How Covid has changed the funding landscape for startups

A changing funding landscape

But growth can take many forms, and despite its lasting importance in startup funding, there is a sense that things are changing.

Arun Penmetsa, partner at Silicon Valley-based VC firm Storm Ventures, argues that while growth is certainly not dead, there is “more emphasis on building resiliency in an organisation and gaining a better understand of the risk factors.”

“In the short term, companies are focused on preserving cash given the uncertain state of the recovery and fundraising environment,” he says. “I think that focus will continue for a while. In the long term, growth is still vital, especially since public markets are still valuing growth.”

Stephen Page, founder and CEO of SFC Capital, sees the relative importance of growth and profitability as more unique to each company.

“At the heart of the matter I do not believe that any good investor will separate the two,” he says. “Almost every business will want to make a profit at some point. CEOs do not want to be constantly giving away more and more equity all the time. Investors will also not be interested in a company that constantly needs support through its life, they are looking to make a return.”
 

Accelerating a longer trend

While the coronavirus pandemic has shaped the funding landscape for startups, it may not be as strong a driver of change as it initially seems. Instead, many see the shift away from growth-at-all-costs to be rooted in an earlier time.

“We think the recent shift of focus from growth to profitability was underway before Covid-19 really hit,” says Matt Wichrowski, partner at European VC firm Fly Ventures.

“There have been a number of high-profile tech companies that have very publicly struggled to command the same multiples in the public markets. Those examples have had a significant impact in investment thinking, though that's much more pronounced in the later stages of venture.”

Kirsty Grant, chief investment officer at Seedrs, agrees with this sentiment, arguing that “a reckless pursuit of growth-at-all-costs has been out of fashion amongst investors for some time now,” adding that Covid-19 “has validated that approach.”

“As we’ve seen from our investor community, people continue to look for ambitious companies,” she says. “But as always, they want to see management teams that have sensible cash and resource management plans and the wherewithal and agility to pivot strategy quickly as circumstances unfold.”

Increase your startup’s chance of investment

Despite all the cash that may be waiting to be claimed in investors’ bank accounts, the fact is that the coronavirus pandemic has ravaged some industries and seen others grow rapidly. In short, the economic landscape has changed, and the startup landscape is inevitably a part of that.

As a result, there are going to be shifts in investor priorities between industries, in much the same way that there have been changes in the profitability of certain verticals.

On the winners’ side, according to Jungle Ventures’ Anand, sits technology, thanks to the surge in remote working and the hurried scramble to embrace digitisation. And startups in this area are going to see improved investor interest.

“From being able to order essential supplies over online platforms to finding better productivity and work-life balance via work from home, these are all significant changes in behaviour, and startups are at the forefront of this tectonic shift,” he says.

“There is scope for tremendous organic growth. Industries and teams that balance this windfall whilst still maintaining good business practices – as there could be another crisis around the corner – are the ones that will emerge as once-in-a-lifetime value creators.”

TempoCap’s Ostin also sees technology doing better than other fields, arguing that “startups with virtual business models, ecommerce, cybersecurity, gaming” will be less severely impacted than others. However, he does argue that this alone will not make a startup immune to damage.

“A danger lies in being short-sighted and believing that just because a company is virtual means it won't face some difficulty in Q3 and Q4,” he says.

“The likelihood is that, in the medium term, the spending power of consumers will be adversely impacted, and all sectors must be prepared for these specific issues in the second half of 2020 and into 2021.”

And while all companies may be on shaky ground, some face a considerably more precarious time ahead with travel, hospitality and retail being widely identified as being at risk.

However, the story is not black and white; companies in these fields can succeed in testing times. As Ostin explains, while “there will be a significant learning curve for these businesses, those that are agile and innovative will be the most successful in the coming months and years.” SFC Capital’s Page echoes this sentiment, arguing that “good companies will still get funded, it will just take longer to convince investors.”
 

Advice for startups

For startups looking to successfully navigate these intensely rocky waters and attract much-wanted funding, investors have plentiful advice. And for many, this focuses on being adaptable to the changing reality that lies before us.

Fly Ventures’s Wichrowski warns that what lies ahead is a “very different market,” so paying close attention to meeting the changing needs of clients is key.

“In a recession client budgets will be frozen, corporate champions will be let go and contracts will be renegotiated, delayed or cancelled outright,” he says. “It's critical that you solve a top priority for your customers. New technology adoption in the enterprise will be significantly stunted unless a startup can deliver a clear, quick and/or significant ROI.”

Jungle Ventures’s Anand takes this idea of change further, arguing that founders need to “learn, adapt and guide change.”

“Ones that will be able to absorb information and act decisively will have an advantage as the next few years could be quite volatile,” he says. “The most successful businesses will also be those that have built teams that are aligned on a culture of collective good.”

For others, however, applying a sense of realism is also vital. While some radically ambitious startups will continue to attract funding, the most successful businesses are likely to be those that can demonstrate to investors that they will prove to be a profitable choice.

For Oliver Holle, managing partner of early stage specialist VC Speedinvest, this means that while the fundamentals – “great team, strong market and viable product” – remain the same, startups need to be “realistic with their outlooks.”

“The more you can prove your business case and help demonstrate a not-too-distant path to profitability (or at least healthy gross margins) the better chances of receiving the funding you need,” he says. “Plan for the worst-case scenario and try to maximise your runway. Investors will appreciate your efforts to adapt to the current market situation.”

This sense of value for money also extends to how startups are operating. Notion VC’s White argues that demonstrating that you are being careful with money is key to showing investors your company is worthwhile.

“My two pieces of advice to startups looking for investment during this time – and beyond – is firstly to ensure you’re thinking at least as much about efficiency as you are about growth, and secondly, ensure your product, whether you are B2B or B2C, is lovable – and that it perhaps doesn’t rely too heavily on in-person contact!” he says.

This sense of caution also extends to startups’ approach to fundraising itself. Fintech startup Yapily, which raised £13m in a Series A funding round shortly before the lockdown, advises making use of fundraising when it is an option, rather than turning to it when it is urgently needed.

“The financial impact of coronavirus will be felt by both investors and entrepreneurs. Startups need to maximise chances of success rather than chasing a valuation,” says Stefano Vaccino, CEO of Yapily.

“This means raising when they can, not when they need to. Because you never know what’s around the corner or what could happen in the future.”

However, growth is still an ever-present part of the challenge, with Better Nature’s Kong arguing that it remains a priority. “In a world where large corporates still dominate many industries, the lack of growth is synonymous with death,” he says.

“The mantra ‘monopolise or die’ still reigns and startups must focus on building a monopoly or face being outcompeted by their peers or larger incumbents.”