The gangbuster growth years are over as far as Sequoia Capital India is concerned.
COVID-19 has upended the stakes and expectations for investors and startups alike. To founders who have found themselves in the middle of this quagmire, Sequoia Capital managing director Abheek Anand says there’s little point in fixating on growth this year.
“Nobody’s looking at growth. In fact, I think 2020 financials are going to be ignored forever. When investors assess financials, they’re going to look at 2018, 2019, skip 2020 and then on to 2021, 2022…” he said in an interview.
Sequoia, he said, has been advising its portfolio companies to spend time making those “hard decisions” to fix fundamental aspects of their business they couldn’t spend time fixing before. This could mean reducing cash burn, focusing on unit economics and building a more resilient path to profitability.
The venture capital firm declined to comment on the progress of its fundraise and existing fund allocations for the region but said it is on track to continue deploying at the same pace as 2018 and 2019.
Sequoia Capital India invests in about 25-30 companies per year in Southeast Asia across seed to late stages. Its portfolio companies include the likes of Indonesia’s Gojek, Tokopedia and Akulaku, and Singapore’s ONE Championship, Circles.Life and Carousell.
The Silicon Valley venture capital firm was last reported to be seeking to raise about $7 billion for a set of venture funds across China, India and the US.
Sequoia’s Anand will be joining Vertex Ventures’s Chua Kee Lock to discuss dealmaking in times of COVID-19 in DealStreetAsia’s next online webinar on 14 May 2020. Registration is open to subscribers only.
Edited excerpts of an interview with Abheek Anand:
We saw a spike in the number of deals in Q1 this year, coupled with a 3% rise in total deal value compared to last year. But the median value of these investments has actually gone down. We suspect this has to do with the impact of lower valuations as well as the WeWork effect from last year. What’s your thought around this?
We can’t speak for everyone else but, yes, I think you’re right that Q1 2020 will not see very much impact from COVID because there is a lag. Post-COVID investments will only start to close in May and June, which will start to show up in Q2.
We do sense a shift, especially amongst some of the later-stage investors. They’re going back to focusing on the fundamentals and economics in businesses, no longer rewarding just top-line growth. I remember reading a quote from Mike Moritz, who’s a senior partner at Sequoia. He said something along the lines of “the laws of economic gravity are starting to catch up with companies and they do that every decade or so.” I think what he means by these “laws of physics” is really this idea that you need to have fundamentally good economics to make good businesses.
At Sequoia India, we try to always focus on this aspect and not just on growth. The reality is that there’s so much capital in the private market, and when this starts to reward growth, you’ll see companies coming up that will grow for the sake of growth without actually having the underlying business fundamentals figured out.
What we have seen broadly is the number of funds doing seed investing has trended up in our market. Lots of seed-stage funds have raised new funds, their fund sizes have also expanded. We’ve really doubled down on seeds with Surge, so seed investments in our market have been going up. That might be contributing a little bit to the drop in the middle.
I can tell you that from a Sequoia perspective, we are broadly on track to be in the same range that we were in 2018 and 2019. From a Q1 perspective, we haven’t changed very much. What happens after is obviously more interesting because now we are entering a place where everybody’s under lockdown. It’ll be interesting to see the types of companies that come up and get funded in this environment.
Have you seen any specific COVID-19 impact in terms of investments?
There will definitely be an impact. So far the impact hasn’t been that significant. We keep talking about the slowdown that’s happening but we’re talking to our partners in the US, India and China, and the current pace of investing hasn’t slowed down. I think it’s a function of lots of deals in the pipeline that investors have known about, that are being evaluated and are coming to a closure. So there is a delay in terms of when this starts to show up.
The second thing is that there is a lot of liquidity in private markets, there are so many funds. Early-stage investing hasn’t slowed down. Growth-stage investments have slowed down. But even in the growth stage, lots of high-quality companies in the very late stages are fundraising and doing so quite nicely.
So, I think what will happen in the short term is that a lot of the early-stage deals in the pipeline will get cleared out, and in the growth stages we’ll see a flight to quality. The capital exists, it’s just that they will need to find higher quality businesses and this flight to quality is something that happens every time the market starts to shift.
Which sectors are you looking at?
We are seeing an accelerated shift to digital as a result of COVID. I was talking to a founder just two hours ago. They partner with a lot of old school companies like banks, and he said all these banks, who used to take 6-12 months to complete deals, are now calling him up because they’re realising that digital is the only way that they can grow.
This is happening on the consumer side as well. What happens historically is that there is a curve of digital adoption, right? That curve takes a little bit of time. You have early adopters and then at the very end, you have the mass market. What has happened is that this mass market has suddenly shifted forward overnight.
One classic example is online education – it used to be classified as a “nice-to-have.” In other words, you can use this to learn in addition to everything else you learn in the school. Today, there is no alternative.
So we’re spending a lot of time thinking about all these sectors. There is entertainment, online education, digital payments, remote collaboration and work from home. Any kind of service that relied on physical proximity and human contact has now been completely replaced.
Nearly half of Indian SMEs reportedly have a cash runway of six months and less. Based on your observations, what are the cash runways like across the board? How do they differ between Southeast Asia and India?
I don’t know if there’s really a significant difference between Southeast Asia and India, but we’ve been giving some advice to our portfolio companies. At a very high level, the advice is, if you have more than 18 months of runway, you’re green. If you’re between 12-18 months, you’re orange, and below 12 months, you are code red. Obviously there are companies that have six months of runway – a code scarlet or something more intense than red. We’re advising our companies to not rely on raising a round, particularly in the next 12 months or so as the dust settles.
The second side of that – and it’s something which I think is even more important – is that companies can use this time to fix things which they couldn’t have otherwise fixed. This is a common question we get from founders saying, “I can fix economics, but my growth will suffer.” Or, “I can’t afford to miss out on growth because investors reward growth.” But you’re now in a place where the economics and the business matter a lot. Nobody’s looking at growth. In fact, I think 2020 financials are going to be ignored forever. When investors assess financials, they’re going to look at 2018, 2019, skip 2020 and on to 2021, 2022…etc.
So this is a time to make all these hard decisions and choices because nobody’s going to look at top-line growth right now, so better to fix the fundamentals. Once you do that, naturally things like cash runway will expand, the economics will start to improve. When you come out on the other side, hopefully, some of these businesses would start to look a lot better.
How does that shift the way that you’re looking at these startups? Everyone is imagining the post-COVID world to be completely different from the one that we knew before.
There are some types of business models that absolutely won’t work in today’s environment. Those are relatively easy for us to understand. For instance, you can’t rely on global sectors to depend on travel or some physical forms of service delivery in education or healthcare or anything like that.
The things that are truly counter-cyclical are the ones that are improving in this market. I think the point of view that all investors have is how much of that is going to sustain and be the new normal, and how much of that is going to be replaced?
What is probably underestimated by most people is that once people shift to a new way of life, it’s a lot harder for them to go back to the old way. I think that the part that will sustain will actually surprise us very positively. If you believe that, then suddenly you can start to invest in companies that are in, say, telemedicine.
There’s a saying in the VC world, ‘You want to invest in painkillers, not vitamins.” “Nice-to-have” things never grow. They get to a certain scale and they plateau out. But guess what? Now some of the things that were nice to have in the past are must-have today. We’re meeting a lot of new companies and we always ask ourselves the question, “What kind of a world will they be operating in, once this is behind us?”
Are there any specific post-COVID consumer behaviours that you’ve been thinking about recently?
I would say it’s still early days. Founders are just starting to understand that there are all these challenges, but with these challenges also come opportunities. We’re keeping an open mind on any type of consumer behaviour.
I was talking to a founder yesterday and they were talking about trying to hire a CFO, but they realised, “Hey, I’ve never met this person, how do I actually make an offer to a person I’ve never met?” I think that is a good point. How will recruiting work in a world where for the next six months, we may not be able to meet our colleagues?
In the meantime, recruiting is not going to stop. People will just need to get used to another way of doing this. What kind of platforms can you build on top of that? How are human relationships and interactions going to work? What is going to work or any kind of social interaction going to look like? What kind of content will people want to share? What kind of content will we not want to share? What does privacy look like in these environments?
I think collaboration and the idea of digital work environments will completely change. A lot of people who were not collaborating remotely in the past are now going to use virtual platforms to work together.
In venture, we talk a lot about inflexion points which create opportunities for people. Historically, inflexion points have been new platforms that have emerged. In 2007, the iPhone came out which brought in this mobile era. That was an inflexion point when every business was being re-imagined as mobile-first. With the emergence of cloud, every business was imagined as cloud-first.
I think COVID is a similar inflexion point. A lot of business models will have to be re-done and we’ll get an opportunity to re-think a lot of these things and we’re definitely keeping an open mind about it.
COVID has flipped things for a lot of founders and sectors. How does that shift the way Sequoia India is allocating and balancing capital and time across portfolio companies?
One of the things that we started to do pretty early on was to map out all of our portfolio companies. We would look at each of them and say which ones are very simplistically, code red, yellow, green, and then start to figure out which companies needed help and which didn’t.
We did that across two axes. The first axis was impact on business and the other was cash runway. If a company has a net positive impact on business but cash runway is limited, of course, we should help. If a company has net negative impact on business and cash runway is good, we should advise them and say, “Look, guys, your business is going to suffer for the next few quarters, figure out a way to navigate around it,” and then work with them very actively to do that. The businesses that have a negative impact on the business and limited cash runway – this is where we need to step in and try to help these companies survive.
At what point do you step in as an investor for companies which are suffering badly? And at what point does a founder say, maybe I need to pivot or consider something drastically different from what I was previously doing? How does the founder know when is the right time?
As recently as end-February, most of our portfolio companies had no clue what was going to happen in this market. Back then, we were going to all of them and saying, “Guys, this is actually going to be a very significant event. We don’t know how bad it’s going to be but this is what all the experts in our network have told us.”
I remember when I first saw the results from some of these prediction models, it said that 20 per cent of the world will get infected. I fell off the chair! I was sitting in Singapore and I thought it’s only in Wuhan, nowhere else. But that’s what the models were already predicting.
Philosophically, the way we operate at Sequoia India is that we leave it up to the founder to decide. Our job is not to make the decision for them, but to try to give them all the information that we have so that they can make the right decision.
We’ve also been hearing that a number of early-stage founders in Southeast Asia have had their term sheets pulled. How far should founders expect something like that to happen to them?
I would like to say two things about this. One, that is happening. I personally know founders who have had this happen to them, and it is frustrating. It is typically something that tends to happen in such environments. Some investors tend to get skittish and get cold feet for many, many reasons.
What we are advising all founders is that unless you have money in the bank, nothing’s done. Please don’t celebrate when you sign a term sheet. If you’re a founder right now, nothing is sacred, except money in the bank.
At Sequoia India, we are pretty serious about honouring all of our options because unless there is something fundamental in the business that has been misrepresented, we think it is important for us to stand by our multiples. We have been in business for close to 50 years now and we expect to be in business for the next 50 years. Our reputation is actually far more important than a blip in the market.
Do you also talk to other investors who have invested in the same company in terms of how you give advice to founders?
I will say something slightly controversial here. In today’s market, all VCs are actually saying the same thing. We’re not very different. Everyone sees it. I think the tricky part is when it’s a bull market, that’s when it’s much harder to be focused on some of these fundamentals. If we had the same conversation six months ago, we would probably be a minority voice around the table in today’s context.
A lot of VCs say they do value-add to your startups. In a lot of ways, COVID is exactly that kind of season where this is put to the test. How is Sequoia Capital India responding to this and assisting its portfolio companies?
There are some things that we are doing more of the same. For example, things like helping with recruiting, M&A, fundraising. Our biggest team inside the firm is actually not the investment team. It’s our portfolio specialists. These are people who help portfolio companies with everything from marketing to fundraising to legal matters to solving tech challenges.
Financially, we are trying to make sure that between us, our partners and our reserves, we can help them navigate through this crisis.
The second is just giving them a perspective on what we’re seeing in the market. That means having a point of view on when the market will turn, when the lockdown will end or when the economy will start to grow.