Hobbit Business Review

Startups Are Facing Mass Layoffs As VC Firms Reverse Course

While Twitter feeds are filled with reports of Big Tech layoffs from companies like Amazon, Twitter and Meta – 28,000 employees so far this year – the bigger story is what is happening at smaller tech startups. Pound for pound, deeper and more damaging jobs cuts – more than 100,000 year-to-date – have been announced at smaller startups racing to become the next and future FAANGs.

And these cutbacks are coming at the request of the very same venture capital firms that have been, until recently, encouraging tech start-ups to pursue growth at any cost. The hit to these smaller firms – the category creators we rely on to innovate new markets and drive job growth – could cause a ripple effect that changes the tech landscape for years to come.

Cutbacks At Big Tech – Rounding Errors

When Amazon trims 10,000 non-warehouse jobs right before the holidays, it’s a rounding error in a workforce of 1.5 million, especially after having increased staff by 74,000 jobs in the past year. At Twitter, cutbacks were planned even before Elon Musk took over: its employees’ median compensation is $240,000 per year. As for Meta, its cuts of 11,000 jobs or 13% of its workforce come after it had expanded staff 28% in just one year, up almost 20,000 new jobs to 87,000 people. Mark Zuckerberg telling his troops, “I got this wrong, and I take responsibility for that” is not going to prevent Meta from meeting payroll and keeping the lights on.

Can we please slow this roll? Cutting staff is a necessary part of any established company’s business cycle. It is fundamental to the private equity business, where I started my career as an analyst, using Excel spreadsheets first introduced seven years before I was born.

Cutbacks At Startups – A Devastating Blow

By contrast, tech startups have laid off 104,066 employees this year, Layoffs. fyi says. Dapper Labs, NFT creator for the NBA, cut 22% of staff; Galaxy Digital, 20%; Stripe is down a thousand jobs or 14%; and Chime axed 12%, 160 jobs.

These layoffs come at the request (or with the assent) of the VC firms that funded them, which months before were urging their portfolio companies to grow at any cost. Ignore the passé little things like EBITDA and positive cash flow, use our cash to grab growth, even at a loss. Expand overseas even before you build a viable business here.

The VCs were high on cash. In a two-year period (2020-21), venture investing totaled almost half a trillion dollars pumped into almost 30,000 deals; 2020 set a high of $166.6 billion, and then 2021 doubled that to just shy of $330 billion. Investors raised $128 billion in new capital in 2021, clearing the $100 billion mark for the first time.

Outsiders jumped into this gold rush, led by hedge fund Tiger Global Management, which last year topped the Q4 League Tables with 25 early-stage deals and 28 late-stage investments. Pitchbook counts 700 “nontraditional” venture funds in 2021, investing a quarter of a trillion dollars in tech firms, of the $330 billion total sum.

All of this fueled ever higher costs for equity stakes, engineering talent, sales teams, staff, rents in startup business districts, and more. This raised the bar even higher for young companies hoping to hit breakeven. Tech had 960 unicorns worth more than a billion dollars apiece as 2022 began. And then the music stopped.

The Consumer Price Index jumped suddenly this year, and the Federal Reserve began raising interest rates sharply to try to crush inflation fears: six times in eight months, from 0% to 3.75% per annum, up more than 350 basis points since March. VC firms started cutting off the flow of funds to their portfolio companies and telling them to brace for a recession.

This changed the rules of the game and moved the goalposts back an extra 50 yards. The businesses that had scaled up most aggressively, cheered on by their investors, now are being hit the hardest. Startup funding has no penalty for unnecessary roughness.

The CEO of a still-struggling startup with 90 workers and only $6 million in annual sales recently told me, “Three months ago we signed a $45 million Series B term sheet at a $300+ million valuation led by Tiger Global. We’ve grown the team aggressively since we signed. Today the term sheet was pulled. We now have less than 3 months of runway and I need to lay off 40% of my team to survive.”

I feel for the guy. This offers a lesson for entrepreneurs who rely too much on their VC firms and the banks that serve them: When times get really hard, the money guys will pull the rug out from under you and disappear. To survive, founders must rely on their own devices and cash flow.

Meanwhile, even as things began falling apart, venture investors plowed almost $200 billion more into 11,400 deals in the first nine months of this year. They still sit on a huge pile of uninvested cash: some $290 billion, which is unlikely to go out the door anytime soon.

That would be $5.8 billion a year in fee income at VCs’ 2% rate. Yet the cash is earning some of the highest interest rates in 10 years, thanks to the Fed hikes that set off this unfortunate sequence of events. In the end, one way or another, venture capitalists always win.

 Post Views: 2,147

Subscribe to our Newsletter

Share this post with your friends