Cowboy Ventures
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Cowboy Ventures

Advice from Seasoned CFOs on Navigating a Downturn

By: Jillian & Robby

At Cowboy, we believe in the power of learning from the past. Since 2012, we’ve invested in 100+ companies, starting at the earliest stages, and have helped founders lead through good and challenging times. And we’re always looking to sharpen our advice to our portfolio companies. We do this by learning through direct experience and by talking to experts.

Given how fast the tech economy has changed, we spoke with a number of “been there” friends of Cowboy who have led through prior downturns. We’re excited to share their advice here to hopefully help founders (especially first-time founders who haven’t led through a down cycle before) during this time.

To set the stage, prolonged low-interest rates starting in 2020 caused a lot of capital to flow into venture and tech. This led to startups getting funded at unprecedented levels and unprecedented public market valuations for high-growth, unprofitable tech companies.

This year, interest rates have risen dramatically. That, combined with the Russian war on Ukraine, commodity price shocks, and the anticipated effects of inflation, caused public market multiples to compress significantly. Private markets are just starting to feel this now — venture funding declined by 23% in Q2 of this year.

With all of these macro changes in mind, we spoke with three super smart finance leaders to get advice for founders on how to navigate our new, uncertain normal:

Downturn Lesson #1: Cash is king

For venture-backed companies, cash means possibilities. Raising in a down market can be a long, potentially distracting, and painful process with unfavorable valuations and deal terms (harsh liquidation preferences, for example).

Given that reality, our CFO advisors encouraged companies to build cash-oriented scenario analyses. Models should have upside, base, and downside cases to understand the levers to adjust when the market changes for the better or worse — with a focus on the cash balance and runway.

That means looking at cash in and out the door. They advised companies to take a Receipts and Disbursements approach to their financial model, noting the timing of revenue received from customers and expenses paid out to vendors. Companies should also push to get upfront payments from customers to increase near-term cash when possible.

Scenario analysis should be an ongoing, evolving exercise. It’s hard to predict how long and how severe the current downturn will be. The best-prepared companies will constantly be reassessing the economic environment and its potential impact, as well as their relevant segment and customer health. Running out of cash unexpectedly early is one of the most challenging situations a startup can get into — and should be avoided at all costs.

Overall, they advised that companies make decisions that are best for the company in the long term. That might mean short-term pain (cuts, flat or down rounds, etc.) but can enable the company to continue to grow and survive long-term.

Downturn Lesson #2: Companies with good fundamentals can take market share in a downturn

Right now, the generic advice has been for companies to cut staff or burn, and go into preservation mode. However, for a company with strong product-market fit and a healthy business model (i.e. high gross margins), a downturn can be a time to take market share. Smaller competitors may go out of business, plus, talent becomes more available.

It’s important to reflect on your business and cost structure to decide whether you are truly in a position to grow your slice of the market.

To quote our CFO friend Herald Chen:

“Companies can be very resilient, but they need to learn to operate differently based on the environment they are in. When there is a lot of capital, they should take advantage. And when the music changes, they need a different playbook.”

Downturn Lesson #3: Create a path to profitability & navigate using a “margin profile”

While early-stage companies (Series B and earlier) will likely not need a 12-month path to profitability, having a 3–5 year viable plan to become profitable is what our CFO friends recommended.

When profitable growth is the focus, it’s important to carefully evaluate any new initiatives that could negatively impact cash, gross margins, or operating margins. For example, if a new product will require heavy implementation effort and will have a lower gross margin profile for the next few years, this may not be the right time to focus on it.

Downturn Lesson #4: Team members take cues from leadership, especially in turbulent times

During a crisis, teams look to their leaders to decide what position the company is in. Confidence in the CEO and executives is crucial to their decision to stay engaged at their company. If the CEO is showing up to Zoom calls or in-person meetings with an air of doubt, everyone will be impacted.

A good analogy shared by CFO Ken Goldman:

“If a team is huddled up during an intense game, the captain’s energy will often dictate to the rest of the team whether they will win or lose. It’s the same at a company.”

Company leaders should also operate within the constraints they place on their employees. If employees are asked to stop hosting expensive sales dinners or attending conferences that are costly to attend, executives should do the same.

Downturn Lesson #5: The impact of attrition is worse than you think

It’s understandable and often necessary to let people go to preserve cash. However, when some employees choose to leave on their own, others may start to think, “what do they know that I don’t?”

Figuring out what is most important to top talent in order to retain them is crucial. It’s helpful to have cultural, personal, and financial incentives, especially if a company’s valuation goes down in the next round.

If unintended attrition does happen, a good counter can be hiring new, talented team members. The psychological impact of hiring great people can be extremely powerful.

Downturn Lesson #6: Assess your customer base

Downturns impact companies disproportionately. If you sell to customers who are significantly impacted by the downturn, there will be a clear impact on your revenue and customer health. For example, if you sell to SMBs, your churn risk will likely go up more than for companies selling to mid-market or enterprise companies. Established, post-product-market-fit companies may cut budgets, while some pre-product-market-fit companies may cease to exist.

If a customer goes out of business, you will experience churn regardless of how good your product is. Scoring customers on their health, and determining how much of your customer base is at risk, can help you make smart decisions on how to operate in this downturn.

Downturn Lesson #7: Look for “Swiss Army Knife” people

During hiring freezes or after a layoff, remaining employees will have the opportunity to take on more responsibilities than before. That is when “Swiss Army Knife” people — aka people who can work across multiple roles and functions — are valuable.

From our CFO expert Cynthia Gaylor:

“People are a company’s biggest asset and investment. Finding “Swiss Army Knife” people who can play multiple roles can really help scale a business and be cost-effective. It can also create a more agile and engaged team, as employees will be learning and growing in new ways.”

Increasing the breadth of what an employee handles can be a good retention strategy if done without creating burnout. It gives team members new responsibilities and motivation.

Finding people who are willing and able to be more agile in their titles and job descriptions can be a game-changer. For example, if your Head of Engineering can also take over the role of Head of Product instead of bringing on a new exec, that could save time, runway, and reduce the risk of a mis-hire when execution stakes are high. As our partner Aileen likes to say, “Constraints can breed great creativity.”

Downturn Lesson #8: Be direct, deep, and swift with layoffs

One of the biggest concerns for team members during a downturn is job safety. Making thoughtful decisions, communicating the reasoning, and explaining what remaining employees can expect post-layoffs can inspire much-needed confidence in leadership. Being vague and letting employees speculate can create uncertainty, disengagement, and unintended attrition.

Doing one deeper cut vs. multiple smaller cuts is much better for morale and unity. If employees feel like an additional layoff could come anytime, mistrust and distraction can breed.

It’s also important to make cuts early enough to give a company optionality. If you wait until cash runway is more limited, you may be forced to lay off more people, sell the company on unfavorable terms, or take a punitive “down round.” Waiting too long can have outsized consequences.

Downturn Lesson #9: Communicate regularly

Our CFO advisors suggested weekly or bi-weekly company meetings, where the entire team is looped in on the macro environment and how it impacts the company. In times of uncertainty, consistent communication will help put people at ease.

In these communications, being positive, realistic, and truthful will also help drive loyalty and employee confidence.

Downturn Lesson #10: Surround yourself with the right people, especially at the board and leadership levels

When times are easy, the importance of having an engaged and experienced team or board of directors is often undervalued. The quality of the board and leadership team will be put to the test during a downturn.

This group should be diverse with different, relevant experiences that can help guide and test strategy and execution. From our work at Cowboy, the best boards don’t just have “financial savants” or “experienced builders” but a combination of multiple perspectives.

Also, pay attention to the diversity and culture of the team members you retain. In recent years, many companies have made strides in recruiting team members from diverse backgrounds. Don’t let the downturn bring your company back to a homogenous workforce or infamous “bro” culture — this will leave your company less productive and more vulnerable in the long run.

In summary, leading in today’s environment will require very different conversations, decisions, and emphasis. Advice from experts who have lived and led through difficult times can help de-risk your strategy and decision-making.

If you’re a founder and have additional questions regarding the above learnings or leading through today’s environment, please email robby@cowboy.vc or jill@cowboy.vc. We’d be happy to chat!

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