Are the glory days of startups behind us?
Over the last decade, Crunchbase estimates that over $1.5 trillion was invested in venture capital deals. The explosion of capital into pre-IPO firms has fueled job growth across all sectors of the economy and helped contribute to the lowest unemployment rate in decades. Furthermore, it has given workers the flexibility to set their own schedules and determine their own fate with the growth of the “gig economy.” However, the rise of the gig economy has also removed many of the traditional safety nets of employment — health insurance, 401K contributions, pensions, etc. This model was functional for most as the economy went through the longest bull run in history. As COVID-19 ravages the economy and grinds the world to a halt, can this model be sustained? And, if not, does this mean the end of the golden age of startups?
Figure 1: Venture Capital Flow by Dollar Amount, 2010–2019
Between March 14–28 2020, the Department of Labor estimates that 9.93 million Americans filed for unemployment. The New York Times estimates that, as of April 3, the unemployment rate is likely around 13% — the highest it has been since the Great Depression. Exacerbating the crisis, independent contractors are not currently eligible to file for unemployment which will likely expand the issue shortly.
Figure 2: Unemployment Estimates
Therein lies a question — how will venture capital firms, flush with cash still from secured contributions and previous buy-in commitments, react to this? Admittedly, anything at this stage will be guesswork — it is far too early in the crisis to accurately predict what may happen. That having been said, there are several interesting data points to consider:
- Pitchbook data for Q1 2020 indicates that startup funding seems to have stayed on track with 2019 and 2018 figures. According to Pitchbook, “in the first three months of 2020, some 106 companies closed deals of $100 million or more, according to PitchBook data. For perspective, there were 115 and 99 global mega-rounds in the first quarters of 2019 and 2018, respectively. Nearly half of the top 25 deals were announced in March, when the Bay Area and other key tech hubs came under lockdowns to contain the coronavirus pandemic. That may seem surprising, but fundraising negotiations for these deals likely preceded their announcements by weeks or months.”
- China, weeks ahead of the US, can serve as an interesting proxy for future predictions. According to Pitchbook, “dealmaking in China is mounting a comeback following a slowdown prompted by the coronavirus outbreak.Chinese firms recorded 66 venture capital deals for the week ended March 28, the most of any week in 2020 and just below figures from the same time last year. It’s a sign that the VC industry in the rest of the world could also mount a quick recovery from travel restrictions and other measures that have made investing more challenging. In the first six weeks of the year, deal volume and capital raised in China had fallen more than 60% compared with the same period last year, according to PitchBook data.”
- Jeff Richards of GGV Partners has predicted that enterprise companies in his portfolio should “expect up to an 80% drop in bookings in Q2,” and that companies should start to preserve cash — even though many have 12–24 months of runway. For example, Gokul Rajaram, Chairman of the Board of Coursehero / Board Member of Pintrest / Board Member of The Trade Desk / Caviar Lead at Doordash recently tweeted, “Top venture investor: “We are cutting all valuations by 50%. And a flat round is the new 3x up.” This is what most startups have to look forward to over the next few quarters. Brace yourself.”
Ultimately, as of now, it seems that venture capital investment has yet to slow down, and the China data indicates that, even when it does, it will bounce back quickly. However, anecdotal data seems to indicate otherwise. Logically, we have to ask ourselves how much longer the party can go on. Will startups who have yet to earn a dollar in profit continue being funded at the same rate as the 2010's? How will the oil price collapse impact foreign investment into venture capital — and how will that trickle down to startup valuations? Is it really likely that Saudi Arabia will have another $45 billion laying around to give to SoftBank anytime soon? Personally, I remain deeply skeptical. I expect that the economic reckoning caused by COVID-19 will result in VC funds stopping unprofitable investments in D2C companies and Gig Economy companies who seek to streamline our personal lives while overindexing in the near future on companies who are focused on developing proprietary technology that can yield long-term substantial economic reward. While short-term deal flow may be negatively affected and the jobs created by these firms will likely disappear, the promise of new and undiscovered technology can hopefully balance this out.
Sources:
https://twitter.com/gokulr/status/1244331329820344320
https://pitchbook.com/news/articles/chinas-vc-industry-bounces-back-after-coronavirus-induced-winter
https://www.nytimes.com/2020/04/03/upshot/coronavirus-jobless-rate-great-depression.html
