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There is such a thing as too much money

LiveMint logoLiveMint 23-04-2017 R. Sukumar

Newsrooms, including the one I am part of, are deeply—at times obsessively—interested in the funding rounds of start-ups.

Sure, deal stories are always interesting, and the staple on which a newsroom focused on business and economics makes its name, but I have always believed that it is important for journalists to step back and look at the larger picture—the strategies adopted by start-ups and/or their investors—and step in and look at the nuts and bolts aspects of how things work. With several well-funded start-ups eyeing the grocery business, for instance, it would be interesting to understand how they are getting the so-called farm-to-fork supply chain to work. This is a problem that has stymied the brightest of minds in Indian business.

Still, as a business journalist, I am aware of what makes the world go round (I realized to my dismay many decades ago, that Kepler was wrong).

Given the interest in funding rounds, it is easy to explain why SoftBank Group Corp. gets the kind of attention it does in India. In 2014 and 2015—actually, in one frenetic 12-month period ending November 2015, as Mint pointed out—the company invested around $2 billion in India, cutting really big cheques. I am not going to analyse how those investments have done. Mint, and others, have written extensively on that. But it is interesting to look at what this burst of investment by SoftBank, and, to a lesser extent, Tiger Global Management, in 2014 and 2015 did.

At one level, it crowded a lot of other investors, including storied venture capital firms such as Sequoia Capital, out of the market. Some of these investors simply didn’t have the kind of dry powder to match this burst of investment. And some didn’t have the appetite required for the level of risk.

At another level, it probably encouraged managers at start-ups to do the kind of things they otherwise wouldn’t have done.

Money, especially a lot of it, encourages profligacy. The behaviour of executives at start-ups who suddenly find that they have money to burn isn’t very different from that of their peers at older, more established companies when times are good.

Good times (as the fable of the man who titled himself the king of these attests) induce an expansiveness in management decisions, both strategic and operational. Companies expand rashly into new markets. They spend a lot on advertising and marketing. They hire people they don’t really need, tapping hot-shot executives at consulting firms, blue-chip multinational firms, even Silicon Valley hot-shops. They move into bigger (and better-looking) offices they do not really need. In general, and with the benefit of hindsight, it makes them stop doing the very things that, in part, contributed to their success in the first place.

It is the rare entrepreneur who realizes this before it is too late (in general, entrepreneurs are better at recognizing when an idea or a business model isn’t working than when they are going overboard in terms of spending) although there are exceptions. I can think of a few entrepreneurs sitting pretty on businesses that, while smaller and not as valuable as they once were, are viable; these entrepreneurs also have money in the bank (a lot of it), left over from the last round of funding.

This year, 2017, marks a return to rationality. Both start-ups and investors are focused on costs and profitability. Unviable businesses are closing down, and there’s a lot of cleaning up going on—as evident from the rash of news about consolidation in the start-up space. It’s a temporary phase, though. Boom and bust cycles come and go, with intervening periods of good sense. It won’t be long before someone cuts a really big cheque.

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