Well, here we are.
The bad things are still happening: The U.S. stock market opened in the red this morning, with broad indices losing ground (the S&P 500 is off 2.3%) and the tech-heavy Nasdaq taking even more punishment (off 2.7%).
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Closer to home for startups are cloud stocks, a collection of companies that sell software along modern lines — read: SaaS via public cloud. They’re taking even heavier blows, with one key index off 3.33% at the moment I write this to you.
But that damage is modest compared to what is going on in the decentralized world, with major cryptos falling sharply, again, adding to their seven-day losses. A quick (rounded) update on the red ink:
- Bitcoin: -3% last 24 hours, off 20% in the last week
- Ether: -7% last 24 hours, off 30% in the last week
- Cardano: -7% last 24 hours, off 32% in the last week
- Sol: -11% last 24 hours, -39% in the last week
That screaming sound you hear in the background is every trader who was holding leveraged longs on decentralized assets. If you bought the last dip, you just got punched. If you bought the dip with extra hot sauce, you took an even greater loss. (I don’t mean to make light here; if you are seriously taking hits, care for yourself, and remember that all money is an invention.)
The result of the carnage is that late-stage valuations are starting to stutter. The Wall Street Journal interviewed Mary D’Onofrio of Bessemer Venture Partners — a regular here on The Exchange — about the selloff last week, before today’s added pain. She said the following:
The public market reset is affecting how we think about our private-market entry prices for VC deals.
D’Onofrio is a growth-stage investor, so her notes here carry quite a lot of weight. More simply, the translation from public market pullback to private market reset is already underway, but on enough of a time delay that the earlier stages of startup investment are unlikely to feel it for a while yet.
Which means that quite a number of earlier-stage deals are going to get done at prices that might not make sense in a few months. Don’t forget the pace at which venture capitalists have been fundraising recently:
- Two Israeli venture capital funds just raised nine-figure capital pools.
- a16z is reported to be on the hunt for a record-setting $4.5 billion new crypto fund.
- FTX is setting aside $2 billion for crypto investments.
- Blossom Capital recently raised a $432 million fund.
- And we can’t forget a16z’s recent $9 billion raise for investing and the Norwest haul from a few weeks back.
The dissonance being set up by the market is getting to the point of pain. For example, here’s one headline concerning the Indian technology market from this morning:
And two more from the other side of the coin:
To be clear, we are not looking to pick on the Indian startup market — we’re merely pointing out that our ace reporter Manish Singh is covering the good and bad news that is landing in rapid succession. And the gap between public market fear and private market greed is getting sharper and sharper with each passing day of stock market selloffs.
So now what?
Well, we’re starting to hear rumors of some venture capital price discipline, but I think that something more interesting could be happening.
How do we value assets?
For a long time, as investors put more stock in growth than profitability, more and more companies became valued on a price/sales basis. That’s to say that they were valued on a multiple of revenues. This is somewhat novel, as when I was learning about securities and investing and the like, price/earnings ratios were the name of the game. Instead of revenue multiples, companies were valued on a multiple of their earnings.
Now you can swap in looser profit metrics into a P/E ratio, say adjusted EBITDA for GAAP net income. But I wonder all the same if we’re going to see more companies valued on a profitability basis instead of a revenue basis in coming quarters. This is a more conservative viewpoint from which to value assets, and one that could lead to the repricing of a great number of companies in a direction that they would not enjoy.
A shift toward a more P/E world for tech companies over a P/S stance would make profit more, well, profitable for companies. More valuable, in other words. That, in turn, could change how companies — startups included — invest and what they prioritize.
One issue that the market has had is that it allowed companies with lower-margin, not-really-recurring revenues to be valued like software companies that had high-margin, actually-really-recurring revenues. We’ve seen those firms punished. But what about firms that have reported profits?
Why, for example, is Zoom back to its pre-pandemic price? Perhaps because investors are now valuing it on profitability terms over near-term growth expectations? More P/E than P/S, in other words. Shares of Zoom have lost around 75% of their value from their prior peak. Perhaps more net income would help?
My hunch about a shift in how we value tech companies is nascent. Coinbase is profitable but taking on water today because it has high correlation to crypto trading volumes, which are inversely correlated to asset prices. So, falling crypto values means that Coinbase’s lucrative trading business is likely suffering, despite its profits; not even a history of net income can overcome anticipated negative growth rates.
Precisely what’s coming is not clear, but with losses stacking up atop losses, the markets are rewriting the rulebook for corporate value, and many companies are not going to fare well by the new regime. Startups included.
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