Our Take on the “Slow-Down”
By now it’s clear that the current global economy is having an effect on startup ecosystems everywhere (particularly in terms of fundraising) reminding some founders of the uncertainty felt during the beginning of the pandemic and prompting some investors to warn portfolio companies about tough times (e.g. Sequoia and Y-Combinator).
Despite the nervousness in some founders and investors, we remain optimistic about the Fund’s strategy and expected performance for the following reasons:
Seed funding grew; early-stage funding remains robust
In terms of funding, late and growth stages have been drastically impacted globally, but Arpegio invests at and around the Seed stage, which has actually increased by +11% last month, from the average monthly amount of 2021, according to a study by Crunchbase (see chart below).
Global Funding by Stage Through May 2022
That same study concludes that “early stage funding remains surprisingly robust”.
Essential and resilient food industry
One of the key characteristics of this industry that makes it attractive to investors is its resilience to crises. It’s an essential industry, everywhere. Startups that are applying technology along the food value chain generate efficiencies that tend to lower costs for their clients/consumers and increase demand, as we witnessed during the pandemic.
Latin American founders were made for this
Most of the companies we talk to are founded in Latin America, a region that is known for founders who rely less on external capital than other regions, are more capital efficient and are always keeping their break-even point in view—just in case.
It’s only in recent months that the region has received global attention and billions more in capital than usual; a slow-down like this one may just mean temporarily returning to business-as-usual for LatAm founders.
Short-term circumstances, long-term objectives
It’s important to mention that all portfolio companies that have raised or are are raising a subsequent round, have all done so at a higher valuation than when we invested. Having said that, our portfolio today only has 5 out of the 20 target investments and the 2-year investment period is just beginning for Arpegio’s 10-year fund.
Lower valuations and better terms for investors during the fund’s investment period means better return multiples and IRR when the situation improves in the following years as portfolio companies raise subsequent rounds and begin generating exits for the Fund.
Great founders & portfolio companies
Most importantly, we believe in the founders leading our portfolio companies who are demonstrating a clearheaded and rational approach to the circumstances. In a recent Portfolio Company Survey about the “slow-down”, 100% said they are taking measures to prepare for possible changes in expected growth and fundraising for their companies.
In terms of growth and sales, all founders are Not Worried (50%) or only Slightly Worried (60%). Fundraising however, seems to be more affected with 60% of founders Moderately Worried.
As we mentioned above, all five companies are working to make the food industry more efficient, which can ultimately lower costs for their clients and consumers, and may increase demand for their products and services. In this case, 100% of the companies expect demand to increase or not be impacted.
In terms of the impact to supply, 60% of the companies see a net negative impact, mainly because of inflation.
The measures taken by the companies focus on reducing expenses and investments: 60% plan to reduce team size with only 20% reducing salaries and 50% are reducing projected CAPEX investments.
With fundraising being the main worry for portfolio company founders, the measures mentioned above are all aiming to extended runway, which is currently at 11 months on average, but increasing daily in some cases.
Not all companies are at the same point in time in terms of their current or past rounds, so measures taken to mitigate a negative effect on fundraising vary widely. However, from those who are affected, it’s more common to see responses about raising LESS money than originally planned and/or POSTPONING their rounds until the market improves.
Conclusion
Startup valuations have simply adjusted and seed funding is still growing, globally. An exit in 2027 will have nothing to do with today’s market conditions, except for the fact that up to 75% of our portfolio will come from investments made at these adjusted prices, as we find ourselves at the beginning of the Fund’s investment period.
It’s also important to consider we are investing in a resilient industry, in a region where founders have always been capital efficient and ready to face crises of all types. Our portfolio company founders are displaying these qualities by taking advantage of increasing demand for their services, reducing expenses and investments, and keeping their eyes on runway as they close their current rounds in the coming months.