Blog 6

Are we headed for a recession? Are we already in one?

Economists and financial insiders have competing answers to these questions, but one fact that remains clear is that venture capital and private equity firms have already changed their investment strategies this year.

Times of recession are rare in the United States. Since the turn of the millennia, Americans have had to navigate through three large-scale recessions: The Recession of 2001, The Great Recession, and most recently, The Covid-19 Recession.

How did VCs deploy capital during the Great Recession of 2008 and Covid-19 Recession?

The Great Recession was a uniquely severe market downturn, triggered by a variety of events including the burst of the U.S. housing bubble. In 2008 and throughout the subsequent years, VCs funding was essentially decimated, as firms didn’t return to their 2007 pre-recession levels of funding until 2011, according to Crunchbase.

Funding amounts at the Series A level dropped 40% in 2009, compared to 2008. Series B funding dropped 42% while Series C funding fell 47% during the same time span.

The return on VC funding remained high in 2008 despite the global recession, as firms saw an average return of 14%, compared to a -38.5% return from the S&P 500, and a -40.5% return from the Nasdaq composite, according to JC Venture Capital.

Funding drop-offs were far less severe during the Covid-19 recession, as funding was within a 5% range at the Series A and B levels. At the Series C level, funding actually grew around 18 percent in 2020 versus 2019, according to Crunchbase.

Series A funding during the Covid-19 Pandemic

Series B funding during the Covid-19 Pandemic

Series C funding during the Covid-19 Pandemic

What we are presently seeing from VCs

Equity financings in US VC-backed companies

Startups are clearly facing a downturn in VC funding this year, as firms continue to maneuver through a volatile market at the hands of steady inflation and rising interest rates.

Through the third quarter of this year, VCs have completed $195 billion in deal value, compared to $251 billion in deal value through the first three quarters of 2021, according to PitchBook. It’s worth noting that the 2022’s Q1-Q3 deal value total is ahead of any other year’s competing time span since 2014.

Nontraditional investors—which include private equity firms, hedge funds, mutual funds, and corporate investors—have also slowed their dealmaking totals this year. Through Q3, nontraditional investors have completed $145 billion in combined deal value, compared to $271.6 billion in 2021. This year’s total so far already eclipses totals spanning back to 2006.

Information technology companies saw the highest amount VC deals of any sector in the third quarter, with 706 completed deals, according to EY. The second most invested in sector was business services with 539 deals, followed by the health and life sciences sector with 428 deals.

Sectors that VC firms were bullish on last year, including cybersecurity, digital asset and blockchain, electric vehicle, and biotech companies have seen funding slow in 2022, while climate software and property technology companies have seen an uptick in funding despite economic headwinds, according to Crunchbase.

What can startups do during an economic downturn?

In an August column for Forbes, Peter Pezaris—a startup veteran who’s founded four companies—laid out his advice to startup executives when it comes to navigating market downturns.

Pezaris pointed out three advice points:

• Accept reality: Founders should accept that VCs will continue to take meetings, but will not readily be writing checks anytime soon.
• Understand the pros and cons of bootstrapping: When a company adopts a bootstrapping strategy, and achieves a successful exit, that money goes directly to those who built the company. However, the road to a successful exit is sometimes longer, and often more challenging.
• Do what you can to survive: The only way to succeed is by refusing to give up and being intentional about how you deploy your precious capital to maximize your opportunities to find success.