7 Lessons India's Investor Community Has Learned From Economic Instability The ups and downs of the last three years have led to investors relooking at their focus areas

The last two years have been no less than a roller-coaster ride for startup investors. It all started with the world coming to a halt due to the pandemic. Overnight, the business models or sectors that investors considered to be safest turned out to be the most fragile. And, the sectors that were considered slow, suddenly took off and showcased resilience, such as agritech, e-commerce, edtech, D2C, OTT, among others.

Cut to the new normal, some business models of pre-pandemic time are back on track and some that picked up the pace and achieved habit formation during the lockdown days continue to excel, while some others have even shut shop.

Due to all these changes, the investor community has witnessed several ups and downs and has had a tough time figuring out where to put money and how to get good returns. In addition to that, frauds at GoMechanic, BharatPe and Zilingo made investors relook at their due diligence strategies as well. Simultaneously, they have also been forced to stay cautious due to the global downturn, even though India has been in a better place so far.

These changes have led to investors learning some lessons and relooking at their focus areas. Here are some of these essential learnings that investors took from the unexpected turn of events in the last two years or more.

Focus on the financial health of portfolio companies

Investors have learned that startups should prioritize profitability over growth by focusing on unit economics, i.e., the cost of acquiring and retaining customers compared to their lifetime value. "This approach can help create sustainable businesses that can withstand economic downturns and market uncertainties," said Vikram Gupta, founder and managing partner, IvyCap Ventures.

Investors have now started focusing on the financial health of their portfolio companies and are urging companies to minimize cash burn and discover alternatives to extend their runway."They ensure that they have a solid plan to manage cash flow and maintain financial stability during market instability," said Sipika Nigam, principal, Artha Venture Fund.

"Many savvy companies are taking the route of non-equity financing, including debt financing. In fact, even companies that have just raised equity capital are opting for these approaches," added Nandini Mansinghka, CEO, Mumbai Angels.

Diversify investments across geographies and categories

Funds have now started diversifying their investment portfolio across different sectors, geographies, and stages. This they say will help mitigate risk and minimize losses during economic uncertainty. "The economic downturn and instability have provided us with several invaluable lessons that we have incorporated into our investment strategy. As a VC fund, we have realized that investing in portfolio companies across different industries can help safeguard against market fluctuations and mitigate risk," said Gupta.

Be patient and think long-term

In times of market volatility, it's crucial to maintain a long-term perspective and be patient with our investments. "While short-term fluctuations in the market may cause some concern, it's important to remember that successful investments often require time to mature and realize their full potential. We have seen some surprising turnarounds within our portfolio companies," said Nigam.

Support portfolio companies and communicate frequently

Investors have realized that instead of putting added pressure on entrepreneurs, it is important to stand by them and keep the communication channels open at all times. "During economic uncertainty, it's essential to support and work closely with them to help them navigate the challenges they may be facing," added Nigam.

In one of the blogs two years ago, Pauline Wink, general partner, 4impact Capital mentioned that communication and information provision from the start-up to investors is vital and vice versa. "This avoids negative surprises and allows investors to be best prepared to support the venture. It is a two-way street and to achieve result this requires trust and alignment between all parties," she said.

Invest in startups with strong leadership

The economic downturn has emphasized the importance of strong leadership. "We have learned that companies with resilient and adaptable leadership are better equipped to navigate crises and emerge stronger on the other side. Startups under strong leadership who can quickly adapt to changing market conditions are more likely to survive and thrive," said Gupta. Flexibility and agility in the leadership team, especially founders, are critical qualities that investors now look for in companies.

Do pre and post-investment diligence

Detailed pre-investment diligence has become critical for investors. "Apart from business diligence, it's important to deep dive into the financials, balance sheet and P&L, contracts, etc. And it is best to work with quality diligence service providers. In some cases, it is good to bring in a domain expert to understand how the current & future business stacks up against the competition," said Padmaja Ruparel, co-founder, IAN and founding partner, IAN Fund.

With capital becoming scarce, investors are mindful of where they put their resources. "Only startups with the right credentials and capabilities are being funded. There is now an increasing focus on due diligence, which will continue, and the bar has been raised when it comes to funding startups in the current environment. This will allow investors to identify and nurture startups that are promising and most likely to succeed in the future," said Mansinghka.

Keep innovation and technology at the core

When the startup boom started, innovation and technology was all that investors looked at before pouring in their money. With time, priorities changed. Today, investors are back to looking at whether technology has been a driving force behind innovation and growth in the startup.

"Consumer technology companies offer investors the potential for high growth and large addressable markets, mainly if they provide innovative solutions that solve real-world problems or address unmet needs. In other words, the focus is on technology-driven sectors that offer high potential for growth and profitability, along with other industries that are critical to our changing world," said Gupta.

"For us, although every downturn is different, having worked with founders and investors for over four decades, innovation will be the driving force for startups, and companies that prioritize it will be able to weather the storm more easily than those that don't," said Mansinghka.