The recent economic downturn has left many entrepreneurs reeling. It seemed that one minute their businesses were flying high in a full-steam-ahead economy, and in the next they were freefalling in the midst of a financial drop fueled by a global pandemic.
In June, the National Bureau of Economic Research confirmed the worst: The United States is officially in a recession.
Admittedly, we’ve been on one heck of a ride for the last decade, economically speaking. Our venture-backed startup ecosystem had been enjoying the trip as well, with investment money flowing into private markets and business valuations at all-time highs. But as the adage goes, what goes up must come down. It was unrealistic to think that such a hot private-market economy could sustain its pace forever.
There is a bright spot for startup founders, however. Deals are still being made and good companies are still getting funded. What’s changed is that the money has contracted—it’s still out there, but dollars aren’t flowing as quickly and the investment cycle has lengthened. Perhaps unsurprisingly, business valuations seem to be contracting as well. While valuations are in some part geography dependent (i.e., different parts of the country pay different multiples), in general the inflated valuations many companies enjoyed over the last several years are softening a bit.
So what should startups do to not only survive but continue their momentum during the economic downshift?
1. Figure Out Who Is Still Investing. While a lot of investors are still technically “open for business,” they are not able to write checks right now. They may be remaining active with their current investment portfolio, but they just don’t have the cash to bring on new companies, nor are they in a position to raise a new fund. Keep these investors on your radar for later, of course, but identify the ones that are making deals today and focus your efforts there.
2. Reset Your Expectations. It is unwise for startups to compare the investment terms they might have landed in Q4 2019 with what they’ll likely get in Q3 2020. Unfortunately, that’s not reality anymore. Last December in particular was something of an aberration in terms of the sizeable deals being made. A leveling off had to happen. At least for now and for the foreseeable future, even the most promising companies would be wise to adjust their expectations accordingly. Even with some contraction, the market is still well above historical norms.
3. Determine The Best Financial Path Forward. In the current environment, it is critical for startups to have a financial plan to get to their next stage of growth. As part of this, plan for fundraising to take longer than it did previously. Start these efforts earlier so that you’re not running up against the red and potentially being forced to take an unfavorable deal. Ask yourself these difficult questions: Where can I cut costs? Can I renegotiate my lease? Is there a line of credit I can pull down that won’t dilute my company from an equity perspective or cause undue risk to existing shareholders? I’ve found that the companies that struggle with this the most are those that six months ago were doing exceptionally well with high year-over-year growth. If you are one of those, you’ve most likely been spending to maintain that growth, and it’s hard, but critical, that you shift your mindset, take your foot off of the accelerator, and prepare for the probability of slower growth.
4. Refine Your Market “Fit.” The sales cycle for almost all businesses has lengthened, but this also gives you time for self-reflection and re-engineering. Companies should use this lull to determine whether they are a “must have” or a “nice to have,” which is something I’ve written about previously. If not the former, how can you change your offering to increase its value? Startups should also use this time to think about whether they need to adjust their sales model to better fit the current economy.
While good deals are still indeed being made, the harsh reality is that not all companies will get funded, and not all will survive these tighter times. Prior to the economic downturn, the discipline was more relaxed around who was getting capital. Investors were keen to put their money to work, and there was simply more money to go around. But the startups that do move forward during this economy will show resilience, which is a very attractive trait to investors. Even modest growth—two percent month over month, for example—is pretty impressive right now.
Overall, adjust your expectations and adapt your business to the new normal. We don’t know for certain how long any of this will last, although indicators seem to point to investment purse strings already loosening up a little since things bottomed out in late March. The key to success is making it through this unpredictable time, and to do that you need to have a financial plan, be patient, build your market competitiveness, and be agile for what comes next.