Via Techcrunch
Last week, something turned. We found out that not only are we in a recession, but it started a year ago. Tech layoffs went into overdrive (12,000 at AT&T, 600 at Adobe, 130 at Real Networks), bringing the total unemployed tech workforce to at least 90,000, by our count.
Even Facebook decided to indefinitely postpone an earlier plan to allow employees to sell some stock privately. One likely consideration in Facebook’s about-face is that outside investors may no longer be willing to buy Facebook stock at the already-lowered $4 billion internal valuation the plan called for, never mind the over-inflated $15 billion that Microsoft got in at last year.
Capital is drying up, and things may still get worse before they get better. So far in this downturn, we’ve seen startups batten down the hatches (as they should) and hope to survive long enough to make it out the other end. But what about venture capital firms? When will we start to see the VC layoffs and fund closures?
It is already happening to some extent. The number of partners listed on some VC Websites is already quietly shrinking. Some new VC funds are having difficulty raising money and even existing funds are running into problems collecting commitments from strapped limited partners.
The carnage on Wall Street is having a trickle-down effect on venture capital firms. The limited partners who typically invest in VC funds—university endowments, pension funds, investment banks, other institutions, and wealthy individuals—are short of cash right now. Harvard’s endowment lost $8 billion in the past four months alone. Many limited partners simply cannot honor capital calls from VCs. (When a VC firm creates a new fund, it does not collect all the money at once. Instead, it receives promises from limited partners that they will invest when the capital is needed).
Rather than face the penalty of default, limited partners increasingly are trying to sell their commitments at deep discounts on secondary markets. Conversely—knowing that they may not be able to call in their chits—VC’s are motivated to slow down their investment activity.
All of this is to be expected during a recession. Entrepreneurs wait for a rebound, and then their startups get funded once again. But what if this recession (and bear market) lasts longer than a year or two? And what if startup founders don’t feel like waiting around for VCs and their limited partners to get back on their feet?
Startups can be run so cheaply now (with open-source software, cloud computing, and virtual teams spread across the Web) that many more can achieve profitability without any VC cash. Up until recently, they still happily took that cash when it was handed to them. But certain classes of startups, especially Web startups, may now find they don’t even need that money. Y Combinator’s Paul Graham argues:
VCs and founders are like two components that used to be bolted together. Around 2000 the bolt was removed. Because the components have so far been subjected to the same forces, they still seem to be joined together, but really one is just resting on the other. A sharp impact would make them fly apart. And the present recession could be that impact.
. . . The current generation of founders want to raise money from VCs, and Sequoia specifically, because Larry and Sergey took money from VCs, and Sequoia specifically. Imagine what it would do to the VC business if the next hot company didn’t take VC at all.
The less venture capital there is for new startups, the faster the decoupling will begin.