For pre-seed startups, precarious times are baseline until they secure their first customer, first hire and first check. But no matter how built-in turbulence might be for a pre-seed founder, we’re entering a period where stresses are amplified and outlooks are unpredictable.
In light of the new market conditions, a harder fundraising market and slower expected growth, Charles Hudson (founder and general partner of Precursor Ventures) is urging his portfolio companies to reassess their futures with a refreshingly human question: “Are you excited and prepared to run this company for the next two years?
If not, you might want to do something else. Why? Because if a super early-stage company manages to survive the COVID-19 era, making it out the other end, it’s not clear that they’ll be venture-ready when markets recover. As Hudson put it, “there’s never been a better time to maybe fold.” That’s because, he explained, startups that merely survive won’t be judged merely against their peers that also survived; they will also compete with brand-new startups for capital and companies that didn’t need to hunker down during lean times.
It’s possible to make it through, but it won’t be an easy path.
TechCrunch spoke with Hudson earlier this week as part of our ongoing Extra Crunch Live series that brings leading founders and investors to our (virtual) stage. Between our editors and journalists and the best questions from the audience, we’re working with guests to understand the new world that we find ourselves in. That we’re hosting these events virtually instead of in-person is testament to our changed reality.
But the chat was far from all gloom; Hudson is bullish on a number of things. Niche publications with subscription economics? Yes. Social services targeting particular audiences? Yep! Precursor is still cutting checks into net-new deals, and while it’s wrapping up its second main fund and first opportunity fund, the firm is also raising a new, larger capital pool.
The conversation ran the full hour we had set aside for it, meaning we had to condense some later discussions about fintech and the new trade-off between growth and profit, but we did get to diversity in venture and startups in the future, and what impact a recession might have on both (it’s a bigger possible impact than you’re considering).
Hit the jump for the best Hudson takeaways and the full audio recording from the session. Head here if you need Extra Crunch access; there are some trials for just a few bucks, so everyone can access the chat. Let’s go!
Raising a fund in the COVID-19 era
There’s been a lot of chatter on VC Twitter about how so many VCs can’t make an investment without meeting a person in-person. Many limited partners, particularly institutional ones, mandate site visits or face-to-face, in-person interactions with general partners before they make a commitment. And that’s not happening right now, or it shouldn’t be happening right now, given all of the guidelines.
And so, I’ve had more than one or two LPs tell me in February or March that they are done for the year. That they can’t envision a world in which they’re going to make new commitments to new managers in 2020.
It makes me very nervous because I’m a pre-seed investor and as you all know, pre-seed is a sector of venture that tends to attract the most brand-new firms and a lot of those firms can be fragile, and they can have fragile limited partner bases. The base can be family offices or high-net-worth individuals who are severely impacted by the public market declines. And so I worry a lot for my peers in pre-seed land in particular or in seed land that are around Fund I or Fund II and planned a raise in 2020.
Which sectors are primed for success
I feel like there’s still so much opportunity in payments, mostly because it’s very difficult from a regulatory environment for the big banks to do research and development and roll out products. So I expect that most of the innovation that we see in financial services is going to continue to come from startups because I think startups are uniquely positioned in fintech to do things quickly in a way that I think big established companies cannot.
I think the problem is like jumping on telehealth or jumping on distance learning, like everybody sees those as obvious. And so if you decide to pile into those you should be prepared to pay the price for something that feels obvious.
Which sectors may struggle
I looked at a restaurant tech company. I looked at a travel company. I haven’t funded either one of them yet. I think the areas that I will have the biggest questions about honestly are facilities-based fitness. If you look at some of these models, they were predicated on having a fairly dense room of people together, whether that’s SoulCycle or Barry’s. I think a lot about, is that going to come back in the same way when this is all over? Are people going to feel comfortable sweating six inches away from a person who they don’t know? I’ve been thinking about that a lot. I’ve been thinking a lot about businesses that are levered toward business travel and face-to-face selling, like how does that come back?
How COVID-19 may impact underrepresented founders
Oh my god, I’m so terrified right now, and I don’t want to be alarmist. If you just look at the numbers, even in probably the greatest bull market I’ve seen in my lifetime as an investor, people of color and female founders struggled to get access to capital. And they definitely struggle to get access to capital anywhere nearly close to their portion or representation in society.
So my fear is that two things are gonna happen. One is that as investors become more conservative and cautious, they will gravitate toward backgrounds and networks that they know well, and they will go back to the well at the schools that they went to, the people that they worked with before and those that they are already most comfortable with. And that is generally speaking not female founders and people of color. So I worry a lot that they will be a casualty of this sort of increased fear among investors.
I also worry that, you know, a disproportionate amount of the capital for those folks comes from women-led ventures and people of color-led venture funds, which also historically haven’t been very large and have been difficult to raise. I wonder what happens if those capital providers have a hard time raising their next funds, like who’s gonna write those checks?
So, I worry that we were just beginning to get into the groove of seeing real meaningful progress. Now we might just take a huge step back in the name of people being more conservative and cautious in terms of who they back. So that’s the big thing we talked about internally at Precursor is, we’re not going to change our risk tolerance, or risk profile for the people that we want to fund, but we will try to make sure that when we fund them we’re bringing enough capital to the table to help them get a little further down the road.
What about Clubhouse and other social startups?
About half of our fund is consumer. I love consumer social, but it’s been very difficult to invest in these categories. And by historically, I mean the last 24 months. I think people have been really concerned about, you know, Facebook, Twitter, like those companies have so much audience in power and how can you possibly create an opportunity?
So one of our most recent investments, I won’t share the name because I don’t have her permission, but it’s basically a community-powered social networking company. And I’m really excited about what she’s building. We’ve been investors in Marco Polo from the very beginning, they’re seeing a big uptick in usage with people sort of sheltering in place and wanting to talk to their loved ones. So maybe I’m just naive or maybe I’m just too much of an optimist, I just think consumer habits and preferences and consumerism half-life is like, two years. People are always open to something new if it’s fun and entertaining.
I’ve read a bunch of hot takes on Clubhouse. I think it’s a fun product. I have no idea whether it will be something that many, many people outside of VC and tech land will find interesting or it will be one of these products that only sort of speaks to us, but I think Paul and Ron and the team have done a fantastic job with the product. I should say I am not an investor.
How do you know when a social consumer company has legs?
I guess I always ask people the same question: What is your insight about consumer behavior or some unmet consumer need? I think you have to start with that. And if you have a good answer for that I think you’ve got a fighting shot at being successful.
There used to be this world of offline. The Wing. WeWork. You had these offline businesses and then you had like digital businesses. And they felt separate and distinct. Now, all of these offline businesses are finding out that they have to become a digital business and it’s really muddying the playing field. And it’s becoming for me, as an investor, hard to figure out like, well, who’s gonna win? Is it gonna be the offline people who already have an audience and are trying to figure out digital? Or is it the digital people who understand digital but don’t yet have an audience?
Hudson’s current fintech thesis
We’ve done some stuff in the lending space. What’s going to be interesting I think is that everybody looks like a great underwriter in a world where everything is going up and to the right. Like, there aren’t a lot of losses if you feel like your underwriting model is pretty rock solid. Some of this is customer selection. I think if you were lending to a bunch of retail storefront businesses, you could have done all the world’s great underwriting and you’re still going to be in a world of hurt in the pandemic.
I think the thing that’s interesting to me at least in digital is that you have access to so much more real-time information about how your customers’ businesses are performing. You’re able to see on a daily basis in some cases what they are doing on Stripe, or what the payment volumes look like on Shopify, you can get access to richer information. So I hope that means that digitally powered B2B and B2C lenders do a better job and are able to withstand losses better than others.
But I think also we just sort of don’t know. We haven’t had sort of a mass economic event like this in a long time. But what happens to sort of neobanks? And people who are lending money to the consumer? And all of these new things that were great?
I heard anecdotally from some of my friends who are doing life insurance startups that demand is way up. Which is kind of morbid, but it kind of sort of makes sense. So I think it’s very difficult to know, but I have to believe that there will be a few people whose underwriting models, it turns out were not as great as we thought they were or maybe they just had the misfortune of being concentrated in a customer segment that was really really hammered.
I have a ton of admiration for Stripe as a company. They’re playing in a lot of different arenas now. They’ve got card issuing, they’ve got all these other products. And I think the question is like, when will they have their Google moment? The moment where we figure out this is the domain of things that Stripe can do well and these are the areas outside of that.
You can watch the entire hour-long discussion in the YouTube video below:
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