Challenges faced by startups in an International Environment

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Introduction

There are many challenges faced in doing business in an international environment. Countries differ from each other in various aspects like political, legal, social, economic and cultural environments. A business has to consider all these aspects before deciding to enter a particular country. Thus one must identify how specific aspects of business that are affected by these elements.

Framework for Evaluation

DoingBusiness.org gives a framework for comparing countries for ease of doing business. This framework goes through a chronological order of a business's life cycle, right from starting a business to hiring workers, paying taxes and ending with closure of the business.

In addition to the above factors, one also has to look at other aspects like infrastructure, macroeconomic stability and market size which play a major role in the successful running of businesses (Reference to the World economic forum's Global Competitiveness Report). Thus we can categorize the above factors into 3 major heads:

A high score in the above four major factors would indicate that businesses can thrive in these countries.

Country Evaluation

A comparison of India and US based on the above factors would help bring out the differences between the two countries and would help us identify the reasons behind success and failure of different types of industries in these countries.

India

India is currently one of the fastest growing economies in the world with a 6% average GDP growth rate since 1991 reforms. While it has been phenomenally successful in some businesses like IT, ITES and Automobile sector, there are a lot of industries that are still backward.

Institutions

Even after 20 years of reforms, the governmental institutions and bureaucracy are still major detrimental factors for businesses in India. It takes more than twice the number of days to start a business in India when compared to OECD countries, due to the large number of procedures involved and the delays in various offices.

Additionally, the weakness of legal institutions has resulted in weak enforcement of rights and results in extra legal institutions playing a more prominent role. The high incidence of corruption is a direct consequence of this.

On the other hand, there are some institutions like the TRAI etc that have strived to create a positive business environment. The private institutions in India have also been pro active in promoting businesses. Thus in areas like availability of credit, India has been able to do well when compared to developed nations.

Infrastructure

India's infrastructure lags behind most of the countries in the world. Even though it possesses the world's largest rail network, the road and air transport are not fully developed. The telecommunication sector has growing rapidly over the last decade. But still the telephone and internet penetration is low.

In addition to this, India's human resources, though one of the largest in the world, is not fully utilized due to the poor state of primary and higher education. But there is an urban-rural divide in this sector which has resulted in a huge educated work force being available for IT and ITES industries from major cities.

Macroeconomic Factors

India has been one of the countries that have emerged stronger from the current global recession. The reasons have been a robust financial system and vigilant regulation. The savings rate in India has also been increasing steadily over the last several years. This contributes to easy availability of funds for businesses to operate.

One are of concern is the spiraling inflation that has been hovering near 10% over the last 2 years. This has a negative impact on the consumption power of the people. It also results in political instability and hence adversely affects businesses.

Market Conditions

India's domestic market is the 4th largest in the world. It is also diverse in terms of consumption patterns. The per capita income in India is low, but it has pockets of high prosperity which result in huge demand. This has been one of India's most important assets during the recession. India also has a lot of scope of modernization in its government sector and this has proved to a main point of attraction to major global companies.

Thus we see that even though overall India lags behind the OECD in all the above 4 factors, because of the asymmetrical development, some parts of India are highly competitive and hence provide encouraging environment for conducting business.

US

The United States of America has been the world's leading economic power for nearly a century now and even though it is facing a severe recession today, it is still one of the world's most competitive economies.

Institutions

The legal and governmental organizations in the US are one of the most business friendly in the world. All the institutions believe in the efficiency of capitalist economy and hence running a business is very transparent and simple there.

Infrastructure

Even though it lags behind many countries in its railway network, the road and air transport sector in US are one of the most developed in the world. It is also one of the leaders in telecommunication field and thus most of the big telecom companies have emerged from this nation.

The US also boasts many of the world's top educational institutions. Through these, it has been able to attract highly skilled workforce from around the world.

Macroeconomic Factors

Because of the current recession, the US's budget and other macroeconomic factors have deteriorated considerably. Still, because of its size and the centrality of its currency to global economy, businesses still consider it as one of the safest investment opportunities. The high unemployment and falling inflation have been a concern over the last 2 years.

Market Conditions

The US domestic market is the world's largest and most diverse. Thus, its market drives competition through innovation. This has spawned a large number of successful US businesses that have later expanded globally. The current macroeconomic conditions have resulted in fall in consumer demand. But this is considered temporary and its domestic market still drives business growth.

Web services overview

"Services designed for application to human interactions and can be used for information sharing, B2B and B2C commerce. Now a day's more and more business processes are integrated through web and enables people to interact within their own comfort space. Web based services can be used to a great extent in value chain and makes information available fast enough" raghavan2010-08-03T10:10:00.35

Cite Source

Application of Porter's diamond to Indian IT and web based industry

The IT-ITeS industry in India has today become a growth engine for the economy, contributing substantially to increases in the GDP, urban employment and exports, to achieve the vision of a "young and resilient" India. During the year, the sector maintained its double digit growth rate and was a net hirer. This growth has been fuelled by increasing diversification in the geographic base and industry verticals, and adaptation in the service offerings portfolio. While the effects of the economic crisis are expected to linger in the near term future, the Indian IT-BPO industry has displayed resilience and tenacity in countering the unpredictable conditions and reiterating the viability of India's fundamental value proposition. Consequently, India has retained its leadership position in the global sourcing market.

raghavan2010-08-03T10:10:00.35

Source

Factor conditions:

India has a large pool of skilled and cheap human resources and this pool is keeps on growing. Skilled manpower and multi lingual capabilities combined with the advantages of lower costs have helped the country to emerge as a frontrunner in KPO, globally. Increasing adoption of technology in the domestic industries is already beginning to reflect in their enhanced performance and competitiveness. This shows that India is not going to face a factor limitation in near future. This gives India competitive advantage as compared to other countries such as US and other European countries. The problem here is that the sufficient availability of the resources will limit the extent of innovation and up gradation as compared to other countries.

Demand conditions:

As the demand keeps on growing for IT & web based services in India, a more demanding local market leads to national advantage. Right now most of the services provided are back end services for foreign countries (export: 60% to the US and 20% to the UK) it will take some time to drive the demand more from our own country.

Related and supporting industries:

When local supporting industries are competitive, firms enjoy more cost effective and innovative inputs. Complementing the strong growth in IT services and BPO exports was the continued growth across software product development and engineering services, which also reflected India's increasing role in global technology IP creation.

Firm Strategy, Structure and Rivalry:

Local culture and the type of business affect firm strategy and structure to a great extent. Indian IT companies' strategy mainly relies on low cost global delivery 24*7, timely delivery, and customer retention and cost leadership. In India the IT firm structure tends to be more hierarchical and the power distance is more which has come out from its own culture. In terms of rivalry, the Indian IT companies are facing a huge amount of rivalry from its MNCs counterparts and other Indian IT companies. When mid-sized Indian consulting firms like TCS and Wipro introduced off-shoring by charging lower prices per consultant, big IT consulting houses like IBM and Accenture had to hire IT professionals in India and charge similar prices per consultant

Application of Porter's diamond on US IT industry

For the United States, the Information Technology Revolution quietly changed the way business and government operate. The nation shifted the control of essential processes in manufacturing, utilities, banking, and communications to networked computers. As a result, the cost of doing business dropped and productivity skyrocketed.

Since 2002, the U.S. economy and national security are fully dependent upon information technology and the information infrastructure. A network of networks directly supports the operation of all sectors of U.S. economy - energy (electric power, oil and gas), transportation (rail, air, merchant marine), finance and banking, information and telecommunications, public health, emergency services, water, chemical, defence industrial base, food, agriculture, and postal and shipping.

Factor conditions:

Because of the shortage of technically skilled manpower and high cost associated with it, innovation and up gradation is at the core of IT industry which gives US a competitive advantage in terms of technology. Other countries are also fast catching up with US in terms of innovation and it is going to be very difficult for US to maintain its edge in long run.

Demand conditions:

The demand for IT and web based services is increasing year on year as more and more industries are integrating IT into their business operations. But because of the higher labour cost most of IT jobs are outsourced to other countries where low cost manpower can be leveraged.

Related and supporting industries:

In US, the IT related and supporting industries are on the surge and fiercely competing with each which gives IT firms cost advantage. Moreover these industries are highly integrated which gives US a competitive advantage in terms of supply chain and value chain addition.

Firm strategy, structure and rivalry:

US IT firms strategy mainly concerned about how to achieve low cost operation which makes them to outsource their most of the backend operations to countries with low cost manpower. Rivalry also forces US IT firms to outsource their operations to cut down the cost and to achieve higher customer satisfaction.

CHALLENGES FACED WHILE RUNNING STARTUPS : INDIA AND US

Based on our discussions with people working in different startups, we decided to take up a vertical based view of the startups and compare and contrast the challenges faced while running in startups in both the places. The focus here will be more on the operational data.

As part of the project, we have interviewed Mr. Bhupendra Khanal, CEO of Inrev Systems, Bangalore. Inrev Systems is into web services domain focused on social media analytics. We have also interviewed Mr. Krishna Das, a 3rd year FPM Student who had experience working with startups and Mr. Abhishek Yadav, working in Tenmiles.com.

Strategy

For a startup, strategy is interms of whether the startup needs to be specialized or not, the kind of outlook a startup needs to have (long term or short term) and the kind of growth and scale that should be targeted.

Specialised or Generalized?

If the startup is specialized, people will get to know you. This would serve as a differentiating factor and help identify. In the case of InRev Systems, it gave them the first mover advantage as it was the first company in India in the social media analytics space.

However there will be risk putting all your eggs in only basket. So the point is how do you manage risk. The plan is to have multiple products in the same area. This will help you diversify. However if for some reason, your top product is losing out due to competition or external reasons , you have to focus on your other products and if they don't work, you have to move to other related area. That is you need to be nimble footed as well. Initially InRev Systems was into financial analytics and they had three to four products. However, recession hit them badly and they lost market quickly in all products. They moved onto social media analytics as it was on the rise then and there core competency was analytics. The thing is you have to do what you are good at, what your core competency is.

Short Term vs Long Term

Ideally a startup should have a long term vision and a plan to execute it. However practically things happen like that in US and not in India. In US, its easy to get funding, perhaps even startup ideas in colleges are funded by the professors who act as Venture Capitalists. As a result, the focus is on the idea and a clear long term vision. Coming to India, a startup needs to breakeven or be close to breakeven to be noticed by any VC. The reason is because there are too many unsuccessful startups and so the VCs are quite skeptical and perhaps careful about taking risk. So a typical Indian startup would have a short term outlook focused on achieving a breakeven.

High Growth vs Controlled Growth

Growth is dependent on the scale of operations, which in turn depends on the resources you have. If there are sufficient resources, high growth is possible. However, if there are resource constraints, companies have to go for controlled growth. If you take the example of orkut which was internal idea of Google, the access to resources made the huge scale launch possible. Inrev had resource as well as financial constraints and so they had to go for a controlled growth strategy.

As said earlier, clearly funding makes a huge difference again here. While US startups have very good funding, they focus on high growth right from the beginning. Most Indian startups have to go with the controlled growth option till at least the breakeven stage.

One more important thing is in US, entrepreneurs develop the company upto a particular stage and hand it over to capable managers to run the company i.e they give them ownership rights. These guys now run the company while the entrepreneurs get profit and work on other ideas. Coming to India, Indian entrepreneurs are more attached to their startups and like to retain control. This clearly affects their growth at later stages and influences their marketing decisions as well.

Marketing

Marketing for a startup means doing everything needed to get visibility, to be able to distinguish itself from its competitors and thus get clients. Perhaps getting clients is the most difficult thing.

The US Market is too cluttered with startups and unless you have an original idea, there is too much competition. So, as a result the focus is heavily on marketing. US Startups emphasise on large scale marketing right from the start and allocate sufficient funds. They even go to universities and float projects, give talks about their company and create their presence.

Coming to the Indian Startups, the focus is more on public relations and networking. The focus on the immediate customer rather than a huge scale. Of course the reason is funds. The option is to predominantly go for low cost marketing through social media and blogs and look for innovative ways to get more web traffic. Now there are startup conventions where slightly established startups get attention and coverage. As said above, Indian entrepreneurs being attached to their startups and like to retain control wouldn't be able to grow aggressively at later stages and so have to limit their marketing efforts accordingly.

Operations

For a startup, Operations mean the kind of processes in place, cost issues and ways to minimize them and outsourcing decisions.

PROCESSES

The thing with startups, the product development cycle is very low. The time taken from idea to execution is 2-3 months. So in the beginning, the processes will be quite adhoc. However as time increases, the size of the company as well as the product complexity increase and this calls for having proper processes in place. So startups need to have proper processes before they grow too much also taking into account how much flexibility they need. It would be very difficult to bring new processes once the company is grown up. The most difficult part is convincing the people of such changes.

US startups are at least more proactive in this aspect than compared to Indian startups.

Costs

A traditional notion with respect to costs is that costs are lower in India than compared to US, especially from work force point of view. However, over time, the salaries of workforce which was somewhere around 10% to that of US workforce increased to 55% of US workforce. The cost of others like power, transportation, etc have also increased over time. If you take into account some of the infrastructural inefficiencies in India into account, its found that there is not much cost advantage in India when compared and some startups are moving to US.

Outsourcing

We have read about outsourcing, how companies outsource non-essential activities so that they can focus on their core competencies.

For startups, however the major reason for outsourcing is the cost advantage. The drawback of such a move right at the beginning would be that the startup would lose the opportunity to build a competitive advantage in that area and this is near impossible to build at a later stage. This will affect your innovation and R&D as well. Such a strategy should only be done unless it is well thoughtout and the startup has clear idea of its long term ramifications.

The Indian startups however resort to this due to the cost considerations and short term outlook and therefore lose out the technical know-how right at the beginning itself. Eg: Companies use cloud computing to maintain servers and in turn lose out on building expertise on managing servers in-house. US Companies on the other hand, due to access to funding focus on building resource pool in-house and gaining expertise. Perhaps this is one of the reasons why most Indian startups are not as successful and as big as the startups in the US.

Human Resource

Human resource issues for a start up firm mainly concerns with employing the workers, providing proper work condition, understanding their culture, managing the wages of the workers, providing incentives to perform quality work and managing the hierarchical organization structure. The human resource factors varies across countries depending on the cultural differences, differences in wages and different legal requirements for hiring and firing of workers.

Cultural Comparison between India and US

Some of the key cultural differences between India and US are:

Power Distance

In US the power distance is very less. The employees take the responsibility of the project very fast and even control entire projects. Many employees in start up get stake in the company which provides them further motivation. So many times salary becomes a second criteria to the responsibilities that the employees get.

In India the power distance is large. The employees are rarely given large responsibilities in initial stages and they are unaware of the project at times. The employees rarely take ownerships of the work and so remain employees throughout. Thus salary become their primary concern in a startup firm.

Open v/s Closed

US entrepreneurs are open minded and information about them is easily available to websites and blogs. The main emphasis for them is the team and execution. Contrarily Indian entrepreneurs are very closed and very little information is available on them in most cases. Except for the CEO most other team members have little idea about the company and its vision.

Outgoing v/s Timid

US entrepreneurs are very aggressive and one can see regular press releases and activities to engage customers, investors and employees. They are active in all major industry events. On the other hand Indian entrepreneurs are quite shy and not very good with media and public interactions. They are generally present at investor and startup shows but rarely attend relevant industry events.

Logical v/s Emotional

US entrepreneurs are more logical and when confronted with alternate ideas or suggestions they react more positively and don't take it personally. They tend to take more rational decisions while negotiating with VCs, investors and clients. On the other hand Indian entrepreneurs are very emotional. Many times the advice and suggestions are taken personally and it is difficult for them to accept criticism about their companies.

Social v/s Lonely

US entrepreneurs are quite social and it is not uncommon to see competitor CEOs hanging out together, sharing booth space and office space, lobbying together and having co-sponsored parties and events. They actively support other startup companies and entrepreneurs. Indian entrepreneurs are mostly lonely and in most of the cases they are on their own and we see little co-operation among non-competing start-ups.

A lot of the above differences are partly due to the early stage of the evolution of the startup ecosystem in India. Many of them would vanish as the startup ecosystem becomes more mature with time.

Employing workers and managing their wages:

India ranks 112th worldwide in the ease of employing workers. Not only is the hiring difficult but even firing of employees is difficult for a business. It virtually involves taking permission from the government to fire a worker in India. The labour regulations are much more complex in India with around 47 national laws and 157 state regulations which directly affect labour markets. These are often inconsistent and at times overlapping. As a result it is almost impossible for firms and workers to fully understand their rights and obligations or for enforcement authorities to ensure compliance.

Comparatively in US hiring and firing workers is much easier and there are very less labour laws enabling flexibility among workers and startup firms.

Indicator

India

United States

Difficulty of hiring index (0-100)

0

0

Rigidity of hours index (0-100)

20

0

Difficulty of redundancy index (0-100)

70

0

Rigidity of employment index (0-100)

30

0

Redundancy costs (weeks of salary)

56

0

Talking to some startup firms, we came to know that Indian employees are very hardworking and aggressive. But on the flip side selecting the right guy is very difficult and due to availability of huge work force, companies find it difficult recruiting the right guys. When it comes to US employees, they are open and frank making the recruitment decisions easier.

ORGANISATION STRUCTURE AND MANAGEMENT STYLE

To begin with, start-ups have a flat structure whether in India or abroad. However the major difference comes in how start-ups are run. In India, most start-ups have few decision makers and everyone else is an employee, the emphasis is on control. However in US, if there is a promising employee who can take ownership, he will be given ownership of the product as well as a stake in the company which will essential make him an owner of the company rather than just an employee. The sense of ownership is very high for US employees when compared to Indian employees.

Finance

Some of the major issues related to financing for a startup include funding requirements, taxation laws, government incentives and protection of the investors. Most of these factors depend on the laws of the land and culture among the investors. So they vary across countries and are more friendly for startup firms in mature economies compared to the economies in nascent stages.

Funding startup firm:

India ranks 65th on the ease of getting credit and lack of credit information plays a major role in this low rank. Though over the last few years several reforms have improved the environment for getting credit. The Credit Information Bureau of India Ltd. (CIBIL), a private partnership between several commercial banks and credit information service providers, has started to increase the amount of credit information available in the country. On the other hand US with proper credit information available ranks 4th in the ease of getting credit. The banks and financial institution are more willing to lend to start-ups in US compared to that in India. Two major factors for this difference are:

Sufficient credit information available in US

Government support to startup firms to repay their loans in case the business fails

Other factors determining ease of getting credit and their ratings in India and US are as follows:

Indicator

India

United States

Strength of legal rights index (0-10)

8

8

Depth of credit information index (0-6)

4

6

Public registry coverage (% of adults)

0.0

0.0

Private bureau coverage (% of adults)

10.2

100

Venture Capital

There is also a major difference between the Venture Capital (VC) funding in both India and US. It is very easy to find a VC funding in US whereas it is equally difficult in India. In US if the idea is good entrepreneurs easily find a VC. Also VC supports the business for long term, so the startup firm can focus on the long term goals of the business. Even the professors act as Venture Capitalists in college.

Whereas in India getting a Venture Capitalist funding in really difficult. For VCs in India selecting a business is a filtering process in which many good ideas get filtered out and very small percentage of ideas get selected for VC funding. Another major requirement for many VC funding is to first achieve break even. So to get VC funding many startup firms look at the short term goals of achieving break even rather than looking for long term goals.

Taxation:

India ranks 158th on ease of paying taxes. The tax regime is cumbersome requiring about 59 separate payments per year. Even the tax rates are very high comparatively. The result is significant tax evasion and avoidance. This is an area where India has not seen much improvements over the years.

On the other hand US ranks 61st in the ease of paying taxes. The tax rates are low and the compliance rules are harsh leading to less tax evasion and avoidance. Comparing some of the parameters between India and US:

Indicator

India

US

Payments (number per year)

59

10

Time (hours per year)

271

187

Profit tax (%)

25.1

27.9

Labor tax and contributions (%)

18.2

9.6

Other taxes (%)

21.4

8.8

Total tax rate (% profit)

64.7

46.3

Some of the suggested reforms on this front are: Simple, moderate taxes and fast, cheap administration can attract investors. The Investment Climate Surveys conducted in India have consistently identified tax compliance as a significant obstacle to business, especially small firms. Although the implementation of a VAT is an improvement, there remains an urgent need to harmonize the classification of goods across states under the new VAT regime.

From our discussions with start-ups, the one thing in India that is however attracting start-ups (as well as other IT companies) in India are the SEZs which are almost tax-free Eg; Electronic City in Bangalore.

On the issue of protecting the investors both in US and India investors are very well protected and there is not much difference that has significant impact of starting up a business.

Legal

Legal issues include legal and procedural requirements to start a business, cost of filling a law suit, intellectual property rights, etc. Since each country has different laws and procedural requirements to start a business and different levels of compliance to these laws the legal issues would differ amongst countries.

India has huge procedural and legal requirements to start a business which makes the process lengthy, cumbersome and heavy on costs. The procedures required in India to start a business, the number of days required and the costs are shown in the table below.

No.

Procedure

Time to complete

Cost to complete INR

1

Obtain director identification number (DIN) on-line

1 days

400

2

Obtain digital signature certificate on-line

1-6 days

400-2650

3

Reserve the company name with the Registrar of Companies (ROC) on-line

2-3 days

500

4

Stamp the company documents either at the Superintendent or an authorized bank

1 day

1300

5

Present the required documents along with the registration fee to the Registrar of Companies to get the certificate of incorporation

3-7 days

15823

6

Make a seal

1 day

350

7

Visit an authorized franchise or agent appointed by National Securities Depository Services Limited (NSDL) or Unit Trust of India (UTI) Investors Services Ltd to obtain a Permanent Account Number (PAN)

7 days

66

8

Obtain a tax account number for income taxes deducted at source from the Assessing Office in the Mumbai Income Tax Department

7 days simultaneously with process 7

55

9

Register with Office of Inspector, Mumbai Shops and Establishment Act

2 days simultaneously with process 8

1500

10

Register for VAT before the Sales Tax Officer of the ward in which the company is located

12 days simultaneously with process 9

5100

11

Register for profession tax

2 days simultaneously with process 10

0

12

Register with Employees' Provident Fund Organization

12 days simultaneously with process 10

0

13

Register for medical insurance (ESIC)

9 days simultaneously with process 10

0

The legal procedures have been simplified recently and in a very ideal scenario it takes around 35 days to register a company. But this is rarely achieved in practice. In comparison the time required to start a business in US is much less. In US the number of procedures required to start a business are 6 and it takes only 6 days to register a company there.

Other legal issue concerning startup firms is cost of filling a law suit. In US the cost of filling a law suit is quite high and the level of compliance of laws and consumer awareness is also quite high. Thus the companies in US hire lawyers and get things done through them. At the same time, the number of days required for resolution of a law suit is quite less in US. On the other hand the cost of filling a law suit in India is quite low accompanied by low levels of compliance and lack of consumer awareness. Thus the firms need not hire a permanent lawyer. Also the time it takes for the resolution of a legal issue is much higher and can also go in years.

Intellectual Property Rights (IPR) also forms one of the major legal issues in US. US companies do invest significant amount in IPR since the legal system is in place there. The number of IPRs and patents filled in US are much higher attributed to the culture and sound legal system in place. On the other hand Indian firms don't invest much in IPR because of slow legal system which takes lots of time to file for an IPR or patent. By this time someone else copies. Also in India there is a culture of copying the products and making minor modifications and claiming it as new product rather than finding something totally new.

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