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BT500: Will Unicorns Justify their High Valuations?

BT500: Will Unicorns Justify their High Valuations?

Some of India's most valuable start-ups are flocking to the public market with ridiculously high valuations, seeking to upend traditional performance/profit-based investment theses and allure investors to bet on their loss-making ventures. But the important question is: Will the celebrations ring true, or will the bell toll?

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Think about it.

OYO’s draft red herring prospectus (DRHP) is 642 pages long, Paytm wrote 539 pages and ixigo’s draft papers are 525 pages. Zomato, Policybazaar and MobiKwik have over 400 pages of financial data, shareholder details, business models, fundraising plans, opportunities, risks and more. Among those waiting to lap up the shares of these firms is a new crop of young, tech-savvy investors, super excited about the prospect of owning a piece of the IPO action. They follow their hearts and pile up on these brands that they use on a daily basis. They are risk-takers. The millennial and GenZ investors go by the brand value of these hugely popular consumer tech companies, not by multi-threaded analysis of hundreds of pages of DRHP files, at least not a majority of them.

Online retail brokerage Paytm Money, which also enables users to apply for an IPO before it opens in the stock markets, said that more than 22 per cent of day one applicants for the Zomato IPO were new to capital market investing, 27 per cent were under the age of 25 and 60 per cent were under the age of 30.

“For the tech-savvy, young population with smartphones, who use a lot of these consumer tech apps, household consumer brands coming up for IPOs make a lot of sense. The thrill of investing in tech stocks is a strong draw,” says Aditya Kondawar, COO, JST Investments. Retail investors, young and old, have been flocking to the equity market ever since the pandemic. The rise of app-based trading platforms that offer seamless onboarding and trading experience is fuelling this rush.

The Central Depository Services Limited (CDSL) and National Securities Depository Limited (NSDL), two national depositories for securities, together recorded 6.25 crore of individual demat accounts as of June 30, 2021. A record 1.42 crore new demat accounts were opened in FY21, marking a near three times increase from the previous fiscal. In the first quarter of FY22 alone, CDSL and NSDL recorded 71 lakh new demat accounts. The geographic spread with new investors coming from Tier II and III cities and the decreasing median age of investors demonstrate the growing enthusiasm.

A number of factors—including pandemic-induced disruptions, boredom and pent-up liquidity—is drawing the young population to capital markets, while falling fixed deposit interest rates are acting as a determining factor for people at large to look at stock markets.

Zomato, the first Indian unicorn to hit the public market, saw its IPO subscribed more than 38 times and garnered bids worth more than Rs 2 lakh crore. It was a watershed moment for the start-up world. Cashing in on the market vibrancy, the company listed its shares at a premium and commanded an eye-watering valuation of Rs 89,450 crore, triggering a liquidity rush into the start-up world.

It was just the beginning of the Indian start-up IPO parade. The Rs 5,352-crore IPO of online beauty store Nykaa was subscribed 82.4 times, giving it a valuation of about Rs 53,072 crore. The relatively high-priced stock, at a range of Rs 1,085- 1,125 per share, received bids for 216.59 crore equity shares against an IPO size of 2.64 crore equity shares. The IPO of PB Fintech (Policybazaar), which closed for bidding on November 3, received bids for 57.23 crore equity shares against 3.45 crore shares on offer, resulting in 16.58 times subscription. The company received bids worth Rs 56,093.64 crore.

In line are Paytm, OYO, and Delhivery—which have all filed paperwork for their IPOs, and a slew of others, like Flipkart, Ola, BYJU’S, InMobi, Pine Labs, Rebel Foods, PharmEasy and CARS24, are in the process of doing so. There will be at least 20-30 start-up IPOs in the next 12-18 months. Some of them could be looking at US markets, even the Special Purpose Acquisition Company (SPAC) option. These are category leaders and have enjoyed spectacular growth in their quest to grow at all costs, though with no near sight of profitability.

This lack of profitability, though, is unlikely to deter hungry investors, especially newcomers and younger ones, who look beyond past performance and profits to see value in investing in a company’s future. Institutions have also long been making future-oriented, long-term bets on start-ups in the private market.

“The world has never been as hyper-liquid as it is today. Traditional companies have all moved up as much as they could. Valuations are very expensive across sectors and companies. It’s not possible to ascribe more premiums to some of the legacy traditional businesses, so where does the liquidity go next? It has to go into the unlisted market or those moving to the listed side. That’s exactly what is happening,” says Mohit Gulati, Managing General Partner, ITI Growth Opportunities Fund.

He terms it a cyclical shift, where the next leg of investors, both retail and institutional, realise that the potential growth that a technology business can have is far higher than that of a legacy business. Start-ups promise that their technology leverage will help them grow faster than offline businesses and so people are willing to lap up these IPOs. And India seems to be in perfect position to absorb the liquidity arising out of huge capital inflows.

The bullishness on Indian tech—not on its ability to build, but the rate of its adoption—is growing steeply. India is set to have one billion internet users by 2025; nearly 70 per cent are expected to access the internet only though their smartphones. Unified Payments Interface (UPI) recorded 3.65 billion transactions worth Rs 6.5 lakh crore in September. Start-ups are leveraging this opportunity to the fullest, building solutions for every problem that needs solving, which is leading to large-scale companies being formed. Moreover, the regulatory uncertainties in the Chinese market are forcing global investors to rethink their asset allocation strategies. Consequently, a lot of global capital is moving to Indian tech companies.

During a virtual press conference to announce its IPO, Paytm CEO Vijay Shekhar Sharma had said that the next decade will belong to India as investors from across the globe are expected to make massive investments, both in private and public-market start-ups. “I’ve seen the internet euphoria of the late 1990s, then the e-commerce euphoria of the 2000s, and I can say that there has never been a euphoria like this. If we can say that the 2000-2020 period belonged to Asia at large, dominated by China and Japan, the 2021-2030 period belongs to India 100 per cent,” he had said.

To capture this euphoria, a flood of high-value IPOs is in the offing. Paytm targeted to raise Rs 18,300 crore from the markets on November 8, which marked India’s biggest ever public issue. At a price band of Rs 2,080-2,150 per equity share, the IPO aimed to value the fintech giant at a staggering Rs 1.48 lakh crore (the IPO was ongoing at the time of printing).

Logistics start-up Delhivery, which filed its draft prospectus in the first week of November, is looking to raise Rs 7,460 crore through an IPO at a valuation of around Rs 48,300 crore. OYO, amidst a messy legal battle with Zostel Hospitality, has proposed a Rs 8,430-crore IPO, comprising of Rs 7,000 crore worth of fresh issue and Rs 1,430 crore of offer for sale. It is eyeing a market valuation of $10-12 billion.

BYJU’S, the edtech giant, is looking at an initial offering at a mammoth $40-50 billion valuation, a recent Bloomberg report said. The company was valued at $16.5 billion at its last fundraising. Ride-hailing unicorn Ola, as per media reports, is planning to raise up to $2 billion from its initial offering, slated for early next year. The Bengaluru-based company will be shooting for an ambitious $14 billion, which will place it among the top listings in India.

“Start-ups are getting insane valuations compared to brick-and-mortar businesses, and the hope of getting that kind of returns by investing in these IPOs has also pulled in a fair amount of investor interest,” says Prashant Kataria, Partner, King Stubb & Kasiva.

But can they sustain the valuations? “Investors are looking at new-age companies with a new lens. The immediate profitability may not be relevant, but the growth metrics and the path to profitability are clearly articulated and visible and, when coupled with high-growth numbers, look exciting. Also, disruptor companies are finding a lot of investor interest as they are ready to play that theme. There is a lot of excitement to own stocks in this segment,” says Ajay Saraf, Executive Director and Head-Investment Banking, ICICI Securities.

With strong operating models, a solid consumer and supply base, large market opportunities and improving unit economics, these companies are expected to achieve greater revenue growth momentum in the years to come and fast-track their path to profitability.

“Markets regard them [start-ups] as ‘concept stocks’ because they flout the existing conventions—they have neither made profits nor issued any guidance on ever getting to profitability. Evidently, without an established set of plain vanilla financial metrics to value these businesses, investors have shown that they tend to be open-minded,” the Reserve Bank of India (RBI) said in its August bulletin.

It’s not just the founders who are IPO-hungry; investors behind the curtains are a strong force powering the IPO rally, too. The public market is the ultimate benchmark for raising money and seasoned venture capital investors, who have witnessed several market phases, know exactly how these cycles work. They live for a good exit. PE funds, typically, have a lifecycle of 10 years. So they push for exits within this timeframe to return profits to their limited partners (LPs).

“If you don’t capitalise on a peak cycle, and don’t exit some of your winners and take back the money, there are chances that you could be stuck with this completely illiquid investment for another five years or more,” says Gulati of ITI Growth.

While the number of IPO issues (till September) has nearly tripled over the previous year, 60 per cent of total issue size value has been by way of offers for sale by existing investors, according to data from Prime Database, a primary market tracker (see Booming Market).

So far, it’s been a mixed run on the bourses for start-ups, though some of the notable ones witnessed a significant correction in October.

Easy Trip Planners, which made its debut in March, has lost nearly 20 per cent, or Rs 119, in October and was trading at Rs 488.55 (October 28). Similarly, IndiaMART InterMESH lost nearly 14 per cent, or Rs 1,122, to close at Rs 7,128, while Just Dial fell nearly 19 per cent in October, shedding Rs 185 to close at Rs 804.50.

On the other hand, Nazara Technologies, which also made its debut in March this year, registered a bullish trend when compared to Easy Trip Planners. Shares of Nazara gained a little over 19 per cent, or Rs 436, to touch Rs 2,726.55. In October, the shares also touched a 52-week high of Rs 3,354.40.

Further, shares of Infibeam Avenues were up over 9 per cent till October 28, while CarTrade Tech remained largely flat with the shares hovering around the Rs 1,234 mark.

Shares of Zomato fell nearly 2.2 per cent in October though it has been insignificant in absolute terms—around Rs 3—to trade around Rs 136 levels.

The euphoria can have a blinding effect.

The RBI, while acknowledging that 2021 could turn out to be India’s year of the IPO, said this explosion of interest will only be sustained if start-ups can turn their growth story to solid metrics of break even, cash flows and profits.

“The jury is still out. Investors will closely scrutinise their stories. Analysts will put it down to stock markets’ idiosyncratic behaviour, investors’ greed and bandwagon effects, including a myopic pursuit of listing day gains,” the August bulletin said.

In case of market correction owing to a global or domestic event that causes massive liquidity squeeze, investors may not be patient with a five- or 10-year profitability period for a start-up. When everything is selling, tech stocks will be sold too. They may fall more because they are more expensive. “It’s going to be last in, last out for start-ups. Start-up IPOs are the last ones to enter this market and they will also be the last ones to fall. I’m decently bullish on how this IPO mania will pan out. Yes, there will be expensive companies, but there are enough opportunities and there are investors who are willing to spend top dollar to buy into these companies with a 5-10 year vision on the country,” says Gulati.

The inflection point for India’s start-up story has arrived. Market analysts believe 2021 will be remembered as the beginning of the end of the dominance of traditional business houses at the bourses. A paradigm shift is underway in how Indian investors look at the public market. They have seen how this shift played out in the US markets where tech stocks continue to be the fastest-growing stocks. A decade down the line, it wouldn’t come as a surprise if technology- and internet-related shares dominate Indian stock markets as domestic and global investors are racing to maximise their tech exposure on Indian bourses.

“The shift has already happened, and it is permanent,” says Anup Jain, Managing Partner, Orios Venture Partners. “You cannot imagine life without technology any more. It has been democratised, it has a wild, pervasive effect. Investors always bet on the future. Technology is on the rise and it is taking over the legacy sectors and companies in a big way. The market has already recognised it. Now, it’s just a question of the acceleration and its pace in different segments.”

@binu_t_paul @ashishrukhaiyar