Bloomberg Línea — Silicon Valley venture capital firm Sequoia Capital has been telling its portfolio companies to brace for “a crucible moment” as the availability of money decreases, and that not only are the good times over, but there is no sign of them returning any time soon.
The firm, which owns a large stake in Nubank (NU), called on founders in early May to execute cuts, with startups in Latin America laying off hundreds of employees in the subsequent weeks.
“We’re telling companies to embrace reality. It’s not your fault, but it is your problem,” Michelle Bailhe, a partner at Sequoia Capital, said during the Bloomberg Tech Summit held in San Francisco earlier this month.
However, Nubank’s CEO David Vélez told Bloomberg Línea in late May that he saw no reason to make redundancies.
Globally, venture capital-backed startups raised 23% less in the second quarter of 2022 compared to first quarter, according to CB Insights data, based on information to June 23, while deal activity dropped by only 1.4% from the last quarter of 2021 to the first quarter of this year.
Some venture capitalists have said that while prominent late-stage investors like Sequoia still have money to deploy this year, they’re moving it to early-stage firms where the costs for participation are lower. Bailhe, for example, said the firm had “great meetings with wonderful early-stage companies we’re very excited about”.
CB Insights data confirms that not only are there fewer checks being written, but that they are also smaller, with total funding going to startups for the current quarter down by 27% compared to first quarter.
Anna Piñol, principal at San Francisco-based NFX Ventures, told Bloomberg Línea that funds such as Sequoia and Tiger Global have been going into earlier stages for a while.
“Some funds are more like ‘spray and pray’. But we do a lot of diligence and once we’re convinced, we’re all in. The most important question that we ask our companies is ‘why now?’, what is happening now that makes this possible? In general, if you have the idea, how fast you can execute it if there is an opportunity?” Piñol said.
If time is a competitive area for founders, it also is for venture capitalists. And that’s why hedge funds such as Tiger have managed to eat up a significant number of startups worldwide. Some investors familiar with the matter told Bloomberg Línea that that firm would approach founders with a larger check, valuing the startup at a larger valuation than its investor peers, and would also hand over the check more rapidly.
CB Insights said Tiger Global backed more startups than any other investor last year. As valuations were too high for Tiger to bear, the firm is now shifting away from the late-stage and approaching smaller checks, it said.
“Competition will probably reduce to some extent the amount of diligence, because time is one of the areas of competition, and in recent years in the market there [in Latin America] was a large number of hedge funds or late-stage venture type of companies that were moving into earlier stages, and often they have more resources for diligence,” Miriam Rivera, CEO, and co-founder of Palo Alto-based Ulu Ventures, said in an interview with Bloomberg Línea.
Business Insider recently published a report saying that Tiger paid more than $100 million a year to Bain and Company to help the firm move quicker with its diligence than its rivals.
“We’re pretty fast, but I think that we have a smaller team, so we can’t act as fast as some of these folks that can throw a lot of bodies at the problem. People are trying to do the diligence much faster, and that of course creates some risk. You haven’t had the time to pursue every thought, you’re making decisions with less information,” Ulu Ventures’ Rivera said.
Ulu invested in around 10 unicorns.
Meanwhile, Sequoia’s partner said every company is different, and that the firm works with companies from seed round all the way through to when they become public companies.
“We’re telling companies to recognize that the environment has changed, the cost of capital has changed, so you have to plan for that reality. Some companies actually will increase their spending because they need to get talent and others need to pull back. Don’t waste a good crisis. Take advantage of this to extend your advantage and come out even stronger,” Bailhe said at the Bloomberg Tech Summit.
Harder times make for late-stage layoffs
Now, the impact is harder for late-stage, as Series D rounds dropped 43% in the quarter, according to CB Insights.
Last Friday alone, nearly 100 employees in Brazil were laid off, from startups Descomplica and Hash, according to the website Layoffs Brasil. Descomplica had raised around $86 million from Softbank in a Series E in February of last year.
Hash, a Brazilian fintech that raised $40 million in a Series C round from QED Investors and Kaszek in October 2021, said that given the adverse economic scenario, the company needed to restructure, cutting costs and part of its team.
“Hash remains committed to supporting affected employees, helping them to reallocate,” the company said in a press release.
Ulu Ventures, which tends to focus on B2B software, has around 20% of its investments in the fintech space.
Ulu’s Rivera says the cause of layoffs for many companies is the volatility in public markets. “Inflation increases the prospect of the cost of employees increasing, and that would increase costs of inputs in startups. We don’t know yet how bad the situation is going to be, and it takes a bigger impact on fintechs because they enjoyed higher valuations, but they also spend more money. Many of those fintechs are having to reduce costs, so they can get through the next 12 to 18 months and actually earn the valuation that they already have,” she said.
“They were being valued based on growth but now the metric is how much cash is going to be needed before breakeven? I’ve managed through downturns. In general, I would prefer never to lay off people,” she said.
Rivera was the VP and deputy general counsel for Google when the 2001 tech bubble burst.
“We could hire more talented people for less money, we could get facilities cheaper, we could also lower our cost of production in terms of data centers available. Bad times are often opportunities,” she said.
Rivera says Google grew mostly organically and would always be behind the curve in terms of hiring.
“I think from an employer perspective you build more trust and credibility if you can retain people during tough times. It affects morale and teams if you have layoffs, especially if is not someone that has been doing a poor job and got laid off,” she added.
“We’re not so much driven by percentage ownership as we are by expected multiples. We have a methodology to make our investments, which are called decision analysis, and we take our founders to process market mapping where we try to do a very fundamental bottom analysis of the market opportunity in front of them, and then we connect that with data about exit multiples dilution, given the stage that we invest in. We also quantify our judgments about risk in market adoption, product development, team risk, and also financing risk,” Rivera said.
“We want to work with founders that want to create an enduring business that can be successful for a very long time. A billion-dollar valuation should just be a step to a billion dollars in revenue generation. Employees trust their companies. We hope founders show some fundamental respect for the people they bring to the company and that are trusting you with your careers.”