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India Region Special Section: Big trends

The Rise of the Indian Start-Up Ecosystem


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individuals wearing shirts of Indian restaurant aggregator Zomato

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Walk into any one of the many start-up events organized across India, and inevitably the image of an Indian bazaar comes to mind: people rushing around, shouting, bargaining, answering phones with great excitement, laughing loudly, boasting, blushing, and generally being optimistic, as if they are at the beginning of a rising trend of well-being.

Such optimism might seem justified. According to data compiled by Fortune magazine,a from just eight 'unicorns' in 2015, the number of start-ups in India valued at more than $1 billion has grown to 26. What is interesting is that in 2018 alone, India added eight unicorns to the club.

These include diverse entities such as Ola, started in India as a competitor to Uber and has since expanded its footprint into the U.K. (and is eyeing Australia); an insurance aggregator called PolicyBazaar; the e-commerce site Paytm Mall; an eyewear retailer called Lenskart; food technology aggregators such as Swiggy and Zomato, and hotel-room aggregators like OYO and FabHotels.

Thousands of entrepreneurs start up every year and aspire to become one of the new unicorns. Venture capitalists invested over $20 billion on start-ups last year, and evidence suggests they are likely to invest much more by the end of this year.

The rise of the Indian start-up ecosystem can be characterized by three major changes over the last decade:

  1. A shift from models copy-pasted from elsewhere to the creation of models built for India.
  2. A move from the IT services model to technology products.
  3. A statement of intent from entrepreneurs that the time for Jugaad is over, and cutting-edge innovations are where the future lies. The Hindi word Jugaad roughly translates as "to work around." The notion was a result of resource constraints faced by a number of enterprising Indians, especially those living in rural areas. Jugaad is a well-researched theme and has been extensively documented by Navi Radjou,b a French-American scholar based in Silicon Valley, in his book Frugal Innovation.

These changes offer interesting insights for the start-up ecosystem in India and across the world.

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From 'Copy-Paste' Models to Local Innovation

The current crop of Indian start-ups trace their origins to the mid-1990s and late 2000s. They were driven by entrepreneurs and venture capitalists (VCs) from the U.S. (Silicon Valley, in particular), or were heavily influenced by what was happening there. Many were engineers who studied and worked in the U.S. and got to witness firsthand the impact start-ups can have on an ecosystem. When the dot-com bust happened in the early 2000s, the start-up ecosystem picked itself up, and companies such as Google and Amazon not only survived, but thrived.

That being the case, they reasoned, the economy in India holds much promise—driven by a growing middle class, a demographic dividend from a huge population of working age, and above all, by government policies that seemed to be growing friendlier for businesses.

Technology—computers, Internet, software, devices—was going global as well. If Amazon can sell books to Americans, they reasoned, an Indian version of Amazon can do the same for Indians. Thus, by the end of the 2000s, India had a bunch of start-ups that drew their optimism mainly from the success of American tech companies.

For example, Flipkart, an e-commerce company which was bought by Walmart in 2018 for $16 billion, was started by two engineers—Sachin and Binny Bansal, who had worked for Amazon in India. As Amazon did back in the 1990s, the Bansals started in 2007 by selling books. They were not the first to do it; there were a half-dozen others already selling books in India, but the Bansals understood the importance of the customer experience as few others did.

The rather tepid performance of their predecessors did not deter them, because by 2008, Internet penetration was higher, broadband was picking up, and costs were coming down. They got support from investors including Accel, and were focused on customer satisfaction, a mantra they were initiated into at Amazon.

However, they soon realized that to satisfy customers, which boiled down to ensuring timely deliveries, they needed to get a grip on inventories of books with their own vendors, but they could not, because many of their vendors had not digitized their systems (and those that had were not connected to the Internet; if they could connect, they lacked compatible databases). The backend was not just about building your backend, but also pushing various stakeholders to build theirs.


Many Indians either did not have credit cards, or those who did were uncomfortable using them for online transactions. That got in the way of customer adoption. Flipkart's answer to the problem was simple: pay cash on delivery.


Even on the customer side, the Bansals realized, while many were ready to place orders online, they were reluctant to make payments online. Many Indians either did not have credit cards, or the many who did have them were uncomfortable using them for online transactions. That got in the way of customer adoption.

Flipkart's answer to the problem was simple: pay cash on delivery. This simple tweak opened up latent demand, and was one of the reasons Flipkart grew quickly. The reluctance on the part of Flipkart's customers to transact online offered them a peek into inefficiencies in the payments space.

Yet as Haresh Chawla, a partner at the private equity firm True North, pointed out in an essay on FoundingFuel.com,c the Bansals could not capitalize on their early gains. This was happening as U.S. and Chinese entities were eyeing India, while other Indian entrepreneurs imagined new possibilities.

That is how digital wallet Paytm was created by Vijay Shekhar Sharma. Not only is that firm a unicorn now, it integrated backward to build a e-commerce portal called Paytm Mall to compete with Flipkart.

Many of the new possibilities had to do with the launch of the unified payments interface (UPI), a mobile platform that allowed customers to transfer money as simply as sending an SMS. UPI led to the large-scale entry of banks into the realm of payment apps.

This is not to suggest Flipkart did not put up a good fight. The first popular UPI app was from a start-up called PhonePe (which was started by former Flipkart engineers, and was eventually acquired by Flipkart). One of the most interesting PhonePe products was a point of sale (POS) terminal that cost a fraction of the price of traditional POS terminals, and that allowed credit cards to be swiped. While a standard POS terminal could cost Rs 20,000 (approximately US$300), retailers could get PhonePe's POS unit with a security deposit of less than Rs 700 (about US$10).

However, the most common "POS terminal" was just a QR code used by Paytm, whose "cost" is as low as that of printing a QR code.

The drastic reduction in costs, along with the targeting of specific niche markets such as vegetable vendors, roadside tea stalls, and generally people closer to the bottom of the economic pyramid, represented a big shift in the focus of Indian start-ups.

Most of them no longer had to look at the U.S. for inspiration. Instead, they were looking at problems faced by people who live in what investors now call 'India 2' and 'India 3', the lower levels of India's wealth pyramid. People such as Vijay Shekhar Sharma focused harder on this segment because they could see the economic potential there before the founders at Flipkart did.

The assumptions made for India 1 (those at the top of the pyramid and closer to U.S. markets) no longer apply to those who live in India 2 and India 3.

In 2015, former chief economic advisor to the Indian government Arvind Subramanian used phones as a proxy to separate the three segments; the approximately 200 million people who use smartphones, the 400 million or so who use feature phones, and those lacking access to any phones.

Management guru C.K. Prahalad had argued that there were fortunes to be made at the bottom of India's wealth pyramid. In addition, China had demonstrated that if you had a large population, you could build large businesses and make interesting innovations based on domestic markets.

This realization led a range of start-ups that targeted specific segments across Indias 1, 2, and 3.

Banking and finance have always been early adopters of technology, and financial technology start-ups began trying to solve some of the problems that banks and financial institutions could not solve with the burden of brick-and-mortar infrastructure.

One of the early validations that using digital technologies could help in financial inclusion came from an experiment that IFMR Trust (now Dvara Trust) did with its KGFS model. For a long time, financial inclusion meant micro credit.

However, the designers of the Kshetriya Gramin Financial Services (KGFS) model, which included Nachiket Mor, then heading up the ICICI Foundation, and Bindu Anant, who was with venture capital firm IFMR Trust, wanted to create a system that didn't just give credit, but also provided a range of financial services, including savings and insurance products. Savings products were not yet being offered to the poor, because the money they put in did not even cover the paperwork needed to accept it. As an experiment, the KGFS designers digitized the entire process in money market mutual funds, and found it worked.

While KGFS could not scale up some of its products, it showed fintech how going digital can help financial inclusion by bringing down transaction costs.

Fintech is one example of how Indian start-ups, even as they pursue growth and profits, also fill the gaps that government, businesses, and the social sector either would not or could not in the past. By making technology work, many start-ups today are aligned with broader societal goals.

As Nandan Nilekani, chairman of Infosys and former chairman of the Unique Identification Authority of India (UIDAI), said during a conversation with Microsoft CEO Satya Nadella in Bangalore: "When you think of the challenge of taking the country with $2,000 per capita to $20,000 per capita, it is really a major challenge. You have to fix basic things like health, education, and access to financial services. The classical way of doing that would have been to say 'let's have more doctors, let's have more teachers,' and so on. That's certainly not possible in the timeframe that we have. If you want to get everyone educated, and if you take 25 years to do it, then they will be adults and you can't do it. The only way to square the circle is by using AI (artificial intelligence) and the cloud to deliver personalized health, education, and finance to a billion people. That will drive the economy. For a country that has low per-capita income, to use this as a strategic tool ... is very important."

uf1.jpg
Figure. Sachin (left) and Binny Bansal.

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Figure. How India earns.

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Table. India's unicorns.

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From Services to Products

Before Nandan Nilekani became known for his work on Aadhaar, India's national identity program, the largest program in contemporary human history that created unique identification numbers for over a billion people in record time, he was best known as a co-founder of Infosys, one of the top software outsourcing firms in the country. He is also the person who gave the title to The New York Times columnist Thomas Friedman's best-selling book, The World is Flat, which argued that access to technology by people across the world has taken away the advantages advanced countries enjoyed during most of the industrial age.

In India, many entrepreneurs first came to understand the power of information technology by looking at the enormous success of companies such as Infosys, TCS, and Wipro. They are now multi-billion dollar companies, employ hundreds of thousands of people, and have raised the standards of corporate governance in India.

However, success also comes with its disadvantages. Investors and entrepreneurs can become addicted to the metrics that work for IT services, but do not work for products. Due to huge labor arbitrage, IT services were operating on high margins. They could record revenues almost as soon as they started deploying resources, which was comforting to investors.

To create IT products, on the other hand, expenses are incurred up front, which also has its risks. After investing to create a product, if the product bombs, the investments sink. Fear of such a situation stopped Indian IT services companies that had huge cash balances and literally zero debt from investing in products.

There were some exceptions. Infosys read the writing on the wall and built a fairly successful core banking product called Finacle. Cognizant rolled out a three-horizon strategy, with its CEO Francisco D'Souza directly focusing on new businesses.

While their efforts were looked down upon initially, it is only now that investors are beginning to appreciate why products matter in the long run. As the cost of labor started to rise over the years, margins from IT services started to come down, and competition emerged from other geographies where labor is cheaper.

Between entities such as Infosys, Cognizant, TCS, Wipro, and some mavericks who pushed the pedal to the metal on products, start-ups in India are looking at a contemporary narrative. One example of such a maverick is Zoho, which was founded in 1996. Zoho builds a range of Web-based technology tools aimed at improving the productivity of businesses. Its founder, Sridhar Vembu, on encountering the unfair conditions of venture capitalists, swore to build a company without going to VCs. Zoho's revenue is estimated to be around $500 million.

One interesting innovation of Zoho's is its training program, which selects students (typically from poor backgrounds) from schools and teaches them to code. Some students from early instances of the program are now product managers at Zoho.

Zoho is not the only enterprise tech company that has made its mark in the product space. Freshworks, started by a former employee of Zoho, also focuses on the SMB market and has innovated on the Inside Sales model.

India today has more than 10 B2B companies with Unicorn status; some reached this milestone in less than three years. Companies like BlackBuck, Udaan, Power2SME, Delhivery, and Capillary Technologies are trying to solve some of India's problems. Deep technology security companies like Druva, Qubole, and CloudCherry are leveraging India as a base for their development.

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From Jugaad to Cutting Edge

For years, Indian innovation was mostly associated with the word Jugaad. The flip side to this is that it indicates short-term vision that moves from one kind of 'duct tape' to fix a problem to another, instead of asking deeper questions about design.

Yet Jugaad has evolved in its own way, and has come to mean frugal innovation; coming up with solutions using minimal resources, for a market that could not afford expensive products or solutions. Consumer products company Godrej developed ChotuKool, a portable refrigerator that consumes minimal power, for villages facing continuing power outages.

Underlying the change from Jugaad to frugal innovation is the belief that it is possible to build world-class products with limited resources. One of the insights of C.K. Prahalad is that innovations made for the bottom of the pyramid often work for segments that occupy the higher levels.

These three shifts—from the copy-paste model to local innovation, from software outsourcing to product development, from Jugaad to frugal innovation—have given way to a new breed of start-ups that are hugely aspirational.

Sharad Sharma, co-founder of the Indian Software Products Industry Round Table (iSPIRT), makes the distinction between mercenary start-ups whose primary goal is to make money, and missionary startups whose primary goal is to solve impossible problems.

An example of such a missionary start-up is TeamIndus, India's only entrant in the competition for the Lunar X Prize, in which teams are challenged to "land a robot on the surface of the Moon, travel 500 meters over the lunar surface, and send images and data back to the Earth." TeamIndus did not win the Lunar X Prize; no one did. But the point about start-ups such as TeamIndus is their goal is not just to win a prize, but to show it is possible to aim high.

TeamIndus is just one example of a start-up that many would not instinctively associate with India. There are many start-ups in India that work on cutting-edge technologies. Medical diagnostics start-up SigTuple Labs uses AI to analyze visual medical data, while Mitra Biotech is advancing personalized oncology treatment and supporting more effective and efficient cancer drug development. GreyOrange is a focused robotics warehouse management company. Julia Computing has developed a unique, high-performance programming language with rich applications in AI and machine learning capabilities.

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Lessons

These three shifts offer two broad lessons to start-up ecosystems across the world:

The starting point does not matter; the direction does.

It does not matter where the story starts, or where the motivation comes from. It could have been in copy-pasting Western business models, bidding for software coding services based on labor arbitrage, or even Jugaad. What matters is the evolution.

Context matters; start-ups come to life in a society.

However, evolution seldom happens on its own. Evolution happens within a context; when entrepreneurs start solving a problem for the society in which they live, they experiment, scale up, and reach out to new customers.

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Authors

Charles Assisi is co-founder and director of Founding Fuel, Mumbai, India. He is co-author (with NS Ramnath) of The Aadhaar Effect: Why the World's Largest Identity Project Matters.

Avinash Raghava is Community Platform Evangelist for Accel, Bangalore, India.

NS Ramnath is part of the founding team at Founding Fuel, Bengaluru, India, where he now serves as a senior writer.

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Footnotes

a. http://bit.ly/2IHMrl3

b. https://thinkers50.com/biographies/navi-radjou/

c. http://www.foundingfuel.com/article/saving-private-flipkart/

The views expressed here are the authors' and do not necessarily reflect those of their employers.


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