What Does This Mess Mean to Start-ups

Having been through two market cycles already, I have been waiting for the credit mess to filter down into the start-up world. To date, this effect has been minimal compared to that impacting Wall Street and the buyout world. I would expect this to change in the coming 8 months. The question is how it will happen, to what degree and what are the signs.

I will start off by saying that I am not a great prognosticator. The best I can do is explain how it has manifested itself in the past. So far, we have been buffered by the massive liquidity the Fed has poured into the market, pushing off the onset of a strong recession. When trouble hits, it will come in three areas. First, corporations cut back on capex. Second, corporations cut back on advertising and marketing. Third, corporate acquisition appetite wanes or grows more predatory in nature. The IPO also usually dries up, but that has tepid even during the recent upswing.

What usually triggers the pull back? While there are a wide variety of factors, the one consistent factor I’ve noticed is when corporate profits begin to decline, especially when they miss guidance on the Street. This causes stock prices to drop. Management looks to cut costs aggressively when revenue growth slows and they are watching their options go underwater. Marketing & advertising is one of the first to get cut back. This has been happening gradually over the past 12 months but has not hit with full force. When CPM rates plummet and key word buys shrink, you’ll know things have begun.

Additonally, Capex shrinks and decision cycles stretch out. Enterprise sales become painful. Software, hardware and large service deals all become more difficult.

Lastly, firms will increasingly find it hard to find suitors to buy their businesses. While the market is not as robust as last year, there has still been modest activity this year. Eventually, it will feel like there are no buyers for your firms or the terms that the buyers are throwing out are very predatory. We have not gotten there yet.

Now, it is possible that the Fed will continue to pump so much money into the system and the government will continue to bailout institutions that we never get to this ugly phase (until much later). However, credit card defaults haven’t hit, regional banks haven’t been going under so there are still several chapters to play out here.

While this may be helpful in understanding where we might be in the cycle and what signs to look for, the main question is “what to do”? This is fodder for an upcoming post…