India’s Chinese Funding Gap

There has been much activity in the Indian investing scene in 2020. The world’s second-most populous country of 1.3B people creates enormous opportunities for a large customer base of which technology startups can take advantage. India ranks the third-largest startup ecosystem, receiving over $10B in venture capital in 2019. It isn’t just startups receiving investments, as individuals in the country gain access to mobile devices and internet connectivity, prompting large investments into companies providing mobile infrastructure. The most prominent example of this are investments of around $20B this year alone in Jio Platforms, India’s largest digital services firm. Well-known technology companies such as Intel, Qualcomm, Facebook, and Google, along with prominent private equity firms, have pumped money into Jio, which has almost 400M subscribers. This capital helps lay the foundation for the increased technological innovations that will penetrate the Indian marketplace over the next decade, and venture capital investments in the country have reflected that fact. 

To date, the majority of venture capital invested in India has come from neighboring China. For background on just how important China has been for India’s startup ecosystem’s funding, we can take a hard look at the numbers. In 2019, China had invested $4.6B in the country, measuring a 12x increase in four years. Also, China has invested in over half of India’s 30 “unicorns” (startups worth over $1B). In total, China accounts for 11% of India’s foreign direct investment (FDI) dollars. 2020 marks the 70th year of the establishment of diplomatic relations between the two. Instead of celebrating that fact, tensions have led to significant consequences that India will need to address to fill in the potential funding gap that has appeared.

So what exactly happened? At a high level, blame towards China for the Covid-19 pandemic and the effect it has had globally certainly plays a part. Government shutdowns to curb the pandemic’s spread have decimated economies globally. These measures hit India especially hard, given they have the second-highest number of cases behind the United States. Citing the pandemic, India implemented new rules around FDI investments from neighboring countries to avoid hostile takeovers of companies struggling during these challenging times. Essentially, Chinese investors now need direct government approval to invest in Indian companies, adding additional layers, complexities, and scrutiny to the process. Although the pandemic is an easy scapegoat, the move follows other countries that had already tightened FDI policies due to Chinese security concerns.

Another important geopolitical event occurred in June when the Chinese military killed 20 Indian troops along a disputed border between the two countries. The aftermath of this event has been unfolding over the last six months, with India immediately putting restrictions on Chinese imports. Another significant outcome was India’s decision to ban Chinese mobile apps due to data collection, privacy, and national security concerns. So far this year, India has banned over 200 Chinese apps. These moves have cut off a revenue stream for some of China’s most influential technology giants but have also created an additional funding complexity. Some of these Chinese companies are large investors in Indian startups, and banning them from the country has raised questions around continuing investment opportunities. A concrete example of this is China-based Alibaba’s announcement in August that it will withhold investing in India for at least six months.

We will have to wait until year-end to really dive into the funding metrics and see what effects these events have had on India’s VC fundraising. Reports show that China has shifted its focus from India to Indonesia and other Southeast Asian countries in the meantime. Funding blocks would be an additional challenge for Indian startups, as many are already struggling to acquire customers and capital during the pandemic. With Chinese investments virtually on pause, India has had to look elsewhere for strategic money into its startup ecosystem. Early data points to Japan and the U.S. filling in some gaps, but it likely doesn’t match China’s levels over the last few years. The hardest-hit companies will mostly be later-stage startups, as China has played a larger role in that stage. The good news is that this presents India with an opportunity to focus less on foreign investment and further develop policies to influence domestic investors to pour capital into startups. There are currently less than 100 VC firms native to India, which is quite small compared to the 3,500+ in China, and domestic VC dollars account for less than 5% of capital in Indian startups. India can take advantage of the current environment to introduce legislation enticing pension funds, banks, and others to join the VC asset class. Creating a self-sustaining ecosystem and reducing any risks associated with geopolitical tensions will help the Indian VC landscape long-term.

If you’d like to do some further reading on India’s VC ecosystem, Bain & Company put together this fantastic report earlier this year.

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