We spent last week buried in capital raises with a number of companies. After that, our best summary of the capital markets is that the capital markets right now are profoundly weird. Given the state of the world, this should not be surprising, nonetheless it is.
On one level, things look great. The stock market is booming. Apple stock has basically doubled since March and is now valued close to $2 Trillion (with a ‘T’). There seem to be a healthy number of IPOs and a record number of SPACs, blank check IPO vehicles for acquisitions. Many start-ups seem to be announcing big funding rounds from VCs large and small. Record lows are being reported for mortgage rates. Things are great, right?
Dig a little deeper and the story unravels. For example, the stock market is being driven by gains from a very small number of stocks. The S&P is up sharply since the March sell-off, but almost all of those gains come from a half dozen stocks. Strip out Facebook, Apple, Amazon, Microsoft and Google and the S&P 500 is basically flat. Even companies that are doing well get punished for minor misses of ‘expectations’, often taking out all their peers. The bond markets are about one step from locking up. Mortgage rates may be low, but try actually applying for one of those loans and they are largely out of reach.
Put simply, the capital markets are dividing sharply into haves and have-nots. The stock market is being driven by free money from the US Federal Reserve, but there are underlying concerns for most companies and thus the flight to safety of the “FAAMG” stocks.
Most importantly, though often overlooked in the Tech Industry, are the credit markets. The Fed began purchasing corporate bonds last month, long seen as a major red-line among advocates of Free Markets. This means effectively that large companies tap the bond markets or get a bank loan, but smaller companies can not. There is a long-standing trend among commercial banks in the US who over the past decade have steadily moved away from serving small businesses. Current conditions have greatly exacerbated this. For consumers, if you have 50% equity in your home and a $100,000 in the bank, you can (maybe) refinance your mortgage, otherwise bank underwriting teams will request the Twelve Labors of Hercules before granting a loan.
This divide is also appearing for venture funding . Seed stage companies are increasingly feeling the pain as angel networks and wealthy individuals are becoming much more cautious. Many of those are still investing, but decision-making timelines have extended considerably. Companies that have already reached Institutional investors, roughly Series A and beyond, are facing VCs who are conducting triage on their portfolios. Companies that are doing well – hot growers or those touching on the current trends (i.e. Gaming/Online contact, Work From Home, Healthcare) – these companies can raise funds comfortably. For others, especially mid-stage companies who are seeing growth slow are at risk of being cut off. VCs have always made follow-on investment decisions, but the bar is considerably higher now.
This has created a strange dynamic where moderately successful companies have become more open to sale. A year ago, they probably could have ridden the funding cycle a few more rounds, but now they are finding few options. Companies with cash flow can turn to Private Equity funds or SPACs. This is a marked change from the past when those investors generally avoided technology, but are now taking advantage of the fact that they have access to capital that is unavailable to others. For everyone else, the best option is to preserve capital, reduce burn, and budget double or triple the amount of time to raise money.
It is a topsy turvy environment made worse by the virus, the Trade War, the US government’s “policy” changes and all the rest. There is money out there, but there are now many more gatekeepers guarding the watering hole.