Chemistry, not mathematics, rules mergers: Mohit Bhatnagar, MD, Sequoia Capital
The smartest entrepreneurs knew last year was an anomaly so they raised capital playing the game, put the money in a safe and threw the key away.
As growth funding began slowing for startups in crowded online markets in the second half of 2015, speculation increased that firms unable to run the long distance on their own would be acquired. But consolidation, especially among the portfolio companies of investors, is easier said than done. Mergers and acquisitions have to be driven by founders rather than investors, said Mohit Bhatnagar, a managing director at venture capital firm Sequoia Capital India. In an interview with Madhav Chanchani, Bhatnagar, who sits on the boards of Zomato and Dailyhunt, spoke about the distressed funding environment and the high rates of cash burn by startups. Edited excerpts:
Q. How have things changed now from the first quarter of 2015?
It was breathless the last 18-24 months and it was an anomaly, and things are exactly the way it should be right now. This is exactly the right time and environment to build companies. Right now talent can be hired at much saner salary levels. Last year if you spoke to entrepreneurs they were inking a deal and still on the road fundraising, constantly facing the battle of spending less time internally and more externally. Right now their heads are down and focused on operations
Fundamentals in the Indian internet market remains strong with consumer adoption of smartphones and spending getting better and better
It’s time to stop worrying about what your competitor might do if he has access to lots of capital and does some silly things, so you must do it as well. Its business as usual right now, and best companies get built in down times and normal times.
Q. How are companies used to certain burn rate to maintain high growth and raise more money adapting to this environment?
Companies were getting rewarded for high growth with large fundraises (last year). This year companies are not getting rewarded if they have exponential growth with broken unit economics. Since the reward has been taken away that investors are not looking are unbridled growth at whatever cost, companies themselves don’t have a wrong incentive to do irrational things.
Smartest entrepreneurs knew last year was an anomaly, so they raised capital playing the game, put the money in a safe and threw the key away. Others with the high burn startups, across all companies we see both within our portfolio and outside it, it is twice as normal to see burn rate levels in January-February which are half or one third of their peak levels.
The correction of reducing burn, focusing on what’s core to startups and cutting away businesses which are frills or adjacencies has already happened. But it is also a stressful time for young founders, as they are cutting costs and rationalising teams which takes on their own mindset. So while boardroom conversation is around cutting burn and focusing business, outside we are asking them keep their chin up as they need to stay balanced and neutral
Q. So given the tough times what are the options in front of entrepreneurs right now, especially those who will find it tough to raise money?
There are me too businesses and also those startups which had a certain thesis which did not work out. These businesses have two options – they have to use this downturn wisely to build fundamentals, or if it does not work out pivot or iterate into something consumers and enterprises will pay for.
Also the expansive mode that happened in the last 12-18 months because the bank balance for some startups was so high has also been cut short. Focus matters, so startups will only do things that matter. These two will be the biggest changes.
In India, given the cost basis on which we operate startups as compared to Silicon Valley so they can survive for a long time. But bigger question entrepreneurs need to decide is if they have conviction of building a business for next five years, as market will come back in 12-18 months.
Q. What’s your advise to entrepreneurs and startups staring at a downround?
What’s right for the company is the answer. People realise that lots of valuations being afforded last year was because the supply exceeded demand, and now there is more demand there is a natural pricing element which comes in.
Luckily for us at Sequoia, we have stayed away from crazy burn companies. And if we had high burn companies we went in early, asked them to cut burn and essentially help them raise a lot of capital before slowdown happened. If you look at our portfolio, even though we invested aggressively in last 12-18 months, more than 80% of the companies are funded for more than 12 months. Majority of our companies are entering this market lean mean and strong.
Q. Broadly do you think entrepreneurs have played the fundraising cycle well?
Some have, and some haven’t. I think last two years if you were articulate, and were a "hot company" as defined by a similar company existing in US or China you tended to get a lot of capital. But if you are a hard to understand story and an entrepreneur who was more son of the soil, who was focused on execution and not storytelling you may not have been that effective. Now that group of people are seeing all the love from the investor community.
Q. How do you think consolidation will play out as compared to 2012-2013, where it was mostly investor led?
I am still to see a company where an investor can go to the founder and say let’s merge. The biggest thing that happens in consolidation is not mathematics between investors but chemistry between founders. Putting two weak companies together only creates a weaker company. The only way it makes sense is two founders say that there is not enough capital in the market and come together to be more attractive to customers and investors. The most effective thing investors can do is put founders together and ask them to talk – they could come out hating each other or work together.