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Startups and VCs should be preparing for the possibility of stagflation

June 23, 2022, 12:32 PM UTC

The last time stagflation hit the U.S., “startup” was a niche term, VC an obscure cottage industry, and private equity firms managed a collective $2.4 billion. But as a song from that bygone era said, everything old is new again, and so startups may soon confront a challenge that has no direct precedent in the era of venture financing.

Today, 60% of CEOs surveyed by the Conference Board foresee a recession by the end of 2023 and 55% expect inflation to stretch into next year. Some economists think a mix of both could be in the cards. 

“Stagflation—a period of very low growth (usually less than 2%) and high inflation (greater than 2%)—if prolonged, could result in a longer or deeper recession,” the Conference Board said in its mid-2022 outlook. “In our view, a short period of stagflation, either globally or in select major economies, is of greater likelihood than recession over the next year and a half.” 

For startup founders and their investors who may not have lived through what Treasury Secretary Janet Yellen, speaking before Congress, called “that terrible period” which “no one wants to see again,” let’s take a trip in the time machine back to the era of high inflation and sluggish growth in the 70s and early 80s.

To recap, an oil shock caused inflation to reach 12.2% in 1974 in the thick of a recession. After cooling for a few years, inflation rose again in the late 70s, prompting the Fed to dramatically push up interest rates in October 1979. The result: Inflation peaked at 14% the next year, but unemployment rose during another recession, peaking at 9.7% in 1982. 

As for the impact, “terrible” isn’t too far off the mark. Middle-class families applied for food stamps and dined at soup kitchens. For those closer to poverty, new clothes became a luxury and refrigerators were empty. Food co-ops became a thing. Cars idled for hours in endless lines stretching from gas stations. Pension plans (remember those?) were imperiled and nest eggs shrank by the month. 

Many Americans began to question the American dream itself or grew bitter as monthly bills ratcheted upward. And small businesses run by entrepreneurs? Then, as now, small businesses employed half of private-sector workers and created most new jobs. Many were forced to close as larger competitors with higher margins undercut them on prices. Others were pinched, first, by high interest rates, especially those with floating-interest loans. Then, when a credit crunch hit, banks restricted loans to only the stronger companies. 

Data on small businesses was scant back then, but anecdotal evidence suggests the damage from stagflation was significant. “’We have no incentives for growth,” an executive at a small-business association said. “Small business cannot grow in this climate.’” One banker at Wachovia, noting that banking was “not fun,” vowed to remain disciplined: “We’re not going to contribute to bad business decisions,” he told the Times.

As a result, suppliers and distributors shut down, inventories built up, and the ranks of the jobless grew. While the second recession ended in November 1982, the fallout continued for years, with business bankruptcy filings continuing to rise through 1987. 

Of course, there are key differences between small businesses 40-plus years ago and startups of 2022. This was long before software would eat the world, so most small businesses were brick-and-mortar retailers or manufacturers, which face higher startup costs. And instead of today’s robust private-financing market with networks of venture and private equity firms, most small companies relied on debt financing from commercial banks.

So what can this history lesson tell us about how stagflation could affect today’s startups? A report this month from KKR (one of the few private-equity firms founded in the 70s) warned that, should stagflation endure long enough to cause a full-blown earnings recession, the S&P 500, already down 21% from its January peak, could fall another 14% to 3,250. The bear market has already sent shock waves through the startup ecosystem.

“The current backdrop likely means that we should all be dusting off some pages from the 1970s stagflation playbook, an investing game plan that we think includes overweighting pricing power, upfront cash flows, and collateral,” wrote Henry McVey, KKR’s head of global macro and lead author of the report. “It also means not over-leveraging as the volatility around a company’s cost of capital is likely to go up, not down.”

McVey also hinted at something that startups can do to ameliorate the impact of any stagflation: keep boosting productivity. Until now, he says, productivity has acted as a buffer against inflation, thanks to automation and other tech innovations. Should productivity fall off, further inflation would weigh even more heavily on corporate profits.

“In 2023, when base effects start to reduce the overall level of inflation, it is hugely critical that productivity gains, including important advances in innovation, automation, and digitalization, continue to flow through the system,” McVey wrote. In other words, tech startups need to survive stagflation to play a key role in ending it.

And that brings us to one common thread that extends all the way back into the last stagflation era: Entrepreneurs responding to setbacks with a can-do spirit and a determination to move forward. Richard Marshall, the owner of a machine-repair service in Trenton, N.J., said in a 1974 interview that when inflation had left him on “the ragged edge,” he took initiative to find a solution. 

Marshall passed on higher prices to his customers, mostly larger manufacturers, and hired his banker to be his vice president. The biggest factor affecting small businesses, he said, was  “the individual manager’s initiative, imagination and ingenuity, and as for me, I’m going to sell, sell, sell and teach, teach, teach, and I intend to lead my employees safely through any economic situations which may occur.”

Kevin Kelleher
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Jackson Fordyce curated the deals section of today’s newsletter.

VENTURE DEALS

- Electric Hydrogen, a Natick, Mass. and San Carlos, Calif.-based fossil-free hydrogen tech company, raised $198 million in Series B funding. Amazon, Equinor, Rio Tinto, and Honeywell invested in the round. 

- FalconX, a San Francisco-based digital asset platform, raised $150 million in Series D funding. GIC and B Capital led the round and were joined by investors including Thoma Bravo, Wellington Management, Adams Street, and Tiger Global Management

- Alladapt Therapeutics, a San Francisco-based clinical-stage biopharmaceutical company developing prescription therapeutics targeting food allergies, raised $119 million in funding. Enavate Sciences led the round and was joined by investors including Gurnet Point Capital, Allerfund, Novartis, Red Tree Venture Capital, and WestRiver Group.

- Prime Trust, a Las Vegas-based financial infrastructure provider for fintech and digital asset companies, raised $107 million in Series B funding. FIS, Fin Capital, Mercato Partners, Kraken Ventures, Commerce Ventures, William Blair & Company, Decasonic, University Growth Fund, Gaingels, GateCap Ventures, and Seven Peaks Ventures invested in the round. 

- Ledger Investing, a New York-based insurtech startup, raised $75 million in Series B funding. WestCap led the round and was joined by investors including Teachers’ Venture Growth, Intact Ventures, SignalFire, MassMutual Ventures, Allegis Capital, and Accel

- JobGet, a Boston-based mobile app for hourly workers, raised $52 million in Series B funding. JAZZ Venture Partners and Sanabil Investments co-led the round and were joined by investors including Pillar VC and others.

- Appsmith, a Bengaluru, India and San Francisco-based open-source software company, raised $41 million in Series B funding. Insight Partners led the round and was joined by investors including Accel, Canaan, OSS Capital, and other angels. 

- Jackpot, a San Francisco-based online lottery ticket app and platform, raised $35 million in Series A funding. Accomplice and Courtside Ventures co-led the round and were joined by investors including the Kraft Group, Michael Rubin, Haslam Sports Group, Elysian Park Ventures, Arctos Sports Partners, Sapphire Sport, Theo Epstein, Fenway Sports Group President Mike Gordon, DraftKings co-founder and CEO Jason Robins, NBA stars James Harden and Joel Embiid, and other angels. 

- Keyway, a New York-based commercial real estate technology platform, raised $25 million in Series A funding. Camber Creek led the round and was joined by investors including Canvas Ventures, Crosscut, Montage Ventures, Thomvest, and Parker89.  

- Pocus, a San Francisco-based product-led sales platform, raised $23 million in Series A funding. Coatue led the round and was joined by investors including First Round Capital, Box Group, GTM fund, Mantis VC, and other angels. 

- Tapcheck, a Tarzana, Calif.-based earned wage access platform, raised $20 million in Series A funding from PeakSpan Capital

- Gemelli Biotech, a Raleigh-based diagnostics company for gastrointestinal diseases, raised $19 million in Series A funding. Blue Ox Healthcare Partners led the round and was joined by investors including Cedars-Sinai, Carolina Angel Network, CerraCap Ventures, and others.

- Examedi, a Santiago, Chile-based at-home medical services solution, raised $17 million in Series A funding led by General Catalyst

- Magnetic Insight, an Alameda, Calif.-based imaging diagnostics company, raised $17 million in Series B funding. Celesta Capital led the round and was joined by investors including Alumni Ventures Group, Gaingels, 5AM Ventures, and Sand Hill Angels

- Vibe Biotechnology, a Boston-based community of patients, scientists, and partners, raised $12 million in funding. Initialized Capital led the round and was joined by investors including 6th Man Ventures, and other angels. 

- Global Premier Fertility, an Irvine, Calif.-based fertility company, raised $11 million in Series C funding led by Triangle Capital Corporation

- Vamstar, a London-based sourcing and procurement platform for medical supplies and pharmaceuticals, raised $9.5 million in Series A funding. Alpha Intelligence Capital and Dutch Founders Fund and were joined by investors including btov Partners and Antler.

- Aidaly, a Boston-based compensation and financial services provider to family caregivers, raised $8.5 million in funding. Alexis Ohanian's Seven Seven Six led the round and was joined by investors including Lightspeed Venture Partners, Operator Partners, Precursor Ventures, Primetime Partners, Scribble, Shrug, Polymath, TVC, and other angels. 

- 4CRisk.ai, a Redwood City, Calif.-based A.I. solutions provider for risk and compliance companies, raised $8 million in Series A funding. Cloud Apps Capital Partners led the round and was joined by Touchdown Ventures.  

- Enara, a San Mateo, Calif.-based weight management platform, raised $6 million in funding. Offline.VC led the round and was joined by investors including Charge.VC, Crossover.VC, Continuum.VC, VSC Ventures, and other angels. 

- Myria, a Los Angeles-based private marketplace for ultra-high-net-worth individuals and family offices, raised $4.3 million in seed funding. Y Combinator, Backend Capital, Cathexis Ventures, and other angels invested in the round. 

- trumpet, a London-based B2B sales startup, raised £1.6 million ($1.97 million) in a pre-seed funding. Lightbird Ventures led the round and was joined by investors including Triple Point Ventures, Haatch, Anamcara Capital, and other angels. 

PRIVATE EQUITY

- EQT agreed to acquire SPT Labtech, a Melbourn, U.K.-based automated liquid handling, sample preparation, and storage instruments manufacturer and designer, from Battery Ventures. Financial terms were not disclosed. 

- Ara Partners acquired Genera Energy, a Vonore, Tenn.-based non-wood agricultural pulp and molded fiber products provider. Financial terms were not disclosed.  

- Atlantic Southern, backed by Harbor Beach, acquired Black Diamond Paving and Concrete, a Hayward, Calif.-based asphalt paving contractor. Financial terms were not disclosed. 

- Battery Ventures acquired a majority stake in Titian Software, a London-based sample-management software and related services developer for life-sciences laboratories. Financial terms were not disclosed. 

- CORE Industrial Partners acquired GoProto, a San Diego-based custom manufacturing services provider. Financial terms were not disclosed.  

- GlacierPoint, backed by Mill Point, acquired Gillette Creamery, a Gardiner, N.Y.-based ice cream distributor. Financial terms were not disclosed. 

EXITS

- People2.0, a TPG portfolio company, acquired Brookson Group, a Warrington, U.K.-based compliance and services platform for freelancers and their hirers, from The Riverside Company. Financial terms were not disclosed.  

- Rivean Capital acquired a majority stake in Trustteam, a Kortrijk, Belgium-based IT managed services provider, from Ardian. Financial terms were not disclosed. 

OTHER

- Alacrity Solutions Group acquired Property Damage Appraisers, a Fort Worth, Texas-based specialty and auto damage appraisal firm. Financial terms were not disclosed.

- Anaqua agreed to acquire Practice Insight and its time capture software WiseTime, a West Perth, Australia-based timekeeping platform for attorneys, from IPH Limited. Financial terms were not disclosed.

- Axonify acquired Nudge, a Toronto-based employee communication and execution platform. Financial terms were not disclosed. 

- Gtmhub acquired Cliff.ai, a London-based operational intelligence software platform. Financial terms were not disclosed. 

FUNDS + FUNDS OF FUNDS

- Accel, a Palo Alto, Calif.-based venture capital firm, raised $4 billion for a fund focused on seed, Series A, and bootstrapped or lightly-capitalized businesses. 

PEOPLE

- Cambridge Associates, a Boston-based investment firm, hired Pamela Boone as CFO. Formerly, she was with State Street.  

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