Is All This Paranoia About a Startup Depression Justified?

During these times we are all somewhat paranoid about what the future will bring and whether we are entering a startup depression. In his newsletter dated September 27th, Jason Calacanis writes:

“It’s my belief that the economic downturn will be much worse than it is today, and that 50-80% of the venture-backed startups currently operating will shut down or go on life-support (i.e. 3-4 folks working on them) within the next 18 months.”

Jason gives startups a few pointers on how to survive the upcoming days and advises them to get focused, get leaner, and ultimately get profitable.

R.I.P Good Times

Om Malik had written last week that Sequoia held a meeting of all the entrepreneuers/CEOs of its portfolio companies and advised them to tighten their fiscal belts. Attendees were greeted with an image of a Grave Stone, with the following message: “R.I.P.: Good Times“.

According to The Marker, Other VCs such as Benchmark and Carmel Ventures in Israel have not only asked their portfolio companies to make budget cuts but have also taken their own advice and fired a few employees of their own.

So you may ask, is all this paranoia justified?

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Some people in the industry think differently and much more optimistically about to the situation. Fred Wilson, of Union Square Ventures, an early stage venture capital fund in New York City, writes:

“But I do think Jason’s missing one important point in his email. It’s not the venture backed startups that are going to struggle the most…All startups are going to have to batten down the hatches, get leaner, and work to get profitable, but the venture backed startups are going to get more time to get through this process than those that are not venture backed. Here’s why.

Venture capital firms are largely flush with capital from sources that are mostly rock solid. If you look back at the last market downturn, most venture capital firms did not lose their funding sources (we did at Flatiron but that’s a different story). If you are an entrepreneur that is backed by a well established venture capital firm, or ideally a syndicate of well established venture capital firms, then you have investors who have the capacity to support your business for at least 3-5 years (for most companies).

Venture capital firms will get more conservative and they will urge their portfolio companies to do everything Jason suggests (and more), but they will also be there with additional capital infusions when and if the companies are making good progress toward a growing profitable business.”

Lack of IPO’s

According to VentureBeat, Mark Heesen, president of the National Venture Capital Association, believes there is an economic crisis in the lack of IPOs. but he doesn’t agree that so many start-ups are going to close. He believes there are still many angels who will continue to finance innovation among the seed-stage companies.

Mike Kwatinetz, founder and partner at Azure Capital Partners who invested in Bill Me Later during the post-bubble period and sold it recently to Ebay for $945 million, believes that this is exactly the time when investors should look for and target good business opportunities that they could profit from when the market revives.

He raises five good points:

• Since there’s less competition between the VCs, deals are priced more reasonably.
• Entrepreneurs have a better understanding of how much funds they really need in order to build their business and will stop asking for $40 million.
• The entrepreneurs who will stay in the game are those that really have a passion about building their company and not those adventurous entrepreneurs who come to Silicon Valley to make a few easy millions.
• There’s less competition between companies and there are less startups doing the same thing.
• One can hire a more skilled staff. Since the last bubble it’s been quite hard to find good people. Now this will change.

Flush out the doomed start-ups

So what do I think? In all honesty, nobody really knows what will happen as the startup world has never had to deal with such economic uncertainty in the past. However, it is my belief that the current situation will only do us good and allow those startups that have a unique offering to survive while flushing out those startups that were doomed to failure from the beginning. As Calacanis writes, companies now need to get better, more efficient, deliver more value, and use more cost-effective means to develop and promote their offerings. But this is not a bad thing. It just means that those entrepreneurs who really believe in their ideas need to find new ways to adapt to the current situation.

As Fred writes:

“I don’t think we are in a “depression” in startup land. We are in a down cycle driven by a bad global economy. I think the web and information technology is one of the few bright spots in an overall gloomy economic outlook. So if you are working on a web technology company, be happy that you aren’t working for a bank, a brokerage firm, an automobile company, or in many other industries. The tools and services that are made in the web technology business are only going to increase in demand over the next five years. But we are going to have to service that growing demand with leaner and more focused businesses and it’s time to start thinking more about profitability and how you are going to get there.”

Survival of the fittest

About a year and a half ago I wrote about the fact that we have too many startups offering us too many of the same things and that it may be time for Darwin’s survival of the fittest to take its place in the dotcom world. I mean, how many social networks do we really need?

As Stowe Boyd, writes:

“How many social bookmarking apps do we need? Is there really a place for seventeen social aggregators, or eleven blog comment plug-ins? Attention to hard numbers and real growth rates might lead hopeful entrepreneurs and investors to get smart fast and drop experiments that aren’t working, and to go back and dream something up that is really innovative instead of just-another-fill-in-the-blank application.”

Get funded one way or another

It’s time to get innovative people. It’s time to make changes. And if you’ve got a good, unique concept, I don’t think you need to be worried. You will get funded one way or another by VCs who still have plenty of dow or an angel who rather keep his money away from the Stock Market these days. Those companies that need to be worried are the ones that offer too much of the same and too little of the extraordinary. Sure, most startups will need to cut their budgets, but what doesn’t kill us, makes us stronger and the extraordinary will thrive. So stop getting depressed. Stop panicking. Depression and panic will lead us no where. Get inspired. This is your time to shine.