Mansoor Rahimat Khan, co-founder of Bengaluru-based generative AI start-up Beatoven.ai, is currently in San Fransisco trying to raise a series A round of funds for his company. He flew to the Bay Area after finding no luck with the early-stage investors in India.
“I tried to raise my series A round in India and spoke to almost every fund in India. But the feedback from everybody was that this looks like a hype cycle,” says Mr. Khan.
He is not alone. Despite being the buzzword lately within the start-up ecosystem, founders of several deep-tech start-ups imply that early-stage generalist venture capital (VC) funds in India have been reluctant to invest in deep-tech. While the investments have gone up in the last five years, the pace has been slow unlike in the case of consumer internet or SaaS start-ups.
Several founders The Hindu spoke to point to general risk averseness and a lack of investors from science or research backgrounds in the VC community as some of the reasons. These, combined with a non-availability of patient capital, often leave deep tech startups gasping for breath.
Risky business
Mr. Khan and his team started building the company in 2021 and managed to raise some early seed funds sufficient to keep things going for a while.
“Nobody back then even knew about generative AI. It was difficult to explain it to generalist investors who would invest in typical consumer internet or enterprise SaaS. They wouldn’t understand.” he says.
“In the early stage of deep tech, there’s nothing really you can show. You have to put in money to build it,” he adds.
To be fair, for private investors profits matter prompting them to look for commercial traction. Also, certain subsectors within the larger deep tech ambit generate more interest than the others; For example, the space-tech currently.
But in general, deep tech start-up investments are seen as a huge risk.
For one they have long gestation periods, unlike other start-ups. Built from scratch, technology is the differentiator and hence, the moat. The numbers game in terms of revenues and customers follows later. But for the investors that means longer wait times for returns and uncertainty in terms of whether the tech would be able to deliver at all.
No quality feedback
While founders agree that investing in deep tech is a risky proposition, they note that there is very little quality feedback available from the investors.
“Even if you are able to show commercial traction, they want to wait and watch. But if you are going to do that, the opportunity will pass. A start-up in the West that may raise 20 or 30 times what we have raised and quickly get an advantage over what we worked on for years.” says Mr. Khan. Beatoven.ai crossed half a million users within six months of launch.
According to him factors like a smaller acquisition market in India making the exit prospects bleak for investors and earlier experiences of burning fingers by investing in hoax markets have made investors much more risk averse.
Bengaluru-based biopharmaceutical start-up Bugworks Research has raised 90 percent of its funds so far from outside India.
“Nobody wants to fund a 10-15-year moon shot journey like ours,” says Dr. Anand Anandkumar, co-founder at Bugworks.
According to him many deep tech start-ups get through early stages by virtue of grants and angel funding. As they reach the stage where institutional investors are required to step in, fund raising becomes next to impossible.
Understanding the science
“You are looking at something like a decade-long gestation period when it comes to deep science. Nobody has that kind of patient capital available in India. Another reason is that they don’t have subject matter experts in their investment team. The generalist investment firms also lack a portfolio of deep tech companies which would have helped with risk amortization,” Dr. Anandkumar adds.
The founder of another Bengaluru-based biotech start-up remembers the times when they used to talk to 40-50 generalist investors a month but saw interest from only a handful of them.
“I have spoken to almost all the early-stage VCs in India, but none of them understand biology,” they note, adding that investor parameters in India to evaluate deeptech startups are often flawed.
“What deep tech needs is investors who can take a bet on innovative work. For that, they need to understand what you’re doing. Since they don’t have the expertise, they can’t understand and hence can’t take that bet.”
Incremental is not enough
While investors agree that investments in deep tech have been slower compared to other sectors, they have a slightly different story to tell.
Given the high risk and longer gestation periods associated with deep tech start-ups, much higher returns are expected from them than the usual industry standards. However, as much as deep tech founders excel in developing life-changing technologies, the same cannot be said when it comes to figuring out a business model, says several investors.
Pranav Koshal, associate at Kalaari Capital, points out that deep tech start-ups are often market creators, and the investor therefore has to spend a lot of time with the founders understanding the core technology and its potential, the future course, the market that could be created, and the impact it can have.
“If you are undertaking that journey, the end of that journey needs to have a much higher impact than incremental shifts from the current industry standards. If it’s just marginally better than what is in the industry today the entire effort you put in will not be rewarded to the same degree,” he says.
Arpit Agarwal, a director at Blume Ventures, notes that a deep tech company has to win not because it is deep tech, but because it is a better investment opportunity.
“If deep tech is not going to get me better than average returns which are available in other sectors at that point of time, then deep tech will not qualify,” he says.
“In some cases, I’ll force myself and make exceptions which is how deep tech investments in India have happened from generalist funds so far. It has been more of an exception than a rule. That is not because companies are not good, or technology is not great, or we can’t understand the science, or founders are not great. Our assessment is that deep tech is not delivering the same returns as some of the other sectors as of now.”
High defensibility
3one4 Capital is one of the investors at Bugworks Research. Anurag Ramadasan, partner at 3one4 is a big believer in the defensibility of deep tech start-ups.
“We truly think deep tech brings in a lot more defensibility than a typical SaaS product which is arguably easier to copy. That makes them inherently very valuable,” he says.
“The challenge is that in the universe of businesses, a SaaS product is very well understood and the path to building a business out of a SaaS product is relatively easier. Which means there is a lower risk in backing a SaaS company. Whereas in deep tech start-ups while the defensibility is higher, the execution challenges are also high.”
According to him, yet another challenge is that the deep tech entrepreneurship ecosystem in the country is in an early stage.
“Very often entrepreneurs are researchers who come up with a specific technology but haven’t put enough thought into what the business journey will look like. This is where even for VCs the barrier to investing in deep tech companies is higher. People think VCs struggle in evaluating a deep tech business. Deep tech is hard to evaluate, but it is doable. How do we take this technology to the market and build a business out of it, that is where the larger complexity lies,” he says.
Losing out?
The reasons may differ, but there seems to be consensus across the startup spectrum that deep tech startups are seeing relatively lesser funding. But what does that eventually mean for the Indian startup ecosystem?
Founders feel it will force them to shift base to foreign countries.
“Increasingly companies will start changing their headquarters in the hope of connecting to capital in those countries,” says Dr. Anandkumar of Bugworks. “Imagine a company from an Indian town doing amazing work that is important for our country. When these companies list abroad, all their IPs move there. Then suddenly your national asset is not yours anymore.”
Matter of time
Investors, however, think it’s only a matter of time before the ecosystem matures and funds start flowing in faster. Mr. Agarwal of Blume Ventures notes that more and more larger funds are now looking at deep tech.
“Higher margins require stronger technology understanding, technology depth, or technology differentiation. So, if we have to achieve the end goal of higher margins deep tech is a must. Therefore, a trickle of money is now flowing into deep tech ventures. There is an understanding that one has to look at deeper tech and that you can’t just get away by investing into business re-engineering,” he says.
While researchers becoming part of the VC community has not become a trend yet, Mr. Agarwal feels that over the course of time, as tech becomes deep enough, generalist funds will start hiring PhD scholars. Mr. Koshal of Kalaari Capital notes that they regularly consult the academia when it comes to investing in deep tech startups.
“I think the trend is positive,” says Mr. Ramadasan of 3one4.
“No one is doing as many deep tech deals as they do SaaS deals. But over the last few years deep tech investments have grown. Do I like for it to be faster? Yes. But we are seeing more maturity in the deep tech start-up ecosystem. It’s a steep learning curve.”
Published - September 15, 2023 09:00 am IST
