What startups should do as a downturn approaches
Startup advice for entrepreneurs who are raising capital and preparing for a potential downturn
With near-record amounts of venture capital dollars available to startups but a potential economic downturn on the horizon, founders and CEOs have some crucial decisions to make in 2020.
- Raise more capital than you need
- Do extensive diligence on potential investors/board members
- Focus on “efficient growth” vs. “growth at all costs”
Mehandru, whose firm is based in Silicon Valley but is increasingly active in the Pacific Northwest, said founders should raise more cash than they might need. He cited the notion that the best way to protect against a downturn is to enjoy every last moment of the upside.
“If your business plan requires you to raise $50 million, and you’re getting money at a $1 billion [valuation] when you’re sitting at $50 million in revenue, raise $100 million,” he said. “And then once you raise it, pretend like you raised $50 million and operate based on that.”
But he cautioned: “Be thoughtful about how much money you’re raising. Don’t go spend $400 million in 24 months or else it’ll be trouble.”
For earlier-stage startups, Mehandru said they should raise just enough money to get through 18 months. “It’s the most diluted equity you’ll ever give,” he said. “When I look at Series A and B, I shudder when I think about a company where 60 percent of the cap table is owned by venture capitalists.”
Kreiner likes the phrase, “raise more, spend less.” He said founders need to be focused on being scrappy and on ROI, even if they have a lot of investment dollars in the bank.
“Also think about the core problem that you’re solving and how that problem shifts or changes,” added Kreiner, who helped trucking startup Convoy raise its $400 million round this past November. “How do you make sure that you’re solving an enduring problem?”
Sandler said “it’s a great time to be raising money” given all the capital available to startups. That’s why founders should be extremely diligent about who they choose as investors and board members.
“You have to have them pitch you,” said Sandler, who helps run PSL’s startup studio and venture fund. “That gets lost on a lot of founders, and now more than ever the scales are tipped in your favor, so take advantage of it.”
She also advised entrepreneurs to get on the phone with other founders who have worked directly with a specific partner at a firm that wants to invest and will potentially take a board seat. “Make sure you understand who the partner is that you’re working with,” Sandler said.
Kreiner said “relationships really matter and they matter over a long period of time.”
Added Mehandru, who said he met with 1,100 companies last year: “The way you should think about it is you’re adding an employee for nine years that you can’t fire.”
Sandler said the “growth at all costs” mentality with investors is shifting as profitability becomes more of a focus for both private and public companies. It’s something Uber CEO Dara Khosrowshahi also said on his company’s earnings call Thursday, and is becoming top of mind in light of what’s happening with SoftBank.
Sandler said the business fundamentals of a company are just as important as the growth story.
“Can you build a business that ultimately allows you to control your own destiny?” she said. “A lot of times that comes down to, what does your margin look like? What do your unit economics look like? What does it take to make them strong? And at what point can you begin to really control what allows you to grow and to grow smartly?”
Mehandru added: “Growth is important, but efficient growth is even better.”