Raising money for start-ups is about to look very different. How do we prepare? We have been getting asked this question a lot lately, and as fundraising is now a large part of our consulting practice, we are going to start a series on current conditions, the latest anecdotes and strategies for coping and thriving in the upcoming Uncertainty.
There is a lot of conflicting information about the markets right now. On the one hand, the stock market is booming. The tech press is full of stories about companies get funded. On the other hand, every investor and company we speak with expresses some degree of anxiety. For every story about a company closing a financing round there are three (five? ten?) stories about other companies laying people off. And oh yeah, there is Covid out there, maybe coming back for a second round.
Dig past the headlines a bit, and things become clearer. First, the underlying economy is not healthy, pretty much anywhere. The US entered a recession back in February, before the virus really hit. Unemployment is 13% in the US, and higher in many other countries.
Many of the financings in the press were in the works before Covid hit. Starting a new financing round right now is not impossible, but is going to be challenging.
Here is what we have been telling clients:
- Prepare for the worst, or at least prepare for things to get much worse. Cut expenses where possible.
- Assume it will take 9-12 months to raise the next round.
- Conduct a sober analysis of what your company really needs to achieve over the next 12 months. Adjust headcount accordingly.
- Be prepared to make the most of new opportunities. There are going to be a lot of companies for sale and high-quality teams on the market.
We recognize that the last two items contradict each other. The number one goal of the company is to survive for the next 12 months. That being said, times of change offer opportunity. Insert your metaphor here, the only ones we can think of right now all sound really inappropriate.
There will be new openings in your strategy. One company we are close to, Nodle, has an innovative IoT network. They had been selling this to industrial companies who wanted more information about hard to locate assets like shipping pallets and power tools. They were starting to see real traction with that and then the virus hit. This extended already-lengthy enterprise deployment timelines. But the company realized they had the key pieces for Contact Tracing. Location is one thing, but privacy is hard and Nodle had built their solution from Privacy-first principles. In a heroic effort, the small team turned out a new app in a little over a week and now are incredibly well positioned to help enterprises and governments provide a crucial health service for their employees and the public. (Disclaimer: We have an investment in Nodle.) Nodle was able to shift their product and make the most of the situation.
Alternatively, we recently spoke with a neighbor who owns a Vitamins and Supplement store nearby. For 20+ years, their arch-enemy ran a store across the street, conveniently located inside a gym. That competitor shut its doors permanently last month. If our neighbor can hold out until gyms re-open, he expects to see record sales. This may be the least ‘tech’ example we could provide, but it makes the point.
A big problem for many online services in recent years has been an over abundance of venture funding in many segments (looking at you food delivery, but you’re not alone). This has propped up unsustainable companies and business models. That bottomless well is now dry. This will be painful for many companies, but the ones that survive will find themselves in much healthier competitive landscapes.
However, there is an important caveat to this. Survival will not be determined by who runs the best company. Instead it will depend on who has the most money in the bank. This will be familiar to anyone who was around for the Dot Com crash in 2001. You may have the fully-automated, AI-powered stack, with a stable of 10x coders, and boast the best KPIs in the business, but if you’re business plan was built on the assumption of raising that one last round in 2020, you may lose to those guys down the block who outsourced all their coding and have a stack built with duct tape and chewing gum.
Another important thing to remember is that you will not always see trouble coming. You may be comfortably financed, but one day wake up and find your biggest customer has ‘made some changes’. This problem will be particularly acute for companies selling developer tools, as start-ups everywhere scale back. But it is also a problem for companies that rely on large enterprise deals. We spoke with a company recently who was in late stages of closing a multi-million dollar sale to a large Travel company. Then one Tuesday morning, everyone they had worked with at that large customer got laid off. Back to Square One, and a big hole in the plan.
Our main takeaway is if your company depends on raising money from venture investors, start raising money now. Even if you have sufficient funds in the bank, know that the next round will take a lot longer to close. Be prepared and start planning now.