Startup investors issue warnings as boom times are ‘not fuzzy’ – Reuters

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Slow down your recruitment! Reduce marketing! Extend your path!

Venture capital missives are back, and they are coming in full force.

While tech stocks are rising in the first five months of 2022 and the Nasdaq is preparing for its second worst quarter since the 2008 financial crisis, startup investors are telling their portfolio companies they won’t be saved from in the fall, and conditions may worsen.

“It’s going to be a longer recovery and although we can’t predict how long, we can advise you on how to prepare and get to the other side,” Sequoia Capital, the legendary venture capital firm known for its initial bets on Google, said. Apple and WhatsApp, wrote in a 52-page presentation titled “Adapting to Endure,” a copy of which was obtained by CNBC.

Y Combinator, the start-up incubator that helped create Airbnb, Dropbox and Stripe, told the founders in a E-mail last week that they should “understand that the poor performance of technology companies in public markets has a huge impact on venture capital investment”.

This is in stark contrast to 2021, when investors are rushing to pre-IPO companies at high valuations, deals are happening at a rapid pace, and buzzing software start-ups are ordering multiple 100 income times. This period reflects a broad bull market in technology, with the Nasdaq Composite posting gains of 11 over the past 13 years and venture capital funding in the United States reaching $ 332.8 billion in the year. . last year, seven times more than ten years ago. according to the National Venture Capital Association.

The sudden change in sentiment is reminiscent of 2008, when the collapse of the subprime mortgage market contaminated the entire U.S. banking system and dragged the country into recession. At the time, Sequoia released the well-known “RIP good times” memo, announcing to start-ups that “cuts are needed” and that “money flow needs to be positive.”

Doug Leone, Global Managing Partner of Sequoia Capital, speaks on the second day of TechCrunch Disrupt SF 2018 at the Moscone Center on September 6, 2018 in San Francisco, California.

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However, Sequoia has not always timed its warnings. In March 2020, the company called the Covid-19 pandemic the “black swan of 2020” and urged founders to retire from marketing, prepare for customers to reduce spending, and assess whether “you can do more with more. little “.

It turns out that demand for the technology has only increased, and the Nasdaq has had its best year since 2009, fueled by low interest rates and increased spending on remote work products.

This time, Sequoia’s lyrics seem to be the emerging conventional wisdom of Silicon Valley. The market began to turn in November, with companies shutting down the stock exchange to begin 2022. The cross-funds that fueled much of the private market boom retreated as they grappled with historic losses in their stocks. portfolio to the public, says Deena Shakirpartner at Lux Capital, which has offices in New York and Silicon Valley.

“Prepared for winter”

“Companies that have recently risen in price very high at the height of valuation inflation may be struggling with high burn rates and imminent challenges to rise in those valuations,” Shakir told CNBC in an email. “Others who are more susceptible to dilution and have chosen to increase less may now need to consider ways to expand the path that seemed unsatisfactory to them just a few months ago.”

In its first quarter letter to limited partners, Lux reminded investors that it has been looking forward to such issues for several months. The company cited its fourth quarter letter, which told companies to keep the money and avoid putting money behind unprofitable growth.

“Our businesses have followed this advice and most businesses are ready this winter,” Lux wrote.

The continuing rise in fuel and food prices, the ongoing pandemic and raging geopolitical conflicts have collided in such a way that investors now fear runaway inflation, rising interest rates and recession. .

What is strange about this opportunity, according to Sequoia’s presentation, is that there is no “quick political fix”. The company said what it is avoiding at the start of 2020 is the government’s aggressive response to pumping money into the economy and keeping borrowing rates artificially low by buying bonds.

“By this time, many of those tools have been exhausted,” Sequoia wrote. “We don’t think this is going to be another steep correction followed by an equally rapid V -shaped recovery like we saw at the beginning of the pandemic.”

Sequoia told its companies to look at projects, research and development, marketing and elsewhere to find opportunities to reduce costs. Businesses don’t have to trigger right away, the company added, but they should be prepared to do so within the next 30 days if necessary.

Job cuts and hiring freezes have become big news at large public technology companies. Snap, Facebook, Uber and Lyft have all said they will slow down hiring in the coming months, while Robinhood and Peloton have announced job cuts.

And in private companies still, workforce cuts are being made at Klarna and Cameo, while Instacart is reportedly slowing down hiring ahead of a planned IPO. Cloud software provider Lacework announced workforce cuts on Friday, six months after the company closed, costing venture capitalists $ 8.3 billion.

“We adjusted our plan to increase our cash trail toward profitability and significantly boosted our balance sheet so that we could be more opportunistic in the face of investment opportunities and climate uncertainty in the macro environment,” Lacework said in a release. blog post.

Tomasz Tunguz, managing director of Redpoint Ventures, told CNBC that many startup investors have advised their companies to keep enough money on hand for at least two years of potential illness. This is a new conversation that coincides with difficult discussions about valuations and burnout rates.

Shakir agrees with this assessment. “Like many, at Lux, we advise our businesses to think long term, extend the runway to more than 2 years if possible, look closely at reducing consumption and improving gross margins, and start setting of expectations in the near future. the funding is unlikely to look like what they expected six or 12 months ago, ”he wrote.

In a post on May 16, titled “The Upside of a Downturn,” Lightspeed Venture Partners began by saying, “The boom times of the past decade are not vaguely over. Among the caption read:“ Take Away non-essential activities. “

“Many CEOs will make painful decisions to keep their business afloat in rough waters,” Lightspeed wrote. “Some will face compromises that just a few months ago seemed far -fetched or unnecessary.”

Lux stressed one of the painful decisions he hopes to see. For many companies, the company said, “the sacrifice of the people comes before the sacrifice of appreciation.”

But venture capitalists are keen to remind founders that talented companies are emerging from the darkest times. Those who prove that they can survive and even prosper when capital is scarce, it is believed, are in a good position to thrive when the economy rises.

For companies that can add talent now, there’s more available due to the hiring freeze at some of the big companies, Sequoia said. And Lightspeed said the technology will continue to advance no matter what happens in the market.

“Despite all the pessimistic talk, we remain optimistic about the opportunities to develop and invest in generational tech companies,” Shakir said. “We are thrilled to see our CEOs exchanging notes and advice with each other, both encouraged and humbled by these changing conditions.”

CORRECTION: This story has been updated to reflect this cloud software provider Lacework raised $ 1.3 billion in growth funding to the tune of $ 8.3 billion.

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