosystem, entrepreneurs and investors alike, are pushing for tax equality between listed and unlisted shares. The primary goal is to establish an equitable playing field, eliminating potential tax disadvantages that startup companies in India may encounter when compared to well-established, publicly listed companies. Naturally, funding has reduced.

Complicated problems in capital flow

The Government of India has recently unveiled conclusive regulations on startup valuation and tax assessment for startup investments, following extensive rounds of feedback and consultations with stakeholders. Investors, aiming for more seamless investment processes and exits, had been advocating for streamlined corporate laws and transparent regulations. Due to uncertainties regarding ‘Angel Tax’ and constraints on foreign capital movements, getting capital proves to be complex for startups.

Complexities in obtaining clearance

Indian startups face delays in getting money from multiple investors because each investor has to do paperwork separately. This causes problems in how things work. To fix this, it is important to have a single system for clearance that can make the investment process smoother and improve how funds are allocated. Given that there is no such system as of now, obtaining funds clearance proves to be challenging for startups.

Limited issuance of convertible notes

Prominent figures in the industry are urging the government to extend the issuance of convertible notes to startups beyond the top 100 recognized by DPIIT. This strategic move holds promise in diversifying and broadening the spectrum of avenues through which newest startups in India can raise capital, fostering a more inclusive and supportive environment for burgeoning enterprises across the startup landscape.

Limited duration for funds

Industry stakeholders are strongly urging authorities to consider extending the allowable duration for funds held in escrow accounts. The proposal suggests stretching the current 18-month timeframe to a more accommodating 36 months.

The primary objective behind this recommendation is twofold: aligning India with global standards and addressing the unique funding dynamics of startups. Many startups secure capital incrementally, linked to the achievement of specific growth milestones, and a more extended escrow period would provide greater flexibility in navigating their capital-raising journeys.

Why Reduced Funding of Indian Startups is Temporary?

Indian startups ecosystem remains an attractive investment destination, buoyed by over US$20 billion in capital from India-focused funds. Despite recent concerns of a slowdown, H1 2023 witnessed a surge with 14 funding rounds surpassing US$100 million—a notable 17 percent increase from H2 2022.

The space technology startups sector witnessed heightened interest in AI-focused enterprises. Google, for example, made its mark in India’s space-tech sector by leading a US$36 million Series B funding for Bengaluru-based Pixxel.

We have also observed increased investments in electric vehicle (EV) startups, aligned with the push for clean energy of the Government of India.

The government is also actively collaborating with stakeholders, to tackle operational challenges and comprehends factors contributing to the funding decline.

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How Can Indian Startups Improve Funding?

Owners of start ups in India are advised to prioritize profitability, focusing on fundamental business principles. They should explore diverse funding sources, including government grants, angel investors, and corporate partnerships, to reduce dependence on traditional venture capital.

Cost management strategies should involve trimming low-priority expenses and vigilantly monitoring high-priority costs while aligning efforts with customer acquisition and retention.

It is important to leverage strategic partnerships to minimize customer acquisition costs (CAC). Indian startups should also focus on frugality and scalability after validation.

Data-driven decision-making, innovation, and collaboration, inspired by success stories like Netflix and Groupon during financial downturns, can be instrumental.

It is also crucial for the latest startups in India to foster transparency and trust with employees, customers, and investors, for long-term resilience and growth.

Read on – How Has the Indian Stock Market Performed in the Last 10 Years?

Conclusion

While the reduced funding of Indian Startups reflects current economic challenges, it is essential to recognize the underlying strengths of the ecosystem. With proactive government initiatives, industry resilience, and a vast pool of available funds, the downturn appears temporary.

Indian Startups can navigate these challenges by diversifying funding sources, forming strategic alliances, emphasizing profitability, and enhancing operational efficiency. The future outlook remains promising, with the potential for sustained growth and innovation in India’s dynamic startup landscape.


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