Indian startups don the profitability hat
Is the Indian startup ecosystem finally doing away with its Achilles’ heel?
Indian startups lost a massive $10 billion between 2021 and 2022. In fact, by the end of 2022, only 6 of India’s unicorns were profitable. However, the last couple of years have seen an unprecedented number of Indian startups announcing profitability, with giants like Oyo, Ola, and Zomato joining the ranks.
Thus, it is clear that the Indian startup ecosystem is going through a foundational transformation propelling this change. In this edition of The Conquest Communiqué, let’s dive into how profitability became the new catchphrase in startup town.
Several Giants Announce Profitability
The first quarter of fiscal year 2024 saw exciting news: food-delivery giant Zomato reported its first profitable quarter after 15 years of inception.
This announcement was not isolated. A few months prior to this, Zerodha rival Groww had reported its first profitable year, with a profit-after-tax of ₹448 crore. Around the same time, hotel-chain Oyo had announced its first profitable year too.
Moreover, profitability has not been limited to these big names. For example, the January 2024 Nasscom-Zinnov study on Indian tech startups shows that over 60% of startups increased their profitability in 2023. This indicates a departure from the cash-burn model which had been characteristic to the Indian ecosystem—taking on losses to capture greater market share. Why this sudden departure?
War triggers Departure from the Cash-Burn Model
2021 had seen a fundraising record for Indian startups. Over $40 billion was raised in total, an almost-four times increase from the previous year, creating a whopping 44 new unicorns.
Then with a sudden knock at the door arrived the funding winter of 2022, taking the industry by storm.
2022 saw startup funding drop to pre-2020 levels. This was mainly due to the geopolitical tensions around the Russia-Ukraine war, which caused a global economic slowdown.
In the Indian context, the war had a domino effect on the startup ecosystem. First, India’s high import-dependence for most of its raw materials meant that when prices rose globally due to sanctions against Russia, India’s cost of imports also went up.
Second, international sanctions against Russian oil caused oil prices to skyrocket. Because most international oil trade happens in US Dollars, this led to an increased demand for the US Dollar, causing its value to rise against all other currencies including the Indian Rupee. Again, this meant that Indian companies had to pay more rupees for the same imports.
Thus, higher import costs and war-induced supply chain disruptions created a high uncertainty in Indian startups’ profitability plans, because increasing disruptions and raw material costs heavily impacted their unit economics. In other words, for every product sold, startups started losing more money.
This meant that burning cash to generate more sales was no longer feasible, because in addition to the money spent on marketing to capture greater market shares, startups would also lose a lot more money on their sales as they were losing money on every unit sold.
The result? Even startups with high market shares could potentially very quickly go out of business. Therefore, profitability became important, and investors would no longer fund a startup just because it had a high market share.
Investor Focus on Profitability sparks Institutional Changes
The downturn of 2022 had a negative impact on investor sentiment, with investor focus shifting to profitability from growing market shares.
“If a firm wants to list and do well, it is not going to be only through growth. You will have to have a healthier business model, a positive contribution margin, and very good visibility on breaking even at a company EBITDA level”
Thus, startups have been using varying parameters to announce profitability…of sorts. Zomato-owned Blinkit announced in May 2024 that it had turned adjusted-EBITDA positive. A couple of months prior to this, online shopping platform Myntra reported turning EBITDA positive too. October 2023 had seen a similar announcement from Fintech unicorn BharatPe.
None of these companies are profitable overall yet, as parameters like EBITDA leave out additional costs. Thus, the rush to make such announcements also reflects the increasing importance of profitability in companies’ optics.
However, to move towards profitability, startups needed to reduce their costs. It wasn’t possible to do much to drastically reduce the costs of product development or manufacturing, because this was controlled by external factors such as raw material prices and supply chain constraints.
Therefore, startups needed to heavily cut down on their internal expenses, mainly marketing costs, operating costs and employee costs. Thus, the need of the hour was a complete marketing overhaul, improvement in operating efficiencies and building leaner strong workforces.
Startups Overhaul Marketing Strategy
Marketing has always been among the highest contributors to startup expenses. In fact, Indian startups spend between 35% to 40% of every venture capitalist dollar on just digital advertising. Thus, whenever there is a funding freeze, a startup’s marketing budget is the first to get affected.
In 2021, highly funded startups spent a lot on things like IPL ads and Google search optimisations with the aim of gaining visibility among as many people as possible. In other words, they focussed on “brand-building”—generating awareness and promotion of their brand.
In July 2022, right in the middle of the funding winter, Unacademy founder & CEO Gaurav Munjal tweeted
“Dropped our performance marketing spends from Rs. 18 crore to Rs. 20 crore per month. No impact on Revenues.”
Unacademy was not alone. 2022-23 saw the marketing spends of most startups decline by 30-60%. Even CRED, which spends extensively on advertisements, reduced its marketing costs by 26% without negatively impacting revenue. How is this possible? This happened because startups started to focus on targeted advertising.
As a part of this targeted strategy, advertising on social platforms became the norm. Social platforms like Instagram use analytics to figure out what you like, enabling startups to have a much higher user conversion rate on Instagram than on TV ads.
Similarly, YouTube and Instagram use algorithms to decide the kind of content you enjoy watching. So, if a company promotes itself through short-form content and posts it on YouTube Shorts or Instagram Reels, their algorithms will automatically push it to those people who are the most likely to watch it till the end.
Thus, companies realigned their marketing budgets to these modes of advertising, and saw a huge reduction in marketing costs without a negative impact in growth.
Now that high marketing costs had been reduced, how did companies reduce operational expenses? This is where new technology came into play.
Technology Improves Operational Efficiencies
“The India startup story is no longer about just scale and innovation but also efficiency and adaptability,”
— Pari Natarajan, CEO, global consulting firm Zinnov
Post 2021, Indian startups increasingly started using technology to cut down on costs and inefficiencies. In fact, the January 2024 Nasscom-Zinnov study reveals that now, over half of Indian startups are leveraging tech to improve efficiency, reduce operational costs and automate internal operations.
For example, EdTech Vedantu announced in 2023 that it was adopting “reserved instances” for its cloud storage usage—a billing method which was up to 70% cheaper than conventional methods.
The same year, online-shopping platform Meesho, which later went on to announce profitability in 2024, reported that it had reduced its server costs by 50% by using more efficient code and system designs. A similar announcement was made by hyperlocal online buying platform Dealshare.
With marketing costs and operating inefficiencies having been tackled, the third major expense contributing to startups’ heavy losses was employee costs.
Employee Costs get Rationalised
The funding peak of 2021 had fueled an aggressive hiring among startups in 2022. However, the following funding winter of 2022 forced startups to shift their focus towards building lean workforces. This is where gig workers and temporary staff came in.
Gig workers, or freelancers, have started to form a significant portion of startups’ workforces, in a semi-gig workforce model. In this model, startups hire highly skilled professionals on a permanent basis, while semi-skilled workers earning less than ₹20,000/month form a significant part of the remaining workforce.
Employee expenses also fell due to an increased shift towards work-from-home, significantly reducing office space costs. As many as 60% startups continued giving their employees remote work options at the end of 2022 despite the COVID-19 pandemic having subsided, with close to 15% startups even shifting to a complete remote-work model.
Lastly, Employee Stock Option Plans (ESOPs), which give employees the right to purchase shares of the company's stock at a predetermined price, have become an increasingly common part of paychecks.
ESOPs have enabled startups to retain employees without having to give out more cash, making it easier to compete for talent without having to compromise on finances.
Indian founders’ increased focus on building sustainable profitable startups is encouraging to see. Several reports, such as Redseer’s report on India’s digital economy, confirm that over 80% of Indian startups are now on the path to profitability.
Clearly, the challenges of 2022 put Indian startups head-to-head with a challenge: shape up or ship out; and startups have responded well, shaping up into resilient businesses with strong fundamentals.