Startup Portfolio Review for 2022 – The pain of costly capital

I just re-read my 2021 report and unfortunately a lot of the points/predictions we made one year ago came true. The growth stock rerating lasted the entire year with no reprieve in sight as the Fed raised interest rates to 4+% in an effort to combat persistent inflation. SPACs and IPO attempts mostly all failed as the markets refused to tolerate expensive listed company valuations. Carousell, Kredivo, Carsome/Carro all have to say IPO or SPAC deferred for another 1-2 years as investor appetite dried up on loss making companies. And those few ASEAN startups that did manage to exit in 2020/21 like Goto, Grab, Buka, Prenetics, Propguru all crashed anything from 50-80%. Even the largest ASEAN tech company SEA crashed 76% from 220 to 52 per share.

In spite of the tough investing environment, Ning & I stuck to our investing philosophy and continued investing into 4 new startups and did 5 follow on rounds for existing portfolio. Amount invested 20% lower than 2021 which was a record year for us with 9 follow ons.  As shared in 2021, covid and Ukraine war has caused great pain to 3 of our startups and we have chosen to write them down to zero in 2022. On a positive note, 2022 saw a decent exit from our 2012 investment in an animation startup. Also, in spite of the bad market, we had 5 series A up rounds happening for our first Vietnamese and Thai startups and 3 SG startups. So in total,  for the 41 startups we invested since 2015, the IRR is now ~30% (down from 38% last year) with a TVPI of 2.66 (down from 2.98 last year).

On the VC front, our 8 funds are at 2.6 TVPI mirroring our angel side and actually up from 2021 2.47 TVPI. IRR should be low 20%s as they took capital much faster.

Putting both angel and VC together, we actually still eked out a small gain of 2ish% year on year for 2022. Hard to believe but there is big caveat. See point 5 below.

Some comments and thoughts :

1) The drop in early stage valuations has happened. The valuations for follow on A rounds have been significantly worse than what founders thought. However, it is nowhere near the levels of how the growth stocks have fallen. ARKK fell almost 70% in 2022, it is only logical that series Seed, A, B, C, D, E valuations fall drastically too. Right now, startups are deferring fund raising if they have cash or raising from existing investors whose interest is to maintain last round valuations. Something has to give and i believe if interest rates stay above 4,5% this entire year, we will see some capitulation and failures from later stage startups which will cascade further to the earlier stages.

2) At Seed level, valuations have fallen 20-30% but its still expensive with no revenue startups valuing themselves at 4-6M SGD. If the later stage fallout happens as described in point 1, then maybe we will see valuations for seed back to the old S$2-3M range which would reflect the risk reward for angels and seed investors.

3) One silver lining is many ASEAN VCs just raised capital for new fund and have cash to deploy. So it is entirely possible that they can maintain their winners valuations and ride out the storm until 2024/25 where they expect inflation rates to moderate back to the 2-3% range and hence interest rates to weaken and valuations to rebound somewhat. For these VCs with cash, they are in a relatively good place to slowly pick and choose  for new stories and only invest in valuations are good. For VCs who want to raise a new fund, i hear 2022 2H was very tough and i believe it will be very hard to close any meaningful sum for a few months more. Global investors need more clarity on inflation and IR and economy before deciding next steps.

4) VCs (as of 3Q end) are still declaring good numbers. Two ways to see this. First explanation is the nice way.  Winners can still grow and command up-rounds in bad climate. Some of our VC funds invested in Ninjavan, Carsome, Grab, Buka, Kredivo etc. So its possible to swim against the tide for sure.  Second reason is that VCs have leeway in how they determine valuation. Usual rule of thumb is to keep at last round valuation. But they can also chose to up a valuation if company has no new round but business has a grown a lot. Also, they can continue to fund internal rounds at last round or even up from last round. All these moves allow them maintain valuation stickiness. The game is only up if the startup fails to perform, or lists and stock price drops or if climate stays permanently depressed and new round is down. Then write down becomes inevitable.

While we can understand the logic of VC behavior, it does contrast with later PE funds. We also invest in some later stage PE funds and because they have many listed investments, they have had to write down 20+% mirroring at least a good chunk of tech stocks revaluation. So it’s important to take the VC numbers with a big grain of salt.

5) On a personal front, while 30% IRR sounds good, it is mostly unrealized gains on unlisted companies.  The weakness in the ASEAN ecosystem is the lack of distributions. In current climate, I would much rather have a TVPI of 2 and 15% IRR but with 1x DPI already.

6) This combination of high interest rate + high inflation + geopolitical issues = great uncertainty in global and ASEAN/SG economy. And when we add on our personal asset allocation shift into property, we feel a need to recalculate how much more to invest in startups. Bottom line, we want to see cash returns from earlier investments before committing much more capital into the space. So a lot depends on what happens next 2-3 years. Hitting 50 startups will probably happen but hitting 100 will require more exits.

Bottom line, capital is now costly. Why would an investor take high risk to earn 15% returns if they can get 8% investing in a relatively safer bond portfolio? And why invest in a loss making unlisted startup if they can invest in google or baba at 12-18 PE ratio? Ning & I remember a time when startups were valued at 15 times profit and that was considered good valuation. And if you are not profitable, your business is not worth much until you show you can be soon!

7) We have actively communicated this investing climate change to many of our portfolio companies reminding them that profits matter a lot more now. I do believe many founders understand that turning profitable is the surest way to navigate 2023 successfully. Quite a few of our startups are either profitable in 2022 or have a clear path to become profitable in 2023. Those who can’t are cost cutting to at least show narrowing losses and also making sure they line up equity funding to stay alive.

It’s not a good time to run a startup now. Costs are rising due to inflation especially wages, but funding is hard to get. Debt is expensive and we expect startups that need lots of debt to suffer in the months ahead. See what’s happening to Affirm and Klarna and Carvana. What will drag things down further is if USA economy goes into bad recession with its consequent impact on ASEAN. Then customers too will be hard to find as overall demand shrinks.

8) Timelines to exit are now all extended at least 1-2 years as many startups will just stay alive and tread water in 2022 and 2023. So fellow investors, please do your own modeling and analysis and base it on a 10-15 year horizon for each startup and VC fund you invest in. With 10 years being a good scenario!

9) One great thing that happened in 2022 is how the AngelCentral community has continued to grow. Our first investments into Vietnam and Thailand paid off well this year with significant up-rounds happening as Series A rounds happened with good VCs. We also had earlier syndicated investments raising Series A in 2022 at improved valuations. So if you are keen to join us, do check out our services to help angels.

Moving forward this year, we intend to continue investing but with even more caution and discipline. This climate is not a bad thing as it removes all the crazy excesses of the 0 interest rate environment. It never did make sense that NFTs/alt coins were worth trillions or that startups are worth 10-30 times their sales even with lousy gross profits. Its a much needed reset for asset prices and forces everyone to get back to basics of profits and cash flow management.

On a founder or investor individual level, we of course hope for the global economy to not tip into bad recession in this adjustment process and that inflation is curbed with minimal collateral pain. However, an old adage comes to mind – we can hope for the best but we should plan for the worst. Sounds like a good philosophy for 2023!

Footnote : This review focuses only on our startup and angel investments mostly in ASEAN space. if you want to know about overall philosophy in life, pls read annual review on life.

Leave a Reply

This site uses Akismet to reduce spam. Learn how your comment data is processed.