A year ago, a startup announced a revenue of Rs 10 crore. And profit? Actually, it lost more than 150 crores!
If you are wondering, “In which universe does this all make sense?”, welcome to the magical world of VC funding, my friend!
Today, this funding game is unwittingly destroying promising startups – here is how.
Take the case of an entrepreneur who has a promising product but hasn’t figured out a way to generate profits. Being ambitious and impatient, he wants to grow quickly, for which, he needs a lot of money.
So he approaches VCs and lures them, promising the moon. The VCs smell a 10x (or 100x) return on investment and jump in.
And this is when disaster strikes.
What should the entrepreneur be ideally doing if his business model is not profitable? He should put the VC money in a bank fixed deposit, and first fine-tune the product to fix its profitability.
Then, and only then, should he start spending on growth. But that’s not how it works.
Once the VC investment comes in, the clock is ticking – the entrepreneur has to deliver massive growth to get to the next round of funding at a 3 to 5 times higher valuation.
So he hires recklessly, does random acquisitions, and blows up money on advertising, celebrities, IPL, and so on — anything to show ‘growth’ and get more investment.
And this circus continues until one day, he runs out of investors. Then, everyone starts talking about profitability. Sounds familiar?
Think about it: If your family business had a revenue of Rs 1 crore and a loss of Rs 5 crore, what would you do?
Shut it down or fix it. But the VC-funded entrepreneur does the exact opposite – he grows the losses from Rs 5 crore to Rs 20 or 30 crores to impress investors.
This perversion of incentives is what is driving this craziness in our startup world. And I am not sure how to fix it.
PS: I am not attacking VCs or entrepreneurs but the current system is broken. We can’t unsee what is before our eyes.
– Rajan