I love the idea that something has changed in the world of startups. That somehow, today, you actually have to worry about arcane ideas like profitability, gross margins, and financial management. Oh, the horror!
Even more to the point, I just don’t get why so many people are acting like the world is over because you’ll actually have to manage your startup properly? Give me a break!
In 2016, I wrote an article titled, “Why You Should Ignore The Rise Of The Unicorns”. In this article, I argued that Unicorns were really a Venture Capital backed Ponzi Scheme in disguise.
Well, it took over six years to show that I was right. Look at what’s happened to Unicorns. These startups, that were valued at greater than $1 billion, are having trouble raising their next round of funding. Those lucky enough to raise funding saw their valuations, according to leading Silicon Valley law firm Cooley Godward, drop by 85 percent.
Venture capital cycles are predictable.
This is the third major startup crash I’ve lived through. The first was the Communications Bubble of the late 1990s. Then there was the 2008 Great Recession, and now we have today’s Unicorn Bubble.
In the early stages of each cycle, startup valuations are reasonable to low. It was difficult, but not impossible for well-run startups to get funded.
Inevitably, at this stage in the cycle, there’s a push, like there is today, for profitability and frugality. That’s why Sequoia Capital has issued a second R.I.P. manifesto for its portfolio companies to follow.
Then, as more money flows into the startup ecosystem from the limited partners that back VCs, valuations start increasing. There’s a push, from VCs to portfolio companies, that portfolio companies should abandon fundamentals and grow faster.
Then, in the mid to late stages of the cycle, greed sets in. At this point in the cycle, the push to manage your company responsibly goes away. All that matters is how can the valuation be increased, so investors can profit.
In the comms bubble of the late 1990s, VCs were having their portfolio companies IPO to an unsuspecting public. Most of these companies had no fundamentals and no revenue (where art thou, Webvan?), and the result was that the bottom dropped out of the NASDAQ.
In the Unicorn Bubble of today, VCs came up with a different scheme to increase valuation. The idea was that they could goose their profits even more by holding their portfolio companies for longer and increasing the valuation of the companies after each round of funding.
Just like in the Communications Bubble, most Unicorn Bubble startups had no underlying business fundamentals. The bloom went off the tulip and that’s why valuations have dropped by 85 percent.
However, don’t feel bad for the VCs. They made a boatload of money before the market crashed.
You have to resist VCs telling you to grow faster than you should.
There’s a classic VC line that you may hear during your journey. It goes like this, “Don’t worry about money, we’ll support you…”
The idea is that you should just hire and grow as fast as you can because you don’t have to worry about money. Your VC backers will always be there with you to fund the next round.
It sounds great, doesn’t it? And I know VCs mean it when they say it. However, what happens when VCs no longer mean it anymore? Then you’re left holding the bag and your startup will likely fail.
The limitation on your growth usually isn’t more funding.
Yeah, you don’t have to worry about VCs pushing you to grow faster today. Like I said earlier, cycles are inevitable. VC greed will kick in again because there’s too much easy money to be made.
However, there is a better way.
You can make your startup cycle immune by building a company that will last. You do this by being fundamentally sound.
Instead of adding too many people too quickly, you’ll manage to your growth. Instead of selling your product or service below your cost, you’ll know what your costs are. Instead of spending like there’s always another round, you’ll run your startup in an appropriately frugal manner.
If you manage your startup on solid fundamentals, you won’t get caught chasing the next VC fad.
I am working with two startups that are worth over $1 billion. Both companies just closed their latest funding. Their valuations didn’t suffer an 85 percent haircut. Instead, their valuations were flat in one case and up in the second case.
What did these two startup CEOs do that most other Unicorn startup CEOs didn’t do? They actually had solid, growing, fundamentally sound businesses that should have been valued at over $1 billion.
It was hard, but they didn’t get drunk and grow their teams to crazy numbers and spend unnecessarily, so they were burning through their cash and leaving a smoking hole in the ground in their wake. Instead, both CEOs practiced what I call being appropriately frugal.
It’s actually easier to manage your startup when funding is scarce.
I tell the CEOs I am working with that, now that the Unicorn craze is over, this is a great time to be a startup CEO. Yeah, it’s tougher to raise funding, and you won’t get a crazy valuation, but you’ll have so many advantages:
- There won’t be as many out of control competitors pushing up the cost of talent, and…
- You won’t be pushed by VCs to grow faster than you should, so…
- You can focus on controlled growth.
What a great time to be a startup CEO.