What is the problem with the economy, and how will market volatility affect startups and venture capital? The background to these questions is currently dynamic and complex.
To help understand this turbulent environment, we’ve invited Tim Porter to join us on the GeekWire Podcast. it’s a Managing Director Madrona Venture Group who has invested in early-stage tech startups at a Seattle-based venture capital firm for the past 15 years, focusing on cloud, artificial intelligence, and corporate software companies.
Listen below, and keep reading for our notes from the discussion.
It looks a little bleak there. what do you see?
- These past few years have been a racy train, for the world, the tech market, and the startup market too.
- In some ways, what is happening now is a return to historical normality rather than a “sky is falling” scenario. There was pressure for multiples of unsustainably high levels last year. Companies are now focusing a little more on efficiency, not just growth at any cost.
- At the same time, the world has gone through a lot of shocks (pandemic, wars, supply chain issues, energy shocks, inflation), and they have had a real impact on businesses and individual consumers.
- It will be difficult to raise money in the near term. Investors are pretty much pressed on the pause button right now. Startups need to think about extending their runway, rebalancing efficiency and growth. It grows a little less, but is more efficient.
- Companies are not hiring aggressively, but there are no large-scale hiring freezes or layoffs.
- In many cases, demand from end customers remains strong. Companies hit their targets in the first quarter, and the second quarter looks solid.
- All that said, there is a general sense of caution, and a realization that capital preservation is needed.
It seems like a strange dip. It is not a business or customer reassignment process; It is simply a reset to market and valuation. Is this assumption accurate?
- “I don’t want to say there is no impact in some of these end markets, but that is very much the case.”
- The Double revenue forward For the top 25 fastest growing public SaaS companies, the average was 52 at the peak on November 15. And now it’s an average of eight. And so I saw the re-evaluation.
- Public companies beat earnings expectations but softened their forecasts due to issues including the impact of foreign exchange rates. (We see sales force And the Microsoft.)
- For hardware companies, there is also a direct impact from supply chain challenges. (We see Valve’s Steam Deck.) Consumer spending has become quieter as the stimulus has worked its way through the economy.
- So I don’t want to say that there is absolutely nothing to worry about about inflation and the macroeconomy. But most of the underlying trends that we invest in countering — digital transformation, the move to the cloud, machine learning, software impacts — all seem to be very solid.”
- Looking ahead, people seem to be in wait-and-see mode, not pressing the brakes, but also not putting the gas pedal to the floor.
We’ve had COVID and war and all these supply chain problems, inflation. Entrepreneurs must feel that they cannot get enough rest. It is stressful and takes a psychological toll. How do you train entrepreneurs to get past this?
- It was wild. All the uncertainties and challenges of the covid virus in 2020, then the best fundraising market in history in 2021, the biggest tech valuations we’ve seen in 20 years. Now things are back home to corrode with inflation and broader global issues.
- However, the founders are resilient and optimistic. Some of the best companies were built in past recessions. For Madrona, examples from the 2007-2009 era include Smartsheet, Apptio, and Extrahop.
- “We want to partner with founders who want to build something meaningful and sustainable for the long term. Cycles will go up, and they go down. … And so you just have to respond, put your head down and keep building.”
- We always try to have a point, every dollar requires a return. And if you see an opportunity, be aggressive and invest against it. But don’t pour money into something just because the money is available.”
- This kind of effective growth mindset is what people are focusing on right now.
Let’s say you are an entrepreneur at the end of your Series A funding round, and you graduate to Series B. What is your advice to this entrepreneur?
Madrona is still figuring this out at the moment with several factors in mind.
- Very late private markets are basically closed at the moment.
- Until three weeks ago, the very early stage market (investment in seed and seed seed) was taking off. We’ve seen a lot of early stage deals continue to get done at solid prices. In the past three weeks, this market has started to slow down.
- In the world of Web3, The collapse of Tira and Luna contributed to the slowdown.
- At the same time, startups have been scaled up to show progress in their metrics, with a greater focus on capital efficiency. Ratings are lower than entrepreneurs previously expected as a result.
So the advice is, if you don’t need to breed, don’t. Instead, extend your runway to make more with your existing capital. If you need a salary increase now, consider a smaller round, and re-modify your ideas about the rating. Play for the long haul, make your pie bigger down the road, and don’t just focus on thinning out now.
We are seeing cuts in hiring from small to large businesses. What do you see as it relates to employment? Is this an opportunity for early stage companies to acquire talent?
- It seems like an opportunity. Just as in the finance markets, there is a ripple effect in the talent market that starts with later stage companies and moves on to early stage companies. It takes some time.
- Competition for talent has been fierce in Seattle in recent years, certainly on the technical and engineering side, but also on the sales and marketing side.
- “It’s still very competitive from what I see. But I think it’s going to come down, and it’s going to be a little normal here in the back half of the year and next year.”
It’s another example of how weird this downturn is – all these macroeconomic problems and yet employment still keeps pace and customers are still coming in. How big is this groupthink versus reality?
- One common observation is that the technology market is rapidly moving from greed to fear. When fear is transmitted, all of these things build upon each other.
- It is a truism during many cycles that when an economic downturn comes, you never want to react too late.
- However, things didn’t quite stop. There is an opportunity to build. It really depends on your business, your runway, and your end market.
- The move towards efficiency is real and required. You don’t want to go into survival mode completely, but you also don’t want to ignore the warning signs and run out of money.
- Tim has not yet seen any bearish rounds (the rating was lower in a new round than it was previously). However, there was a deal in which the price was adjusted in real time, through a collaborative discussion between investors and founders.
Does an economic downturn like this change your investment focus?
- “It’s not doing that pretty much. We’re trying to invest in trends that we think are trends that are over a decade old, and we’re investing really early for companies that can build in the long term. And so that hasn’t changed at all.”
- Madrona’s investment pace has also remained relatively steady.
- The only thing slowing things down is price discovery, and determining how companies are valued. So there will likely be a slower pace in the follow-up rounds compared to the previous year. New investments may slow, but to a lesser extent.
Is there something specific about this economic downturn that worries you the most?
I think it comes down to whether inflation and a broader slowdown in the global economy will turn this into a much longer recession or deflation. How long will it take? And the longer it goes, I think you’ll see the markets having to pull back. …will it turn into a full-blown recession? I’m not sure. We do hope so. But that is the question.”
How anxious are you on a scale of 1 to 10, where 1 indicates no anxiety and 10 represents massive devastation?
Seven. “I think it’s going to be a more difficult market for fundraising for a while here. And I think there are some broader issues around inflation and the economy. I don’t think it’s a 10. I don’t think it’s as bad as it was in the Great Recession of 2008. But I also think you have to show proper caution. And really focus on efficiency, and really understand the future indicators of your business to see how things will continue to respond.”
“Infuriatingly humble alcohol fanatic. Unapologetic beer practitioner. Analyst.”