Last week, something turned. We found out that not only are we in a recession, but it started a year ago. Tech layoffs went into overdrive (12,000 at AT&T, 600 at Adobe, 130 at Real Networks), bringing the total unemployed tech workforce to at least 90,000, by our count.
Even Facebook decided to indefinitely postpone an earlier plan to allow employees to sell some stock privately. One likely consideration in Facebook’s about-face is that outside investors may no longer be willing to buy Facebook stock at the already-lowered $4 billion internal valuation the plan called for, never mind the over-inflated $15 billion that Microsoft got in at last year.
Capital is drying up, and things may still get worse before they get better. So far in this downturn, we’ve seen startups batten down the hatches (as they should) and hope to survive long enough to make it out the other end.
But what about venture capital firms? When will we start to see the VC layoffs and fund closures?
It is already happening to some extent. The number of partners listed on some VC Websites is already quietly shrinking. Some new VC funds are having difficulty raising money and even existing funds are running into problems collecting commitments from strapped limited partners.
The carnage on Wall Street is having a trickle-down effect on venture capital firms. The limited partners who typically invest in VC funds—university endowments, pension funds, investment banks, other institutions, and wealthy individuals—are short of cash right now. Harvard’s endowment lost $8 billion in the past four months alone. Many limited partners simply cannot honor capital calls from VCs. (When a VC firm creates a new fund, it does not collect all the money at once. Instead, it receives promises from limited partners that they will invest when the capital is needed).
Rather than face the penalty of default, limited partners increasingly are trying to sell their commitments at deep discounts on secondary markets. Conversely—knowing that they may not be able to call in their chits—VC’s are motivated to slow down their investment activity.
All of this is to be expected during a recession. Entrepreneurs wait for a rebound, and then their startups get funded once again.
But what if this recession (and bear market) lasts longer than a year or two? And what if startup founders don’t feel like waiting around for VCs and their limited partners to get back on their feet?
Startups can be run so cheaply now (with open-source software, cloud computing, and virtual teams spread across the Web) that many more can achieve profitability without any VC cash. Up until recently, they still happily took that cash when it was handed to them. But certain classes of startups, especially Web startups, may now find they don’t even need that money. Y Combinator’s Paul Graham argues:
VCs and founders are like two components that used to be bolted together. Around 2000 the bolt was removed. Because the components have so far been subjected to the same forces, they still seem to be joined together, but really one is just resting on the other. A sharp impact would make them fly apart. And the present recession could be that impact.
. . . The current generation of founders want to raise money from VCs, and Sequoia specifically, because Larry and Sergey took money from VCs, and Sequoia specifically. Imagine what it would do to the VC business if the next hot company didn’t take VC at all.
The less venture capital there is for new startups, the faster the decoupling will begin.
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Nice article. Yeah, the tough times should filter out the companies with real metal or money in them… Wish all the best to all to sail through the tough times … start-up’s should network with each other, I guess, so as to barter & share as much as possible … increase each other’s visibility, and buoyancy during the early stages…My start up http://www.latticepurple.com is ready to share or partner or even promote each other’s good qualities. I don’t know how the rest of the folk sees this?
Marvin,
The companies that have a sustainable business model will survive this tough economic period, and are likely to emerge stronger than their counterparts who were over valued by zealous VC investors. Speaking with developers whose startups required nothing more than hard work and a personal credit card, make the business model of bloating companies with lofty valuations unfathomable. There are exceptions to the rule — Facebook who is building an empire with 120 million+ users and Jason Calacanis who has previously proven himself, but there are examples I have read on TechCrunch that have made me say “huh?”. And the layoffs, missed capital calls and diminished funding all result from that insatiable philosophy.
@David, I couldn’t agree with you more. I think the formula for each one of us is to take a pragmatic approach and do our own thing as per individual’s circumstances. No particular formula or advise is recommended per se. One must believe in core competence and take it on sincerely, and not seriously.
Coming from a VC myself, I do seriously recognize the need for change. Last week I wrote a post that’s been getting a lot of traffic and attention lately:
“The Wiki Fund: People Powered Venture Capital”
http://scottdig.com/?p=84
Great post, Scott. I agree it is time for Venture Capital to get innovative about how it funds innovation. I don’t think it is the “end of venture capital”, but maybe just “as we know it”.
Ive suspected that we were in recession for about a year and 3 mos come to think of it. We need the abomination of wallstreet to re-tool their investment methodologies entirely before we’ll see any sustainable long term change.
//3cents
Actually nobody at the moment knows the exact duration of this recession period. Experts have already commented that world still has to see the worst.
It’s definitely going to hit hard on startups, but in my opinion web startups can be successful if they focus on specific niche rather than something which world doesn’t want during recession.
This reminds me of the crash in 1987.
Everybody thought it would be the end of the world for hedge funds, with tons closing their doors and many more having trouble bringing in new investments.
Hedge funds didn’t become extinct then any more than venture funds will now.
The crash of 1987 was different. Different causes, different effects.
Were you even born in ‘87?
and a follow up question…
Are you really a fan of Dave Matthews Band?
(gotta love the FB commenters)
No, I was not born in 1987, but I have read about it.
And yes, I am a DMB fan.
Of course there will be fund closings. Many will not make it out of the recession. But, this isn’t uncommon. Indeed, every company will experience hardship (as most already are), but the question of this being the end of venture capital as we know it is a ridiculous one (I realize it’s dramatic effect). I think the whole discussion about the failure of VC has gotten a little out of hand in these heated times. Scheper is right that the models many VCs have come to love will inevitably have to change and perhaps we’ll see a little bit of the changing of the old guard, but in the end, it’s all a part of the humbling effect that the market has in a downturn like this. This is the second event like this that the VC world has experienced in less than a decade, but if you were to go back and read about the industrial revolution, you will find there was more times of economic downturn before the Vanderbilts, Carnegies, etc were able to come along and really make their riches. It’s easy to go into “doom and gloom” mode, but the crashing of VC wouldn’t be good for anyone, especially the tech industry!
-Mark (www.reiboldt.com)
Great post, Michael. When the going gets tough, the tough get innovative and pragmatic and solve real problems cost effectively. Darwin at work. Good times make millionaires, bad times make billionaires…
Hi Kevin,
You are true , Keep in Touch.
Great comment, but you should give credit where it is deserved. Was written by Erick Schonfeld not Michael..
It will be interesting to see who lasts now. I don’t understand and have yet to understand how a slideshow app raised $40million? An instant messenger platform raised another $20million~? and various other simple ideas raising millions, they didn’t cost that much to build and they don’t cost that much to run. So where did all the money go?!
Pierce
local Ferrari and Porsche dealerships…
Pierce,
Thanks for the reply and the correction on giving Michael credit for Erick’s great post. I shouldn’t multitask late at night…
Kevin
“Good times make millionaires, bad times make billionaires”
Excellent =)
I love that line
“The less venture capital there is for new startups, the faster the decoupling will begin”
This will lead to absolutely crappy web applications and the decline of the internet.
FWIW, the 2001-2002 dot com slump resulted in the death of many crappy Web applications and the rise of the Internet as a serious place to do business.
I disagree.
Oh, and Ruby sucks.
Curious Peter, how that Internet you speak so fondly of is doing at this very moment?
Yeah, I thought so…
Waiting for the VC layoff stories to come in bunches. Great Job TC!
I meant, “great post, Erick”…
Interesting post. One comment I must make is that you don’t need open source to run a low / no cost business from a technology platform perspective. Try http://www.microsoft.com/bizspark/
I think these points are great; have been seeing quite a few posts discussing this topic recently. Crowd-sourcing of seed stage investment, at least on some level, needs to happen.
the picture like this
http://www.eskibirsaat.com
Who are the VC’s that are quietly being fired. Please post names- its fair game.
Hacking iPod, TEU 2009, juegos gratis: http://elpiratabueno.blogspot.com/
great post
I blogged a response to Pauls essay on my blog (click my name).
Basically I think that Pauls making a good point, but that more startups equals more startup competition, and then you may very well need the VC money to compete.
Maybe what is needed it for VC’s to be quicker to decide, make more investments and invest less money in each. Paul has argued this before.
Being involved in a startup, I agree with a lot of the ‘pragmatic’ sentiments in this post. There needs to be some reality here, and I would like to see startups go for longer with getting funding from VCs.
http://robjam.es/2008/12/the-e.....e-capital/
Bootstrapping is the way to go. Find a niche and a business model that doesn’t need VC funding. That way you don’t have to waste months grovelling around to get capital and writing long-winded business plans. It also means you’ll still own 100% of it when it takes off and won’t have some exec from the VC firm trying to steer you away from your core principles and directly into the path of the money express - just so they can cash out early and escape.
I’ll toast to that! Completely agree.
This is exactly what my company is doing to alleviate this problem - gTrade Global Trading Platform. We are launching a stock exchange for startup web companies for this very reason.
I totally agree with the current pitfalls you have outlined, and they need to change to match the whole web 2.0 mantra - for the people by the people.
http://blog.gtradenet.com
In Germany they are expecting the biggest recession since WWII, so you’ll have a hard time finding VC here as well….
There is clearly a lot more to come. The credit default swaps have yet to hit and there is still a lot of unwinding of various positions (i.e the carry trade) to go, as businesses default on their debt, more counter parties will feel the strain and that will result in a greater decrease in available LP capital for funding.
Of course we are not going to see the end of VC funding. But, many will find it harder to close funds for a while. However, this is clearly a massive opportunity for (lean) businesses with a genuine value to establish themselves and grow a real base for when the upturn comes…..
For those start-ups who know how to run a successful business on a low cost base and entrepreneurs who can take advantage to get good teams and cheap deals - the next two years are going to be far and away the best time to launch a new business.
Consider also that people who are naturally risk-averse yet couldn’t resist dipping their toes into the new venture waters and stealing all the investment - will now idly sit back in their corporate canteens worrying if they will be laid off over the coming shakeout.
scaremongering is certainly picking up.
It is a time to re-invent VC. From Europe and other places over the world we see US VC as a dream, because they over-funded the companies, and mainly our competitors. As you articles points, start-up’ing today could be done with less initial budgets, and funds are more needed for expansion and sales once the first phase (development & testing) is completed.
Perhaps the VC should move to after seed phase, validate results invest in growth/consolidation phase and linked to M&A prepare the company for merging to bigger one as a new component of product/service portfolio, or it it is really possible, for IPO.
It looks nice!
As it’s Sunday, and I’m not sure if TC’s trackback approval is on, I hope you wont mind me commenting a link back to my blog.
Basically, Erick, I think you are wrong
And here’s a list of reasons why:
http://jofarnold.com/2008/12/0.....-die-meme/
You’re not the only person to say this though. A lot of people are talking about the death of VC.
wow it’s good news!
I wouldn’t even think of going to a VC with my business.
What I do is proprietary, but let’s say it’s a “web 3.0″ business that directly addresses the problems of web 2.0. If everything goes well, it might be a 3-10 million $ a year business in 5 years. That might be chump change for some people, but it would be a lot of money for me.
However, (i) it doesn’t have the potential to make billions, (ii) it’s not a “me-too” facebook application, and (iii) I live in the 99% of the US that’s been redlined by Silicon Valley VC.
The nice thing is my business scales to the very small and creates a 500% yearly ROI. A year’s salary and enough money to hire a programmer would speed things up a lot, but then I’d be taking orders from an investor: exactly the situation I started my own business to get away from.
who needs VC ’s? go to angels
and… before even going to ask for cash from VC or angel, try to build a model that has some sort of revenue stream…
With America in decline I wouldn’t consider investing in anything but Agriculture (Corn) within the US,
Why risk capital on the Web?
The web as its been so far has only vastly grew from or when in bubble markets, take the VC speculation / investment from that in a good market and put it together with Americas position regarding the markets and dollar currency it all dries up fast,
The web based startup culture has always been extremely thin on speculative dreaming,
Their are much better places to invest capital if you have any on essentials people need within the US that are real and actually have use.
What Paul is referring to is a fundamental structural change in the way the VC industry functions vis-a-vis its customers, driven by the current macro economic inflection point.
I suspect that many, if not most, knowledge based industries (e.g. the legal industry, but more and more the argument can be made that all industries are “knowledge based”) will see fundamental structural changes as well.
This will cause a significant amount of PAIN but also unprecedented opportunities for those that can anticipate what this “brave new world” will look like. Given all the economic carnage that will ensue it would not be appropriate to say that it will be a “fun ride” but it nonetheless will be an interesting one.
We must innovate our way out of this mess and that by definition means that those entrepreneurs that manage to survive may also thrive.
good points.
You have to do something about your site… it is amateurish and crappy. It says a lot about your firm…
Have you heard of Craigslist?
http://www.eskibirsaat.com
you will see another one
Good Morning,
I’m directly involved with raising capital/sell side/ and buy side engagements and can concur with the overall sentiments of this article. However, we should all keep in mind that when times are tough, people/firms who have been frugal and fortunate enough to hold onto their capital will need a place to put it. That being said, a good project, presented correctly and presented to the right people will get funding in any environment.
The most notable trend (within past two weeks), I have seen from my vantage point is an increased number of retailers looking for ways to quickly and effectively liquidate their inventory. Online auctioneers who have the capability to instantaneously reach a targeted audience of buyers (normally through a well put together database) can easily raise money to fund further expansion or tech improvements.
There are other firms I can see from my vantage easily getting funding and I would be happy to discuss any inquiries people may have.
My contact information is below.
Best Regards,
James Nash
Managing Director
Stamford Capital LLC
Office: +01 (203) 973-0740
Cell: +01 (607) 237-7101
Email: jamesnash@stamfordcapitalllc.com
Web: http://www.stamfordcapitalllc.com
Excellent comment. Seasoned entrepreneurs would value some [very few] of the comments here. The rest of the comments are written by people who have done or accomplished little.
With an innovative, creative concept, a good business plan and a solid team, preferably with experience and sound market knowledge, a start-up will not have much trouble finding capital.
And another point: the European start-up/VC climate has always been different compared to the US climate which has more creativity, energy and… more money, even now.
I thought investment bankers were all but dead.
Gotta love VC guys like Nash.
If he’s advertising his firm in the commentary section on this site, he’s small change.
Nash: Get off the Internet and back to washing my car!
Gotta love VC guys like Nash.
If he’s advertising his firm in the commentary section on this site, he’s small change.
Nash: Get off the Internet and back to washing my car!
VC funding has been drying up for awhile now, especially for web-based businesses. The economic state now is just the obituary for it, more or less.
Interesting perspective Erick…
Dovetails with a post I made earlier this year about the decline of money and the rise of goodwill:
http://www.colinpape.com/?postid=10000166
Erick, do you ever have one fucking original idea to write about?
great ya..
hope recession ends soon…
VC Funding is overrated.
I agree - it very possible outcome of this crisis - more technology advances less work and cash is required to create new site or web based service. In some near future is will require only new idea and tool which auto-create all needed software infrastructure and upload it to cloud…
I just hate VCs, their people, their “know it all” attitude, their cronyism, their greediness in tough times. I wish that some thing else will evolve from this crisis.
Hi,
Just saw your post and felt I should add, with your permission, to our latest U2B network website - http://www.buzzica.com - where people can sign up, post their projects, and get them developed and/or funded in exchange for equity.
Would also be interested to personally discuss with you any opportunities you might know of, and maybe featuring us somewhere on your website.
Thank you!
Great post! Though its always hard to be in a economic recession, then isn’t it exactly the nature of the market - a neccesity? Isn’t it the upheating of the economy and the cyclical trends with ups and downs that makes for new innovation - as this post mentions - for a lower cost. Though its bad to find ourselves and our peers without a job, in the bigger picture this is what drives innovation and competitiveness.
the way things are going people will have to disconnect from the internet due to not being able to afford it..then what?..only cell phones will be accessing the net..
And why do you think people who will have lost their jobs, their homes, theiR futures and their children’s futures will have the resources (and inclination) to spent $100/month for internet access on their cellphones?
It is ironic that VC money is tight when there could be great bargains, ideas and teams for funding.
great post!!
- http://www.swede1.ws
When it comes down to it , this can only be a good thing.
Not so long ago (Feb 08) a company ( lets call it F )launched on one of the small stock markets and raised 2 million usd. This company didnt have anything amazing, it was a company that had licensed a poker room software from one of the bigger poker networks, this company F had 600 registered users and had a turnover of less than 20,000 USD over the yr before.
It goes to show there was too much money floating about.
In the next few yrs I think the boom yrs as poster childs like Slide, Facebook, Meebo will be gone. Rather more innovation will come up and we will see more non us startups ie from europe , asia, africa .
The next revolution is here. http://www.flairjax.com
Money makes the tech world go round which is why VCs will never die. When launching my company I bought into the, “Why take money?… I’ll go viral” school of thought and actually turned down some investment… wanted to keep that 100% share. Well, the money went to a friend and former colleague who was also launching a start-up. Fast forward 6 months. I hit unforeseen snags with partners, he did too… but money got him over the hump while I’m still climbing that hill. More often than not, money makes the difference. Don’t buy into the “Apple started in a garage” legend… in the vast majority of instances there’s a hidden chapter in the story that is rarely reported … the warm path lined with money.
This is but another bump on the road…in 3 years things will return to the way they were. That said–the copycat investments need to stop. VCs without a thesis and specialty need to become farmers.
My latest project is http://www.takemystuff.com; the name describes what we do — we’re not stressing over the economy. The recession will be brutal and plenty of VC’s who invested in me-too, red ocean projects are in trouble. But some of the worlds greatest companies were either founded or gained traction in the Great Depression. Economic storms are like forest fires; on one hand they’re brutal and lethal and kill cute creatures. On the other, they burn out the underbrush, eventually open the sunlight, and open up some seeds waiting specifically for the heat, leading to stronger, healthier forests.
I’ve been saying this for 2 years now. Both VC’s and blogs like this destroyed the Web 2.0 ecosystem by investing in ridiculous childish “cool” apps and then glorifying them on blogs like Techcrunch.
This, in turn, led to over creation of childish and stupid “cool” apps.
When our “boring” 7-digit revenue and profit start-up couldn’t get any attention from Silicon Valley VC’s and bloggers, we knew the system was busted.
A moron shows up at Arrington’s door with a dumb idea and he gets covered. We dish out $15,000 for a sponsorship of TC 40 and Mike gave me 40 seconds….but his people still had enough nerve to call and ask for more sponsorships!
Unfortunate to see the meltdown but by no means a surprise. The crazy part is how TC and VC’s are blaming the financial meltdown despite the fact exits were already at all-time lows.
Regards,
George
Then be a moron and show up at his door! What a moron.
Yep, showing up at doors at the other end of the country is the way Web 2.0 companies should market themselves.
Do you also recommend a send him a fax in advance? I mean, just to let him know what time the chuck wagon is scheduled to arrive.