By Eric Paley
Next year will be challenging for startups. Promising companies will struggle. Many will fail. The only consolation is that the “era of indifferent capital” is drawing near – it may never return.
What do I mean by “indifferent capital”?
Historically, VCs were a boutique business where investors saw themselves as mentors to their entrepreneurial dependents. The VCs were financially motivated, but they also put in considerable bonding capital to work at each of the startups.
Failures in the old model hurt us VCs too. His ego *and* cash was tied to the success of the startup. VCs were not always the epitome of virtue. There were too many bad actors. But there was a sense of responsibility to truly support his startup.
Attitudes have changed in the last half decade. Indifferent VCs were easy to write checks, sometimes quite large, with no desire for a board seat, no meaningful oversight authority or actual participation at all. He believes that startups are born great, not built over time.
Indifferent VCs are speculators and see each startup as part of a portfolio of lottery tickets.
What is the value of a lottery ticket?
If it’s a winner, you’ll play it safe with your life.
But if there is no winner, it is thrown in the trash without thinking.
The investment is almost entirely transactional – pro rata rights and liquidation preferences are important, but little else. Indifferent VCs will pay premium prices, but they’re thinking at stake. A failing company is a losing bet in a broad portfolio, and that’s all.
Nostalgic VCs are not out to get you. Those conservative hunters are not “vulture bourgeoisie”. They are not hostile. Indifferent VCs don’t care about anything except startups that show traction towards becoming a home run. They are happy to trash the rest.
The bull market hid the weaknesses of this model and became popular among apathetic investor founders. But with the macro slowdown, I think the weakness of this kind of offshore capital is going to be obvious.
Indifferent investors were stingy in supporting startups that lacked massive markups in very short order. In the days to come, I don’t see many of them writing support checks for struggling or solid startups. Sure, they wouldn’t take the time to engineer the soft landing.
Outsider VC will have less appetite to bail out startups with a messy cap table and sky-high valuations. Outside-led “down rounds” often won’t happen — a startup needs to generate considerable revenue for new investors to come and spur them on to clean up.
As a result, many startups are struggling to find capital inside or outside. I expect to receive a lot of calls from founders whose apathetic later-stage investors have stopped responding to emails or calls. We are going to do everything possible to help them.
If you are still in the early stages of your startup, pay close attention to the way firms are doing over the next 6-12 months. Avoid VCs who will treat startups like rolling dice. Give priority to those people who will put in the work and will be with you even if you roll in the eyes of the snake.
While this will be a difficult period, I believe it will also be a real period of strength for committed VCs and hopefully the end of the era of indifferent capital as we move towards a healthier VC model.
