Silverhorn: 6 Tips for VC Investing in Asia During a Capital Market Downturn

HONG KONG, July 28, 2022 /PRNewswire/ -- Silverhorn published an article titled "6 Tips for VC Investing in Asia During a Capital Market Downturn". Full text is as follows:

The famous value investor Seth Klarman once stated, "The stock market is the story of cycles and of the human behaviour that is responsible for overreactions in both directions."

This is also true for the venture capital (VC) market. The toppy phase of the current cycle began with SoftBank's USD 100bn Vision Fund in 2017, which introduced an environment with optional due diligence, enormous financing rounds, and deep-pocketed, non-VC investors who emerged as fast, and often easy, money. What kept the party going until now was loose monetary policy and cheap capital. Interest rates are rising globally, and valuations in public equity markets are correcting, particularly for loss-making, VC-backed companies such as Peloton (-91%), Teladoc (-91%), and Uber (-61%), among others.   

Despite differences across geographies, the major VC markets of China, India, and Southeast Asia have similarly benefited from cheap capital and have experienced pockets of frothiness. Asian VC markets are following in the footsteps of the US and a downcycle is already underway.  

How should venture capitalists behave? 

1. Triage your existing portfolio. Don't invest in companies without fully funded business plans. Most VCs today will have portfolio companies that require capital just to meet near-term obligations. With limited capital, fund managers will need to decide which companies to support, and it is better to fund a smaller number of companies that are likely to survive.
2. Access to capital is both a shield and a sword. The most efficient way for portfolio companies to raise money today is through an inside round. Companies that have a cap table with better-funded investors have a magnified advantage today and should consider assertive operational and tactical moves to gain market share at the expense of competitors. When times are buoyant, trade valuation for lead investors with deep, committed pockets.
3. Know the numbers. Vision, opportunity, and the next big thing won't replace an understanding of cash conversion cycles and relationships with trade finance providers. You cannot triage if you do not understand return on invested capital or how to navigate a balance sheet.
4. Don't ignore new investment origination. The opportunity set increases in both size and attractiveness when there is blood in the street like now. Stick to sectors where you have a network and a track record. Consider businesses that cater to the proverbial "last dollar spent" and consumer-facing companies that provide necessities.
5. Go back to basics with business models. Managers are well-advised to take a clear-eyed approach to negative-return projects and initiatives, which is especially relevant for businesses with high customer acquisition costs.
6. Prepare to streamline. Be a partner to your CEOs; be in the room to take the blame when your CEO fires his old mates. This is where you earn your 2 and 20.

In the current environment, the best partners will add value not visible on social media posts. In recent years, the most vexing portfolio management decisions revolved around high class problems like whether to settle for a clean 2x exit to a trade buyer or ride a potential 5x or 10x "to the moon". Today, VCs will need to make tough decisions about which cash-starved companies deserve the opportunity to generate the fund's stated return target – with even the most supportive of LPs likely second-guessing you.

Authored by
Bert Kwan, Head of Private Equity, Silverhorn
Roger Prinz, CIO, Silverhorn