The Rise of OFS: 3 Reasons Why Startups Opt for Investor Exits Over Growth Capital

The landscape of startup funding is experiencing a significant shift. While venture capital (VC) funding grabbed attention in recent years, there’s now a rise in startup IPOs with more “Offer for Sale” (OFS) portions. This shows a growing focus on investor exits as new capital becomes harder.

The increase in the “Offer for Sale” (OFS) portions shows that investors are eager to exit and cash out their investments. They are also achieving this by selling shares through pre-IPO secondary rounds, which allows them to generate liquidity before the company officially goes public. This trend highlights the pressure on investors to secure returns as their investment cycles end.

What is OFS

Before diving into the details, let’s first understand OFS. OFS, or Offer For Sale, is a way for promoters of public companies to sell their shares directly to the public through a bidding process on the stock exchange. This method allows them to reduce ownership and meet the minimum public shareholding requirements.

Increase in Startup IPO Offers-for-Sale Driven by Fund Cycles and Investor Exits

• In 2021-22, offers-for-sale (OFS) by investors made up 48% of startup IPO share sales by value, compared to 63.3% in the broader IPO market.
• As of FY25 (until 4 October), OFS by investors has risen to 64% of startup IPO share sales, the highest in four years, versus 51.21% in the overall IPO market.
• The rise in OFS is largely due to fund managers nearing the end of their fund lifecycle, requiring them to sell large stakes in IPOs to return money to investors.
• This reduces the capital startups can raise from IPOs for growth but offers more opportunities for new investors as India’s stock market hits record highs.
• According to the Prime Database, startups raised ₹5,385 crore through OFS and ₹3,039 crore in fresh capital in FY24.
• Five of eight startups that went public in September 2023 had a higher OFS component.
• Indian startups raised ₹1,359 crore in fresh capital and ₹1,681 crore via OFS in FY24.
• In FY22, startups raised ₹21,680 crore in fresh capital and ₹21,146 crore through OFS.
• EasyMyTrip, Nazara Technologies, and Cartrade Tech, which went public in 2021, issued no fresh capital, focusing instead on investor exits.
• Unicommerce eSolutions followed a similar strategy in its August 2023 IPO.

Source: Mint

Startup IPOs OFS Vs. Broader Ecosystem

OFS Trends in Startup IPOs

• Zomato’s 2021 IPO saw investors sell shares worth ₹375 crore, while the company raised ₹9,000 crore through fresh share issues.
• Unlike Zomato, most startup IPOs in 2021 favored offers-for-sale (OFS) as investors’ primary exit strategy.
• According to NSE data, startups like Mamaearth, Go Digit, Awfis, Ixigo, and FirstCry saw a higher OFS portion compared to fresh capital issues.
• According to its draft prospectus, Swiggy’s upcoming IPO will also follow this trend, with a larger OFS component of ₹6,664 crore compared to a fresh issue of ₹5,500 crore. Source: Mint

Indian Startup IPOs Over the Last Years

Name	Opening Date	OFS/Total Issue Amount %
Unicommerce	August 6, 2024	100
Ixigo	June 10, 2024	84
Awfis	May 22, 2024	79
Mamaearth	October 31, 2023	79
Firstcry	August 6, 2024	60
Digitinsurance	May 15, 2024	57
Zaggle	September 14, 2023	30
Yatra	September 15, 2023	22

Decoding the Shift

Exits are crucial for generating investment returns for venture capitalists and other early-stage investors. There are three primary ways for them to achieve an exit:

• IPO: A company goes public, allowing investors to sell their shares on a stock exchange and potentially realize significant gains.
• Mergers and acquisitions (M&A): A larger, established company acquires the startup, providing investors with liquidity through the sale of their shares.
• Secondary Transactions: Existing investors sell their shares to new investors before an IPO, allowing them to exit their investments early.

Historically, IPOs have been a less common exit strategy for Indian startups than the US or China. However, the recent surge in IPO activity coupled with high OFS portions indicates a growing emphasis on exits for investors.

Unveiling the 3 Reasons Behind the Rush for Exits

Several factors are contributing to the increased focus on exits:

• Shifting Market Conditions: The global economic slowdown and rising interest rates have led to a more cautious approach from VC firms. This has caused a decline in new funding rounds for startups, particularly in later stages.
• Maturing Portfolio Companies: Many startups that received significant funding in the past are now reaching a stage where an IPO or acquisition becomes a viable exit strategy.
• Investor Liquidity Needs: VC funds typically have a finite lifespan and must generate returns for their Limited Partners (LPs) – the investors who provide them with capital. Exits through IPOs or secondary transactions allow them to do so.

A Signal of Investor Sentiment

The significant increase in the size of OFS portions within recent startup IPOs is particularly noteworthy. An OFS allows existing investors to sell a portion of their shares during the IPO. This indicates a strong desire among early-stage investors to achieve liquidity and potentially lock in profits, especially in a market with more uncertainty.

Potential Implications for the Startup Ecosystem

While the increased focus on exits can be seen as a positive sign for investor returns, it could also have some broader implications for the startup ecosystem:

• Impact on New Funding: A focus on exits may reduce the amount of capital available for new startups. This could have a chilling effect on innovation and entrepreneurship, especially in riskier sectors.
• Valuation Concerns: A large influx of shares through OFS could potentially put downward pressure on a startup’s post-IPO stock price, making it more challenging for companies to raise additional capital after going public.
• Importance of Sustainable Growth: There’s a risk that the focus on exits may overshadow startups’ long-term growth prospects. Investors and founders must balance achieving liquidity and building sustainable businesses that create value over a long period.

Conclusion

In the 1990s, companies going public focused entirely on raising fresh capital through IPOs to fund business expansion, as there were few other funding options in India. This trend shifted with the rise of alternative investment funds—private equity, venture capital, and angel investors—who provided companies with funding in private markets at high valuations.

The current dynamics of the startup funding landscape necessitate a thoughtful approach. While exits are critical for generating returns and attracting new investors, ensuring a steady flow of capital for promising new ventures is equally important. The success of the Indian startup ecosystem will depend on striking a balance between investor liquidity needs and fostering sustainable long-term growth for innovative companies.

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