You would have to be hiding under a rock to have missed the shift in private tech investor sentiment that has become apparent over the past several weeks. Truth is, this shift has been underway for some time. The final stage – when the change in psychology fully reveals itself in the popular tech media – always arrives more violently than the trends at its core justify.
Root Cause of the Great Reset
It all starts with the IPO market. Tech IPOs haven’t fared particularly well. The chart below shows the performance of venture backed tech IPOs since Facebook’s IPO through November 2015.
The average tech IPO performance is positive, but the distribution is skewed toward losers with one “gainer” representing a disproportionate share of the positive returns. Sort of reminds me of the skewed distribution of returns in Venture Capital as a whole, although admittedly at a lower “beta”. Btw, nice post by Seth Levine. Tech IPO performance relative to the market over the same period of time is horrific. Eventually, the public markets “get smart”, stops rewarding companies for growth, and starts evaluating them on a fundamental basis. Valuations correct. This is a multi-year trend; look at the valuation of public SaaS companies as an example.
Greed and Fear
We’ve seen this all before; the greed, fear, greed cycle… We’ve been getting greedy over the past five years, driven in part by a public market that rewarded growth over fundamentals and a private IPO market that was arguably more irrationally exuberant than the public markets. I don’ t know that we’re definitely moving into a fear cycle, although the sentiment coming out of Silicon Valley would certainly lead one to that conclusion. How deep the reset may depend on what goes on in the macro-economic environment and there is no use predicting that, because none of us control it. We can only adapt when the news hits.
Synthesizing the Implications
Irrespective of whether or not we head into recession, I think that the implications of the great valuation reset are impactful enough to have the “what do do about it?” discussion. Neither panic, nor sticking your head in the sand are useful responses. Cutting through the clutter, there are three implications of the great reset which investors and emerging growth tech CEO’s need be mindful.
- Valuations are/have Fallen: No, the sky is not falling, but expect that your next round will be done at a valuation multiple that is lower than your prior round.
- Fundraising Will Take Longer: The time from when you begin fundraising to when the money hits the bank will be longer than has recently been the case.
- Investors Will Be More Discerning: There will be less capital available, fewer companies will get funded and those that do get funded will raise less capital.
I’m not making a value judgement as to whether this is good or bad. Rather, I’m living in the present and saying that for the moment, the Universe is as it should be. Valuations and the investor sentiment that drives valuations are what they are, until they change. Rest assured that they will.
Adapting to the Times
I think any one-size fits all advice is fairly useless. How you react to the great reset depends on how you are situated. When did you last raise cash? How much cash do you have on the balance sheet? What is your burn? Has there been any pullback in demand for your products? Is your customer base comprised of tech companies that are on unstable financial footing? Do you have any customer concentration? The answers to these questions matter and will light the way. But as a general matter, here are few things you can do regardless of where you are situated.
- Focus on Cash: I’m amazed at how many entrepreneurs forget or haven’t yet learned that running a business is all about managing cash. Get creative about getting more of it. Raise more capital than you need, even if it means taking more dilution than you want to take. Accelerate your cash-flow by managing receivables. Considering an annual billing model rather than a monthly pay model, even if it means discounting to get the cash up front. Spend less.
- Shed Your CEO Shame: Having been a CEO, I know that every CEO has shame over areas where their business is spending money in unproductive ways. If you don’t know where that wasteful spending is, then you aren’t paying attention. Now is the time to relieve yourself by cutting the expenses that you know aren’t producing. I’m not proposing a 20% across the board haircut or anything of the like; that would be way too reactive. But I am suggesting that you don’t have the luxury of spending money unproductively in this market environment, no matter the stage/status of your business.
- Hire Opportunistically: Quality talent is going to be displaced as this reset gets into full swing. There will be layoffs. Be opportunistic about bringing some of that displaced talent to your team.
- Measure and Monitor Growth Initiatives: This is a time for you to be maniacal about measuring the productivity of your investments in growth. Measure, evaluate and re-calibrate your spending accordingly. Kill growth initiatives that aren’t producing. Shift resources to those that are working well. Be ruthlessly data driven about it.
- Keep and Eye on Your Demand Indicators: I don’t know whether we’re going into a recession or not. More importantly for you, no-one knows whether or not demand for your product offering will take a step backward. Keep an eye on your pipeline, bookings velocity and churn. You’re looking for signals that demand for your products is going to hit a soft-patch. Adjust accordingly.
- Draft a Contingency Plan: I’ve found over the years that it is easier to draft a contingency play when you don’t need it than after a crisis has set upon you. Get with your lead finance person, draft the plan and stick it in a drawer somewhere. I hope you don’t need to access the the plan, but if you do, you’ll be glad to have already put in the thought.
- Communicate with Your Team: Your team is smart; they are as aware of the great reset as you are. You are the lead horse; you need to let your team know that you are aware of the situation and are adapting. Let your team know what they can expect of you and what you need from them.
The sky is not falling and this post is not intended to fan the flames of panic. No, this is just another market cycle. You can survive and you will if you are proactive, pragmatic and manage cash tightly.
The onset of the great reset doesn’t make now a bad time to build a great company. Quite the contrary, I believe that great companies are built in every kind of market. That said, it is important to adapt the value creation approach you take to the market conditions within which you are operating. For now, the market is reverting from rewarding growth to rewarding fundamentals. Adapt and you’ll survive and maybe even thrive.