Best way to encourage India’s entrepreneurs is to stay out of their way

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Is the current slowdown in the sector a mere blip, or a precursor of grimmer tidings?

The folks at Flipkart are worried. Six months ago they began tapping new investors in the United States at an enterprise valuation of $15.20 billion (Rs 1,02,000 crore). To their dismay, no one bought in. Morgan Stanley, an early investor, last month wrote down the value of its investment in Flipkart by 27 per cent. That values India’s leading e-commerce marketplace at around $11 billion. Rival Snapdeal faces similar problems. Its $6.5 billion valuation is under pressure.

This begs a larger question: is the current slowdown in start-ups a mere blip, or a precursor of grimmer tidings?

According to a report by KPMG and CB Insights, venture capitalists (VCs) and private equity (PE) firms invested $1.15 billion in Indian start-ups in January-March 2016. That’s a steep fall of 24 per cent on the amount invested in October-December 2015.

Rewind to 2014 to get a sense of the decline. In the 12 months of that year, VCs and PEs poured $9 billion into Indian start-ups. At the January-March 2016 quarterly run rate of $1.15 billion, and assuming no further quarterly declines, the total investment in start-ups this year could be half of 2014.

That doesn’t spell Armageddon for start-ups. It’s just that valuations in 2014-’15 ran ahead of business models. Flipkart lost Rs 2,000 crore in 2014-’15. (The figures for 2015-’16 will be out only later this year.) Snapdeal lost Rs 1,328 crore.

Both e-commerce players have a discount business model. They sell products way below the maximum retail price (MRP). The hope is that once enough buyers are sucked into their universe, discounts can be steadily reduced to zero – and customers will still buy.

The bad news is that in urban India they might not. Brick-and-mortar stores are making a comeback and there are plenty of them around.

The good news is that in small-town India, customers will be stickier. They have fewer mall options; many none at all. Infrastructure is terrible. If you live in a small town in Uttar Pradesh and want a reasonably priced pair of designer shoes, Flipkart or Snapdeal will deliver them to your doorstep.

Sure, there are logistical problems. Customers complain of slow delivery or no-delivery. But even at MRP, hinterland India’s lack of consumer infrastructure will help Indian e-commerce companies retain customers even as they eventually phase out discounts.

Most start-ups are already cutting costs. Till now investor funds paid for their losses. That era could be coming to an end. In the real world, full-paying customers, not investors, provide revenue. Start-ups are unique in using “free” equity capital from VCs and PEs as surrogate revenue. That play can’t go on forever. Uber was among the first start-ups to recognise that. Valued now at $62.50 billion (Rs 4,22,000 crore), it will record a profit in its US/Canada operations in the April-June 2016 quarter. Uber earns 25 per cent per ride. In India it’s still losing money but runs a tight ship. It doesn’t waste money even on a customer helpline. All complaints are dealt with by email. (Sources reveal a customer care helpline in India could become operational soon).

Flipkart, meanwhile, is said to have $1 billion (Rs 6,650 crore) in the bank. It is trying to cut losses. A cash burn rate of over Rs 2,000 crore that it suffered in 2014-’15 is clearly not sustainable.

State governments aren’t helping. The Karnataka government on April 2 banned Uber’s surge pricing. Delhi followed suit. Anyone who has used Uber during evening rush hour knows the pain of paying up to 350 per cent more than the standard rate.

More worrying though is the new tax on inter-state e-commerce transactions. The Gujarat government passed a bill on March 30 levying an “entry tax” on e-commerce transactions.

National Association of Software and Services Companies (Nasscom), the software industry body, was rightly upset. In a statement, president R Chandrashekar said: “Such tax structures will lead to an additional burden on SME (small and medium enterprise) traders, increase litigation and also reduce business efficiencies. It will also restrict the choice of the customer. The e-commerce sector aspires to unify the country digitally into a single entity. Providing unrestricted cross-border access to sellers as well as buyers is the prerogative of the government and it’s an important driver towards creating an ease of doing business.”

Nasscom called the tax “flawed”, saying it was similar to introducing trade barriers to free inter-state trade, thereby restricting market access within the country.”

The tax is bad for two other reasons.

One, the Uttarakhand and West Bengal governments tried to levy a similar tax which has been stayed by the courts. The Gujarat entry tax will likely meet the same fate, as will similar attempts by Assam, Rajasthan, Odisha and Mizoram. Two, the implementation of the goods and services tax (GST) will anyway make such entry taxes invalid.

The Central government has tried to encourage entrepreneurship with schemes like Start-up India. The best way to encourage entrepreneurs though is to stay out of their way.

Source:  http://www.dailyo.in/business/start-up-india-narendra-modi-flipkart-snapdeal-nasscom-gst-uber-kpmg-sme/story/1/10161.html

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