My funding picks of last week (w18)

Fundraising activity continues to slow down; therefore, my team and I had a tough time shortlisting our favorite picks with just a handful of deals to choose from. After shortlisting all early-stage deals activity for week 18 from Traxcn, Inc42, and YourStory, we jointly picked out the following as the best funding picks for the last week:

 

Name: QuillBot

Amount Raised: $4 Mn in a round led by GSV Ventures and Sierra Ventures

What does QuillBot do?

Edited from Traxcn: Millions trust QuillBot’s full-sentence thesaurus to get creative suggestions, rewrite content, and get over writer’s block. QuillBot uses state-of-the-art AI to rewrite any sentence or article you give it.

Why do I like QuillBot?

My team and I are Grammarly power users processing tens of thousands of words for our investment notes, meeting minutes, emails, blogs, private chats, and more. I believe that there is space for a Grammarly competitor, especially one that understands the Indianized English – also, can Quillbot (or Grammarly) build a plugin for PowerPoint, please!

 

Name: YAP

Amount Raised: $4.5 Mn led by BEENEXT

What does YAP do?

Edited from Traxcn: YAP offers a white label program management platform. They also issue a Yap Tatkal wallet, which allows their clients to provide their customers physical or virtual prepaid cards linked to their products. They also offer a QR payment solution in the mobile wallet.

Why do I like YAP?

The lockdown caught the banks with their pants down due to unpreparedness to go digital. The post-lockdown scenario is bleak for physical banking, and banks must prepare themselves to fully service their customers from the palm of their hands. YAP is building APIs to bridge that gap hence one to look out for.

 

Name: Mindhouse

Amount Raised: ~$680K from BTB Ventures, GGV Capital, Aartieca Family Trust, and Angels

What does Mindhouse do?

Edited from Traxcn: Standalone mental fitness and wellness center brand

Why do I like Mindhouse?

The COVID19 virus reserves it’s worst for those with weakened immune systems. Therefore I expect that fitness (physical or mental) will be on the priority list of most in the post-virus era. Mindhouse attempts to enter the space that mind.fit is operating in. Will it succeed?

Discovering the true cost of acquring a new customer

Earlier this week, I wrote an email in which I explained the reasons why I was passing on a deal that my team and I had tracked for more than three months.

The eventual reason for letting go of this deal finally dawned on me when I re-did the calculations for the cost it took for this venture to acquire a new customer (or a unit of “new” sales). When I completed this exercise, I could finally appreciate the vast disconnect in the way the founder and I saw the same traction numbers and the valuation for the company.

First, this is how I recalculated the cost of new customer acquisition, starting with a net gross sales number which was done by:

The NGSn number must be positive, and only when if the Gross Sales / NGSn > 2x it piques my interest.

Next is how I calculated Net Sales (new) or NSn:

The NSn number is usually and understandably, negative – profoundly negative when a start-up is experimenting with different marketing strategies early in their development. However, NSn must turn positive before raising your pre-Series A round as it is a clear indicator of achieving product-market fit.

Those preparing for Series A rounds should get to NSn / NGSn > 0.5x as a clear indicator that each rupee invested in marketing delivers an ROI of 2x or more.

Unfortunately for the founder in my example, the NSn number was deeply negative, i.e. in the -0.5x range. I concluded that this start-up was raking in less than the amount of money and effort invested in marketing, i.e. product-market is not yet achieved. The fact that the NSn / NGSn ratio was touching almost -1x in their best sales month made it difficult for me to assign any positive value their traction.   

*I say new sales or new customers because usually any returning customers do not (and should not) cost the company marketing rupees. In the case that returning customers cost the company marketing money, then the budget for that should be kept separate. Remove these returning customer costs from each line item from the formula, to ensure that the ratios are accurate with correct data.

Modern retail will choke the life out of (young) consumer brands

A speaker at a recent closed-door conference that I attended, made a presentation on the different kinds of business models and what makes them successful. One very important observation that he pointed out, and that stuck with me was:  

If the key to the success of a restaurant start-up is location, location, location,
Then the key to the success of a consumer goods start-up is distribution, distribution, distribution.”  

Expressing my investment focus on consumer brands in a blog post earlier this year and in the interview with Sudhir Chowdhary of Financial Express, propelled some excellent deals into our pipeline, many of which are in the advanced stages of evaluation. Most of the start-ups that came to us however, were utilising modern retail as a part of their distribution strategy, an expensive approach, that I have some serious doubts about.  

Most modern retailers take 30-35% of the sales price of product as their “cut”. For 90% of start-ups, this massive pay-out is equivalent to the cost price of the product. Over and above this cut, start-ups must shell out money for ATL/BTL marketing, PR, etc which makes the total marketing cost well over 50% of the sales price.  

Although such a large pay-out of the sales price is required at early stages, marketing costs are meant to reduce over time and become a smaller percentage of revenues with scale. Retailers however, continue to ask for a standard 30-35%, causing a massive drag on financials.  

Furthermore, most modern retail stores have terrible payment terms (barring a few) and withhold payments for 45-60 days causing expensive start-up capital to be stuck in working capital. Most retailers also have clauses that force their vendors to take back items that have not been sold and are approaching their expiry date, which could be a function of the store not performing well due to certain issues that the vendor has no control over.  

For the expensive money paid out to modern retailers, they provide very little data on the consumers that are buying a start-ups’ wares, making it difficult for start-ups to get accurate customer insights and improve their offerings or develop new lines of products.  

I have been heavily influenced by a case study that I did in college on how Walmart destroyed Vlasic pickles in the early 2000s by becoming its biggest customer and the reason for the drop in its margins. Vlasic eventually filed for bankruptcy protection.   

In my opinion, selling directly via an online e-commerce platform or through their own website is the way to go. Although this may lead to copious amounts of money spent on marketing and logistics, it pales in comparison to the amount start-ups shell out to modern retail chains. Additionally, direct selling gives the start-up access to direct customer feedback (which is invaluable) which will significantly improve the product & research team’s understanding of the target audience and allow customer service to quickly respond to consumer grievances, suggestions and behavioural changes. Another upside is that the products can be shipped nationwide beyond the geographical boundaries of modern retail stores. This is something that has the necessary “escape velocity” to quickly scale revenues – I cannot impress enough upon the importance of this feature for the investment attractiveness of a venture.  

The point that drives the proverbial final nail in my argument to avoid a massive reliance on modern retail is the emergence of several private label brands. Many retailers (Amazon included) use the sales data of top performing categories and brands and start looking for options to private label them. This means that not only is a new brand paying these modern retail stores 30-35% of their revenues, but they are also acting as the guinea pig to augment the retailer’s private label portfolio and increase its profitability.  

Therefore, I strongly advocate that founders should avoid the modern retail route until they have reached a commanding size or just avoid them (if they can) altogether.  

99/2018