As cash-burning era ends and investors seek profits, startups are in for tougher ride

SINGAPORE — The cash-burning days that often characterised the startup ecosystem in the last few years are set to be over.

On the back of a more uncertain global economy, a maturing startup landscape and cautionary tales of high-profile closures such as bike-sharing startups oBike and Ofo, venture capitalists and industry observers say investors are turning cautious. They also cite as examples the financial woes faced by property technology startup WeWork and local grocery delivery firm Honestbee.

More startups are expected to face closures in the next few years as investors want to make sure that they are putting their money into companies with sound business models and selling products that customers are willing to pay for, the experts said.

Data from the Department of Statistics showed that there were 3,800 startups in Singapore in 2017. There is no available data for 2018 and this year.

Mr Christopher Quek, managing director of venture capital firm Trive, said: “My assessment is that venture capitalists and investors in general, everyone always ask me when a startup is recommended to them, ‘profitable or not?’ That’s the new buzzword I am hearing. They want to know whether this can sustain.”

Venture capital firms typically seek out budding new businesses to invest in, sometimes in return for an equity stake in the firm. By picking winners early in their development, these venture capital firms can reap big rewards, but it’s a risky form of investment given the rate of startup failures.

CHANGING INVESTMENT APPETITE

The more cautious investment environment for startups anticipated in 2020 stands in stark contrast to the exuberant levels of funding that the startup ecosystem has seen in the last few years even when firms remained firmly in the red, experts said.

It led to a surge of startups emerging in the city-state, providing services such as food delivery, ride-hailing and also bike-sharing services.

That also brought on a wave of exits and closures, including ride-hailing giant Uber leaving the Southeast Asian market in March last year, as well as the closure of Obike and Ofo in the space of less than one year.

Honestbee is also currently undergoing a debt restructuring process, and has laid off staff as it seeks to get back on track.

But as sentiments surrounding the global economy remain weak, Professor Sarah Cheah from the National University of Singapore Business School said that she expects to see investors being more conservative.

“Startups would take a bigger hit as they have less resources, they have less funding to fall back on unlike established companies,” she added.

Besides macro-economic factors, Mr Quek said that the high-profile startup failures that have occurred in Singapore have also contributed to the more cautious environment.

“They feel that risk levels starts to rise where burn rate is there and startups haven’t actually gone into profitability or haven’t shown a clear direction of profitability,” he said.

Burn rate refers to the rate at which new startups are losing money, that is, burning through money invested in the enterprise as profits remain a distant prospect.

Some startup founders TODAY spoke to said that they have also experienced a slight change in what investors are focused on.

One major trigger is the debacle involving Softbank’s bailout of WeWork, which found itself in trouble after details of its wayward management were revealed through its journey to get publicly listed.

Ms Caecilia Chu, the co-founder and chief executive officer of financial technology startup YouTrip, said that investors she spoke to this year paid more attention to the underlying economics of growth instead of just topline or revenue growth, such as the growing number of users.

“A year ago, an investor will give me feedback and say: ‘You are not aggressive enough in spending to acquire users.’ One year later, when they look at how we spend our money, now we are on the side of being appreciated for being frugal and disciplined. I do see that slight change of focus,” she added.

However, Mr Alan Phua, founder of food tech startup Alchemy Foodtech believes that the heightened cautiousness is more prevalent among medium-sized venture capital firms.

“They may want to see solid proof that products can be monetised and be sustainable. Those are the things they might be becoming more pragmatic. But they don’t turn into conventional investors,” he added.

Both startups, however, told TODAY that they are not too concerned with this shift as they are seeing sufficient interest from investors.

Mr Henry Chan, co-founder of shopping reward and discovery startup ShopBack, said that there has been heightened concern among investors over startups' sustainability in the second half of this year and he believes this will continue into the first half of next year.

In addition, investors are also not rewarding growth for growth's sake."For us, we are more careful about growth as well as prudent growth. Not just growth for growth," he added.

WHY DO STARTUPS FAIL?

The over-exuberance in startup funding could be blamed for the many mistakes startups made that led to their failures, said Mr Ku Kay Mok, managing partner of venture capital firm Gobi Partners.

“It led to unwise business expansion, reckless spending and lack of focus,” he added.

Other observers TODAY spoke to generally expressed the same sentiment that many of the startups that failed in Singapore were more focused on spending to acquire market share, instead of ensuring that their business models would be sustainable and eventually profitable.

These startups, such as Uber, Ofo and Obike were trying to grow the user base through giving out vouchers, discounts and freebies — all financed through venture capital funding, noted Assoc Prof Cheah.

“But after acquiring market share and users, the next question is about customer retention. That is going to be the reality that startups will have to face over long-term operations,” she added.

And to retain customers, startups need to come up with products or services that the public is willing to pay for, and not something that is subsidised by venture capital.

Startups that ultimately managed to survive the bloodbath are those with the biggest financial backers, said Mr Quek.

“I think in reality if you actually look at the unicorns we have here in Singapore and Southeast Asia. They are not drawing a profit… But they are still in existence today because they have a huge war chest to work on,” he added. Unicorns refer to startups that expand to have a market value of US$1 billion.

The Singapore ride-hailing unit of Grab, which is valued at US$14 billion, incurred losses of S$228.9 million in 2018.

The startups that have failed, such as Uber, Obike and Ofo, are also consumer startups, which tend to be low-margin businesses, said Mr Ku.

“They are low-margin business which can grow when funded with investors' money in the short term but hard to generate profits in the long term,” he added.

The huge investments startups obtain through their rounds of fund-raising, however, often capture headlines, and often facilitate the hype around the company even though their business fundamentals might not be strong.

Former tech journalist Oo Gin Lee said the investors and the mass media need to be more careful in the way startups are portrayed.

Even having the concept such as a burn rate is problematic to Mr Oo.

“That is the issue. We are taught that making money is first and foremost when starting a business. Suddenly there is a world out there where you don’t have to make money as long as you keep finding another investor... Small- and medium-sized enterprises won’t think like that,” he added.

However, experts agree that these failures are very much part and parcel of the startup ecosystem.

Mr Douglas Abrams, founder of venture capital firm Expara, said: “Innovative products and business models create market opportunities... The intense competition creates great new products and services which benefit consumers. So the high failure rates are not a bug, they are a feature of the system.”