As the market looms in early 2022, many startup executives and investors are confident that a record amount of venture capital is waiting to be spent – known as dry powder – and new tech trends A fervent enthusiasm for would buffer Silicon Valley.
no such luck. As 2022 closed, startup founders and investors were licking their wounds from sinking investments, fewer opportunities to convert equity into cash, layoffs and business pivots. Venture capitalists, bankers and fund managers said the startup industry is now off to a bleak start to the new year, with indications that valuations are set to slide further.
“You want to make sure the market is down before you invest, and people don’t think it’s down yet,” said Jesse Hurley, head of global fund banking at Silicon Valley Bank. “Until that kind of leveling happens, people are feeling a little hesitant.”
Pitchbook Data Inc. Venture-capital investment in U.S. startups in 2022 was on pace to fall by a third from 2021, according to research by Reuters, which provided data as of Dec. 12. Startup funding declined sequentially each quarter during the year.
The once hot tech sector has fallen out of favor. The scooter business is collapsing. Bird Global Inc., a one-time investor valued at nearly $3 billion, is planning to merge with a Canadian company, and its stock plunged more than 97% after it told investors that It has generated more revenue over the years, according to public filings. The cryptocurrency crash wiped out many startups, punctuated by the implosion of FTX, whose founders face fraud and conspiracy charges. Ford Motor Co-backed self-driving company Argo AI and electric-vehicle company Electric Last Mile Solutions Inc—both valued at more than $1 billion at one point—have spun off over the past year.
Plunging public stocks, rising interest rates and widespread macroeconomic uncertainty sharply dampened the frenzy of 2020 and 2021, when a pandemic-induced online shift and historic bull market raised record amounts of venture capital.
According to Jay Ritter, a finance professor at the University of Florida, the market for US initial public offerings—a way for startups to raise money and allow their investors to cash out. About 139 special-purpose acquisition companies, or SPACs, are set to liquidate in 2022, according to SPAC Research, weakening another tool used by startups and investors to cash in.
In the past year alone, US-based venture-backed startups laid off more than 35,000 employees, according to Layoffs.fyi, a website that tracks job cuts in the technology industry. Some have canceled business plans or postponed new products.
Getro Inc., which sells software to help startups with hiring, pivoted twice in 2022, Chief Executive Officer Evan Walden said. First it tailored its product to serve crypto-based companies, in hopes of accelerating so-called Web 3 technology. Then in July, amid the crypto crash, the company reverted to its original business plan, Mr. Walden said.
After Mr Walden failed to raise a $10 million funding round, he said he decided to focus on cutting expenses, increasing revenue and making his company cash-flow positive – without relying on investors. He outsourced work to contractors and automation tools and kept travel and real estate expenses to a minimum for his team of 21 employees.
The focus has paid off: The company was cash-flow positive in December and has enough money in the bank to last three years, he said. Mr. Walden said, “Being in a place where we’ll need to do fundraising, it doesn’t seem like the best place.” “There’s a lot of uncertainty and fear and doubt in the market.”
Another risk for startups is that long-term partners providing funding to venture-capital firms are on pace to receive less payback on their investments in 2022 than in any year going back to at least 2006. According to data from the firm Hamilton Lane. That shortfall, combined with losses in investments in public stocks and other assets, leaves them cash-strapped to plow into new venture-capital efforts, said Miguel Luina, Hamilton Lane’s managing director of fund investments.
Investors said startup company valuations, while down an average of 43% in the fourth quarter from a year ago, according to PitchBook, typically remain higher than those of their public tech-stock peers. Some startups have raised so much money during the pandemic that they have been able to survive fundraising and have strong valuations surviving a hot market. Others have attracted alternative financing mechanisms that have allowed them to avoid the dreaded “down round”—accepting new funding at low valuations. It won’t last, investors said.
“There has been very little price adjustment so far,” said Mike Volpi, a venture capitalist at Index Ventures.
The high valuations are partly due to so-called insider rounds, when startups raise money from existing investors with minimal, if any, valuation dings. Venture capitalists say they’ve seen an increase in such rounds — some estimate 10 times the number from prior years — which could help keep startups afloat. But such funding is often considered only a stopgap measure, averting a potential valuation cut or eventual demise of the startup.
Debt deals can also help startups survive down rounds, although they add cost. Startups are expected to raise more than $31 billion in venture debt in 2022, according to PitchBook, as of December 12.
According to an analysis of PitchBook data, roughly 2,750 startups raised a seed round in 2021—typically the first round of institutional funding for a startup—and haven’t raised any venture capital since then. Many of these startups, mostly young and unprofitable, risk running out of money in the coming year: seed-stage funding rounds typically provide funding for an average of 18 months to two years.
“It’s going to be a pressure to get the money at all costs,” said Mark Peter Davis, managing partner at Interplay, a venture firm, family office and startup incubator.
Some have already succumbed to valuation cuts. Cyber security company Snyk Ltd. said it raised money in December at a valuation of $7.4 billion, down 14% from the year before. Artificial intelligence platform Dataiku Inc said in December it had closed a deal at a valuation of $3.7 billion, down about 21% from the previous year. The companies did not respond to requests for comment.
“I think we have a lot more pain to come,” Mr Davis said.