The Covid Effect
Three things we’re seeing throughout the entrepreneurial world
Earlier this year, at the end of Q1, I shared the letter I wrote to our LPs after only a few weeks after the US shut-down because of Covid-19. Since then, the pandemic has had a dramatic effect on businesses of all sizes. Entire industries are having to reset, rethink and reinvent themselves. We have seen a variety of outcomes, opportunities and trends throughout the entrepreneurial world. There are three that are frequently top of mind as we support and add to the Bread and Butter Ventures portfolio.
First up, many founders have faced incredible challenges and despite best efforts have been forced to close shop. However, for some entrepreneurs, the current environment has provided an opportunity to shut down. This may have been an already struggling company or perhaps the founders had lost their passion and drive but were trudging forward and putting a brave face on for all of their other stakeholders. Regardless of the situation, as a founder, walking away from your startup is incredibly difficult. In fact, most founders wait far longer than they should to “reset” and move on to the next thing. I’ve written in the past about how difficult this is to actually do.
For this set of entrepreneurs, COVID created an environment that either forced the inevitable or provided a catalyst that made it easier for them to walk away. For lack of a better term, Covid provided an “out.” While still not easy, I imagine that this group will look back at this moment in their entrepreneurial journey as beneficial. In the long run, it will have saved them a tremendous amount of time, resources, opportunity cost and mental anguish. The investors in these companies also benefit in the long run. If an investment is going to fail, it is better to have it fail quickly so you can focus your support and effort on the portfolio companies that still have the opportunity to provide returns. Pressuring a founder to soldier on in a startup that they no longer fundamentally believe in is often a trait that many investors can’t get away from, despite the net negative long term results, this will drive for all parties.
To date, our portfolio has yet to have a company shut down. Yet even while writing this, we need to continue to challenge ourselves as investors and advisors for our portfolio companies. It is our job to challenge the founders and ask questions like Brett was asked in 2015, “Do you still fundamentally believe in what you are building?” We need to be intellectually honest with our founders and help create an environment that allows them to be intellectually honest with themselves. If they do believe, how can we continue to provide support? If they do not, how do we help them gracefully exit? We have found time and time again that once a founder or investor falls out of love with a startup they never fall back in.
A second result of Covid that is top of mind comes from the industries that have been hit hardest; industries like corporate catering and class-based fitness, both of which we have portfolio companies building businesses in, Hungry and Alchemy. The market for both of these verticals literally went to zero overnight. Zero. As you would expect, many companies, both large and small, directly in or dependent upon this market have shut down. But we’ve also seen, perhaps a bit unexpectedly, a handful of companies in these verticals that are not only coping well but are actually energized by their future prospects.
Hungry’s business was a rocket ship in the corporate catering space. In early March, the team announced their series B. Less than a month later their revenue fell off a cliff. In late March, Brett was checking in with Eman Pahlevani, co-founder and COO, his exact response was “Hungry will not fall victim to Corona. (We) worked too damn hard to have a freakin virus take us out.” In July the company had its best month ever. In September the company announced the acquisition of one of their competitors, Ripe.
In early March, Alchemy 365 was prepping to go to market with their series A. By the end of the month, all 7 of their locations had to be closed due to Covid and their series A plans were set aside. To make matters worse there was no timeline to reopen. While studios all around them began to shutter their businesses for good the Alchemy team launched an at-home solution, Alchemy Anywhere. It has since grown it to 1000+ paid subscribers and kicked off a digital fitness component of the business that is here to stay. Throughout the pandemic, more than 50% of Alchemy’s studio-based athletes have continued their subscriptions, despite having nowhere to work out, a testament to their brand loyalty.
These two companies are at different stages and both certainly still face challenges. Yet, this far into the pandemic both seem to be outperforming their peer group. Why? There are very few parallels between the two companies. Both were very good at quickly putting together strategic plans and understanding the repercussions of multiple scenarios. Both leveraged existing competitive advantages to pivot into adjacent opportunities. Neither was content trying to “wait it out.” Both acted decisively and quickly.
The most important commonality between the two lies within their team. Both startups are led by phenomenal founders. These teams have similar characteristics, they are smart, have tremendous work ethic, great corporate cultures and have surrounded themselves with advisors that can provide valuable insights. Team. Nothing at a startup is more important.
Capital position is not a defining factor in their performance. Going into the pandemic, Hungry had recently completed a significant financing round and was well financed, However, Alchemy’s fundraising plans were stomped out. These are two companies at very different stages.
That is not to say that cash isn’t important. It will play a huge role through 2021 for both. To state the obvious, if you run out of cash you die. A strong balance sheet would also provide the companies with an opportunity to capitalize on what we believe will be an incredibly favorable market in the second half of 2021. There is already significantly less competition, real estate costs will be lower, there will be acquisition opportunities and I don’t believe that the desire to eat or exercise in groups will ever become irrelevant. Cash is always important for a startup, but for those that have been dramatically affected by Covid, 2021 will be ripe with opportunity. You just need to survive the present to get to the next “new normal.”
The third result of the pandemic and perhaps the most important for our future investment strategy is the idea of this “new normal.” Are we actually in one? A black swan event inevitably creates new business opportunities, new ideas, and new founders. And while some industries are hit incredibly hard, it provides a fresh “reset” for others. Over the last six months, we have seen a tremendous number of startups in industries we historically haven’t been interested in take off! For example, companies that connect local farms directly with local consumers has exploded! Over the last decade, this space has been a graveyard of startups that have never been able to scale. And this is just one of many exploding segments some of which have been languishing for a decade, some have risen to prominence in the Covid environment.
The question is how do we evaluate them? It can be easy to get caught up in a tremendous amount of traction that has come at an unprecedented velocity. First, we must remind ourselves that we are patient capital. At Bread and Butter Ventures we are long-term investors. When we make an investment we expect to work with that company for at least 7 years and the founders for the rest of their entrepreneurial careers! We don’t win through short term gains.
Second, we need to evaluate market conditions. We expect another shift in what we consider “normal” the next 12 months. At some point, the world will stabilize, but we aren’t there yet. Companies and investors need to prepare for this next shift. While some trends will continue it is unlikely most will maintain the velocity we have seen in the last 6 months. And in many cases, this “new” opportunity may dry up completely. Unfortunately, too many startups are going to get comfortable and assume their current trajectory will continue. They won’t put together strategic scenario planning and they won’t be ready to act quickly or decisively. At best these companies will end up flattening out, at worst they will go away.
For founders, these new opportunities can provide a lifeline, a starting point or just an opportunity to pad a balance sheet. Great founders will leverage this opportunity to position their companies for long term growth. As an investor, we need to maintain discipline but most importantly continue to invest in phenomenal founding teams.
The current entrepreneurial environment is not normal. It is hard. There are more unknowns today than there have been for over a decade. We all need to continue to think strategically, figure out how to survive in the short run while not being blinded by it. In a time that requires decisiveness and quick thinking, everything we do must be driven by our core values and purpose.
