Thinking small: Entrepreneurship in India

Here is an extract of an interview with Amar Bhidé of Columbia Business School.

How do high-growth Indian firms compare to their counterparts in the United States?

I interviewed the few high-growth firms that I could find in Bangalore. These were high-growth firms by Indian standards, but not by U.S. standards. Interestingly, firms in both the United States and India start with roughly the same amount of capital: $10,000 in the United States and about $8,300 in India. So compared to local incomes, it seemed to take a lot more money to start a business in India than in the United States. Moreover, the U.S. firms grew in five or six years to revenues that were 378 times their initial capital, whereas the Indian firms grew to only about 20 times their initial capital.

And there are other noteworthy differences. In India, there’s virtually no ability to use external equity; there’s a much greater use of debt. In the United States, young firms try to have as few assets as they can and to subcontract as much as they can. In India, it’s the opposite: tiny firms integrate forwards and backwards as quickly as they can. Similarly, these firms are trying to become mini-conglomerates before they’ve reached any scale.

Indian entrepreneurs have much higher working capital requirements. A U.S. entrepreneur can at least hope to collect on receivables in about 30 days. In India, they extend receivables to 90 days or longer. In the United States, virtually every entrepreneur I studied used rented offices. In India, almost the first thing they do is to acquire the property they are housing their businesses in. Someone might have 80 percent of his capital tied up in real estate and only 20 percent in his business.

This combination of things provides a first-level explanation as to why there are so few firms that grow and why their growth rates are low. There seem to be several things in the environment that have caused this pattern. High on the list is the tax system. India relies much more heavily on indirect taxes than does the United States. These indirect taxes can add up to 32 percent to your cost of goods sold. But small businesses are exempt. So you’re better off running 10 businesses, each under $10 million, rather than having one big business. There’s a similar story with labor. Once you get above about 20 people, you can have non-wage costs that add up to 50 percent of a worker’s salary.

Another factor is the unreliability of supplies from both government suppliers and private suppliers. Because you can’t count on the electricity supply, you have to have your own generator. Naturally, this ties up capital. Similarly, if you tried to run a virtual business, there would be critical links in the chain that simply would not deliver. Why people invest in land instead of in their business is puzzling. Maybe it’s because the businesses themselves are not that profitable. The physical infrastructure is horrible. That means that instead of having one national market of a billion people, you have many little local markets because it’s so hard to move stuff from point A to point B. So all these things contribute to creating a disincentive to grow large.

The full detailed interview can be obtained at Columbia University website.

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