Part 2: What will the Post-Pandemic Investing Landscape Look Like?
I attended a follow-up session hosted by Wild Digital on how the post-pandemic investment landscape would look like moving forward, but this time moderated by Victor Ng from Fundnel, with a few different guests. Familiar faces included Kay Mok from Gobi Partners and Chin Chao from Innoven Capital, and newer ones — Eric Cheng, Co-founder & CEO of Carsome.
During the first session, they covered the key industry trends, the impact of Covid-19 on companies, what makes startups desirable, and exits — I did a summary here.
During the second segment today, they deep dived into more company level topics, such as layoffs, cost-cutting strategies, supply chains, fundraising through debt, valuations, and changes in employee compensation.
Before I jump in, here’s a quick summary on the background of the companies on the panel:
Fundnel is a private investment platform that enables our network of accredited investors to invest in growth and pre-IPO stage companies and funds.
Carsome is Southeast Asia’s leading used car selling service that allows individuals to sell their used cars in a professional, convenient and fast manner.
Gobi Partners is one of the first venture capital firms with a Pan-Asian presence across North Asia, South Asia, and ASEAN with over US$1.1 billion in assets under management (AUM).
Innoven Capital is Asia’s leading venture debt and lending platform providing debt capital to high growth innovative ventures primarily backed by venture capital firms.
Layoffs — When is the best time to do so, and how should I handle it?
With the pandemic situation ravaging the various industries, we are seeing many companies conduct layoffs. Layoffs are an emphasis on profitability to the company. It is about the long term sustainability of the company, beyond just pushing for growth. Cutting usually occurs when the growth is not as core to a specific business unit, and hence there is a reallocation of resources to other more profitable aspects of the company. However, the how and when you do so is key.
The panelists recommended doing a cut to headcount right after a fundraise. This is because oftentimes, the timings of layoffs have a signaling effect — if you are cutting employees off after a fundraise, the general perception is that the company is trying to maintain a lean structure by “cutting the fat”. Whereas any other time would reflect on them as having poor performance.
The execution is just as important as the timing. Let’s face it — letting good employees go is never an easy task. Manage the process well by having good outplacement support. Communicate the rationale behind the layoffs well (both internally and externally), and help your talents find other employment opportunities.
Why do investors focus so much on startups having to cut cost so much now?
The practice of cost-cutting applies very differently for various startups. In general, revenues are falling, and people and consumers are going more value for money purchases. There is a shift in consumer behaviors, with digital spending taking lead. The market is uncertain — depending on your vertical, how you view the overall outlook of the company and market performance, and budget, you need to anticipate the unexpected and cut costs on things in your cashflow that make you uncomfortable.
The pandemic has evolved from a healthcare crisis to an economic one, and we are currently facing a liquidity crisis. What this means, is that there is less money being spent now, simply because, during the lockdown, movement of people and thereby cash is limited.
As we venture into the post-lockdown phase, we will face a solvency crisis. People will continue to practice social distancing, reducing capacity in restaurants and public spaces. Businesses with high costs and low margins like F&Bs will face insolvency and go bankrupt.
The obvious thing for startups to do is therefore cut costs. This is something that is 100% within your control. Survival is a top priority during this pandemic — without which, how will you see your long term vision come to fruition? Raising funds, customers paying dues, and suppliers providing a better offer — these are not within your control. But, your operating costs are. Work on that to keep your company afloat.
If cost-cutting leads to slow or no growth, will it affect our chances of fundraising in the future?
Survivors of the pandemic will emerge as the winners in the long term. The general expectation investors have of startups during this period is not to see tremendous growth.
Solely being able to survive, and maintain your current position would be good enough for them to be interested in investing in the company. Hence, show good execution capabilities of sustaining your company, and think about the possible ways you can recover from this crisis. More holistically, companies should optimize their cost, and reallocate their resources to other high-growth areas.
Supply chains are expected to transform to be more local and decentralized. Do you agree? Which will be temporary or long term?
The pandemic has accelerated the impact of digitally driven businesses like e-commerce and e-healthcare. However, we are also seeing increased efforts to have a more localized supply chain, since borders are being shut. From the management perspective, it would be more strategic to have a centralized supply chain due to operational and management efficiency.
Having a fully integrated and supply chain, with some aspects centralized and other decentralized would be ideal. It is less about where you do manufacturing, but how you execute the integration of the whole chain. Larger corporations are able to do so more easily, with larger budgets and negotiating power. If you are attempting to move your production from China to Vietnam, you need time and money. As a startup, it would be more difficult for you to dictate where manufacturing should take place.
We always think of investments from the perspective of scalability. Are things going to be different now in terms of their growth trajectory?
Startups are creative. Regardless of their underlying technology, or the ability to distribute a product globally, startups have always been able to overcome all odds and find new ways to scale. Organizations are scaling differently now, with more digital platforms, hybrid teams, and new environments to navigate.
Startup valuations are being depressed — is this fair?
Covid-19 has shown who the winners are. Take the S&P500 — it is a leading indicator where the top 1% of companies are responsible for 80% of the growth we are seeing today, and investors will continue to pump money into this space. The valuation for perceived winners are bound to increase.
If your company is on the other end of the spectrum and is struggling to stay afloat during this pandemic, it would naturally be difficult for the investors to value the company in the same way. They are metric-driven — revenue is lower, burn rates are higher. For most companies with poorer performance, expect a lower valuation.
The effects cascade from the top down — if you are adopting a longer-term view, or are an investor who is looking at the public market which is dropping at 30%. The amount they have to invest to hit their target IRR will fall as well, and this will influence their decisions on how much they should invest, which thereby drives valuations down.
It may seem like an unfair method to value a company now, but this is reality. As mentioned in the previous session, expect more down rounds.
However, from the startup point of view, do take note of certain terms that may or may not be in your favor. This would include 2x, 3x, or even higher liquidation preference, participating preferred shares, anti-dilution clauses, or even the investor asking for too many board seats. As an existing investor in a company, you are probably going to be unhappy with any down rounds that the startup will be going through. No one knows for sure how the situation will playout for the various stakeholders, but we should be aware of the potential challenges that they will all face.
Should I take on debt?
Most startups don’t consider using debt as a fundraising strategy. However, it could be a good way to compliment VC money, and it also results in less delusion for the shareholders. While it depends on what kind of business you are running, the cash runway, how you spend the money (makes more sense to take on the debt if the money is spent on activities that directly generate revenue), you should always consider whether it makes financial sense for your situation.
Some startups have faced a down round, how will this impact the future investment decisions?
This depends on the mitigating circumstances. Investors still consider a range of factors such as:
How did the company survive the pandemic and what did they do to survive?
What is the market outlook at the point of investment?
Does the startup look like they will have promising growth in the next 6–12 months?
In general, they focus on the future growth opportunities more than the previous rounds they had.
Are there any new KPIs introduced by investors due to Covid-19?
Some companies would focus on introducing change in terms of product development, ensuring that their employees are in a safe environment, and thinking about what they can do to continue driving the business forward, given the situation. Mid-longer term KPIs would be focusing on the productivity of the people — although this is not a standard metric, and more of a subset of an OKR (Objectives and Key Results), it is crucial in maintaining a sustained growth.
For startups with multiple business lines, investors may look at how things have affected the business, and whether it would make sense for them to sell off a particular aspect of it that is perhaps underperforming, or have lower growth potential in the future.
How Is employee compensation changing? Should founders enforce only equity payments for the management team just to extend company runway?
It is increasingly common for executives who are having pay cuts to get equity instead. People are also more open to accepting this as a form of compensation compared to 3–4 years ago, where full cash compensation was heavily preferred. In most cases, employees at managerial positions and above would be offered stock options, since they would understand how to drive the performance of the company and keep it afloat during this period.
It is definitely a strategy founder can adopt, by using equity over cash. Employees tend to feel more empowered, with a stronger sense of belonging to the company. There isn’t any harm in doing so if the senior executives are willing to introduce such a policy, especially since your employees are going to be the ones who help you through this crisis.