Winter for tech startups is here? Here’s how to deal with it

Winter for tech startups is here? Here’s how to deal with it

The tech industry boomed during the COVID-19 pandemic, extending a multi-decade bull run. Private companies received vast cash injections from investors. In 2021, tech startups raised US$628 billion, double the previous year. Giants like Apple and Tesla also enjoyed record-breaking market caps.

Yet, the tech industry has been off to a bumpy start in 2022. In the first three months of 2022, global funding has fallen 19 per cent to US$144 billion from last quarter. This is the largest quarter-over-quarter percentage decline in nearly a decade. Apple, Microsoft, Google, Amazon, Meta and Netflix have collectively lost US$1.3 trillion of market value this year.

Over the past few weeks, we’ve also witnessed many layoffs. Unicorns like Cameo and Hopin have laid off a significant percentage of their staff. We’ve also seen the same with public companies like Robinhood and Peloton. Some others like Meta, Uber and DoorDash have frozen or slowed hiring for the rest of the year.

Group CEO of Advanced Medtech, Abel Ang, describes this situation to be “the current capital market winter for startups”.

I’ve built a career in the software-as-a-service industry over the past seven years. Other aspects of my life are affected by the startups I work with, my investments in publicly listed tech companies and the livelihood and careers of the people I care about.

If you are as invested as I am in your personal and professional lives, it pays to understand what is happening to prepare for this winter.

Why is all this happening?

Rising inflation, a stalled IPO market and instability sparked by Russia’s war in Ukraine have caused investors in public and private markets to be more cautious.

“Investor sentiment in Silicon Valley is the most negative since the dot-com crash,” explains David Sacks, Founder of Craft Ventures.

The implications? It is harder and takes longer for companies to raise funds.

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Deal sizes are getting smaller. Pitchbook has found that average VC pre-valuations in the late-stage dropped by 20 per cent from US$731.6 million in 2021 to US$572 million in the first quarter of 2022.

VCs are also taking much longer to make decisions about new investments. The average closure time for a late-stage deal has moved to about six months.

“While really good companies will still get money, it will be five times tougher to raise at a certain price. This is also why investors are telling their startups that unless you are okay with a down round, start conserving cash,” explains Ashwin Damera, cofounder and chief executive of edutech firm Eruditus, which raised US$650 million in August last year at US$3.2 billion valuations.

To cope with these new realities, startups are cutting down on spending, conserving cash and being pressured by investors to show a clear path to profitability.

How can we respond to all these trends?

Companies need to find ways to make their existing cash piles last longer

This is especially so for companies who are overvalued, burning through investor cash and struggling to raise the next round.

“It’s important to extend your runway if you have less than a year of it. You might wanna take this opportunity to impose a bit of financial discipline and see where you can cut waste,” said Co-Founder and President at Every, Nathan Baschez.

There are many levers startups have to extend their cash runway.

One of the ways companies can do this is by optimising and reducing their cloud infrastructure costs which can often be both unpredictable and spin out of control.

This is what DoorDash is trying to improve margins. Currently, DoorDash calculates it pays Amazon Web Services 6.5 per cent to process each order. The company is hoping to get that down to under six per cent by the end of the first half of this year.

In doing so, companies can potentially benefit from building a better business.

“It’s counterintuitive but raising less money will often lead to building a better business. It forces you to have constraints, which leads to more focus and higher quality decisions, which results in better products and more sustainable business models,” explains the CEO of Box, Aaron Levie.

Tech workers should do their due diligence on the companies they work for or want to move into

Companies that have a multi-year runway of capital will likely keep hiring according to their original plans. They will keep growing much more than others, both in stock price, as well as in headcount. Their employees could experience no threats from layoffs, faster growth, and better financial outcomes.

In contrast, companies making a loss, and dependant on new funding to operate are the ones most at risk of having to execute layoffs.

Also Read: How the global growth of fintech defies age and gender

“Companies that have frozen, or are slowing hiring, are especially ones to look out for,” warns the author of The Pragmatic Engineer, Gergely Orosz.

“I predict we will see layoffs at late-stage startups struggling to raise more funding without presenting a plan to investors that include laying off parts of their workforce. So we’ll see more reporting where a company raises funding, but cuts a large part of its team shortly after: just like how beauty startup Glossier raised $80M in July 2021 but laid off a third of its workforce in January 2022,” he explains.

Others at risk include companies that have overhired or overestimated post-pandemic demand. This was the case with Robinhood. As their CEO, Vlad Tenev explains, “Like any company, with growth like that comes more job openings to manage that growth, which then ended up with some roles and job functions that were duplicated.”

As an employee, it is sometimes difficult to tell the state of your company. First of all, your company’s management may try to make things sound good. Hence, relying solely on what your C suite says may not be a reliable indicator.

A good example of this will be the case of the former CEO of Peloton, John Foley. He still sounded positive at each of the quarterly earnings before the layoffs. Yet, the business metrics told a different story.

Looking at perks given or recent funding raised is not a good indicator. B2B financial-services startup MainStreet flew the entire company out for a week-long working vacation in Maui just a few months ago and stayed at the luxurious Grand Wailea Hotel.

Yet, the funding that materialised was smaller than originally planned, and the company had to cut 30 per cent of its workforce. Hence, it is important for tech workers to also take a deeper look and do their due diligence.

For those working in publicly listed companies, you can find this data in the quarterly earnings reports. It might be worth asking some of these questions during town halls for those in private companies.

Also Read: 6 fintech startups you should keep an eye out for

How much cash do they have on their balance sheet? How many months can the business keep operating before it’s out of money? What is the burn rate? How much money is the company spending every month?

Tech workers should double down on building their skills

The most important thing you can do during inflation to protect yourself is to sharpen your skills, according to Warren Buffett. Speaking at the 2022 Berkshire Hathaway annual shareholders meeting, he shared that skills, unlike the currency, are inflation-proof.

If you have a skill that is in demand, it will remain in demand no matter what the dollar is worth.

“Whatever abilities you have can’t be taken away from you. They can’t be inflated away from you. By far, the best investment is anything that develops yourself, and it’s not taxed at all,” he said. This is similar to his advice in the 2008 financial crisis, where he shared that “the best thing to do is invest in yourself.”

Final thoughts

2022 is already looking to be very different in both tech market dynamics. Tech workers need to be aware that things might look different this year than in other years over the past decade.

Hence, it is critical to stay on top of these trends that impact us to plan our next steps and not be caught off-guard. Ultimately, we cannot control many things in this world, but we can control how we respond.

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