Startups are in the middle of a storm: inflation rates hitting all-time highs, peaking interest rates, skyrocketing oil and gas prices, turmoil in crypto markets, and – perhaps the most disheartening – layoffs left and right.
How to make your way through this new bear market? The industry generally agrees that extending your runway, holding on to your cash, and focusing on value more than growth are the go-to strategies for this challenging time.
A few VC companies shared some good pointers on what comes next for startups. We aggregated the best pieces of advice and added one of our own to help you navigate this new reality.
Y Combinator: Extend your runway, survive, and get pessimistic about fundraising
The Silicon Valley startup accelerator behind household names like Dropbox, Coinbase, Airbnb, and Reddit recently sent a letter to its portfolio founders, suggesting they “plan for the worst” as the 13-year bull run comes to its finish line. Y Combinator shared some tips for startup founders:
1. Focus on cutting expenses
“Regardless of your ability to fundraise, it’s your responsibility to ensure your company will survive if it cannot raise for the next 24 months.”
2. Extend your runway within the next 30 days
“Cut costs and extend your runway within the next 30 days. The safe move is to plan for the worst. Your goal should be to get to Default Alive.” (making it to profitability with your current resources)
3. Raise money only if you have no alternatives
If there’s no runway to extend and reaching Default Alive isn’t an option, YC suggests that you consider raising money.
4. Avoid raising another round soon
But fundraising is generally a bad idea unless you’re pushed against the wall. Capital is more uncertain and expensive.
“If your plan is to raise money in the next 6-12 months, you might be raising at the peak of the downturn. Remember that your chances of success are extremely low even if your company is doing well. We recommend you change your plan.”
a16z: Recalibrate, control burn, and plan
The VC firm Andreesen Horowitz has been around for a while and knows what a real economic crisis looks like. In a recent article, the company shared a few nuggets of wisdom for startups looking for a way out:
5. Recalibrate your goals towards a new valuation
a16z suggests quantifying how your valuation multiples have changed using public market trends that usually see valuation decreases first. Still, we’re lacking data for the coming quarters, so it might take some 6+ months to see the real impact of the public market downturn on VC funding.
How to understand your valuation? Look at the leading public businesses in your sector. If they’re down by 60%, you might be as well. Once you know that, you’re ready to calculate the ARR needed to return to your last round’s valuation – and start planning.
6. Keep your burn under control
Is your company growing to reach the ARR you’re targeting? This is where a16z suggests focusing on burn multiples (cash burned divided by net ARR added).
Unlike other efficiency scores that take just sales and marketing into account, burn multiples consider every business function. a16z looked at the burn multiples of private companies at different stages of growth to show some general guidelines for what a good burn looks like when your company scales.
7. Create a scenario
After assessing your burn and valuation multiples, you know how much you need to grow – and how efficiently. Now you have to control your cash balance and runway. a16z recommends planning for three scenarios: base case, best case, and worst case. Once you have these plans, refer to them regularly to adjust your costs and hiring.
Sequoia Capital: No more rewards for growth
Sequoia has a great track of responding to crises – from R.I.P. Good Times in 2008 to the Black Swan memo when Covid-19 hit in 2020. Now, the VC firm is back with Adapting To Endure sent to the 250 founders in its portfolio.
“This is not a time to panic. It is a time to pause and reassess,” advised Sequoia. And then warned: “We do not believe that this is going to be another steep correction followed by an equally swift V-shaped recovery like we saw at the outset of the pandemic.” The company also believes that this recovery will be longer, and we can’t predict how long the current slowdown might last.
8. Don’t expect to be rewarded for growth
As capital becomes more expensive while the macro-economic reality is less certain, investors de-prioritize and pay up less for growth. Instead, they’re more likely to reward profitability and value.
NFX: Prioritize cash and downsize smartly
NFX also shared a few helpful tips in the article 39 Moves to Survive (& Thrive) in a Downturn: 2022 Edition:
9. Prioritize cash
Assume things may get worse and do everything in your power to avoid running out of cash. Startups can do that either by becoming profitable or surviving long enough (in a good enough style) to raise another funding round.
10. Assume raising money isn’t an option anytime soon
V.s make fewer investments as they wait for the situation to stabilize. They also have their portfolio companies to look after. Wait it out and raise money later. You’re likely to be smarter when spending that capital anyway.
11. Check if downsizing is necessary
Layoffs are hard and not a good look in the industry. But sometimes, they’re a must – especially when you’re cash-constrained. Should you start laying off? To answer this question, prepare several financial scenarios to check which option works best for your business. A discussion with the board is a natural next step.
12. If you’re forced to lay people off, do it the smart way
NFX advises handling this problem with one deep cut, made as quickly as possible. A company that suffers multiple layoff rounds will see demoralization. Be as understanding and human as possible to your employees. Make it easier for them to find a new job. Create a solid plan and have a reality check with your advisors, investors, lawyers, and others who know what it’s like to lay people off.
Bonus: Cut your cloud costs
Cloud costs are an often neglected cost item, but optimizing them can make a massive difference to your gross margins.
Sure, you don’t need to think about that at the beginning of your startup journey when you’re trying to understand whether you have a business or not.
But later on, this issue will become more and more pressing – especially if you’re a SaaS company whose livelihood depends on gross margins. You don’t want to be solving the cloud cost problem two years later when you’re at scale.
You can already take a step towards optimizing your cloud expenses today. An automation solution like CAST AI will support you at every stage of your growth, maximizing your cloud capacity and performance at a minimal cost.