How many innovative small businesses are there in India?

(This essay was written by Kaushik Gala, is taken from his website, where you can find more such essays by him, and is reproduced here with permission. Kaushik is a Business Development Manager at Pune-based startup incubator Venture Center. Please send any comments to galatime@gmail.com)

Kaushik Gala, Business Development Manager at Venture Center is looking for all innovators in the areas of biology, chemical, and material sciences.
Kaushik Gala, Business Development Manager at Venture Center is looking for all innovators in the areas of biology, chemical, and material sciences.

I want to estimate the number of innovative enterprises in India, and look into their (in)ability to access risk capital.

Why? Because I’d like to know how many Indian enterprises may offer higher returns than FDs, bonds, mutual funds & stocks. But with a lower risk than a VC funded startup.

Why? Because I believe it is possible to raise & deploy a large amount of risk capital to a large set of Indian companies. $1B+.

Why? Because 95%+ of innovative enterprises lack access to risk capital. And 95% of ‘rich’ Indians / NRIs lack access to private equity investments in India. That’s my hypothesis.

So what? Well, there’s a business model in here somewhere.

Definitions & Numbers

I’m mixing up the various terms used to describe relatively young & relatively small (by revenue) companies. These include: startups, Micro, Small and Medium Enterprises (MSMEs), Small Scale Industries (SSIs), new ventures, spin-offs, spin-outs, etc.

Per the 2006-07 census, there are over 26 million MSMEs in India. ~ 97% of these won’t show up in MCA statistics since they are unregistered or operate as sole proprietorships / partnerships.

A company is Micro, Small or Medium depending on the amount invested in plants & machinery. MSMEs employ ~ 60 million people (= 3 Mumbais) and contribute ~ 20% to India’s GDP.

Of these, over 98% are ‘Micro’ enterprises. The majority are ‘one-man shows’ that provide services to local markets with minimal investment. They use traditional techniques, have no formal management practices and lack access to bank credit.

The numbers are huge from a micro-finance perspective. But I’m looking for candidates for risk capital. Time to narrow down the potential market.

Innovative (M)SMEs

How many MSMEs have an innovative business model or technology, that is fairly scalable? Who knows! Let’s make a few random assumptions and pick numbers out of thin air. ‘Micro’ enterprises are less likely to be significantly innovative given their constraints. That leaves say ~ 0.5 million Small & Medium Enterprises (SMEs) to choose from.

Ignore stuff like product vs. service, urban vs. rural, geography, etc.. Let’s assume that at least some % of these 5 lakh SMEs are innovative enough. To qualify, they should have products/services with some ‘edge’, which provides growth & profits. These SMEs were ‘Micro’ at birth, and since they are still around, they must be doing something right.

Maybe 2% of SMEs meet this criteria. That’s 10,000 innovative (and perhaps risk capital worthy) enterprises across India.

My assumption of 2% may be wildly off, but remember that I left out 25.5 million ‘Micro’ enterprises. If even a fraction of those get added to the ‘innovative’ pool, the 10K number suddenly looks small.

Risk Capital for Innovative (M)SMEs

Most MSMEs rely on family, friends & personal networks for funding. Only a select few have access to risk capital from angels, VCs, and certain schemes from government/banks. For example:

  • On average, < 100 Indian companies get VC funding every year.
  • On average, angels & angel networks (eg. Mumbai Angels) fund ~ 50 startups every year.
  • On average, government schemes for startups (eg. DSIR’s TePP, TDB seed funds) fund ~ 100 enterprises every year.
  • On average, ~ 50 companies get listed (via IPOs) on our stock exchanges every year. Of the ~ 2000 companies that traded publicly, 80%+ are quite illiquid.
  • On average, bank lending to MSMEs accounts for < 10% of total commercial lending. It’s usually in the form of secured, collateralized debt – not ‘risk’ capital. With personal guarantees from borrowers. And probably only to the ‘Medium’ enterprises.

By any measure, this is hugely insufficient in the context of my 10K estimate. And it gets worse:

  • The average VC deal size in India is ~ 20 crore. That puts the average pre-money valuation at 40 – 60 crore.
  • To stand a chance of an IPO on the NSE or BSE, a company must ideally have revenues of over 100 crore.
  • While governments & banks may be more open to smaller deals, they offer a different set of challenges – slower processes, risk-aversion, stringent spending terms & conditions, limited exposure to risk capital, etc.

SMEs need to invest 10 lakh – 5 crore in their businesses. In the Indian VC world, this would count as ‘seed funding’ or ‘early stage funding’. It is supposed to be followed by Series A, B, C, … on its way to a 100-1000 crore valuation. But not every SME is a glamourous, Silicon Valley style, tech startup. Not every SME is addressing a 1000 crore market. Or even a 100 crore market. So all this talk of ‘seed funding’ is irrelevant.

Bottom-line: There is a tremendous shortage of risk capital – in the 10 lakh to 5 crore range – for innovative (M)SMEs.

[Caveat: Then again, how many of these business owners are willing to part with equity?]

For the MBA/VC types, here is what the SAM (serviceable/sellable available market) looks like: 10K SMEs * say Rs 50 lakh per SME on average = Rs 5000 crore = $1B. Maybe much more!

Demand is not a problem. What about supply? Time for Essay #2.

1 thought on “How many innovative small businesses are there in India?

  1. your estimates of 10K + worthy sme seems to be on a lower side.

    The more pertinent question is about supply side and how to contact supply chain ??

    enlighten me , since i happen to be one of 10K+

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