While India will continue to be a hotspot for emerging businesses and investment, what’s critical for founders and entrepreneurs is to understand how diverse forms of capital will always be an important part of the modern capital stack for any business.

– By Karun Arya

India’s startup ecosystem has witnessed an extraordinary surge, with a 15,400 per cent increase in the number of startups from 2016 to 2022 and the emergence of 100 unicorns. However, despite these impressive statistics, startup founders face ongoing challenges in securing funding. In 2022, the Indian startup ecosystem experienced a 35 per cent drop in funding, and the year ahead also presents its share of funding obstacles.

Investors are rightly being cautious in their investments, closely monitoring governance and reporting standards, encouraging founders to prioritize revenues and profitability over growth. At the same time, there is a tremendous amount of dry powder accumulating on the sidelines waiting to be deployed. 

While India will continue to be a hotspot for emerging businesses and investment, what’s critical for founders and entrepreneurs is to understand how diverse forms of capital will always be an important part of the modern capital stack for any business. 

Today’s funding landscape appears unpredictable, primarily because equity investors have grown cautious about investing their capital. It is crucial that we dispel the misconception that equity investors represent the entire investment landscape in the country. We must proactively develop awareness around the diverse sources of funding available. Traditional options like equity funding and bank loans still serve most businesses well. However, as the startup ecosystem evolves, it opens doors for a more sophisticated capital stack, accommodating various stages of business growth.

The Rise of Quasi-Equity

Enter quasi-equity—a form of capital that bears resemblance to equity funding but stands apart in significant ways. I refer specifically to new-age lending platforms that function akin to equity investors but offer distinct advantages: no equity dilution, no questions asked, no collateral or interest, and most importantly, no bias!

Quasi-equity is quickly becoming an important part of the modern capital stack for any small and medium size businesses today. With a credit gap of $219 billion in the country, the demand for alternative capital-raising methods is only growing. Thousands of new economy businesses are using equity-free capital solutions like cash flow-based financing and performance-credit to extend their runway without diluting equity. Moreover, the surging wave of entrepreneurship in India has made access to working capital imperative.

Businesses that adeptly analyze the layers within the modern capital stack understand the best timing for utilizing each funding option. The ideal approach is a hybrid one—leveraging equity  or risk capital for longer term innovation and raising quasi-equity to supercharge short and mid-term growth objectives, streamline cash flows, and ensure a healthy runway. Entrepreneurs must not only prioritize business growth but also make smarter choices regarding their trajectory with sustainability and profitability in mind.

Gone are the days when founders solely pursued high valuations. For businesses in the growth stage, it is often more prudent to retain equity, allowing valuation concerns to take a backseat while focusing on sustainable growth to drive value creation. However, this growth cannot be achieved without capital.

Quasi-equity offers entrepreneurs the unique advantage of securing equity-free funding to supercharge growth without relinquishing control of their business. This approach empowers companies to remain in growth mode with unwavering focus, free from investor interventions, loss of board seats, or equity dilution.

A modern capital stack for modern businesses

It is important to recognize that there is no one-size-fits-all funding recipe. What works for one organization within a specific sector may not be suitable for another. The kind and amount of funding required will depend on where a business stands in its journey. Pre-seed startups may require funding to develop a product prototype or recruit key team members, while mature startups may seek funding to expand into new markets.

Founders today have an array of funding options at their disposal, including equity funding, private debt, venture debt, working capital, cash flow-based financing, recurring-revenue advances, etc. However, it is crucial to remember that each option differs significantly from the others. Therefore, blending the best elements from different funding sources, based on specific circumstances, funding requirements, long and short-term goals, and return on investment (ROI), is key.

As businesses navigate the dynamic global economy, sustainable capital options are paramount for long-term success. Strategic blending of different layers within the modern capital stack has never been more critical. While short-term cost-cutting strategies may yield temporary results, astute founders recognize the importance of sustainable capital options to withstand future shocks and ensure business sustainability.

The current climate will correct the recent trend of overvaluation and overinvestment in emerging companies, pushing businesses towards a more sustainable approach. It is essential for entrepreneurs to carefully consider the optimal blend of equity and alternative funding to fuel their business growth.

In this ever-evolving funding landscape, businesses must broaden their perspectives and explore the diverse funding options available to them. Quasi-equity, with its non-dilutive and founder-friendly approach, represents an important part of every business’s modern capital stack. By strategically blending funding sources and maintaining a long-term outlook, founders can ensure sustainable growth and navigate the challenges of fundraising more effectively.

This article was originally published in Financial Express.

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