This VC Environment is looking a lot like 1929

On Wednesday March 30th, the Wall Street Journal put out an article titled Funds Flow to Venture Firms which stated $13bln was raised by venture firms in Q1, which is the most since 2000.  The article states “venture capital firms are raising money at the highest rate in 15 years” and “many prestigious venture funds have raised new billion dollar funds in recent weeks including Accel Partners and Founders Fund.” So all is good in venture land, right? Not necessarily.  Yesterday, Thursday March 31st, the WSJ put out an article entitled Fidelity Cuts Tech Startup Values which said that “in February Fidelity investments took an ax to the valuations of its private technology shares cutting bellwether software startups like Dropbox and Zenefits by as much as 38% compared with the prior month.” This continues a trend of recent valuation cuts, for instance a Blackrock stake in Jawbone “declined 69% as of December.”     

 

Indeed, the glowing article on the 30th goes on to say that investors in venture funds “have become more selective, looking for managers that have been through a downturn” and more importantly “just 6.6% of firms have raised half of the venture capital money, compared with a 16 year average of 11.6%.”  So in conclusion, venture valuations are being cut by investors like Fidelity and even though the asset class had a massive Q1 in terms of venture funds raising money, the money is being concentrated in the best funds like Accel (they have 20+ investments with $1bln+ valuations). 

 

So what does this mean for startups? The precedent is not good: one example of a major concentration of cash ending in disaster was in 1929.  According to Robert McElvaine’s book The Great Depression, “more than half a century after the fact, there is no consensus as to what caused The Great Depression,” but in his view the concentration of wealth and income was the key driver.  McElvaine states “in 1929, 200 corporations controlled nearly half of American industry.  The $81bln of assets held by these corporations represented 49% of all corporate wealth in the nation and 22% of the national wealth.”  He goes on to state “the top 0.1% of American families in 1929 had an aggregate income equal to that of the bottom 42%.  Stated in absolute numbers, approximately 24,000 families had a combined income as large as that shared by more than 11.5mm poor and middle class families.” Once a small downturn began and confidence was lost, the holders of this concentrated wealth retrenched, investment collapsed, and the downturn snowballed into the Great Depression.     Could we be headed for a Great Depression in startup funding? Unlikely, but possibly, so as a startup you need to be ready for the worst (get to cash break even or at least have a plan that can get you there). 

 

While the precedent isn’t great, some startups may be safe: if you’re a high flying company raising a Series C, D, E round or later, you may be in good shape as funds like Accel (which just raised $2bln) who can only do late stage investments have plenty of cash now, and need to deploy it.  If you’re a Series A or B startup raising $3mm to $10mm however, the market may tighten as most of the money in that $13bln Q1 did not go to smaller funds that write smaller checks. 

 

As an earlier stage company, protect yourself from the malaise by being cash breakeven or at least have a plan to get to breakeven quickly if need be, or have an uncle that works at Accel.    

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