fundraising
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What to do when your VC writes your startup off
The novel coronavirus has been devastating for many people, families and communities — and the consequences are still being calculated. The tech world has seen wave after wave of layoffs, sometimes multiple waves at one company only weeks apart. Some startups have lost nearly all their revenue, and depending on their cash reserves, have little hope of recovering.
For VCs, the last two months have been an exercise in triage.
Partners have gone through their entire investment portfolios to identify the winners, what’s salvageable and what (at least in their minds) has no hope of resuscitation. If you are in the first two groups, it’s back to whatever normal looks like in the midst of a global pandemic and a deep economic recession.
But what if you suddenly get a call informing you that your investor — perhaps your biggest champion to date — is going to cut the rope and write you off entirely?
That’s what we are going to talk about today.
Before we go anywhere, be thankful if you even know how your investors are judging your startup. Most, unfortunately, will couch the terms they use (“we will be engaging less” or perhaps “we are unlikely to do our pro rata going forward”) rather than just saying directly, “we are writing you off; don’t call us — we’ll call you.” That’s polite and face-saving for all parties, but the lack of transparency can make decisions down the road much harder. It’s better to know where you stand, even if the news is hard.
Finding your bearings
The first step to approaching this situation is to get your bearings. Much like during a fundraise process, it’s not uncommon for different investors on your cap table to reach different conclusions about your startup’s potential. One investor may write you off, while another has you marked at a more neutral valuation or even positively. This can absolutely be frustrating, and given the emotion of this situation, it can be hard to rationally accept that an investor who once believed in you no longer does so.
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Despite COVID-19, optimism reigns in the Midwest’s startup scene
Hello and welcome back to our regular morning look at private companies, public markets and the gray space in between.
Startups in the Midwest are optimistic despite the fact that a fair number of companies in the region are suffering from economic impacts stemming from COVID-19, recently collected data shows.
The global pandemic has shaken the U.S. economy, but it hasn’t affected each area in the same way. States have seen differing levels of infection, paces of response, qualities of medical infrastructure and so on. What happens to Silicon Valley startups in the COVID-19 era, therefore, might not be exactly the same as what happens to Boston’s or Utah’s startup ecosystems (more on Boston here, Utah here).
A report out this month from Sandalphon Capital that digs into the reality, reaction and sentiment of the Midwest’s startup scene paints an interesting picture. While data collected from 197 startup CEOs from the region includes worrisome responses regarding fundraising and cash runways, it also reflects more optimism and green shoots than we anticipated.
This morning, let’s study a few key data points from the Chicago-based, early stage venture capital firm’s survey to better understand one of America’s most interesting, if least-covered, startup scenes.
Chin up
The full survey — you can find Sandalphon’s summation and the link here — contains a wealth of data, but today we’re focusing on three things:
- COVID-19’s direct impacts
- runway and fundraising situations
- CEO optimism
Impact
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Fintech startups amass war chests for the economic downturn
Consumer fintech startups were massively successful in 2019, attracting millions of new users and disrupting traditional retail banks and financial services with mobile-first, consumer-oriented products. Despite the economic downturn in public markets and the massive wave of cuts at public and private companies in recent weeks, fintech startups have been raising a ton of money.
It feels like they’re all building a war chest to survive the economic winter as traditional banks continue to iterate so they can catch up and offer more user-friendly services. This is not the time to raise fees, slow down on product development or plans to acquire new users.
Nine-figure rounds
Back in January, I looked at challenger banks and their growth trajectories, but since then, they have managed to attract even more customers. According to the most recent figures:
- Nubank has 20 million customers;
- Revolut has 10 million users;
- Chime has 8 million users;
- N26 has 5 million users;
- Monzo has 4 million users.
And that’s without mentioning Starling Bank, Atom Bank, Bunq, Bnext, Paysend, etc. At some point, there will be as many challenger banks as non-challenger banks — perhaps we shouldn’t call them challenger banks anymore.
Beyond these startups, trading app Robinhood recently reached 13 million users, international payments startup TransferWise has 7 million customers and cryptocurrency exchange Coinbase has 30 million users.
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Introducing the term-sheet grader
Jamie is the founding partner of Pillar VC, a Boston-based seed-stage venture capital firm. He has spent the last 22 years investing in early-stage startups.
When we launched in 2016, we took the unusual approach of saying we’d buy common stock in startups. We believed then, and still do, that alignment with founders was more important than covering our downside in investments that didn’t work as planned. Said differently, we wanted to enhance our upside through alignment, rather than maximizing our downside through terms.
The world has changed a lot since that time. While we are actively making investments, and still buying common stock, we know that many entrepreneurs may be trying to raise money now — and it is very hard.
Fred Destin wrote a great piece about the ugly terms that can creep into term sheets during difficult times. If you have a choice between a good term sheet and a bad one, of course, you’ll take the good one. But what if you have no choice? And how can you compare term sheets in the first place?
To this end, we developed the term-sheet grader, a simple way to compare different term sheets or help characterize whether a term sheet is good or evil.
Let me first point out that none of this has anything to do with the valuation of the round (share price), the amount of capital, the likelihood of reaching a closing, the quality of the firm or the trust you have with the individual leading the investment, all absolutely critical pieces of the puzzle. Here, we are just looking at the terms and conditions, the legal structure of the investment.
We’ve listed nine key terms below — five that have to do with economics and four that relate to control and decision-making:
- Each key term can earn +1 for being friendly and -1 for being tough.
- There are a few really friendly terms that have a score of +2 each.
- Likewise, there are a few really tough ones that earn a -2.
- The best a term sheet could score is a +11, the worst is a -11.
- The “Industry Standard” deal scores a 0.
FWIW, the Pillar common stock standard deal earns a +8 (shown below).
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Indie.vc founder Bryce Roberts: Profitability is ‘more achievable than a Series A round’
Despite all evidence to the contrary, there’s more to building a startup than raising venture capital.
Founders are finding success without overly relying on VC dollars; some are even sharing profits with their respective employees and customers without the help of traditional funding and Silicon Valley power dynamics.
As some investors slow down their funding pace, it has become clear that profitability trumps funding and venture capital can only take a startup so far when the economy tanks and outside cash streams dry up.
In the Indie.vc portfolio, profitability is its driving force. In fact, its main criterion for funding is that a startup must be on a clear path to profitability with durable fundamentals like high gross margins or the ability to start charging for a product right away, as opposed to companies that need a significant amount of upfront investment for research and development.
Profitability, Indie.vc founder Bryce Roberts tells TechCrunch, needs to be a habit, and founders need to recognize that it’s not a switch they can just turn on. Startups looking to prioritize profitability need to start out as revenue-driven businesses that replace funding milestones with profitability goals.
“Genuinely, it’s not rocket science,” he says. “Profitability isn’t this crazy, elusive thing. It’s literally more achievable than a Series A round. It’s way more achievable than a Series B round. If you look at the kind of fall-off between those rounds, most entrepreneurs would be better off finding their path to profitability and scale.”
Indie.vc, which recently announced its latest batch of investments, advises founders to make sure they have what they need to be stable and then to create and measure value, Roberts says. That value, which differs depending on the company, must be quantifiable as some metric or revenue.
To do that, Roberts says founders should adopt a mindset where they’re focused on creating revenue opportunities, rather than cost savings. Indie.vc’s model also does not prioritize hiring ahead of growth, a strategy that seems to be working for its portfolio during the pandemic.
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Seed investors take long view on promising enterprise startups
The job of an early-stage startup founder is challenging in good times, never mind a crash like the one we are experiencing today.
While most expect private investing to slow down, it’s clear that some investments are still happening in spite of the pandemic, if the stories we are writing on TechCrunch are any indication.
But the downturn is bound to have an impact on the types of deals that receive funding; any startup that offers a good or service requiring human interaction or installation will face an uphill battle, at least in the short term. That said, enterprise SaaS vendors, especially ones that solve hard problems, help with work-from-home or collaboration, or better yet, help increase efficiency and save money, are still very much in demand.
Nobody can do anything about the CIO who is hunkering down until things improve — but that’s not everyone. Companies might be thinking twice about where they spend money, but some are still helping drive the net-new, post-COVID-19 investments happening from seed to late stage across many sectors.
We looked at data and spoke to a couple of enterprise-focused, NYC-based seed investors to better understand their investing cadence. Nobody painted a rosy picture of today’s climate, but seed investors were never about immediate gratification, especially where enterprise startups are concerned. That means, if a seed-stage investor believes in the founders and their vision and the company can ride out today’s economic upset, there’s still money in the till — at least for now.
Seed investment generally in decline
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Pandemic reset leads investors to focus on resilience, adaptability
Mahendra Ramsinghani founded Secure Octane Investments, which includes Demisto, CyberGRX and 16 other infrastructure and cybersecurity companies. Mahendra authored “The Business of Venture Capital” and “Startup Boards.”
For the vast majority of startup founders who were planning their capital raise in Q1 2020, the COVID-19 blow was so dramatic and sweeping, we cannot see all its effects at once.
One big question on the minds of most founders: How should we plan our next raise in terms of timing, valuation and amounts?
Sarah Guo, partner at Greylock Partners, says the fundraising environment has slowed down significantly, but founders who have built ties with VCs via informal coffee updates and check-ins are at a clear advantage. “Early-stage bets require relationship-building,” says Guo, who has been investing in seed through Series B rounds.
Ram Shanmugam, founder and CEO of AutonomIQ*, a seed-stage code and process automation company, has been strengthening his relationships. For a company that has low operating expenses and a community of 600,000 developers, he says he is not fazed. “Our automation code brings efficiencies and in fact, we have nine inbound leads in Q2. Having said that, we are being realistic at the pace at which we can close these contracts.”
Similarly, Fred Blumer, who exited Hughes Telematics at an enviable $750 million, says he is taking a more pragmatic approach to the Series A raise for his new company, Mile Auto. “We expect to have a 5x growth in our business in 2020, even after adjusting for COVID,” he said. “Our pay-per-mile insurance is a great fit for people who are driving less.” Because so many drivers are sheltering in place, legacy insurance companies are refunding hundreds of millions of dollars to customers, which offers an advantage (and an opportunity) to a startup like his.
“But we need to be patient and mindful. While our families, health and safety are top priority, we are staying focused on our customers,” Blumer said. “Insurtech is a resilient arena, and in my past company we raised $100 million, so working with investors has never been a challenge. Keeping up with growth and perfecting the customer experience are what keep us up at night.” He said he plans to get out in the market after investor confidence returns.
Which may be a good idea, considering Jason Lemkin’s Twitter survey, where only 32% of respondents said they plan to deploy the same amount of capital as in the past. But another 30% are on the opposite end of the spectrum, deploying 40% to 60% less capital.
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Extra Crunch Live: Join Charles Hudson for a look at today’s seed-stage landscape right now
Earlier this week, we kicked off our Extra Crunch Live series with an interesting chat with Cowboy’s Aileen Lee and Ted Wang. Today, we will be back at 3 p.m. PST/6 p.m. EST/10 p.m. GMT with a new guest: Charles Hudson, the general partner of Precursor Ventures.
Extra Crunch members will find an AddEvent link below to drop the details directly into their calendar and folks who want to participate directly can hit up the Zoom link (also below). We’ll ask as many audience questions as we can, so please make them sharp — no pitches, please.
Charles Hudson founded Precursor Ventures to invest in pre-seed and seed-stage companies. Earlier this year, the firm filed paperwork to put together a $40 million third fund after previously raising two main funds and one $10 million “opportunity” fund.
As we await hard and accurate numbers on how COVID-19 is impacting fundraising, we’ll ask Hudson to walk us through the changes he has seen and will cover some basics: The best way to pitch him, what his to-do list looks like these days and if the pandemic has made Precursor newly bullish or bearish on certain sectors.
Then, we’ll get much nerdier: Will we see the number of party rounds fall further now that it’s harder to gather investors in real life? Do you think we’ll see pre-seed raises ask for more ownership terms? And what is the latest with the wacky world of early-stage valuations?
There’s a lot to talk about. And we haven’t even mentioned YC’s pro rata change yet.
After Hudson, we have a stacked lineup of Extra Crunch live guests, including Mitch and Freada Kapor, Mark Cuban, Roelof Botha and Kirsten Green, with more to be announced soon.
You can find information below with details for joining today’s discussion, as well as an AddEvent link to put the details directly onto your calendar.
Sign up for Extra Crunch to get access to all these episodes where you can view the talks live, participate in the Q&A with industry leaders and watch later on-demand if you can’t make the live timing. You can also see the chat via YouTube below. Talk soon!
Details
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Digging into Europe’s Q1 venture results
Hello and welcome back to our regular morning look at private companies, public markets and the gray space in between.
Today we’re taking a look at a bit of data on the European venture capital scene in Q1. As with our looks at other locales like Silicon Valley and other bits of the United States, we’re taking stock of what happened in the first quarter. Q1 2020 includes pre-COVID-19 results, though as some European countries began to lock-down before the United States, there may be more pandemic-impact in the following results than we’ve seen domestically thus far.
Today’s grip of data is via the folks over at PitchBook, who compiled a venture-focused dig through the continent’s first three months of the year. Let’s parse the top numbers, make a comparison or two and then look to what’s next.
Q1: An ok quarter
Despite COVID-19, China’s broad shuttering and an aged bull market deep, Europe’s venture capital activity in Q1 2020 was mostly fine. It wasn’t great, and there were some less-than-winsome results that could be chalked up to the pandemic, but the first quarter provided an alright start to the year.
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Cowboy VC’s Aileen Lee: Your coronavirus scenario planning should be more conservative
The tech industry (and the world at large) is not experiencing temporary anxiety — the uncertainty we’re all coping with is the new normal.
Sudden shifts in behavior have made some startups targeting slow-moving, old-school industries more relevant than they could have imagined, such as those in telehealth, distance learning and remote work. Most, however are seeing massive decreases in revenue, forcing them to cut costs and even lay off teams to slash burn rates. Other startups simply won’t be here in three to six months.
Cowboy Ventures founder and managing partner Aileen Lee, who coined the term “unicorn,” says tech companies going through scenario planning need to begin thinking long-term.
“We’ve spent the last month scenario planning with our portfolio companies, and in most cases, we’ll have conversations about what these scenarios can include,” said Lee. “And when we look at the planning around those scenarios, they often don’t feel conservative enough. Most entrepreneurs are optimists, and we are, too! But it seems safer to have more conservative plans [and start expecting] that this is going to impact us for longer and be worse than we expected.”
Lee and Cowboy Ventures partner Ted Wang joined TechCrunch on Tuesday for our first episode of Extra Crunch Live, a virtual speaker series for Extra Crunch members. In a live Q&A that included questions from myself and the Extra Crunch audience, Wang and Lee covered a wide range of topics, including PPP loans, advice for business leaders around layoffs, the right time to seek funding and the right firms from which to seek that funding, how to pitch during a downturn and which sectors in particular Cowboy is interested in financing right now.
You can check out the best insights from the call, or catch up on the full conversation via the YouTube embed below.
We have several outstanding guests, including Charles Hudson, Mitch and Freada Kapor, Mark Cuban, Roelof Botha, Hunter Walk and Kirsten Green, joining us on Extra Crunch Live over the next few weeks. Sign up for Extra Crunch to get access to all of them.
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