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Series A Crunch: “We’ve seen this dance before and we know how it ends”

It’s a new year, and accordingly I have no New Year’s Resolutions, especially about blogging more. However, every once in a while there is a topic to compelling to ignore.  I’ve been sitting on this post for a month, unsure of how early stage entrepreneurs would react to the below sentiments and not wanting to alienate anyone.  However, I feel even more strongly about what I expect to see out of the Series A crunch than ever.  Plus this falls into the category of “We’ve seen this dance before and I know how it ends.” – Thanks @jrichlive  

The end of the year brought about a lot of discussion around the Series A crunch and fading interest in consumer internet investments in particular.  The WSJ’s article “VCs Still Chasing Web Companies, But With Less Cash” triggered a series of responses from other investors and bloggers.  Fred Wilson wrote “What Has Changed” on his blog AVC, and a week later Dan Lyons published a humorous article “Let’s All Shed Tears For The Crappy Startups That Can’t Raise Any More Money” on ReadWriteWeb.  Journalists turned entrepreneurs and investors.  Companies starting to solve mediocre problems, many of which only exist in the imagination of the founder.  And as a long time reader of the Term Sheet by Dan Primack, I was not surprised to see Dan react to these topics as well.

Like any good, opinionated entrepreneur and VC, I too have my thoughts about these topics.  With all the chatter, I figure why not share some of my pontificating to add to the discussion.

I think the news about the drop in investment in the consumer sector comes as no shock, and I’m baffled at the number of consumer oriented super angels and early stage funds that seem to be acting as if this is a surprise versus a trend that we could all see coming for over a year, especially for those who lived through the bubble bursting in 2000.  In other words the “we’ve seen this dance before and we know how it ends” bit.

There are some trends that we saw in the early 2000s, which I believe we’ll begin to see the data on soon, confirming that some parts of history are repeating itself (I’m not proclaiming bubble by the way, just trends).  Either way, as the data emerges it will be interesting to see if it creates panic from institutions and the venture industry sees another 30-40% contraction of the number of active venture funds (probably the new funds).  It will be interesting if the next trends we see are anything other than:

  • The accelerator fueled startup frenzy slowing drastically.  VCs with accelerator dollars (their farm teams) will shift their energy to supporting existing portfolio companies over concerns of those companies’ ability to raise the more difficult to raise Series B funding.  What was Vinod’s line about looking at new early stage deals in 2003?  “It’s like a smorgasbord out there.  It is all you can eat, but the food is shit!”  The big sign here will be that Demo Days begin disappearing.  As a result of VC behavior, angels will begin getting scared that they are putting money into companies that cannot find a next round.  Startups that are the product of accelerators will unlikely find enough launch capital to begin with.  There is an exception to this hypothesis: The few well-funded ultra-high profile accelerators will stick around.
  • The death of everyone who worked at a startup launching a new $10M seed fund.  There will be a few of those who survive, but only the ones that figure out that it’s about finding a way to add value beyond a Twitter following and a history working someplace that people thought was cool.   Full disclosure: that was me 12 years ago, but I have learned that there is more than a name, money, and brand when it comes to being a seed stage investor.
  • Acqui-hires shrink and the hiring in the Valley gets easier “or” investors realize that only the employee make out in an acqui-hire.  This will happen as talent bails on failed business models at both big companies and the 1000s of new lean startups (product of a Demo Day or not).  In 2001, the population in the Valley actually shrunk because there were no new jobs, cost of living was high, and competition for jobs was fierce.  Why buy a company when you know the engineers are going to be available in a month or 2 when the company runs out of money? Or worse for investors, you invest in a company, and Facebook or Twitter offers the team lucrative deals, but the investor’s gets pennies on the dollar. A BIT OF COGNITIVE DISSONANCE  HERE:   This may actually fuel all of the accelerator programs and they may boom.  All the out of work budding entrepreneurs” may flock to accelerators because they have nothing else to do and have learned to live lean which as a respectable attribute.
  • New operative buzzword for VCs: Sustainable Businesses.  There will be a shift away from companies that build large un-monetized user bases, to those that can actually demonstrate a revenue model and get customers.  Even more importantly, that entrepreneurs have a reasonable understanding of the costs to acquire those customers and it makes sound economic sense.  We’re already seeing this with the shift from investment in consumer Internet companies to enterprise SaaS models.  Customers not users?  Go figure!  B2B and B2B2C are hot?  Déjà vu all over again.
  • Phrases like “Social Proof”disappear.  Getting a few people to write $25,000 – $100,000 checks that come with no support and no promise of more dollars should be a reason for others to invest.  The wise and the cautious will find this practice as a sign of naiveté and not a reason to invest.

I’m not a troglodyte though.  We all know the costs of launching an internet startup have gone down and that the tools in the web/mobile/social sphere allow entrepreneurs to launch fast.  And this time around we have a lot of business that are actually able to monetize eyeballs.  However, few ever go viral or many find that they got hot and then cool quickly.  What hasn’t changed though, is finding a pain someone is willing to pay to solve, and then solving it.  You must be customer centric to do that and the good startups have been doing that for 100s of years, not just since lean startup terminology came around.

Couldn’t help sharing, as this way over the next year as all this starts to happen, we should hold in contempt those set of people who act surprised.  Besides, if I’m wrong, we are no worse off…just one of the beauties of pontificating about an economic trend!

– Marc

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