2024: Pursuit Of Profitability?

About a year ago, the startup ecosystem was grappling with numerous challenges, including a funding winter, concerns about profitability, sustainable cash flow, optimising cash burns and layoffs. Unfortunately, many of these headwinds persist.

According to data from GlobalData until November, Indian startups secured only $6.9 billion across 1,013 venture capital-funded deals. For context, the number was $20.2 billion in the same period last year, marking a significant 65 per cent decrease. Consequently, funding is expected to remain scarce for a more extended period than initially anticipated.

Layoffs continue to haunt every stakeholder in the startup community, whether promoters or executive-level employees. The numbers speak louder than words; over 15,000 employees were laid off by about 100 Indian startups in 2023 as the funding winter persists, according to multiple reports. This is a conservative estimate, with some reports claiming over 25,000 layoffs, a much-inflated figure.

Jumping Between Metrics

Amidst these negative developments, startups have interestingly adapted to the unfavourable market conditions and recognised the importance of fundamental business checks, such as cash flow and optimising cash burn. Several startups turned profitable this year, including Zomato, OfBusiness, Unacademy, Meesho, Swiggy, Oyo, Pharmeasy and more.

These startups have embraced different metrics to showcase their achievements. Arun Kumar, Managing Partner at Celesta Capital, says, "Depending on the specific life cycle stage of the startup and its technology, the pursuit of a path towards profitability has emerged as a significant focal point for investors." In the early stages, investors traditionally prioritise factors like market size, intellectual property and growth trajectory over immediate profitability. However, there's a growing awareness of the importance of laying the groundwork for profitability even in the nascent stages to ensure a sustainable and scalable business model in the future.

Metrics such as PAT (Profit After Tax), EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortisation), adjusted EBITDA, and performance over recent months or quarters have become focal points. This diverse set of metrics is employed to catch the eye of investors and gain their favour.

Scale Or Growth?

The pursuit of profitability should always remain the ideal path for startups. However, it seems to have become a temporary hibernation process that startups are following to stay in business. Is this happening at the cost of scaling? Ganesh Rengaswamy, Co-founder and Managing Partner at Quona Capital, explains, "At its core, the recent recalibration in the startup ecosystem reflects a return to fundamental principles that should have been ingrained from the beginning." The initial excitement fuelled by substantial funding often led to expectations of exponential growth at a pace disproportionate to the possibilities or scope of market opportunity.

This has now reset with a shift of focus towards sustainable growth, emphasising the importance of sound product-market fit and unit economics over the pursuit of rapid growth only.

With all these developments, the ecosystem has been evolving and investors have been updating their checklists. Ashish Sharma, Managing Partner at InnoVen Partner, highlights, "There has been an increased focus on unit economics because the global macro dynamics have changed." Unlike 2021-22 when money was cheap and capital flowed into the venture ecosystem at a record pace, the funding environment has been sluggish over the last 15 to 18 months, with a meaningful correction in tech valuations in both private and public markets. In times of scarce capital, good founders ensure that they can do "more with less," requiring a recalibration of the growth versus profitability trade-off, he added.

Prioritising Exits

There is a high possibility that these numbers are primarily driven by investors' agenda to make their way to exit, mainly via IPO. However, amidst this profitability trend, a critical question arises: Are the impressive figures on paper sustainable? The answer is, indeed, that they are real. However, concerns about their longevity persist. Is achieving profitability only viable through growth at the expense of scaling and discontinuing non-profitable verticals?

Kumar added, "We expect the resurgence of the IPO (Initial Public Offering) market to likely take some time. With alternative means to access capital, especially through private equity and hyperscalers in the M&A market, far fewer companies are going public globally than even just a few years ago. The IPO market has also slowed for later-stage companies as they look to stabilise and perhaps rebound their valuations, with many shifting their business strategies towards profitable growth."

Over the past few years, there has been a trend of startups aiming for rapid growth as a means to achieve profitability. However, this strategy carries significant risk. While calculated experimentation is integral to driving meaningful disruption, entrepreneurs must approach this path with careful consideration.

Will this continue in 2024? The answer is likely "yes." Sandiip Bhammer, Founder and Co-managing Partner at Green Frontier Capital, opines, "Profitability shall always remain an important consideration as investors will still expect startups to demonstrate a path towards profitability, especially in uncertain economic times. But this will not happen at the expense of scaling - completely sacrificing growth for immediate profitability might not be sustainable in the long run, especially for early-stage VC investors. The key is to find a balance. Startups will likely prioritise optimising their operations and finding cost-effective ways to scale, maximising their runway without burning excessive cash."