July 27, 2022

Why It’s Hard to Get Startup Funding Now—and What to Do About It

Founders and small-business owners could face a difficult environment. It’s time to plan.

After a decade of easy money with low interest rates, and lots of market liquidity, startup founders and small-business owners in need of capital are facing a new reality: Their funding options are getting more limited.

Investors, banks and consumers are tightening their purse strings, spooked by the crash in the stock market and the highest rate of inflation in 40 years. For some, it can be hard to accept the wildly different environment in which we are now operating.

Why is it so much harder to get capital for your business right now?

Well, interest rates are on the rise, which means the cost to borrow money is getting higher. It also means investors have less of an appetite for risky startups because they can get a guaranteed return on investments that are more secure.

Second, stocks have fallen and a correction in public-market valuation ultimately trickles down into the private markets. As a result, venture-capital funds and other investors will be pickier about where they invest their dollars, which means companies will require stronger financials than they did last year to achieve the same valuation.

Third, consumer spending is on the decline. That could weigh on company earnings in the not-too-distant future, leading to a general retraction of the economy and the dreaded recession. Lenders hold on much more tightly to their money during recessions.

So what can founders and small-business owners do to prepare?

Rethink your goals. If you need money to grow, consider sacrificing growth in the short term to avoid having to raise money in this environment. A founder friend of mine in the consumer packaged-goods space was speeding toward her Series A earlier this year, but is now slowing the company’s growth to extend her runway. This doesn’t equate to failure; rather, it demonstrates adaptability in a rapidly changing environment.

Get back to fundamentals. Over the past decade, venture-capital money was funneled into startups with an expectation for revenue growth and market share, with profitability a concern for the distant future. Well, the future has arrived. As an angel investor privy to regular pitches by startup founders, I can attest that the buzzword of the day is profitability. So what can you pare back that doesn’t directly affect your product or consumer experience? Can you join with other companies to share employees, or even barter services or products? As a small-business owner myself, there are no more vanity measures or ego projects. Gone are the vintage Italian fixtures at my restaurant—the knockoffs will do just fine.

Identify your recession-proof product. The “lipstick effect” is a term coined by Leonard Lauder in 2001 when he observed that lipstick sales tend to be inversely correlated to economic health. The idea is that many consumers will find the cash for small indulgences during hard times, even as they forgo buying bigger, more expensive items. Is there a “lipstick” in your product line? If not, can you offer a smaller piece of your brand? Is your brand strong enough that customers will make room for it within their smaller budget?

Look between the couch cushions. Although market conditions have shifted, there is still money out there that is yet to be deployed. In 2021, the federal government reauthorized and funded the State Small Business Credit Initiative, which gives a combined $10 billion to states for programs that provide venture capital or that encourage private lenders to make small-business loans. There is also a treasure trove of grants available if you take some time to look. I came across Fearless Fund’s Woman of Color grant, which I forwarded to a baker whom I mentor. She ended up winning the $20,000 grant, which she is using to build out her first ever dedicated production space.

Venture is still deploying money and rounds continue to be raised, even though those rounds are smaller and take longer. A VC friend in the process of raising her second fund shared with me that with all the high frequency trading and computerization in the public markets these days, she believes private-equity investing is actually the safest place to be. Now there’s a perspective!