Chicken Or Egg: How Startups And Investors Drive Each Other In The Race For Investable, Scalable Companies
First featured in Forbes
The pandemic has reshaped so many aspects of business in the U.S. that there are new lessons to be learned — especially in supply chain management. Even those of us in services industries have a heightened awareness of what it takes to keep the flow of business moving at the pace we expect.
I am the CEO and president of an investor startup studio, and in VC parlance, we call our supply chain “deal flow.” Deal flow is the quantity of investment opportunities available to a particular investor, within a given geography. Two forces drive deal flow: entrepreneurs creating scalable companies and the availability and accessibility of investment capital. A geography can’t develop deals without capital, nor attract capital without deals. If ever there was a chicken and egg conundrum, this is it. To borrow from that old Frank Sinatra love song, “You can’t have one without the other.”
As entrepreneurship builds momentum, the source of supply is changing.
Entrepreneurship and the pipeline of potential deals earned a much-needed boost in 2020, and that momentum carried into 2021. The National Report on Early Stage Entrepreneurship in the United States 2020 reports the rate of new entrepreneurs at 0.38%, a substantial rise that goes against the decline in rates that began in the ’80s. Further good news, last year’s number of new business applications by companies likely to hire employees amounted to almost 1.4 million through the fall of 2021, the most through Q3 of any year on record.
However, this wave of entrepreneurs (reaching 380 out of every 100,000 adults) is different than the batches of entrepreneurs from the last 25 years in that more entrepreneurs are starting new businesses from necessity rather than from opportunity. Given pandemic-driven business shut-downs, job losses (22 million became unemployed), remote work, home schooling and changes in lifestyle preferences over the last two years, this isn’t a surprise.
The pandemic cohort also includes more people who have never started a business before and are more diverse than the typical crop of entrepreneurs. Importantly, this wave of new entrepreneurs and new company starts are making headway throughout the country. That is thanks in part to changes in the second critical force in the supply of deal flow — the availability of investment capital.
PitchBook applauds 2021 as a record year for venture investment with $329 billion raised. Significantly, $22 billion of that was outside the historical top four ecosystems of innovation. Although over half of all venture capital investments continued to flow to Silicon Valley, Southern California, New York and Boston, nontraditional geographies across the country expanded too. Seven of the top 10 venture ecosystems (these four, plus three “nontraditionals”) were on track to see more than 400 deals in a single year.
Record dollars, an expanding footprint of entrepreneurial hot spots and more entrepreneurs getting into the game is an excellent development for the U.S. economy at large. For decades, new companies have been the country’s engine for the creation of new jobs and wealth.
Investors and founders are leveraging supply chain changes to improve quantity and quality of deals.
As challenging as the last two years have been for supply chains, for entrepreneurs and venture investors this may just be a magical moment. Entrepreneurs with great ideas and energy who might not have taken the jump to start a business before are now taking unexpected risks. There is more venture capital in play than ever before — and it’s venturing inland. With a galloping economy and record amounts of venture capital being raised and invested, 2022 could be the year for entrepreneurs to seize the moment.
These three conditions seem likely to have a major impact on deal flow over the next year, creating unique opportunities for today’s entrepreneurs and investors to work together to succeed.
Some founders are considering fundraising ahead of schedule to compete aggressively in the white-hot talent market — a market that has never been more critical to a startup’s success nor more competitive. Speed is the mantra. In today’s markets that means offering higher salaries and aggressive stock options, and engaged investors should lead boards of directors to support onboarding the right team sooner in the company’s life cycle.
Dry powder worth billions
With $100 billion in VC fundraising a reality, investors have to put that capital to work. Look to see larger deals, interest in earlier stage companies, more IPOs and a batch of so-named nontraditional investors including corporate venture and hedge funds. Not only do corporate investors have deep pockets, they have an army of people doing research and looking for entrepreneurs with great ideas. Last year, seed stage and early stage startups attracted more than $93 billion. (That number was just over $52 billion (paywall) in 2020.) There may well be two or three of those big funds around the table with first-time entrepreneurs. Now more than ever, savvy entrepreneurs should be networking and working to get to know VCs — and have VCs know them.
Diversity driving returns
Nasdaq and Goldman Sachs both requirediverse board members for IPO and exchange listings. Nasdaq nearly doubled the New York Stock Exchange’s raise for new listings in 2020 (paywall). Is there a causal relationship? With Gen Z as the most racially and ethnically diverse generation in the talent race, it is no wonder that 76%of job seekers name workplace diversity as an important factor. McKinsey & Company found that organizations in the top quartile for gender diversity on executive teams were 25% more likely to have above-average profitability than companies in the last quartile. And according to Harvard Business Review (registration required), companies with higher than average diversity had 19% higher innovation revenues. Smart organizations should make sure to prioritize diversity moving forward.
Investors and entrepreneurs — you can’t have one without the other. In 2022’s unique window of change, investors and entrepreneurs alike can benefit from reexamining beliefs about deal flow to improve the number and quality of investable deals and investor returns.