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The Definitive growth equity guide for rest of 2020 The RainMaker Group
Playing the long game
Executive summary: Beyond blinding glimpse of the
obvious
Multiples will crash and capital will be scarce
is a blinding glimpse of the obvious. We company is a Destiny’s Child, A Survivor, A
believe that reality will be a lot more nuanced Coin Toss Wager or A Second Life Warrior
in the venture backed growth equity world (see our framework in section 3).
for the rest of 2020. We expect growth funding for the rest of
Over the last three weeks, we spoke to 2020 to fall to USD 2.0-2.5 BN across 40-50
dozens of global & domestic investors active deals as against ~ USD 10 BN across 150-200
in India’s growth stage ecosystem. We growth deals witnessed in 2019. We believe
layered that with learnings from our unique ~ 80% of this capital would be cornered by
vantage point of being a top tier dealmaker Destiny’s Children and Survivors.
in India’s start up milieu. Here is what we Two macro trends that will gain further
believe will play out over the coming months. traction is that secondaries will remain the
While India based investors will start primary source of exits and investor attention
participating actively in growth deals (USD will become more binary than ever. Two
15-100 MM rounds) within three months more trends that will pick up pace is
from now; overseas investors, who have shrinking deal sizes (mega rounds will
really fuelled growth capital boom of 2019 become rolling rounds; bridge rounds will
will start becoming active within six months. become drip rounds) and return of structured
Private equity and sovereign wealth funds deals (we expect 50% of the growth deals to
would be the most active source of fresh have structured elements around conversion
capital, besides existing investors for this prices/ liquidation preference).
period. This also means that most of the If you’re a stakeholder in a Destiny’s Child,
action may remain concentrated in you can celebrate; if you have a Survivor on
companies that are larger/have more mature your plate, you can breathe easy; but if you
P&Ls . The overall funding environment will run a Coin Toss or Second Life business, the
remain muted, but there is no one size fits all time to action plan B and C starts now. The
approach to how it impacts you as an circumstances that we see around us are
entrepreneur or a board member/portfolio nothing like we have seen before and it's
manager. It depends on whether your time to embrace your stereotype.
The Definitive growth equity guide for rest of 2020 The RainMaker Group
Playing the long game
Part 1: The context
The largest economic revival package in history has meant that liquidity has trumped earnings for
US stocks. After the recent bounce back, the DOW is down by a mere 18% and the tech bellwether
NASDAQ down by a mere 9% from the peak.
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Dow Jones -18% -1%
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2-Jan 24-Jan 15-Feb 8-Mar 30-Mar 21-Apr Nasdaq
-9% 4%
Composite
Dow Jones S&P 500 Nasdaq Composite
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90
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2-Jan 12-Jan 22-Jan 1-Feb 11-Feb 21-Feb 2-Mar 12-Mar 22-Mar 1-Apr 11-Apr 21-Apr
The Indian start-up ecosystem was poised to record at least half a dozen exits by IPOs in the
coming 18-24 months. Those plans will get pushed ahead by at least 12 more months:
• Business P&Ls will take longer to pass the muster of public markets
• Market sentiment is expected to remain muted
• Prospects of trade sales in cash for over half a billion dollars will remain weak as most large
buyers would remain in cash conservation mode
(Indexed to 100)
Founders and boards had set in social distancing and work from home norms well before the
lockdown was formally in place and most have shown alacrity when it comes to cash conservation.
Our conversations suggest measures such as halting discretionary spends to zero, contract
renegotiations, conversion of fixed costs to variable costs wherever possible and workforce
rationalization (in inevitable cases): anything and everything that extends runways.
The fact that most businesses valued > USD 100 MM are better capitalised than ever, thanks to a
bumper 2019 for fund raises has tempered potential distress.
In addition to these tactical measures, business plans have been revisited to account for worst case
scenarios. Several start-ups have gone ahead to innovate on their customer outreach ( on ground
sales force resorting to virtual meetings; buy now, cancel later) and have forayed into adjacencies
to keep the cash registers ticking.
• Public market companies, starting with IT services giants have started presenting their quarterly
earnings and guidance for the year ahead. We expect the management commentary to dampen
the sentiment
• Private company MIS’s will report near zero revenues for April and May for the first time ever
• The INR’s depreciation against the USD by 8% since the beginning of the year and its impact on
the mark to market valuations of existing portfolio would further dent confidence
Expect investor sentiment in May to be at an all-time low, no matter how well you are prepared
for it.
The total coverage universe for these in the Indian start-up ecosystem is no more than 30 to 40
companies. Given that they track these assets regularly, we expect them to be the most active
source of capital for businesses with a revenue run rate of > 50 MM, with high gross margins or
those valued >USD 500 MM. We also foresee them becoming increasingly active in the
secondaries market, especially in companies that are on the verge of profitability and a step away
from IPOs.
Our conversations in this spectrum suggest a divided house: i.e. whether the recovery would be L
shaped recovery or V shaped. While the jury is out on the nature of recovery in demand, the
consensus is that these funds are expected to be active once the debate has settled and they have
seen around three months’ P&L post the lockdown.
The strategics
Through the second half of 2019, global internet strategics had slowed their pace of investment
in India on the back of increased scepticism on the prevailing valuations. Their focus over the next
one quarter would remain on their existing portfolio companies or those that they are strategically
aligned to. Going forward, we see them playing a more important role in India’s growth equity
ecosystem, especially because their market caps and balance sheets have weathered the storm
well and the prevailing sentiment presents the best opportunity to take a long-term view of a
market where paradoxically, lower margins and lower capital efficiency creates barriers to entry.
This bucket of investors has been driving liquidity and valuations in the Indian start-up ecosystem
over the last two years. Our conversations suggest that investors from China, Japan and Korea
have a more bullish outlook towards the Indian market, given the faster recovery to business as
usual in their home markets. We expect participation from US investors to be more muted for
some time to come. Predictable and value driven opportunities in home markets may keep India
on the peripheral vision of these investors for some time to come.
Crossover funds
Investors who traditionally operated in the public market but have been active in growth stage
privates over the last two years will go back to their knitting. The valuations in the public markets
are too tempting for them to pursue the adjacencies barring a ‘last round before IPO’ kind of
opportunities.
-Seinfeld, 1989-98
Archetype #1: The Destiny’s Child
“There is a tide in the affairs of men. Which, taken at the flood, leads on to fortune”
• There is a high likelihood that you are in the edtech, digital media/gaming, delivery/ groceries,
global SaaS business
• You have a runway that extends to 18 months or more without compromising your growth plans
• Potential investors are still calling you and asking for the latest MIS
• Your revenue is still going up and scale is improving your margins
Prognosis
• Rules of gravity and all the doomsday theories do not apply to you
• You can expect the momentum of investor interest in your business to continue, with an
increasing upward bias on valuations
Case studies
-Scarface, 1983
• There is a high likelihood that you are in the vertical commerce, vertical classifieds, logistics or
domestic SaaS business or operate in buckets of fintech that have weathered the storm
• You were EBITDA positive or had a clear path to get there within the next 12 months (or) your
numbers unarguably suggest that if you temper your growth, you can become profitable
• Your business was growing, you had inbound interest from investors till the skies fell down
• Your business has come to a standstill, might remain so for the next couple of months but you
have an 18-month runway or more
• Your FY21 revenue would equal or trump your FY20 revenue despite the lockdown and slow ramp
up
• You have already cut costs to the bone to preserve cash, but can ramp back when demand
recovers
• You are valued USD 100 MM or more and your existing investors are bullish about your medium-
term prospects/ you are too big to fail, with over USD 1 BN in valuations or have raised at least
USD 200 MM till date
Prognosis
• You can expect to raise capital in the next 9-12 months. While it will not be easy, the
fundamentals of the business and the minimum critical pools of capital looking at assets like you
will see you through
• Expect downward pressure on valuations, especially if your last round was at rich multiples
• Many survivors would choose to wait out for the next 12 months in anticipation for sunnier times
Case study
“Flip a coin. When it’s in the air, you’ll know which side you’re hoping for.”
• Your business may recover in 3-6 months but you don't have runway to become cash flow
positive
• Your last round was a function of a buoyant market and a fair part of the same was contributed
by inside investors
• Inbound interest from new potential investors in the last 3 months has been muted or non-existent
• Your FY21 revenue would be lower than your FY20 revenue
• You have cut costs to the bone and ramp up back would be tough
Prognosis
• Raising funds would be an uphill exercise, your first priority should be to rally funds from inside
investors, at any terms
• Your second priority should be to reach out to the entire growth equity universe irrespective of
the ticket size and valuations they can offer
• Expect valuations to be lower by 30-50% from last discovered valuation with participation
preference in most cases
• Dispassionately evaluate the prospects of a smart trade sale/consolidation over severely shrunk
operations
“That's life, that's what all the people say You're riding high in April, shot down in May. But I
know I'm gonna change that tune when I'm back on top in June”
-Daria, 1997-2001
• Fund raise was tough even before the pandemic struck and there hasn’t been much inbound
interest over the last six months
• You do not have runway beyond twelve months, and you need to grow 3X or more your size to
break even despite all cost cutting
• Your revenue for FY21 would shrink over that in FY20
• Your last couple of rounds have been only by inside investors and now they do not feel optimistic
around extending the bridge funding anymore
Prognosis
• Getting exits in the best of times is tough, in an environment when everyone is looking to
preserve cash it becomes exponentially harder. Be at peace with the fact that even a reasonable
exit would take 9 to 12 months
• Your first priority should be to preserve your investor’s capital; whether it be by a trade sale or a
consolidation. Founders before you have done it, and have come out stronger and it is way better
that shutting a company or running a zombie one
1X non participation liquidation preference with pari-passu seniority across rounds has pretty
much been the norm in the start-up growth equity milieu in the last half a decade. As capital
becomes scarce, we expect this to change. We expect up to half the deals to bear participation
preference (we are already witnessing deals with participation of 1X to 4X depending upon how
the cards are stacked up on the negotiation table) and seniority over previously issued
securities. At times when valuation discovery is like driving through a hazy tunnel, these
structured deals are a good tool to prevent down rounds and yet be fair to incoming investors.
2019 saw 35 - 40 rounds of USD 100 MM or Most growth stage companies would be on
more, we expect mega rounds to come down the road all the time and cheques would be
to less than 10 in the coming 12 months and absorbed irrespective of the size to build up
many of them would be conditional on round momentum and extend runways.
certain milestones/ consolidation or
secondary purchases at a significant
discount.
The Definitive growth equity guide for rest of 2020 The RainMaker Group
Playing the long game
Drip is the new bridge Club rounds
Most non voluntary insider led rounds in While most growth rounds in 2019 were priced
the past have been to let investee and led by conviction of a single investor, in an
companies mature into numbers that are environment which has propelled a flight to
conducive to new investors. Today’s safety, most rounds would have multiple
insiders led rounds would be to give them investors sharing pricing burden which would
a liquidity of six months or less, the reduce competitive tension in deals.
maximum needed for an end game: a
merger or an outside investor.
If you are in an industry where there is no clear market leader or competitive tensions have led
to high burns, get ready to merge with your peers to get the next round of financing. The
industry truism around the value of deep pocketed and high-quality investor on your cap table
will become glaringly obvious. The swap ratios will be determined as much by promise of capital
that they can put in as by your relative operating performance.
The lower end of the growth spectrum will see multiple companies merging to create a
meaningful scale and improving unit economics. Jury will be out on how well the ensuing
management structures and cap tables will leave these companies geared to win, but in will
ensure survival.
The Definitive growth equity guide for rest of 2020 The RainMaker Group
Playing the long game
“That’s the toughest opponent you’re
ever going to have to face”
-Creed, 2015
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expressed are not the professional views of TRMG Advisors LLP and do not constitute formal advice. The contents are intended,
but not guaranteed, to be correct, complete, or up to date. TRMG Advisors LLP disclaims all liability to any person for any loss or
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The Definitive growth equity guide for rest of 2020 The RainMaker Group
Playing the long game