Most of the VC funding in India comes from funds denominated in dollars, with fund LPs assessing portfolio values and receiving eventual exit returns in dollars. As a result, any sharp movement in the INR-USD rate lowers portfolio values and lowers dollar returns
The value of many startup investments made in dollars has declined as a result of the weakening rupee, which has alarmed investment funds waiting to return money to their investors outside of India and may have an effect on startup funding from venture capital (VC) and private equity (PE) firms that raise money from abroad.
Since January, the rupee has declined over 9 per cent against the dollar, hitting its lowest at 81.9 last week.
Most of the VC funding in India comes from funds denominated in dollars, with fund LPs assessing portfolio values and receiving eventual exit returns in dollars. As a result, any sharp movement in the INR-USD rate lowers portfolio values and lowers dollar returns.
“What is more consequential in the current USD-INR move is the backdrop of overall poor global economic sentiment, driven by concerns about growth and inflation in developed markets. That has resulted in sharp corrections in stock prices (especially in the technology space), with global capital providers becoming more risk-averse. That has had the twin impact of lower public market valuations (which are usually considered as benchmarks for VC/PE deals and also for marking the current value of the portfolios) and lower capital allocations to emerging markets. So the overall combination of high risk aversion, lower public market multiples, and INR depreciation results in fewer capital flows into the VC space and depressed valuations, “said Tarun Sharma, Managing Partner, MegaDelta Capital.
No matter what the current scenario is, a good business idea with a strong foundation never fails to attract investments. Brijesh Damodaran, Co-founder & Chief Investment Officer, Auxano Capital, mentioned, ” Rupee depreciation is a reality. And it’s a known fact that the depreciation needs to be factored in while investing. Valuation is a function of the opportunity in the enterprise. So mixing all of the three is not the approach. A good idea with opportunities and business moat, do get funding.”
Damodaran added, “A good business opportunity gets the funding, and a mature investor knows what they’re getting into . Rupee depreciation in the region of 5 per cent-10 per cent over the next five years can be expected. And investors while investing are aware or should be aware of this.”
The current fall in funding is not only due to the INR-USD change, there are a combination of factors resulting in a sharp decrease in funding. Anil Joshi, Managing Partner, Unicorn India Ventures, said, “The valuation certainly influences investment decisions. In the current situation, some of the opportunities are available at really good valuations. Hence, the company with good founders and a robust business will certainly have takers. However, the function of investment depends on both the investor and investee agreeing on the numbers.”
“Rupee depreciation doesn’t have much impact as investors factor in rupee movements while investing. The rupee investor will, in any case, negotiate the rupee terms and the USD will factor it in any case. Hence, rupee depreciation is unlikely to have any significant impact on investment, but yes, the valuation may impact the decision.”, Joshi added.
Foreign investors’ returns suffer because they invested when the rupee was stronger. As a result, exiting investments at current rupee levels would mean sending less money back in dollars. “When the rupee depreciates, the Limited Partners (LPs) who have made previous commitments are at an advantage because they now have to put in fewer rupees, especially if they made rupee commitments versus the dollar. So, in some ways, they benefit from this, “said Anirudh A. Damani, Managing Partner, Artha Venture Fund.
Despite all the odds, India has outperformed the majority of the major currencies against the US dollar. For a net importer like India, this is global validation of the economy’s strength. The Indian rupee has appreciated against the pound and the euro, which is likely a first in a very long time. “The smart investor allocating towards Indian startups is not looking at the 3 per cent annual rupee depreciation. They are seeking 20-30-40 per cent annualised rupee returns, which will mask the dollar deprecation. The dollar depreciation just reduced LP’s cost of investing in Indian startups. ” Damani added.
Moreover, many VC firms have also begun to sign smaller checks for early-stage startups at a time when growth-stage funding is shrinking. The funding winter is creeping in, so the startups have to employ other hedging techniques. “The best hedging technique for a startup is to outperform at a rate that the rupee depreciation becomes marginal for the foreign investor, i.e., it does not matter. Of course, there are ways to provide a natural hedge. For instance, a SaaS startup with significant sales in dollars will see an increase in rupee revenues, providing better multiples. But then again, how would the depreciation really matter if you outperform the market at 60 per cent to 100 per cent IRR? “, Damani mentioned.
With the rupee at 81 against the dollar, startups’ dollar valuations are likely to change; a weak currency may force some startups out of the unicorn club. A weakening rupee will slow growth for startups that are already finding it difficult to scale up, as well as have an impact on the margins of companies that export goods and services. The stock market is in for a rough patch. A weak rupee will result in large outflows. However, it won’t hurt the sentiments of the investors in long run.
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