The venture and startup world is facing a two-tiered threat. First, there is the novel coronavirus and the attendant shutdowns and difficulties of suddenly becoming a remote operation overnight. Then there is the second threat of the financial markets shutting down. For anyone investing in startups, working at a startup, or trying to pitch a business idea, this is an uncertain time.
The venture funds themselves may face a day of reckoning, although that’s likely a few months to a year out. In previous recessions (namely the dot-com bust of 2001 and the Great Recession that largely took place in 2008), the limited partners who invested in venture firms behaved differently. In 2001, they reacted to the market crash by pushing funds to return capital. In 2008, that didn’t happen.
Right now, limited partners are seeing the percentage of their allocation in venture capital and other alternative assets grow as their stakes in public companies rapidly decrease in value. For LPs that have to maintain certain asset allocations, this will be a problem, and it’s unclear how they will try to resolve it. They could try to reduce their overall commitments in venture capital, which is what they did in the early aughts.
But Dan Primack over at Axios, who was the reporter I used to read to understand the VC world back during the dot-com bust, suggests the number of institutions that have put their money into the venture world have diversified, making it hard for them to act in unison to pull back on funds. Others in the venture community suggest it’s far too soon to tell what might happen since we’ve neither reached the bottom of the market nor come up with a clear understanding of how the pandemic will play out.
This leaves investors themselves focused on their startups. Scott MacDonald, of McRock Capital, says this is a “faceplate” for the venture industry, which as early as December of last year was seeing valuations rise and money flowing freely. Today, venture firms are taking stock of their investments while their founders try to consolidate cash and see how low they can take their burn rate. For that to change so abruptly in less than three months is unprecedented.
MacDonald says his hardware investments are facing shipping delays and production challenges tied to the disruption in China and more broadly, in the global supply chain. But the software companies aren’t catching a break, either. He says that as businesses seek to cut costs, many of his SaaS companies — and SaaS companies in general — are now finding out how valuable their services really are.
“The SaaS model as we know it hasn’t really been tested yet,” he says. Since SaaS subscriptions are so easy to cancel, he expects those services that are nice to have but not necessary will get dropped, and companies that may have paid for two similar services might decide to stick with one and drop the other one.
It’s not all bad. MacDonald is seeing an increase in orders at companies that tie into real-world infrastructure. For example, McRock has an investment in SkySpecs, which makes drones that are used to inspect wind turbines. He suspects that because of the downturn, companies are prepping to buy and sell physical assets, with some companies seeking to get those assets off their books and others looking for bargains. Investments in companies that help predict and extend the life of useful assets will likely do well, too.
Automation in general should do well, says Nate Williams, a managing partner at Union Labs Ventures. He says that companies who have been trialing robots and other automation solutions are moving quickly to bring those trials into production. He’s also confident that significant companies will arise out of this downturn, much like Uber, Stripe, and other big-name firms came out of the 2007-2009 recession.
“If we compare the global financial crisis of today to the last downturn, some of the largest companies were formed during that downturn,” he says. “We feel that now is no different. A majority of companies that will get formed are going to focus on major societal problems and issues. It will be a huge opportunity.”
Union Labs Ventures is a $50 million early-stage fund that was formed late last year. In many ways, it’s in a good position because it has the capital to make investments and isn’t burdened by too many portfolio companies that may have raised money at much higher valuations. With almost a fresh slate, and no need to show returns anytime soon, Williams’ fund has less pressure than most.
He is still making investments and thinks that as we establish a “new normal” after the pandemic, there is ample opportunity for founders and startups to build lasting businesses. He’s investing in cybersecurity for OT networks, health care, automation, and food technology related to automation.
Health care is a focus of other IoT investors. At Lux Capital Partner Deena Shakir believes that the current crisis, “has spurred industry changes that may be longer lasting —compressing months of regulatory reform and sales processes into day and weeks.” Especially when it comes to digital health, where the promise is high but adoption has been slow.
Shakir also points out that health care can go beyond traditional medical devices and telehealth consulting. Startups are seeking ways to use technology to improve clinical trials, build chatbots to alleviate the burden on nurses, and also create new sensors.
Broadly speaking, venture capitalists are confident that there will be opportunities for investment in automation, remote health care, and industrial IoT. These investments are part of a larger shift, and just like the dot-com bust couldn’t stop the changes wrought by the internet, the coronavirus won’t stop the shifts we’re making thanks to the internet of things.