When Jabong, the Indian fashion etailer backed by German Internet conglomerate Rocket Internet, was acquired in July, it was an expected move. Founded in 2012, Jabong was on the block for over a year. Wooed by suitors like Snapdeal, Aditya Birla Group and Future Group, it was finally snapped up by Myntra, the country’s leading fashion etailer and a subsidiary of Flipkart, India’s biggest etailer.

What did make news, however, was the price at which Jabong was acquired. At $70 million it was way below the expected figure of $250 million to $300 million. At its peak a couple of years ago, when it was negotiating with Amazon, Jabong had a price tag of $1.2 billion. Industry experts say that a weak business model, inefficient execution, senior level churn, loss of market share and most importantly, investors’ refusal to pour in more money, all led to a once-bright star losing its sheen.

Jabong’s trajectory is pretty much indicative of the turmoil gathering pace amongst Indian startups. Devaluations, shutdowns, mergers & acquisitions, layoffs and funding crunches have been rampant in recent months. “Many venture funds pushed companies to become unicorns ($1 billion valuation) just because they wanted bragging rights. In some sectors valuation went ahead of value creation. Now there is a catch up happening,” says T. V. Mohandas Pai, chairman of venture capital fund Aarin Capital Partners.

K. Ganesh, serial entrepreneur, partner at entrepreneurship platform Growthstory.in and chairman of Portea Medical, points out that in 2014 and 2015, for the first time several new investors like global hedge funds and late-stage private equity (PE) funds started playing in the Indian venture capital (VC) ecosystem. Not only did a lot more money come in, these investors were also valuation insensitive. As a result, startups could raise more money at higher valuations than normal and the subsequent funding rounds were being done much faster and quicker.

“Many venture funds pushed companies to become unicorns just because they wanted bragging rights.” –T.V. Mohandas Pai

“This was a temporary aberration and now normalcy has been restored,” says Ganesh. “Investors have started stressing more on profitability, path to profitability, unit economics and basic business model defensibility as against growth, GMV (gross merchandise value), market share, etc. In the current environment, the bar to raise money has changed; a lot more questions have to be answered and a lot more proof of concept needs to be demonstrated.”

Take Flipkart itself. Founded in 2007, Flipkart has raised around $3.2 billion till now from investors such as Tiger Global, DST Global, T. Rowe Price and others. When it last raised funds in 2015 the company was valued at $15.2 billion. Since then its valuation has seen a downswing and is currently at around $10 billion. In May 2016, HSBC’s brokerage arm HSBC Securities and Capital Markets slashed food delivery and discovery startup Zomato’s valuation by half to $500 million. Etailer Snapdeal, which was earlier valued at $6.5 billion, is also reported to be struggling to raise fresh funds at this level. The market buzz is that Flipkart, Snapdeal and Zomato along with some others are prime candidates for acquisitions by global majors wanting to make their mark in India.

Venture Intelligence, a leading provider of data on private company financials, transactions and valuations, notes while from April 2014 to March 2016 there were around 29 acquisitions in the Indian tech startup space, from April this year to mid-August the number has shot up to around 40. Venture Intelligence also notes that in 2015, 16 VC-funded startups shut shop during the course of the year. In 2016, from January to July itself an equal number of startups have already folded up. These include Fashionara, PepperTap, Zippon and Murmur. Post July, shutdowns include Exclusively, a fashion portal which was acquired by Snapdeal last year, TaxiForSure which was acquired by cab-hailing app Ola last year, and online market place and classified portal Askme.com.

“Many startups in India are facing multiple challenges at present. These include both early-stage as well as mid-stage startups and are companies that have either reached the ceiling of their current business model or are unable to raise funds,” says Sreedhar Prasad, partner – business consulting at KPMG India. He points out that these are “classic cases” of companies with “weak business models that are dependent only on funds” to grow. “They all seem to be reaching a stage where acquisition is the only option,” he adds.

Anjan M.K., engagement lead at Zinnov Management Consulting, notes: “Running a startup is like performing a Produnova (a complicated gymnastic move). This downturn is probably the first somersault of the act and we might have another one in a few years’ time. Some could break their necks while others might just land safe. Few would go on to win.”

Anjan suggests that while there will be a cash crunch for startups in certain sectors, “those with sustainable business models and deep tech at their core” should continue to do well. He adds: “While the past few years were all about growth and customer acquisition, we believe that the next few years will be about profitability – especially in sectors where a lot of capital has been invested.”

Losing the Sparkle

Senior level churn has also been making news. Mukesh Bansal, cofounder of Myntra and head of commerce at Flipkart (after it acquired Myntra in 2014) quit in February this year. He was followed by Flipkart’s chief business officer Ankit Nagori, chief product officer Punit Soni and legal head Rajinder Sharma. At Myntra, the exits include head of commerce Prasad Kompalli, head of fashion brands Abhishek Verma, chief creative officer Gautam Kotamraju and finance head Prabhakar Sunder. At Snapdeal, chief product officer Anand Chandrasekaran, senior vice president of marketing Srinivas Murthy, and head of strategy Ranjan Kant. At Zomato, chief product officers Tanmay Saksena and Namita Gupta. At InMobi, senior vice president Samuel John, finance head Manish Dugar, vice president of engineering Naresh Agarwal, head of strategy Khushboo Gupta and vice president-finance Ravikiran Vadapally. The list goes on.

Many of these executives came from established Indian firms and multinationals to partake in the Indian startup story. While some have moved to other startups, others have simply moved out suggesting a lack of confidence in the startup ecosystem.

This has also been the period of freeze in pay hikes and jumps in pink slips. In August, Ola, which counts Japan’s SoftBank Group as a major investor, shut down TaxiForSure, which it had acquired last year for $200 million, and showed 700 employees the door. Flipkart recently laid off around 1,000 people as part of its cost cutting exercise. Others who have let go of people over the past few months include Snapdeal, Zomato, food ordering service Food Panda, local services marketplace LocalOye and online house rental startup Grabhouse.

Kris Lakshmikanth, founder, CEO and managing director of executive search firm HeadHunters India, notes that earlier, thanks to free flow of funds and a massive rush to show growth, startups were over hiring at inflated salaries. People shifted easily from one startup to another at an average of 60% increase in their salary package. Top performers could wangle a 150% jump. For professionals from the Silicon Valley, Indian startups were willing to pay whatever it took. “It was a mad gold rush,” says Lakshmikanth.

In the current situation of minimal or zero pay hikes, the job situation he feels is “very much like the dot-com bust and the Lehman debacle.” Many people now prefer the safety of the old economy. “They are willing to take as much as 50% cut in their salary package,” says Lakshmikanth, adding: “I expect that the excesses will get wiped out and normal salary increases and normal hiring in startups will start by end of 2017 and early 2018.”

“In the current environment, the bar to raise money has changed.” –K. Ganesh

Meanwhile, some startups have raised the hackles of educational institutions, including prestigious ones like the Indian Institutes of Management and Indian Institutes of Technology, by deferring joining dates of campus recruits, reducing compensation terms, altering job profiles and changing placement locations. Some startups have even revoked their offers. The educational institutions in turn are now blacklisting startups that reneged on offers made to graduating students and are issuing warnings to firms that altered joining terms.

Funding Crunch

The biggest problem startups are facing at present is a funding crunch. While different reports give different figures for PE and VC investments based on different parameters — for instance, some agencies include data only from those firms which are structured as PE/VC firms and exclude family offices and individuals, etc. — all of them point to a downswing. According to Venture Intelligence, from January to June 2015, India saw PE investment of $7.31 billion across 373 deals and VC investment of $970 million across 242 deals. During the same period in 2016, PE dropped to $7.16 billion across 314 deals and VC dipped to $646 million across 211 deals. VCCEdge, a research platform for the Indian investment ecosystem, has put out the following figures: From January to June 2015, PE investment was $11.9 billion across 776 deals, while VC investments were around $2.85 billion across 278 deals. From January to June 2016, PE dropped to $6.2 billion across 667 deals while VC was at $1 billion across 183 deals.

“In the 2013 to 2015 period there was a funding euphoria. A lot of people put in lot of money and very quickly. Investors were willing to invest in aggressive growth models. Today, investors are taking conscious and clear investment decisions. The deal cycle has become longer and this is putting a lot of pressure on early-stage startups which need money quickly,” says KPMG’s Prasad.

What Lies Ahead?

Cash is air for startups. And this raises important questions. Will the funding winter choke them? What lies ahead for Indian startups?

“The phase of irrational exuberance is over. Of course, there will be flavors of the season, but overall I expect to see more diversified and sensible investments,” says Rishikesha Krishnan, professor of corporate strategy and policy at the Indian Institute of Management Bangalore and currently director of the Indian Institute of Management Indore. Harminder Sahni, founder and managing director of management consultancy firm Wazir Advisors, adds: “I suspect now on there will be more scrutiny and due diligence of not only business ideas but also of the entrepreneurs themselves.”

Wharton’s Kartik Hosanagar, professor of operations, information and decisions, believes this is “a natural curve” but adds that “the next 12 to 24 months will be a bit like the period after the dot-com bust.” He notes: “Funding will be extremely difficult to obtain in the next few months especially around ecommerce. As a new investor, it’s a risky gamble. This is because the quantum of funds needed will be high and it’s unclear how Flipkart vs. Amazon vs. Snapdeal will ultimately shakeout. Current investors will need to decide whether they want to continue investing or just sell the business.”

“The next 12 to 24 months will be a bit will like the period after the dot-com bust.” –Kartik Hosanagar

Arun Natarajan, founder of Venture Intelligence, however, is more optimistic. He points out that several seed capital funds and India-dedicated VC firms including Sequoia Capital India, Kalaari Capital, Nexus Ventures and IDG Ventures India have raised new funds in the last 12 months. Also, several family offices, like that of industrialist Ratan Tata and the founders and executives of Infosys, have turned active startup investors. “So, there is sufficient ‘dry powder’ available within India to support new startups as well as existing portfolio companies [provided they are] able to demonstrate traction.”

Natarajan adds that given India’s growth potential, Indian startups “should also be able to attract sufficient long-term focused foreign investors as indicated by the increasing investments here by VC and strategic investors from Japan, South East Asia and China.” A recent example is the $175 million investment in August from Tencent, the founder of WeChat, China’s bestselling instant messaging app, and Foxconn Technology Group from Taiwan, in Hike, the Indian messaging app founded by Kavin Mittal. This is one of the largest investments in Indian startups in 2016 and values Hike at $1.4 billion.

Ganesh expects the current funding slowdown to separate the men from the boys. “Models built for earlier momentum play without basic core economics will fold up. And ‘opportunistic entrepreneurs’ — those who saw entrepreneurship as easy extension of corporate employment — will fall away. All this is good for the ecosystem.” He outlines a winning recipe for Indian startups: Be a full stack company that can solve the full problem of the consumer and not just parts. Create your own brand. Solve a big pain point. Have a clear monetization model and viable unit economics. Differentiate yourselves. Don’t be a me-too player. Raise the bar consistently in terms of delivery, design, scale and funding to create moats for your business. Get the core model right; no amount of funding can make a broken business model work.

“I think the winners will be savvy about data,” says Hosanagar. “They will use data to figure out who are the best kinds of customers to acquire and who to avoid. They will use data to figure how to retain users longer and how to upsell products and increase customer lifetime value. Besides data, the other important piece will be how they manage logistics to get higher efficiency and service quality.” Hosanagar believes that startups that can navigate through the next 24 months will do very well.

For Sahni, the winners will be “those who will have original ideas and are able to scale in a sustainable manner. The real money will flow into startups that try new products, like Paper Boat (ethnic drinks) and launch new brands, like Yepme.” Says IIM’s Krishnan: “The ability to identify and solve real problems for their customers and add real value to people in their daily lives and businesses will be a winning differentiator.”

In the coming months, B2C etail, food-tech and hyperlocal delivery startups are expected to see a massive shakeout while fin-tech, ed-tech, IoT and B2B startups are likely to be on the upswing.

Competing with the Global Giants

Even as Indian startups work at getting their act together, global giants are upping their game here. In July 2015, Uber announced a $1 billion investment in India. At that time CEO Travis Kalanick had said that India had the potential to be a bigger market for Uber than the U.S. and China. Now, with Uber recently bowing out of China by selling its business there to market leader Didi Chuxing, it is expected to push in India with renewed vigor. The Uber-Didi merger shows the way ahead for Indian startups, T. C. Meenakshisundaram, cofounder and managing director of IDG Ventures India, said in a media interview. “Everyone cannot create billion dollar companies, and sometimes investors don’t see the value in a company when there are too many players in the sector. Exit is better than shutting down.”

Amazon, which entered the India market in June 2013, is already pushing the pedal hard. Like Uber, Amazon too has been squeezed out of China and is betting big on India. In 2014 it had announced an investment of $2 billion. In June this year, it announced an additional investment of $3 billion. India is Amazon’s fastest growing market and has apparently even surpassed the company’s “most ambitious milestones.”

“It will be a long road from here to great large businesses.” — Nikesh Arora

Earlier this year, Amazon became India’s second largest online marketplace by shipments and GMV overtaking Snapdeal. It was also the only major player to increase its market share from March 2015 to March 2016 as per industry estimates. While Flipkart’s market share dropped from 43% to 37% and Snapdeal’s from 19% to 15%, Amazon’s grew from 14% to 21%. In July, Amazon launched its popular subscription-based program Amazon Prime in India to drive customer loyalty. This could well be a game changer in a market that has so far been attracting customers through steep discounts.

In a media interview, Satish Meena, a senior analyst with Forrester Research, said: “If Flipkart is not able to get its act together in the next six to 12 months, Amazon can overtake Flipkart also.” Wharton’s Hosanagar adds: “Amazon has done incredibly well so far. This is partly because they are willing to spend so much and can leverage a lot of the technology they have built and honed in the U.S. Their India team appears to be very good.” Agrees IIM’s Krishnan: “I see Amazon surging ahead. It has shown the willingness to understand the Indian market and tweak its models to suit this market. Combine this sensitivity with its experience and resources, and you have a winner.”

Meanwhile, Alibaba, which so far has been a strategic investor in India (with investments in Snapdeal and Paytm) is also expected to enter the Indian ecommerce market directly by early next year. According to the industry grapevine, the Chinese etailer has started putting together its India team and is also in discussions to acquire online marketplace ShopClues which is valued at around $1 billion.

Prasad of KPMG is bullish. He believes that “even though global players like Amazon, Uber and Alibaba are a competitive threat for Indian startups, they will also grow the market and force Indian startups to innovate faster.” Pai adds a note of caution: “The only way forward for Indian entrepreneurs is to start becoming efficient, stop losing money and focus on execution excellence.”

Pai offers another perspective: “India is sadly becoming a battleground for American and Chinese companies and Indian capital is losing out.” Pointing out that in China, 65% of VC funds is Chinese money while in India, only 5% comes from domestic capital, Pai says: “The Indian capitalists want assured returns with no risks. This mindset has to change. They should allocate at least 20% to 25% of their funds for venture capital.”

Until that happens, foreign money will continue to play an important role in the Indian startup ecosystem. Nikesh Arora, ex-president and COO of Soft Bank, who backed many Indian startups like Snapdeal, Ola, online grocery retailer Grofers, budget hotel aggregator Oyo and realty portal Housing, said in a recent media interview: “Indian startups are going through a phase of consolidation both of their sectors as well as their positions. It will be a long road from here to great large businesses.”