The US markets entered Bear market regime last month, for the first time after March 2020. 🥵Investors had flocked to the flaunting promises made by the fancy technology companies. Technology became over-emphasized in all sectors and people were blindsided by the growth projections. The castle started shaking when the US Fed started to wind back their liquidity taps and then large VCs and tech hedge funds started offloading their portfolios in massive numbers. Outcome? NASDAQ (the tech index in the US) is just 6% above its pre pandemic levels. If you change the dates here and rewind back to 1999 and 2000, it's Deja Vu!
Tech Hedge Funds restricting fund redemption, central banks raising rates, widespread layoffs, and VC wallets on virtual lockdowns is the new order of the day. These themes coupled with the overhyped exuberance in the private funding market has created a startup bubble of sorts in India over the past 2 years. Yes, we are signaling towards the one thing we all fear- a probable bubble burst.
Every economic cycle shift reshuffles wealth from sectors to pockets of opportunities. Since this may be the first major slowdown the Indian Startup Ecosystem may be facing after 2008, we are here to envisage the opportunities, highlight some key survival strategies and interesting business models that have evolved out of recessions in the past.
The cheat sheet to stay afloat
Fact check: General Motors, Burger King, CNN, Uber and Airbnb were all founded during economic downturns.
These days, the average successful startup takes about 8 years to create exit opportunities for the Investors. We also see a bear market (a 20%+ drop in the stock market) every 8 years on average, sometimes coinciding with an economic recession. So it seems likely for startups to eventually be caught in an economic downturn.
During the recessions of 1980, 1990, and 2000, 17% of the public companies either went bankrupt, or went private, or were acquired. But just as striking, 9% of the companies didn’t simply recover in the 3 years after a recession—they flourished, thoroughly outperforming competitors. Survival strategies to ace the recession:
They had strong contingency plans to cut back in non-core areas and react defensively.
Decentralized firms were better able to adjust to the changing conditions. When the shop floor level manager had the autonomy to hire or fire more people, add or subtract product offerings, they were better positioned to adapt to the changes.
Strategic cut back on the debt and timely equity issuance helped the firms to operate flexibly even during times of slower cash turnaround.
Intermediate layoff programs like furloughs and shortening of hours worked better than large scale layoffs as the latter backfired on the firms, as hiring and training new manpower during the recovery became more expensive.
Investors hunt for value investments
If you observe the chart below, you’ll notice that the total number of deals increased during the 2008 financial crisis, but the total value reduced by a big margin. If we go by the stock market investing psychology, investors jump to quality stocks when they are offered at deep discounts because of market wide sell off. In the same way, VCs also hunt for top quality and continue investing in startups scalping more stake in every round.
The hidden opportunities
Just as some investors wait to buy-in during a dip, there are opportunities within the startup ecosystem as well. For later-stage or well-funded startups, this can be a golden opportunity to buy out competitors who may be struggling.
Furthermore, recession also creates a lot of problems in the economy which unleash new opportunities for entrepreneurs.
How will Indian startups FARE ITS MAIDEN slowdown?
If the pandemic has taught CEOs and CFOs one thing, it was to free up cash as well as resources that would keep the doors open. Even when it comes to a recession, cash liquidity is imperative for keeping operations going. So, enable best practices for prudent cash and liquidity.
Focus on revenue building. Startups can no longer spend their resources on experimenting new models and business lines and should instead focus on that one Line of Business which can add to their cash flow as much as possible, because investors will be on the lookout for businesses which will survive the recession, even if it's in the most basic and simple products.
In a B2B framework, startups will need to develop products which render them indispensable in their clients’ business, by either adding to their revenue or helping them lower cost tangibly. Eg- a company which helps in materially lowering cloud infrastructure spend — a pain point that will only increase for companies across the board as more data is stored in the cloud and corresponding queries and other analysis need to be run.
When funding by VCs and private equity (PE) players is getting mired in uncertainty, it’s time for the start-ups to leverage the other funding channels. Family offices or private wealth management advisory firms have emerged as a viable option. Backed by industry titans like Narayana Murthy, Ratan Tata and Azim Premji, they are investing in the start-up growth story.
Investors have continued to add risk exposure to their portfolios even as the market liquidity has been drying and prices tumbling. This again highlights over-exuberance to ride risky returns. Retail participation in tech stocks is the same as it was back in pre 2000 times. Tech represents a big portion (30%) of S&P 500 again, same and highest since 1999 levels. The Indian startup ecosystem is overheated and is sizing to unsustainable limits. Technology has been the driving engine for growth in the last 2 decades, but we are again seeing the metrics develop like the dot com bubble.
This article is a part of the May'22 edition of our Startup Newsletter. Here's the complete publication: