Prudent investment behaviour is the clincher for fund houses

Amid funding winter, Indian startups are fighting for breathing space. Spate of layoffs, and other cost cutting measures are being undertaken by startups all over for almost a year now. The aim is to get a long runway till sentiment recovers. The process has not only destroyed lot of wealth, but has dealt a blow to employees, who are subject to job losses; suffice to say that all stakeholders have suffered. But there are hardly any discussions on fund houses- venture capital and private equity ones. In the last one year, VC funds have written up huge amount of funds across the world and India is no exception.

At the same time, many fund houses have been trapped by investing in higher valuations in startups while valuations have eroded across the board. Last week, SoftBank Vision Fund reported a loss of $32 billion for the financial year ended March 2023. SoftBank Group is the most prolific investor of tech-powered startups across the world. Its portfolio in India includes Swiggy, Ola, Unacademy, Meesho and Cars24, among others. Since the beginning of funding winter, several SoftBank-backed startups in India have laid off over 5,000 employees. Sequoia Capital is another major fund house which had to write off its investments in several startups. After FTX saga, the fund house had to write off close to $210 million of its investment and Sequoia its total investment in GoMechanic after corporate governance issues cropped up in the startup. Currently, many of its funded startups are facing valuation drop given the inability to raise further rounds. As a matter of fact, there is not a single fund house that has invested in India which has not faced the trauma.

Notably, PE and VC funds are one of the primary drivers of valuation bubble across the world. Flooded with easy capital as the US Federal Reserve printed dollars during the Covid pandemic, most fund houses raised huge amount of funds from LPs (limited partners). In turn, these funds were routed to the new-age companies, creating valuation bubble. As capital became easily accessible, startups lost the basic tenets of business and indulged in unbridled expansion without profitability in sight.

So, when the US Federal Reserve and central banks raised interest rates to tame high inflation, it hit the startup world and fund houses hard. Facing the funding crunch and losses in their portfolio, they become conservative. As startups are not able to raise capital, they hit the cost saving button in panic mode. Subsequently, thousands had lost jobs and the startups are struggling for survival while fund houses are sitting on the sidelines waiting for the time to change. Meanwhile, the silver lining is that fund houses are sitting on piles of cash and are waiting for the right time to deploy it. Therefore, when the tide turns, so will the flow. Meanwhile, the once bitten twice shy fund houses would have learnt their lessons from the massive valuation drop and write offs and may turn prudent in their investment behaviour.