TroubleForSure? Reading the tea leaves of the TaxiforSure acquisition

There is only one thing that the Indian startup ecosystem celebrates more than a funding event and that is a  startup acquisition! Given India’s particularly anemic track record in seeing startups getting acquired (and thus giving investors a demonstrable exit), this sentiment is well justified. Against this backdrop, the complete lack of hoopla around the acquisition of TaxiForSure (TSF) by Ola might seem intriguing.

Why is that acquisitions like that of Redbus (which incidentally was for far lesser than the $200m fetched by TaxiForSure) were greeted with fanfare and chest-thumping whereas the reaction to TaxiForSure was limited to sanitized press statements filled with “politically correct” statements? Beyond this, what are the larger implications and takeaways that the Indian startup ecosystem can draw from this acquisition?

Here is an attempt to read the tea leaves:

1. Funding is a double-edged sword and the larger the funding, the faster you need to run on the hamster’s wheel: No one will dispute that TFS was very successful at securing funding – it has raised more than $40m in a period of just three years. However, this funding carries a cost beyond the obvious equity dilution – it essentially puts the startup on a timeline. The larger the funding, the shorter the timeline and the more ambitious the targets. The pressure that this puts on the startup to “perform or perish” is tremendous and it is easy to fail the test – when you do so, you are forced out of the game…either by having to shut down the company or by being sold to someone else. This brings to mind the age-old adage that only the best companies are bought, the rest are “sold”.
2. A high valuation is not always a good thing: Startup founders are very wary of valuations – rightly so as raising money at a low valuation dilutes their own holding. To counter this, we are often tempted to raise money at the highest valuation that the market can afford. This would have been a good thing if you were to only ever raise one round but given that most startups raise multiple rounds over a lifecycle, taking money in at a very high valuation blights your future funding raising rounds. Why is this? Because each time you take in funding, you are now pegging your company’s valuation progressively higher and it is very easy, especially so in a frothy funding environment, to set a benchmark that is far higher than the market-clearing valuation for the next round. In such cases, raising a future round becomes very difficult, if not downright impossible.
3. Growth is not a silver bullet: While a startup that has raised just a seed round has the “luxury” to experiment and hone its strategy, a startup that has crossed the Series B/C threshold has only one imperative – growth. Unfortunately, this storybook, largely shaped by investors, is now considered as gospel that startups routinely parrot out duly. In reality, growth is an imperative but one that needs to be balanced with other aspects. The most important of these is “unit economics” – it is fine to focus on growth once you have established the bounds of your business model and have a firm handle on how much it will cost to acquire an incremental customer and how much revenue you can derive from her. It is ok to grow unprofitably as long as you know this metric – growing without this implies that you are scaling out far ahead of product-market fit and is therefore pre-mature. Normally, you would expect a company that has raised multiple rounds of capital to have achieved product-market fit and a solid idea on unit economics, however the ease of raising huge amounts of capital prematurely often tempts startups to take the easy way out and fool themselves into believing that one can buy oneself these metrics after they figure out the answers “later”.
4. Investors can become market makers who can change the entire landscape of your industry: As a startup, it is easy to believe that you control your own destiny – your product idea and the effort that you put in to create and sell your product will shape the industry you play in. While this may still be true in some sectors, we are now entering an age where the most important determinant of the state of the industry you play in is the amount of funding that is being pumped into that niche. Every notion that you have on important strategic aspects such as pricing, marketing and channels can be turned upside literally overnight when a huge bundle of dollar bills flood the market. The most sobering thought in this is that if these investors prefer your competitor over you, you are marked out to lose – not simply because your competitor now controls the market but also because other investors are now wary of competing against these hedge funds who seemingly have limitless capital and far more patience than themselves. This is especially true of “large-win” horizontal spaces where the amount of capital that you have access to is an important determinant of your venture’s success.
5.  There are only three things that matter in the Indian market – price, price and price! While this is obviously a bit of an oversimplification, the point is that to the average Indian consumer, the only thing that matters is price. This not only helps the highest-funded player in the market (given that they can play the waiting game far longer than their less fortunate competitors) but also renders any other competitive dimension irrelevant. For instance, TFS was probably the only cab service facilitator that until recently, insisted that the cabs under its brand subject themselves to a periodic check-up where the quality of the vehicle would be certified. While this would undoubtedly make for a better customer experience, it burdens TFS with an additional cost category that its competitors don’t possess. Similarly, TFS only deals with cab operators rather than with cab drivers directly – while this would probably help them ensure quality and control, it adds an extra layer of costs (as the pie is now being shared across more players) and also limits the pace at which they can add more drivers to the system. So, as it turns out, anything that increases the price of the service that consumers need to pay is an impediment to uptake and are largely unappreciated even if such initiatives help improve service quality.
6.  The flawed “Uber for X” narrative: There are so many startups who pitch themselves as “Uber for<something>" – of course, in the case of Ola/TFS, the shorthand is even simpler – “Uber for India”. However, there is a big problem with this narrative. It is not to do with the fact that the Uber for India is Uber itself but rather the fact that the public transport market in India is vastly different from that of the US. In the US, Uber is disrupting the taxi industry at large and hence deservingly being valued at stratospheric levels – the folks driving Uber cars are not professional taxi drivers but rather everyday folks who see this as an additional revenue opportunity to supplement their incomes. In India, Ola/TFS (and indeed Uber itself) is simply just another taxi company! While this is not to say that there is no market opportunity, it is fundamentally different from the comparable one in the US and the difference in models could imply that applying US valuations to Indian companies is a bet that could end badly.
7.  The entry of hedge funds are impacting Indian investors significantly: While the investors who backed TFS would have, in all probability, made smart multiples on their initial investments, the true denouement might not be as rosy as one would like. Putting the actual numbers aside, the TFS acquisition is going to make the large Indian VCs more conservative – not in terms of capital deployed but in terms of the kind of companies they will back and the industry categories that they will be comfortable playing in. Valuations might get bigger but VCs will start taking fewer risks with money going into “safe” sectors. The TFS acquisition also highlights the fundamental flaw in the business model of seed funds like Blume Capital. In relative terms, Blume seems to have done well – making an 8X return on their investment into TFS, but in absolute terms, it was not a very big win as they only ended up with around $3m. The problem was that they only had a small percentage holding in the company at the time of the acquisition and therefore, even a $200m sticker price didn’t result in helping them move the needle. The rough rule of thumb for a fund’s success is that one exit returns the entire fund – TFS could have been that exit if Blume owned a higher percentage of the company. Given the funding landscape today, I hope this prompts seed investors to rethink their portfolio approach, focus on percentage ownerships and back startups in non-traditional areas where there is less competition from traditional investors.

So finally, all said and done, why did Ola actually acquire TFS? Is this a simple matter of industry consolidation? Did Ola gain anything valuable/complementary from TFS?

As prosaic as it sounds (and I am going out on a limb here), I believe that Ola acquired TFS because the acquisition essentially paid for itself! It is common knowledge that Ola is raising a new round at a humongous valuation – shoveling in the story that it now owns two of the top three players in the space makes for good reading amongst prospective investors and the boost in the valuation as a direct consequence of this narrative more than compensates for the actual dollars that Ola had to shell out for TFS especially so when the bulk of the purchase is in stock rather than cash. The fact that TFS didn’t/couldn’t raise another round and instead initiated conversations to sell itself instead also points to the possibility that this was just an opportunistic move for Ola rather than the result of a deep strategic think. While the press statements from Ola exulting on adding the TFS team to its ranks are suitably exuberant, the fact that the TFS founders have been relieved of their duties silently but eloquently underlines the true intent/imperative of the acquisition.

Some “experts” are opining that the TFS acquisition is a sign that the Indian startup ecosystem is maturing and consolidating – it is a sign all right but not one about the evolution of our ecosystem…rather it is a grim reminder that we are now entering an age where financial engineering and the folks behind acts like this are increasingly going to determine the future of the startup ecosystem in India.

Brace yourselves, we are entering interesting times! I hope we come out unscathed…