The State of the Startup Ecosystem

Intro 00:01
Steve, welcome to Startup Success, the podcast for startup founders and investors. Here, you’ll find stories of success from others in the trenches as they work to scale some of the fastest-growing startups in the world, stories that will help you in your own journey. Startup Success starts now.

Kate 00:18
Welcome to Startup Success today, we have a real treat. We have someone here from Burkland. We have Steve Lord in the studio, who is the Managing Director, Head of Service Delivery, and he runs Burkland’s Knowledge Share as Chief Knowledge Officer. Welcome Steve.

Steven Lord 00:38
Thank you. Glad to be here.

Kate 00:40
Thank you. I’m so happy Steve’s here because he’s going to give us a state of the startup ecosystem. So much is going on. We’re halfway through 2024, which itself is crazy, right? And things keep changing. That’s one thing that we know. So I thought this would be really helpful, if you could just share with the founders listening, where you see this startup, yeah, where we are.

Steven Lord 01:12
I think it’s it’s one of those things that has so many different layers to it. It’s important to separate the noise from the things that I think founders really should have on their radar. And it’s inescapable right now at least, that there are really two big macro or high-level impacts or influences on the startup ecosystem. And this is important to realize, because it transcends whatever a startup particularly is doing. I mean, it’s relevant, of course, and we’ll get to that later. But really, the things that are problematic or need to be considered are the interest rate environment that we’re in. You know, the day we’re filming this, the market tanked pretty hard. And there’s some economic data that shows the economy is actually starting to slow from the interest rate hikes we had last year, right? And for everybody out there, like, who didn’t go through it, the interest rate hikes really, comparably, were some of the steepest funding, you know, increases in funding costs that we’ve ever had. So it’s a real deal thing that the economy is now going to start to slow down. And that’s actually what the Federal Reserve and everybody wants. So the startup ecosystem has to grapple with that. Venture capital, if that’s what we’re talking or a facet of the startup ecosystem, of course, is VC. And VC, this is something that people need to realize, VC is a cyclical industry. It has a giant sine wave that it goes through boom and bust. And we’re in the middle of one of those right now where a lot of VCs are sort of waiting for the first interest rate or the second interest rate cut, which we’re all starting to expect will happen soonish this fall, right? And then probably head into the spring. That’s one. The second. We can’t avoid the impact that the presidential election has on not just the startup ecosystem, but the business ecosystem in general. So to everybody out there, don’t underestimate the impact of uncertainty around the election, and we certainly have plenty of uncertainty around this particular election, and the old saying on Wall Street is you can make money in a down market and you can make money in an up market. What you can’t do is make money in an uncertain market. So a lot of things are suffering under everybody just going to the sidelines. So there’s less deal flow, there’s less pricing power. Maybe some of our founders are noticing it’s taking longer to close contracts with companies with customers, because everybody’s kind of like, Wow, I have no idea what’s going to happen in November. So you know what? I’m just going to wait.

Kate 03:52
So it’s like the uncertainty of the election, waiting to see how the interest rates…

Steven Lord 03:57
Right. They’re really related, right? They’re kind of concentrate each other. So when founders are looking at the landscape they have. These are, in my opinion, these are the two really large kind of global, huge pressures that are facing the system, the ecosystem. And then when we look at the sort of the State of the Union, remember, as I said earlier, that it is cyclical. So that means they can, everyone, we included, can look forward to, probably on the backside of two or three interest rate cuts, the VC ecosystem or the VC environment, warms up a little bit. Purse strings get loosened a little bit. Everybody starts feeling a little bit better about the go-forward economy. And then all of the good things that come from that start to happen. Financings happen. Valuations get healthier. Customers sign quicker, and so on, right? It’s a cycle.

Kate 04:48
Got it. I think that’s important to remember. It’s a cycle. I think people forget that. So that being said, you know, fundraising is more difficult. Talk us through that for sure.

Steven Lord 04:58
Yeah, for sure. There, and it is kind of related to that cycle because startups that were raising last year, or maybe even the tail end of 2022 they were in a seller’s market. They were getting valuations and dollar amounts that were really, really, really healthy. Probably much beyond what they would normally have been able to raise in a like normal environment, right? So this is certainly true for some of the really hot sectors, like AI and machine learning and all that, right? So what ends up happening in those situations is startups over raise. So you’re a startup, you’ve got a few people, you’re, you know, you’re seed stage, maybe, and you’re going to try to raise a Series A and it’s the end of 2022, and you’re in AR, you’re in, you know, augmented reality, right? Super hot. So then you decide, okay, we’re going to raise a Series A and then everybody starts throwing money at you, and you go, raise $40 million or some crazy number, right? And that was great, and everybody thought they were heroes. Now we’ve entered this desert, and those companies are out of money or running out of money. Their runways are now a year, maybe sub-year, right? And they’re finding it extremely difficult to get anybody to call them back, because we’re in this desert now. So you over raised in the good times. That’s now run its course, and the next round is extremely hard to do. So a lot of founders are realizing that this is an environment where they may have to swallow a flat round, a follow-on, a bridge, in some cases, a down round. I mean, it’s just the economic reality, If they’re almost out of money now, that’s what they’re going to have to do. It has shifted to a buyer’s market right now in terms of VC financing, with one quick caveat, with the exception of AI. AI continues to be the outlier with all of this, and that’s just the way it is.

Kate 06:51
So is that what you’re seeing a lot of founders doing, they’re going for the bridge round? Are they doing that? Are they trying to just preserve cash runway and buy time? I mean, is it a mixture of both?

Steven Lord 07:02
It’s funny. It’s really both. And a lot of that runway extension pressure is coming from their existing investors, who know this environment better than anybody else. And this ladder that we’ve always had, you know, pre-seed, seed, A, B and onward, with these step-ups in valuation every step of the way. That is really good and often very healthy in a good market and in a flat market or a down market that gets very hard to do. So the VCs themselves are saying, stretch your runway, lower your expenses, get your cash to last as long as humanly possible, so that we can go back to the markets again with a plussed up valuation. (Got it) Another quick thing that is becoming – it took a little bit of a hit with SVB and all that sort of stuff – but many VCs are exploring venture debt for their companies for the same reason. Let’s get a little bit of venture debt in the door and stretch our cash runway long enough to get healthier valuation when we go back out to the private markets,

Kate 08:03
That makes sense. Do you think that’s a good tactic?

Steven Lord 08:06
The best answer is the worst answer. It depends. For companies that know what they’re doing, have the right people advising them and are able to understand the math and have VCs who are allies and not adversaries. Yes, it’s a wonderful tool, and it can be super helpful, because it’ll really what it allows a company to do is sell more of its product, maybe even get its product out into market, increase its ARR. Generally, like grow up a little bit more, which turns around in a healthier valuation the next time they go out for additional venture capital. So it’s really a means to an end to get the company to look bigger, better, more profitable, greater revenue, whatever, so its valuation is up. But, words to the wise for all of the founders out there. If you don’t know what you’re doing, you are getting venture debt. People are sending you term sheets and saying, sign this, sign this, trust us. It’ll be fine. Please stop and call someone, whether us or anybody else, who knows what they’re doing. So you actually don’t get yourself sideways on a debt tranche, because that can get as people learned with SVB, there are terms and conditions with venture debt that you need to be aware of.

Kate 09:18
Okay, that’s good advice. And for those that are, you know, maybe trying to fundraise for a seed round, or whatever, we’ve heard rumblings on this show, the due diligence process is a lot more robust. Are you seeing that as well?

Steven Lord 09:36
100% and it relates back to that cycle. They’re not giving the money up very easily right now, right? Two years ago, they were, you know, if you had a pulse on a pair of feet, you got a check. And now it’s, you know? Well, we want to know, you know, how much the sticky pads in the office cost. That is a symptom of the overall environment we described earlier. It’ll loosen. It’ll get a little bit better. The other thing for founders to realize. Is a due diligence a rigorous due diligence process is actually one of the healthiest things a startup management team can go through. So don’t everybody out there like, don’t think of it only as this horrible thing, because it makes you a better company, right? It helps you learn where everything is, get all your books and records in order, get everything cleaned up and squared away. Because, honestly, you should be anyway, and that is a great way to do it.

Kate 10:28
I think that’s a really good point, because I’ve heard that recently, you know, make sure that you’re in line with all your cash and your positioning and controls and everything the way you have employees classified, I mean, like you said.

Steven Lord 10:43
Sales tax, like all stuff squared away.

Kate 10:47
That can come and get just makes your life,

Steven Lord 10:49
It just makes your life so much easier. All the gotchas are taken care of.

Kate 10:50
Good point.

Steven Lord 10:55
And you know, you always want to be in a position as a founder who has external, institutional investors. You really always want to be in the position of, you know, generating financial statements, or, you know, you happen to be sitting on a plane ride on the way home, and you’re sitting next to Mark Andreessen, and he asks you how much cash you have in the bank. You don’t want to say, Wow, good question. You know, you kind of want all this stuff ready to write without a lot of delay and a lot of gnashing of teeth and stress and worry. So that’s the ideal state for most startups. It’s what we like to get to when we’re working with a company.

Kate 11:31
Got it. That makes sense. I think people listening should make note of that. You talked about the election and inflation. But there’s other macro, you know, factors playing here, like war and stuff. Can you talk us through other things that are, you know, on the macro environment that’s impacting the startup ecosystem?

Steven Lord 11:53
You know, it all relates kind of back to that uncertainty, right? So war is always a problem. And I think for alternative investment vehicles like VC, private equity, things like that, they tend to wall it off a little bit right up until it looks like it could start impacting what they are doing, right? So depending on who your investors are and what your company is, that it does that’s going to affect you more or less. But it’s never good, right? It just may affect people, more or less, depending on where they are and what their investors are thinking about. I think another big uncertainty with this particular cycle is you have an extremely divided body of political activists, right? Or said another way, the voters that are going to decide what happens in November are really polarized, and there’s tons of people talking about that. But what that also means is it’s really not just the presidential election that’s going to happen in the fall or in November. It’s also control of the Senate. It’s also control of the House of Representatives, and more than it has ever been on the radar, potentially control of the US Supreme Court. So those are things probably more than the presidency, and more than whether there’s a war in Ukraine or the threat by Russia, whether you think there’s a threat there or not. I personally do, but that’s everybody’s own thing. But when you look at what the investment world and the business world cares a lot about, they care a lot about the tax code. They care a lot about the laws and regulations that govern how businesses work here, right? They care a lot about how hard is it to get a work visa. So all of these things are really more in the congressional control, and that’s what I do think people are worried about in the business world more so than perhaps the political, Democrat, Republican, White House thing. That gets a lot of media coverage, right? People running companies want to know what their tax rates going to be.

Kate 13:58
You keep just going back to all this uncertainty.

Steven Lord 14:06
That’s really the overlay.

Kate 14:08
Yeah, that’s the overlay. The driving factor of this. Would you call this the beginning of a slowdown?

Steven Lord 14:13
Oh, for sure. For sure. It is the beginning of, actually, a long overdue slowdown. The Federal Reserve raised interest rates, you know, very sharply in a very short period of time. Economies generally can withstand movements in underlying interest rates when they happen slowly and everyone could kind of adjust, but when they get ripped up or ripped down in a very compressed period of time, things the risk of a policy mistake, really, of some sort of accident happening goes up, which circles us back to the uncertainty. It has been extraordinary to me, actually, that we haven’t had a slowdown start before now because of the interest rates going from essentially zero to five and a half percent, and we’re in. Inverted yield curve position for years now, right? You know, is really, really weird, right? The trick now is going to be, can the Fed now, when they start seeing signs of a slowdown, can they cut fast enough to engineer some kind of a soft landing, or do we tip a slowdown into some kind of hardcore recession. That’s the risk now. But I think it’s important that everybody realize, like, when you’re hearing all this and you’re reading everything in the Wall Street Journal and Bloomberg and all that the slowdown is what the Fed wanted.

Kate 15:35
That’s why they raised, yes …

Steven Lord 15:38
Because, nine months ago, everybody was like inflation, oh my god. So okay, you don’t like the inflation, so we raised the interest rates. Now everybody’s going, oh my god, slow down. Inflation has retreated. That worked. And now everybody’s freaking out about a slowdown. Well, you can’t really have it both ways. So hopefully we get a little bit ahead of it, and we get a few interest rate cuts now, heading into the fall. I think they’ll be a little careful to not do it too close to the presidential election because that starts looking like it’s political, right? And so I think we’ll get one or two here now heading into early fall, and then they might wait. But we’re definitely on the backside of it, and it actually has been extraordinary to me how resilient the underlying economy really has been.

Kate 16:23
Right? It has ever since Covid, ever since Covid.

Steven Lord 16:27
And when you ask people, like, you’re in line at Trader Joe’s or whatever, and you’re asking people, Do you think the economy is in bad shape? And everybody’s like, Oh my God, it’s horrible, right? But when you look at the data, you look at the stock market, hit a record. It’s now retreated a little bit, but it hit a record. Consumer spending was strong. Unemployment was low. Jobs were fine, like all of the things that jobs were we all of these, we look out to say, Yeah, but what’s really going on? They were all super strong, right? So that’s been a real testament to the underlying power of the economy.

Kate 16:59
Very true, very true. And I’m guessing some of those feelings that people have about the economy is more going back to the uncertainty, like you talked about, right? (Correct.) Okay, Steve, you’ve done such a good job of painting the start of, you know, the startup ecosystem for us painting the state of it. We always end this show, and I think it would be helpful if you did the same, just like advice for startup founders, listening right now, anything you can share?

Steven Lord 17:30
Oh, there’s a bunch. we don’t have enough time for all of that. The top 10 list? So they’re in, they’re really in two different buckets. Strategically, keep the bigger picture in view, you’re a founder, you’re focused on building a product, and you’ve got a vision, you’ve got an idea, you’ve got passion for your thing. Keep your team tight, get keep focused on the product. At the end of the day, all of this is easier when you have revenue, you have a product that people want, right? And when you don’t have that, all of this gets harder, like the old saying, Sales Solve Everything. So, yeah, keep your head down on that stuff. Like it’s easy to get distracted as a founder, to try to manage all of the different chainsaws in the air. Delegate, have good people around you, and keep your vision and your focus on the real strategic goal (18:19), right? That’s the strategic side. The tactical side is be aware of you are probably a really amazing product engineer, software developer, consumer marketer, whatever, but you may not have a ton of experience running the company that actually does it. So shameless plug for what we do. Find people around you who can give you the advice that you may need to make good decisions, like a CFO. People always think the CFOs job is the bookkeeping. It’s actually not the case. The bookkeeping is really important part of your financial stack, but the CFO is the person who helps you make decisions, gives you the information, provides a financial picture and landscape of your business, and allows you to make informed, thoughtful, intentional decisions about where you’re taking your company. And the same thing goes with legal advice, you know? So there’s this cadre of people that can help you not feel like you need to go learn everything about everything. Go get a person that’s done the thing for 20 years who can tell you in 15 minutes more than you’re going to learn by googling for two hours or asking Chat GPT. So tactically, think that through. Because a lot of founders, I think they realize after a couple of these that they spend time in the wrong places. You know you’re really your main role, and your main job is to run the business and get the product built, and get the customers and get the revenue and all that. The last thing I’ll say, too, is in this environment right now, because it is such a buyer’s market, there are finance partners out there that will try to convince you to sign a term sheet or to take capital in unfavorable conditions. Don’t ever forget that it is your company. It’s nobody else’s make the decisions that make the most sense for you. Find investors, like I said earlier, that are allies and are not really just in it to make a quick buck. They are out there. And be willing to get up and walk away if they’re really interested in what you’re doing and not just trying to get on your cap table, they’ll knock on your door again.

Kate 20:28
Excellent advice. That’s a really good point. I think people forget that when they’re, you know, engaging with potential investors.

Steven Lord 20:41
More money has ultimately been lost, reaching for a bad deal. You know, because people, they get a little freaked out, and they start getting really, really nervous. And that’s not to say your investors aren’t going to put tremendous pressure on you, but that’s okay. That’s what you signed up for when you took the money. But there’s a version of that that’s actually making you better, and there’s a version of that that is just trying to squeeze you so you do what other people want you to do, and it’s important to know the difference.

Kate 21:08
And take the time to make sure. And like you were saying earlier, I think founders are worried about costs, and so they’re hesitant to engage help on making decisions about whether to go with an investing partner, whatever, and that the ramifications could be that you could end up paying more or losing more by not spending more money up front for the help.

Steven Lord 21:33
For all of it. And, I mean, it sounds Yeah, it’s just us, but it isn’t. It’s actually any subject matter.

Kate 21:38
Right, right

Steven Lord 21:39
And, we know from the work we do that if you wait on this, if you decide, well, it’s not worth the $1,000 to go get a sales tax expert to make sure we’re not taxable. I’ve lived this as well. You get on two years down the road, and now you’ve raised money from three venture firms, then you find out that you were actually taxable all that time. It is much worse. Let’s just call it out, right? Like, you don’t want to have that conversation. You’d rather have it squared away now. Like, get it squared away. Have confidence that your business is administratively and operationally squared away so this stuff doesn’t come out of the woodwork while you’re trying to build a business, because it does and it can be really harmful.

Kate 22:24
Absolutely, such great advice. Thank you for clarifying everything for us. Always really delightful to talk to Steve Lord. Thanks for being here.

Steven Lord 22:36
Thank you for having me. This is fun.

Intro 22:37
You’ve been listening to Startup Success to make sure you don’t miss out on future episodes. Subscribe to the show and your favorite podcast player, like what you hear tap the number of stars you think the show deserves in Apple podcasts for more tools and resources for your own Startup Success, check out burklandassociates.com thank you so much for listening.