In the first week of March, American venture capital firm Sequoia Capital issued a memo to its portfolio companies around the world calling the novel coronavirus outbreak “the black swan of 2020.” The almost half-century-old Silicon Valley firm warned the startup founders about the challenges they might face going forward and asked them to question every assumption they have about their business.

That very week, things were taking the turn for worse in India. After a month of limiting the official number of COVID-19 cases to three, India saw an alarming spike in such cases. And, with that, the venture capital firms in the world’s third-largest startup ecosystem, scrambled to take stock of the situation.

Over the next few weeks, as the gravity of the situation sunk in, investors made frantic calls to their portfolio companies to assess the impact of the outbreak and told the founders to brace themselves for the inevitable blow.

As India enforced a nation-wide lockdown to prevent the COVID-19 spread on March 24, VCs’ worst fear came true and the majority of the startups saw their business come to a screeching halt.

“There is a full collateral impact. Almost every company in our portfolio has been impacted. The situation is similar everywhere,” Arpit Agarwal, principal at Blume Ventures, told KrASIA.

The majority of the sectors including travel, mobility, e-commerce, retail, and lending, among others, have been gravely hit. Although, on the flip side, there have been a few beneficiaries of the situation. With millions of Indians grounded, the startups dealing with essential services like groceries, food, and medicines, as well as those offering digital services like educational courses and entertainment content are seeing a rapid spike in demand. But these companies are far and few between.

To survive through the crisis, affected startups are now focusing on conserving cash.

While some of them are renegotiating vendor contracts, cutting down operational and marketing expenses as well as fixed costs in rent, others such as social commerce startup Meesho, online insurance firm Acko, and mobility company Bounce have had to resort to mass layoffs, slash salaries, and put a hiatus on fresh hiring.

According to Abheek Anand, managing partner at Sequoia Capital, the most important thing right now for startups is to have enough cash runway to survive, “at least for 12 months if not longer.”

In case they still don’t create enough cash runway to survive, these startups will have only two choices: either raise money or shutter down their business.

Broken promises

The funding activity has also nosedived over the past one month, with many investors walking away from the agreed upon term sheets, according to the industry veterans KrASIA spoke to.

“There has been a fairly big wave of a drop of term sheets and investment rounds. Most deals have been postponed. Some of these companies that needed money immediately might have runway issues,” Pranav Pai, managing partner, 3One4 Capital told KrASIA.

Ashish Taneja, partner at New-Delhi-based early-stage VC firm GrowX Ventures said those who are deferring investments are mostly venture capital arms of large corporates as well as overseas VC firms who have been trying to build an India presence. As “most of the corporates have been hit due to the crisis and are re-prioritizing their balance sheets” and overseas investors are now focused on their home markets, they do not have access to capital as before.

“But if you look at VCs who have been here for a while and are investing from their second, third or fourth fund, they are making sure that they support the founders,” Taneja said.

The VCs KrASIA spoke to said the conversations around investments are still going on but even if the funding happens, not only the cheque sizes would be smaller, valuation would also be lesser than what it would have been if we were not staring at a global healthcare crisis.

Blume’s Agarwal said the fund would be a little slower in investing in companies, “not only because we have to conserve cash for existing portfolios, but also because we would be evaluating companies on a tougher scale given the macro situation.”

According to Pai, although they are evaluating some new deals, they will only invest from the reserves they manage currently. “It’s a bad situation for the market and everyone is hurt, so we don’t want to request capital from our investors unless necessary,” he said.

VCs are thus gearing up for challenging times ahead as they look to keep a fine balance between supporting their portfolio companies running out of cash reserves, making new investments, and raising funds from their investors.

“Because of what portfolio companies are facing, the VC business is going to be tougher going forward,” Agarwal said. “If anyone is looking to raise money to create a new fund or even for portfolio companies, they will find it tougher. Even if they are able to raise money, the timelines will be stretched.”

Earlier this year, Blume Ventures closed its “opportunity fund” at USD 41 million which it will use to invest in their existing portfolio companies that have shown healthy performance.

Stronger together

Since the last five weeks, Blume Ventures has been having regular conversations with their founders to figure out a way around to survive the pandemic. According to Agarwal, Blume is working with startups at three levels.

“At the basic level, it is about the cash flow—where we are looking at how they are able to conserve more cash, because given the situation it may be harder to raise more money,” he said.

“At the second level,” he said, “founders want to understand what all tools are available at their disposal because many of them are facing crisis for the first time.”

Blume has thus arranged multiple calls within its portfolio companies as well as with senior industry people like Aditya Ghosh, Sameer Nigam, and Hitesh Oberoi, asking them questions about how did they deal with past crises in their lives, how they recovered, and basis that what is their advice to young founders.

“The third level is emotional. These are extreme times, and a lot of these founders are extremely uncertain about their future,” he added. “At this point, we are trying to help them with personal mentoring and coaching in addition to arranging mindfulness workshops for them.”

Sequoia Capital’s Anand said the fund is ensuring people from its portfolio companies are doing okay. “We are helping them with anything strategic–whether it is a new initiative or how to reduce cost and manage cash runway, or navigating government grants,” Anand said.

However, cash flow isn’t an easy problem to solve, and the lack of it can bring the companies to the verge of bankruptcy.

“With a crisis like this on your head, you rethink your strategy to engage with users. Then you start building service lines around that and discover alternate ways of generating revenues,” Taneja from GrowX Ventures said. While it may not entail revenue on day one, Taneja said, as you move forward, the alternate revenue would eventually kick in, and that would de-risk your balance sheet.

“There is some respite from the government like it has expanded the moratorium on loans, asked landlords to not collect rent for a couple of months, which is very relevant,” said Agarwal. “But I do not think there is an easy way to solve the cash flow problem apart from reducing cost because we will be under stress for some time and we don’t know for how long.”

The action-bound growth-stage segment

According to investors, the mid and late-stage companies would be most severely impacted.

“The mid-stage startups usually go all out to get a larger share of the market,” said Taneja. “These companies raise a significant amount of capital, but their burn is also very significant. So a lot of these companies have less than 12 months of runway.”

Pai from 3One4 Capital said since mid and late-stage companies operate on a negative cash flow, they have been looking to raise somewhere between USD 100 to 200 million. But it would be difficult to raise that kind of money at their previous valuation.

Given the situation, he said, “many of them may have to make a difficult choice and raise money at a lower valuation, raise less cash, postpone the raise, or change the business to become profitable earlier.”

“It is hard to change immediately, so it’s a tough choice,” he said.

Some of these mid-stage startups are sitting on physical assets such as fitness startup Curefit or online furniture retailers Homelane, UrbanLadder, and Pepperfry. At a time when they are going through an almost zero-revenue period, they will be forced to burn money on rental or maintenance cost which will eat into their runway.

“They will do all these conservation strategies–taking headcount down, looking at other sources of revenues, combining forces, and acquiring fewer assets,” Taneja said.

VCs expect to see a lot of mergers and acquisitions to happen at cheaper valuations in growth-stage companies. “There may be a wave of acquisition and consolidation along with shutdowns—because not all companies can get acquired,” said Pai.

While there are some startups that are sitting on money, having recently raised rounds, looking to acquire valuable assets, Pai added, they won’t be as generous as they would have been last year and there will be a correction of valuation on the acquirers’ end.

Sequoia’s Anand said smaller companies may be in a better position to fair the current storm. “Young companies are very nimble, they can change things around and have low-cost structures, and thus have the ability to deal with the situation better than the large companies do,” he said. “In some of the larger companies, fixed costs are high, burn rates are high, they are going to be most adversely impacted.”