Startups are getting mixed signals amid concerns about stock market volatility and the prospect of a recession with record equity investors. Venture capitalists are giving conflicting advice, some encouraging startups to spend quickly while others predict a severe downturn that will require painful austerity.
The paradox underscores the tension between macroeconomic reality and Silicon Valley’s incentive structure, which encourages founders and investors to spend big for growth and returns. It also underscores the novelty of the current downturn: the dot-com crash and financial crisis of 2008 offer little guidance for addressing today’s economic challenges, fueled by a combination of the worst inflation in 40 years, Russia’s war in Ukraine, supply chain snarls and the biggest rate hikes in nearly three decades.
According to economists and the latest GDP numbers, the US could be headed for a recession. But this recession could differ from previous ones because of one key indicator: unemployment. Jon Hilsenrath from the WSJ explains.
“Personally, I don’t think there’s much to gain from previous failures because this particular moment is so unique,” said Arun Mathew, an investor at venture capital firm Accel. “Everyone is in this moment of uncertainty about what the next six months or the next 12 months are going to be like.”
It has led to a jumble of contradictions. US startups have laid off more than 6,000 employees since early July, according to tracker Layoffs.fyi. Hiring plans have been scrapped and product switches are underway, company executives say.
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Other startups are taking their employees on beach vacations, raising their largest funding rounds yet, or declaring business as usual amid macroeconomic turmoil.
Ali Partovi, a longtime early-stage startup investor, remains bullish. “I don’t think we’re headed for a terrible downturn,” he said. “Now is the time to go faster and I wouldn’t listen to others telling you to save your money.”
Mr Partovi’s reasoning: inflation is like a dripping bucket. The money startups save today is worth less tomorrow, so they’d better invest in the business. In May, Mr. Partovi said the investment pace of his company Neo was more than double the monthly average in 2021.
For CEO Andrej Safundzic, the business of running a startup hasn’t changed at all, he said from Puerto Vallarta, Mexico while taking a break from activities during a company retreat to the resort town. His two-year-old company, Lumos, which helps companies manage IT spend and compliance, is going full steam ahead, he said, increasing its workforce by more than 50% this year.
Devin Finzer, CEO of OpenSea, a marketplace for non-fungible tokens, or NFTs, looks for more bad news. “We need to prepare the company for the possibility of a prolonged downturn,” Mr. Finzer wrote in a note to his employees in mid-July. The company, which was last valued at $13 billion, said it laid off 20% of its workforce.
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According to PitchBook Data Inc., U.S. startup investment fell more than 23% in the second quarter both sequentially and from the same three-month period a year ago. At the same time, the average transaction size for the year to date is the highest since records began in almost all phases of startups. Investors are sitting on huge cash reserves but are being more selective about where to invest, so more money is concentrated in fewer startups, venture capitalists say. U.S. venture capitalists raised $122 billion in new funding in the first half of this year — 87% of the full-year record set in 2021, according to PitchBook.
Many limited partners, the institutions and individuals who invest in venture funds are urging venture capitalists to slow their investment pace, startup advisor and investor Elad Gil said in a blog post. Many startup founders say they’re confident the money will be there when they need it because the venture partners’ pay comes from fees and profits from investing other people’s money.
In May, Sequoia Capital gave a presentation to all startup founders in its portfolio called “Adapting to Endure,” which advised founders to save money, cut back, and prepare for a long recovery. In the first half of the year, Sequoia made 22 more startup investments than the same period a year ago — which, according to a person familiar with the matter, signals that the company isn’t put off by market volatility. Seventeen of those investments are part of a new startup accelerator program launched this year, the company said in May. Sequoia also closed $2.25 billion in new funding in July, the source said.
The startup industry is a microcosm of mixed macroeconomic signals. The US economy shrank in the first and second quarters, which is a commonly used definition of a recession, and the housing market collapses as interest rates rise. Nevertheless, the unemployment rate remained low at 3.6% in June. And consumers continue to spend despite 9.1% inflation, which pushed retail sales higher in June.
“‘It’s not the best time to have a big party.'”
— Amy Yin, CEO of OfficeTogether, a company that makes software that helps businesses with hybrid work environments
Sometimes a startup’s response to economic turmoil is determined by the beliefs of its founder or investor.
Austin Rosen, CEO of Electric Feel Entertainment, a low-venture entertainment company, said of his portfolio, “We think it’s recession-proof.” His startups include a vegan skincare startup, a soda startup, and a Hard Seltzer brand. “The bet is that households will not rein in spending on these products,” Mr. Rosen said.
Many founders of larger startups reported wasting three to four years of cash, an enormous amount that often requires adjustments to hiring plans. Thumbtack Inc., an app for hiring professionals for home improvement and repairs, had plans earlier this year to increase its workforce by 60% from its current workforce of more than 1,100, CEO Marco Zappacosta said. He said he got that down to about 30 to 40 percent.
Amy Yin, founder and CEO of OfficeTogether Inc., a start-up that makes software to help companies with hybrid work environments, said she’s trimming the margins: Fewer perks like free meals and a break at company-wide retreats, a little , which she championed a year ago as Key to Bonding and Morale. Plans to bring their staff to Nova Scotia in August have been filed.
“It’s not the best time to have a big party,” Ms. Yin said.
Velocity Global LLC, a startup that sells software to help companies hire and onboard international employees, raised $400 million in May. The round included the largest check-lead investor Norwest Venture Partners has written in its 61-year history, permanent partner Parker Barrile said: $150 million.
“We are as eager to invest as ever,” said Mr. Barrile. “Should we be more careful? Secure.”
Velocity has plans for the money. Among other things, the company plans to fly its entire workforce to Denver later this year for its annual company party, a spokeswoman said.
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