In the competitive startup landscape, VC expectations are high. When companies can’t meet investor expectations or generate enough revenue to stay operational, they may be forced to shut down.
COVID-19 has only added to the pressures founders face. An April 2020 report from Startup Genome found that 41% of startups globally had only three months or less of cash left, while 74% had to terminate full-time employees.
However, failure in the startup world—while common—isn’t inevitable. There are alternatives to closing shop. One of them is turning to Xenon Partners, a firm that buys struggling startups from founders who need an exit plan. Xenon Partners doesn’t just acquire companies for profit, though; the team invests in every company’s growth, streamlining operations and providing capital injections to get the company back on its feet.
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“What we offer to founders is the ability to drop their keys at the door and go do their next thing,” says Jonathan Siegel, Founding Partner at Xenon Partners.
We had a virtual sit-down with Jonathan to chat about the current startup landscape, the factors that force a company to shut down, and the types of founders who might need Xenon’s help.
Tell us more about Xenon Partners and your investing thesis.
There’s a tremendous amount of innovation in the startup community, but when you’re managing big funds, you need big returns. What that does to the market is it creates a small percentage of extremely big winners, or unicorns. But there are a lot of great companies out there that aren’t unicorns and might never become unicorns. Our goal at Xenon Partners is to provide a home for these companies.
Venture-backed founders are often encouraged to pour fuel on the fire—but this same advice causes massive burn which is only sustainable with follow-on funding. When any number of factors slows their growth and investors are no longer willing to fund their financing needs, these founders often feel trapped. On one hand, they want to repay everyone that believed in them, but on the other hand, they have the practically impossible challenge of turning their final weeks of runway into a grand slam.
The reality is there are few options for these founders except trying to reduce headcount and create a no-burn zombie business or accept a total shutdown. We give them an alternative. We want founders to know there are other options besides shutting down a startup they’ve worked so hard on. Our particular focus in the market is on B2B SaaS companies that have a high margin.
How has the pandemic affected the budding startup market?
We’ve seen certain sectors get hammered—everything from retail and entertainment to travel and hospitality. That said, we’re also seeing a lift in areas like ad tech, online learning, and remote management tools. Thanks to government-sponsored PPP and EIDL loans, there’s probably more low-cost financial aid available for startups right now than any time in recent history. We do think there’s going to be a bigger fallout in the market at some point, but it’s hard to make accurate predictions at this scale.
When do you think a founder should sell their company?
Companies are a lot like relationships. You may be thinking, “This is great. I never want this to end.” But at some point you may have to break it off. There are a lot of reasons why. For starters, you may lose that initial passion. A lot of entrepreneurs are inspired by creativity, by the process of bringing something out of their mind and into the world. That birthing experience is incredibly powerful, but after you do that you have to worry about your office and team and customers and finances. For some founders, the growing pains are too hard to overcome and it can create problems down the road.
You might have hired too fast to sustain your team, or you might have hired too slow and be in over your head. Maybe you have a family to support or maybe Amazon launched a competing business against you. If you’re not managing your balance sheet, you might get to your seventh or eighth year of operating and be forced to look at what you have left in the gas tank, and how many months you can stay operational before you have to make some really hard decisions.
Sometimes, a founder’s core business idea still has value—they just need to go down a different path with it. One of the first companies we acquired was actually from one of the founders of Intercom. They wanted to sell their initial company because they were raising money for something they were more passionate about, which ended up being Intercom.
How does Xenon Partners help the companies it acquires?
We’re there to ease the transition process for everyone involved. Our commitment to companies is that we will continue to employ all of their teammates and we will truly embrace their product. We’ve never shut down a product or done a workforce reduction.
We’re not going to invent the next Facebook, but we’re really good at making sure every customer service inquiry gets answered. We’re really good at following up on every lead and running data-driven experiments. There’s no way we can recreate the culture or the creativity that the teams put into the product we end up working with, but we can operationalize them. Every business has a life cycle of contributors that come in at different stages, and we come in at the later stage to help companies become more effective and sustainable.
How does Carta help with the acquisition process?
Carta makes it really easy for us to get what we need to operate our fund and not get caught in the weeds doing it. We didn’t want to create our own solution, and Carta offers a great default we can use. Plus, a lot of the companies we work with use Carta, and the process of getting historical information on companies is really seamless.
The online tools just make everything easier. Paper certificates used to drive me up the wall, but Carta eliminates the need for those, which is great. It’s also really nice that Carta integrates with other tools. Another benefit is that we have real-time access to data, so when LPs ask us questions, we can direct them to the portal instead of having to share internal documentation.
Ultimately, Carta really delivers on the expectation of a modern tool set that works. Without their solutions, we’d have so much more work. And despite being a very tech-centric company, Carta is really a human partner. They’re patient, they’re approachable, and they’re high-integrity.
To learn more about how Xenon Partners uses Carta, download the case study above.
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