MUMBAI (BLOOMBERG) - The venture capital arm of Singapore's Temasek Holdings is shifting its focus in India to software makers that service small and medium businesses, as it sees the e-commerce sector becoming "overheated" with funds rushing to invest in unprofitable companies.
Vertex Venture Holdings, a unit of the Singapore state investment company, is hunting for start-ups making cheap software for the nation's hordes of small businesses that could range from a supply chain app to a payroll processing system, said Mr Ben Mathias, its managing director for India.
In the rush to fund mobile phone-based start-ups that target consumers, investors have "largely ignored" enterprise software, Bengaluru-based Mr Mathias, who was appointed Vertex's first managing director of India in October, said in a telephone interview.
"Hundreds of millions of Indians are getting on the Internet, and with them, tens of millions of Indian enterprises are also getting on the Internet," he said.
"As small and medium enterprises use the mobile Internet more and more to drive their business, they will need to adopt cloud-based enterprise solutions," he added, referring to the model of Internet-based computing where software and data resources are typically shared and accessed on-demand.
Over the next 12 months, Vertex plans to invest between US$5 million (S$6.97 million) and US$6 million each in three to four Indian companies, and will direct about half of its investments into enterprise software makers in the coming years, Mr Mathias said.
Three out of Vertex's four investments in India so far have been in consumer-facing companies, including children's apparel site FirstCry.com and travel booking site Yatra.com.
The Indian investments were from Vertex's US$200 million fund that focuses on South-east Asia and India companies, according to Mr Mathias.
Vertex has received an additional US$600 million from Temasek to invest in US, Israel, China start-ups in innovation and technological disruption, the Straits Times reported last month.
Temasek has been shaking up its asset mix with a push into biotechnology and consumer companies that stand to benefit from ageing populations and increasing disposable incomes, and in the fiscal year ended March 31 added stakes including in US pharmaceutical firm Gilead Sciences and Indian drugmaker Intas Pharmaceuticals.
India's market for apps offering software as a service is estimated to be worth about US$300 million, of which 60 per cent of the demand comes from small and medium businesses, according to Mr Biswajeet Mahapatra, a Dubai-based research director at Gartner.
That market has been relatively under-penetrated as a lot of small businesses either do not use computers at all or rely on outdated systems that cannot adapt to new trends in mobile-based Internet technology, he said.
Start-ups that make low-priced, subscription-based software to manage supply chains, elicit customer feedback or handle human resource functions can capture market share as small business clients in India may not be able to afford offerings from larger software companies such as Microsoft and Salesforce.com.
"Small and medium businesses will not buy costly solutions, but they will buy smaller, nimbler apps," Mr Mahapatra said. "Now a lot of people are seeing the potential of investing in these start-ups."
Indian start-ups raised a record US$1.4 billion in venture capital funding in the first nine months of this year, beating last year's US$1.2 billion, according to data from Venture Intelligence. The country's largest e-retailers - Flipkart.com, Snapdeal.com and Amazon.com Inc. - conducted their biggest sale of the year in October, offering discounts to lure customers.
Flush with cash, e-commerce companies have been competing to gain market share with new apps and large discounts, and would need to alter their business models significantly to become profitable, UBS said in an April report.
To highlight their progress, Internet retailers often rely on a metric known as "gross merchandise value", which measures listed selling prices of all goods sold on the platform. That metric does not account for additional costs or losses incurred by e-retailers, such as through discounts or cash-back subsidies offered to customers, and "that is a problem", Mr Mathias said.
"When I see consumer companies purely talking about GMVs for example, and not talking about gross margins and the cost of customer acquisition, then I get very worried," he said. "At the end of the day, you can't keep doing fundraising rounds every six months. It's not sustainable."