As noted in my May email, we recommend taking action from the downturn playbook now.
In today’s article, I’ll share four things startup founders should do to prepare for a downturn.
1. Keep Your Ear to the Ground
One of the most critical things startup founders should do now to prepare for a downturn is listen closely. “Unprecedented” and “uncertain” are good words to describe the current economic situation. Nobody knows where exactly things are headed, so we need to listen to signals as developments unfold. The earlier you receive warning signals, the more valuable they are.
Some of the best ways to listen to the market right now are:
- Make client/customer calls – Ask your customers how the economy is impacting their business. Do they anticipate making different buying decisions? How can your business help? Listen closely and be prepared to react and adapt.
- Meet with your investors – Now more than ever is time to be open and transparent with your investors. Remember, your investors aren’t just sources of capital; they’re key strategic partners. Most VCs have been through the ups and downs of different economic cycles and can provide valuable advice to help you navigate. Plus, your openness and proactiveness will go a long way if you need to raise more capital in the near future.
- Talk to your founders’ networks – What kind of economic impacts are your peers currently seeing? What are other startup founders doing to prepare for a downturn? Are there partnership opportunities where you can be stronger together?
- Watch your numbers like a hawk – As a startup founder, you should always keep a close eye on your metrics and benchmarks. Right now, pay particularly close attention to your burn rate and cash runway. Also, watch metrics like sales efficiency, capital efficiency, and LTV:CAC to measure and improve your efficiency. Lean on your startup CFO to provide the internal KPIs and intelligence you need to navigate.
The earlier you receive warning signals, the more valuable they are.
2. Extend Your Cash Runway
In recent years some startups have been able to get away with maintaining 12 months or less of cash runway, but in today’s environment, that’s too risky. To prepare for a downturn, startups should currently maintain enough cash to cover at least 18 months of burn rate.
Startups today face a twofold challenge. The first part is uncertainty around revenue as demand and consumption patterns change, and the second part is the investment environment has recently started to tighten up. Startups can expect a more difficult time raising capital, and those who do raise funds will likely be doing so at a much lower valuation than they would have been a few months ago—more on this in section four of this article. Keeping an extra cash buffer will help protect your company if revenue slows down or it takes longer than expected to raise your next round of funds.
For tips and tools to extend your startup’s cash runway, see Extend Your Startup’s Cash Runway – 3 Tools.
…startups should currently maintain enough cash to cover at least 18 months of burn rate.
3. Identify Easy, Medium & Difficult Changes
Work with your management team to build a list of easy, medium, and difficult level changes that you can make to reduce cash requirements in the business. Execute on the easy ones now. Maybe execute on some of the medium ones too. Wait on the difficult ones for now.
Trimming your event calendar, re-evaluating your hiring plans, and putting off some hires are examples of easy or medium decisions. Making job cuts or cutting key programs are examples of difficult decisions.
You need to be prepared to cut burn fast if we enter a recession and/or your customers cut back substantially. At the same time, you don’t want to cut too much too fast, or you could find yourself scrambling if the economy rebounds soon.
You need to be prepared to cut burn fast if we enter a recession and/or your customers cut back substantially. At the same time, you don’t want to cut too much too fast, or you could find yourself scrambling if the economy rebounds soon.
4. Adjust Your Fundraising Expectations
When it comes to fundraising, it’s a little bit of a “good news, bad news” situation at the moment.
The Good News – Startups Are Still Getting Funded
Some VCs I’ve spoken to recently indicated that the next several months could be strong due to all the dry powder. I’d take advantage of that while the window of opportunity is open. If you’re fundraising, get it done as soon as you can.
If you’re fundraising, get it done as soon as you can.
The Bad News – Valuations Are Way Down
At the same time, don’t expect to raise funds at last year’s valuation. Depending on whom you talk to, early-stage valuations are down anywhere from 30-50% from their recent peak. A few VCs I met with recently were lamenting that they have yet to see an entrepreneur who had adjusted their expectations around valuations and therefore were not funding those. VCs right now simply don’t want to battle expectations that aren’t in line with the current reality.
The hard truth is unless you’ve absolutely crushed it (i.e., revenue up 3x minimum from your last raise), you’re likely facing a down round.
…early-stage valuations are down anywhere from 30-50% from their recent peak.
Without a doubt, we’ve entered a challenging time for the economy, and startup founders should take steps now to prepare for a downturn. If you make some adjustments and a downturn happens, you’ll be in a powerful position to out-maneuver your competition. The startups that stay focused, stay alert, and make smart changes to navigate the coming months are the ones that will survive and emerge on top when things rebound.