Everyone is talking about an economic crisis and wondering how it will affect investment in technology.
The good news is that we saw that kind of crisis in 2008. Before that, in 2000, in 1984, and a flash of it in 2020 (Covid19), and we survived.
The bad news is that it is painful. It was painful then and painful today.
The ugly thing about the bullish market in 2020-2021 and valuations that are way too high is that it will be very difficult to return the investment to those who invested in an overly high market.
The great thing is that those who have raised a lot of money and figured out a way to keep it or become profitable will win a lot.
To understand startup financing challenges, you need to start with the basic investor mindset. If you have invested in 2020-2021 and especially before then you have seen the value of your investment go through the roof whether it was S&P500, Nasdaq, startups or even more extreme cases like cryptocurrency, NFT or any other ghost – sweetie.
If you weren’t part of it, you’ve seen others make their fortunes through investments that may have made no sense. That drags people into the always positive bearish perspective of “I made a lot of money investing – that’s why I’m a genius and should invest more in even riskier investments.” Or “everyone makes money, I want it too.” Or the most common approach of all: “I made 20-30-40-50% in the stock market, I should take some profit and allow myself to invest in risky investments like startups or VC.”
Unfortunately, the bullish market era ended with a splash and a bearish market took its place. Along with a bearish market mentality. The profits that people wanted to use to invest in startups disappeared or lost 25% on the S&P500 index fund. The investors don’t want to sell while losing, or more generally, they thought startups are risky and didn’t find out that S&P can be very risky.
Add in inflation and higher interest rates, and all of a sudden for potential investors, a 4-6% interest rate on USD isn’t that bad, and it’s risk free.
As a result, people tend to invest in a startup in a bearish market, and even those who have made commitments to VCs prefer not to invest. I’ve heard some VC partners quote their LPs saying that in the event of a capital call, they’ll honor their commitment, but you’d rather not call them.
VCs on their side realize that, keep money for the existing startups and don’t invest in new ones.
For entrepreneurs: it’s winter. Raising capital is more difficult, takes longer and yields much less in the winter. The good news is that spring always comes after winter.
But investors are right. Winter is a bad season to invest in. In fact, the return on investment during other seasons is higher than the investment in winter time, and the reason is the next round.
The next round will still be in winter or just at the beginning of spring and insufficient traction (primarily due to insufficient funding) will make it more difficult to raise capital and in many cases that will delay the start-up journey.
What can startups do? Go back to basics
· Solve a problem – solving a problem is the best way to create value. You must create value to justify your existence. Your investors will give up a company whose value is unclear.
· Focus – do one thing and one thing only, don’t scatter. If you’re trying to demonstrate that the product fits the market, don’t try to build a business model at the same time, or try to go global. Serve the company, not the investor
· Adjusting objectives and especially adapting the organization to the objectives. At the end of the day, the most expensive part of the journey is the next month when your organization is overstretched. It’s still overinflated this month, next month, and the month after that
· Drive to profitability faster. It can be your goal if it’s achievable, but the closer you get, the fewer burns you’ll carry with you and the longer the available cash will last.
Think again about the burn and run rate. If your monthly income is $200,000 and your expenses are $600,000, and you have $5 million in cash, your run rate is one year. This may not be enough to get you out of the winter. But if you can convert the earnings to $400,000 per month, then you have a two-year run rate.
Adapt quickly, don’t wait.
