I had a call with a prominent venture capitalist last week as we were conducting diligence on one of his portfolio companies. He echoed what is becoming a prominent refrain, “We are at the end of an equity cycle and the beginning of a debt cycle.” In other words, he is encouraging his portfolio companies to hoard cash in anticipation of tougher times ahead within the technology sector in particular – winter is coming. The economy overall and the technology sector, most notably, goes through the gyrations of the inevitable business cycle. It feels different this time in that during most economic corrections in the past, most of us have been caught by surprise. Market timing is particularly treacherous and most times I have my foot firmly on the accelerator as we enter an economic downturn. This time is different with some obvious signs of economic caution including:
· IPO’s priced below the last private round valuation with Square being a prominent example http://www.forbes.com/sites/petercohan/2015/10/15/4-reasons-to-skip-squares-ipo/
· Late-stage investors structuring their equity more like debt with multiple liquidation preferences and caps http://www.nytimes.com/2015/09/23/business/dealbook/the-risk-of-a-billion-dollar-valuation-in-silicon-valley.html
· Banks have already begun to pull in their horns on all, but the most prominently venture-capital-backed early stage startups
If what feels like a consensus that harder times are ahead is correct, demand for venture debt is about to increase dramatically and venture lenders will shift to more later-stage companies to try to de-risk their portfolios. Time will tell if the consensus is correct this time.
Eastward Capital Partners