“You can often pick up significant market share in an economic downturn by just staying alive,” top startup accelerator Y Combinator wrote in an internal email to its founders this week. The advice was one of 10 bullet points in a memo meant to help its companies navigate the economic downturn crushing tech. Other standout quotes include “plan for the worst” and “no one can predict how bad the economy will get, but things don’t look good.”
The email is a vibe shift from just a few weeks ago, when hundreds of Y Combinator startups — many of which already raised venture funding — presented themselves to the public on Demo Day. The startups were the first to receive Y Combinator’s new $500,000 standard deal and were aggressively focused on international opportunity. Now, after that bonanza, YC is saying that “this slowdown will have a disproportionate impact on international companies” among others.
Y Combinator isn’t the only one publishing a “black swan” memo in preparation for what’s to come. TechCrunch obtained a series of memos that venture capitalist firms sent to portfolio companies about the market downturn. Some were hopeful, some were simple, and others were a vibe check as straightforward as: Can you tell us your ARR and cash burn in writing?
High efficiency > high growth
Reach Capital, a venture firm focused on education and access, sent a market overview to founders to help with allocating resources and priorities.
“Although somber, this data is not meant to alarm you,” the memo reads.
The firm, which had a lucrative 2021 from a returns perspective, said that the market is still giving “highly efficient companies” above average multiples. The median multiple for companies in the bucket have a revenue multiple of 11.2x, versus the 5.6x average for public software companies, per SVB data. It added that multiples for high-growth companies have fallen 64.3% since the market high, higher than the broader average 38% decrease for all public software companies at large.
The data supports the idea that the startup market is transitioning from “growth at all costs” to “cost-saving at all costs.”
Reach Capital went on to outline specific advice around fundraising and spend.
The firm told startups to “account for an extremely capital constrained environment, even for companies with strong growth rates.” Suggestions include writing out a scenario plan and tapping investors for reserve allocations and extension rounds. This will be especially hard for pre-product market fit startups, they say.
It also said that startups should prepare for changes in how they’re going to be valued given the chance of multiples. Size and dilution of the round will look different today compared to the height of the market, they say.
Finally, Reach, like many VC firms, is telling founders to focus on the fundamentals.
“Gross margin and efficient growth spend will become more important than ever,” the memo reads. “Adjustments to consider include diversifying your growth channels, finding more organic ways to grow your business, cutting marketing spend that is inefficient, right-sizing parts of the organization to ensure they are aligned with the value they are providing, cutting and/or up-leveling parts of the organization where there is room for productivity improvements.”
As the past month of layoffs has shown us, that last bullet point is already in the works — often at the cost of employees.
The role of a chief executive officer
Lightspeed Ventures published a Medium article with similar advice, titled “The upside of a downturn.” Most of the venture firm’s perspective focused on the role of a chief executive in navigating the road ahead.
One of the notes that stood out to me was how Lightspeed defined “non-essential activities” which included “new marketing channels, hiring new engineers to build a product extension or entering a new geography.” The firm said that the ideas look sound when businesses are stable and capital abounds, but that may not be the case far longer.
“If the constrained resource is management’s bandwidth, however, all these new initiatives necessitate that its attention is divided,” the post reads. It’s surprising to see Lightspeed say that these moves could be deemed non-essential because they all signal growth. Is the best thing to do just pause and focus?
To answer some of the questions that its advice might engender, the firm cited Y Combinator’s Paul Graham when telling founders to achieve a “‘default alive’ state within the next six months that you can use to ride out the storm.”
“There is another reason founders don’t ask themselves whether they’re default alive or default dead: They assume it will be easy to raise more money. But that assumption is often false, and worse still, the more you depend on it, the falser it becomes,” Graham wrote in a now well-known blog post in which he coined the term.
January Ventures, which closed a $21 million fund just three weeks ago, touched base with founders about the wild week.
“We know you’re all heads down focused on building, but given the uncertainty there can be a lot of mixed signals for founders,” the email from co-founders Maren Bannon and Jennifer Neundorfer reads. “We wanted to check in on how you’re doing.”
They said that, based on chats with other investors across stages, fundraising is taking longer and at lower valuations compared to six months ago. They offered 1:1 chats to strategize runway and are hosting two workshops, one about mental health and well-being while managing a startup, and one about hiring for early-stage startups.
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