Pelf: Is venture capital money for startups evil?

A common discourse these days in the print and social media is the persistent rant by “old school” economists and businessmen about how easy access to venture capital and private equity for startups have spoilt the ecosystem. And any failure is attributed to this easy access, any news in fact. In this post, I throw open three challenges for the startup ecosystem.

First things first, definition of pelf. The word has disappeared from a lot of English-speaking countries, but still survives in India, at least in my mind. It refers to money and wealth, which is ill-gotten, or through a dishonorable way. For the more lexicologically inclined, here is a link with more details.

As the startup economy generates any news, like Jabong being on sale; or ANI Technologies (the firm that runs OLA Cabs) reports losses, I scroll down to read the comments. And a large majority of them are rants about how these young twenty-something entrepreneurs have so much access to easy capital, that they do not care about business failures. I would imagine it is very fashionable to say – yes, failure is good and you should encourage failures, but fail with your own money (bootstrapping is okay; VC money is not). On the other hand, entrepreneurs would argue for the need for sufficient capital to invest in developing the ecosystem (low internet penetration, poor logistics and last-mile connectivity, inadequate payment infrastructure, and heightened competition from MNC subsidiaries like Platform-businesses need capital to kick-in network effects, including subsidizing users (like Uber); so do a lot of infrastructure-dependent businesses that need patient capital before all pieces of the ecosystem fit with each other (PayTM).

The first challenge I pose to the entrepreneurs is to communicate the nature of your business model to your stakeholders very well. What is the source of your network effects? In just the last week, I heard at least four entrepreneurs pitching to investors, using the platform word in their first slides of the presentation, without ever talking about when and wherefrom network effects would kick-in. If you need capital to kick-in network effects, elucidate. Over the last few years, enough has been written about platform business models and network effects, a simple Internet search would educate you enough. Please put up at least a pictorial representation on your website (most of the websites have pages titled, how it works, which are craving for such content). For an example, please visit the homepage of Tarnea Technology Solutions (disclaimer: I advise them).

The second challenge is about pivoting. Entrepreneurs (ab)use this term a lot, that quite a lot of times, I am left wondering if the business had any specific plan in mind at all. When one thing does not work, it is natural to seek another business. When a large plan does not yield great results, it is important to seek business results from whatever succeeds in the overall scheme. But to use the word pivoting with a sense of pride is unnerving. I would urge entrepreneurs to take pride in whatever you do, fail, bounce back. But to pivot with pride, I am not sure. You may have used entrepreneurial bricolage (making do with whatever is at hand) to build your business, nothing wrong. The classic (okay, my favorite) academic paper on entrepreneurial bricolage is here. Bricolage explains how entrepreneurs recombine their limited resources at hand and create unique products/ provide unique services that challenge institutional norms. For examples of digital bricolage and what it entails for new age entrepreneurs, read this latest article at

The third challenge (may be a request) I pose to entrepreneurs is to provide credible estimates of performance. The old age firms, especially the ones listed in the stock market need to provide the (Wall or Dalal) street and analysts with performance expectations. Yes, forward looking statements. The stock market penalizes firms who do not provide reasonable estimates of performance, or fail to perform in line with estimates. Entrepreneurs, even though you do not have the retail investors and analysts chasing you with quarter-on-quarter performance expectations, it makes for good governance to keep stakeholders informed. Please provide us with credible forward looking statements. It is actually good time-pass these days to initiate conversations with OLA and Uber drivers about when and if at all these firms will ever become profitable. Neither the drivers, nor the riders have a clue to the way forward, and it is good fun listening to various viewpoints. I am very impressed with Snapdeal founder Kunal Behl’s collaboration with Ashvin Vellody of KPMG to publish this report on the Impact of e-commerce on SMEs in India. Not so much the report (it is definitely well written and contains insightful analysis), but the act of writing itself is commendable for me.

To summarize, entrepreneurs in the startup world, if you want to change the perception that all your startup capital was easily obtained, is pelf, and therefore not justified, I challenge you to

  1. Explicitly communicate the source of your network effects
  2. Don’t pivot; use entrepreneurial bricolage
  3. Provide credible estimates of performance


Measuring E-commerce firms’ performance

The week began with the news of the online grocer PepperTap closing its grocery business to become a pureplay logistics firm (see here). And we just read that SnapDeal is recalliberating its performance metrics (read here). So, what exactly is the problem and what can we do about it?

The investor obsession with GMV

Throughout the world, venture capitalists and other investors have used the metric of Gross Merchandise Value (GMV) to measure the performance of E-commerce firms. Everyone manages what they are measured on. So, all E-commerce firms focused on increasing their GMV, that is increasing the gross value of their sales. What this obsession with gross sales does to firms is that there is significant incentive to pursue what I call as “profitless growth”, where only the topline matters, with no attention whatsoever on all other parameters. Especially so, when the entire industry thrived on deep discounting and low customer switching and multi-homing costs. Focus on just one parameter like the GMV might be valuable when the business just sets up to measure the initial traction amongst the target customer groups, but continued focus on the single parameter can lead to misplaced strategies.

Evolving other measures

After all, E-commerce is also a business that needs to provide sustained returns to its shareholders. As with all for-profit businesses, good measurement of performance should include a variety of metrics that reflect the organization’s priorities and strategies. For a consumer focused multi-category retail business, it would be prudent to measure performance on the following four parameters – (a) gross and net (of returns) revenues; (b) gross and net margins; (c) customer addition, loyalty, and attrition; and (d) distribution of sales across categories in line with the firm strategy/ priorities (merchandising mix).

The bane of COD

The boom of Indian Ecommerce industry and its reach to tier II and tier III towns in India could be attributed to the industry adopting “cash on delivery” as a means of payment. With the proliferation of mobile phones and 3G/ 4G coverage across the country, customers with smartphones, and with no access to any digital transaction platform (like a credit card/ debit card/ wallet) can easily buy goods online. And pay for them when they actually receive them through cash. The impact of this on Ecommerce companies is three-fold: adding more number of customers, providing time for customers to actually make up their mind – they could actually return the goods when they arrive with no liability at all (see the recent Flipkart ads), and larger investments in working capital for the industry (either the platform or its suppliers, or both). Therefore, it is imperative that the E-commerce firms measure not just their gross merchandise value, but include the GMV net of returns, or Net Merchandise Value (to account for returns).

E-commerce = discounts

The primary selling proposition of E-commerce firms in India have been around deep discounts. While the idea of a zero-inventory marketplace model (that Amazon pioneered over a decade and half ago) does provide sufficient economies of scale and cost advantages, competitive discounting in the Indian E-commerce industry has over the years shaped customer expectations to the extent of equating online buying to deep discounting. Therefore, measuring gross and net margins of the entire firm is imperative.

Spreading Commerce to the “hinterlands”

The first line of defense Ecommerce firms take umbrage to when someone accuses them of being focused on a single parameter is that “the industry is in its infancy, and we need to broaden our net”. True that the low penetration of E-commerce in India provides a big opportunity for growth, we need to define appropriate metrics to measure the firm’s performance on that front. It is therefore important that firms measure the total number of transactions (as a proxy for volume sales in the offline world), number of active customers (as a measure of customer concentration – or an ABC analysis of customers), number of new customers added (not registrations but at least on transaction), average GMV per customer (as a measure for identifying high-value customers), average contribution per customer (gross profitability), and the proportion of customers whose GMV increased over the past period. In addition to this, we need to also factor in the cost of acquiring customers (CAC), and derive the long term value (LTV) of customers to evaluate performance. As the firm matures, it should strive to bring the CAC lower than the LTV.

PepperTap’s source of worry (read the article on here) was its rapid expansion to new towns where the costs of servicing was far higher than the LTV of the customers in those geographies. As they cut down on the number of cities, their performance improved. Therefore, it is imperative that Ecommerce firms measure and report their CAC and LTV of their customers as a key performance metric.

Alignment with strategic priorities

For a multi-category retailer, the distribution of its sales, costs and margins across categories is a critical parameter to monitor. Firms may prioritize certain categories over others as per their market position and strategic priorities. Successful firms therefore need to measure and monitor their performance across categories, and benchmark against their intent and priorities.

Creating a holistic dashboard

In sum, E-commerce firms would do well to measure, monitor, and report their performance on the four categories of parameters including (a) the traditional GMV, and a GMV net of returns; (b) overall gross margins and net margins for the firm; (c) total number of transactions, number of active customers, new customers added, average GMV per customer, average contribution per customer, proportion of customers registering increase in contribution over the past period, and the cost of acquiring customers; and (d) distribution of GMV, GMV net of sales, gross margins, net margins, number of (net of returns) sales, and CAC & LTV numbers in each category.

Interesting times lie ahead for the industry, as the golden tap of venture capital finance dries up, leading to reduction in discounts and possibly consolidation of firms to leverage the traditional scale economies of a zero-inventory marketplace model.