“No one can predict how bad the economy will get, but things don’t look good. The safe move is to plan for the worst.”
That’s part of a letter from YCombinator, one of the biggest accelerators and investment firms that worked with companies like Dropbox, Airbnb and Reddit. It was sent in May 2022 to all the founders in their portfolio as a warning for the uncertain times that were to come.
While writing this article, three months later, things are more certain. And they’re not looking too bright. As the numbers are coming in, they only prove the state of the ecosystem – valuations are dropping massively, IPOs are being delayed and the number of deals is lower too, as well as their value.
In Q1 of 2022, global venture funding reached $160 billion, the first fall after a year of records being hit every quarter. In Q2, it only reached $120 billion, the lowest amount since the beginning of 2021, 26% lower than in Q4 of 2021.
This means that early stage start-up founders have to give out more equity for smaller rounds and valuations. Investors are also looking to de-risk as much as possible so they are now looking at metrics like growth, traction and profitability even at young companies!
Now, it’s not all for the worst. First, you need to understand that 2021 was a special year for start-up funding, with the biggest records set quarter after quarter, especially in certain industries like healthcare, fintech and retail. If we compare 2022 to 2020, the numbers are still high. It’s definitely not the end but a retreat in investing is obvious.
Some are excited about this. Well, as excited as they can be in this environment. It was getting wild last year so the correction is more than welcome. A correction that will put the focus back on mission-driven founders with good products that solve real problems.
“I think it’s going to be harder but it actually makes you better founders, better investors and better executives. You just have to power through this because the secular trends are strong and companies are taking share from industries and creating market leaders across all parts of the economy and that is not going to stop. Capital is there and things will settle down. Digital transformation will continue on aggressively.” said Hemant Taneja, managing partner at the VC firm General Catalyst.
So what can you do as an early-stage start-up founder to save your business during this downturn? Below we list a few pieces of advice, both for fundraising as well as for start-ups who simply need to grow and continue their operations.
1. Don’t focus on the next funding round. Business comes first
The past years turned fundraising into a game. An endless game of chasing the next round, both for founders and the investors. VCs wanted start-ups to reach certain milestones so they can secure the next round and, meanwhile, founders lost focus the actual business milestones.
As a founder, you need to take back control and focus on what matters. Put the business first and act as if you’re spending your own money. Try to cut costs, if possible. This will lead to profitability faster and investors love profitability.
Even though things are not the brightest, it’s not like investing stopped completely. In the US, VCs still raised lots of money from their LPs but they are spending it wiser. Other data shows that seed investments actually increased by 11% YoY in the first months of 2022.
2. Re-think your fundraising timeline
Even after you took all the necessary steps to secure your next round, you must still spend very cautious and make sure to have enough money for the next 30 months. It is a lot and it is unusual, but it’s great advice. After having the pleasure of listening to legendary VC and engineer Stan Chudnovsky (NFX Capital) at an event earlier this year, this is what he had to say about it:
If you would have enough money for the next two years, what it means is that you will really have to start raising in the next 18 months. Given the actual economic context, you might have to accept a smaller valuation and you might also be at the limit of running out of cash, putting you in a vulnerable position. By having a runway of 30 months, you can focus on the business and wait for things to settle.
3. Keep existing investors close
Instead of chasing new investors, look at your network or even at your previous investors. To maintain a close relationship is general advice but much more important in these times, as it’s essential to keep a close circle of people who follow your work, trust you and know your evolution.
You can also consider follow-on rounds, because those invested in you before know what you are doing and won’t push you towards taking the wrong steps for short-term returns. It’s in both of your interest to navigate these period in a cautious and sustainable way.
4. Look for non-traditional investors
Even if VCs are pulling back from investing, there are other investors who understood the current opportunities and are more than willing to back mission-driven founders who treat their business and its growth in a mindful way.
For example, CVCs (Corporate Venture Capital) has actually invested in quite a lot of deals lately. In Q1 of 2022, 1317 CVC-backed deals have been made, an all time record. And even though the number dropped in the second quarter, it’s still higher than the historic levels.
This is because don’t invest only for financial reasons, they look for synergy. They look for good products that they can support with their market expertise, with capital or with any other resources. They find products that can help them achieve certain business goals, and in the process they help the start-up grow faster by supporting it.
If you are looking to raise capital or other resources from such an investor, let’s talk. We provide capital as well as tech for equity options for early-stage start-ups looking to raise pre-seed or seed rounds.Contact us
5. Look at the big picture
As we keep saying, not all is bad.
You probably heard it before but times like these actually create the best businesses and the most capable founders. Famous examples like Uber, Instagram, Venmo or WhatsApp were built during the previous great recession. If we go further, beyond the start-up ecosystem, it seems that half of the Fortune 500 companies have been built during crises. Even Mark Cuban went on to say that “World-class companies will be founded during the COVID-19 pandemic”, of the events that started the downward economic spiral that affects us today.
So stay positive, think clear and focus on what truly matters for your business. This way you’ll be able to become profitable and raise funding if that’s what you need. More than that, this “exercise” will help you thrive when things go back to normal.