A decade ago, startups could do no wrong. Fueled by easy money and irrational exuberance, venture capital flooded into tech companies pursuing growth at all costs. Stars were born overnight with multi-billion dollar valuations despite little revenue.
Terms like "blitzscaling" and "growth hacking" entered the lexicon as each startup tried to become the next Facebook or Airbnb. Their mantra was "growth over profits" and for a glorious moment, the good times rolled.
That startup heyday - what I have dubbed the "hype era" - came to an abrupt and painful end in 2022. As rising interest rates made capital more expensive, investors lost their appetite for money-losing moonshots.
According to Erin Griffith at The New York Times, $27.2 billion dollars in VC funding had gone into the 3,200 venture-backed companies that went out of business in the first 11 months of 2023. That number was based on data from PitchBook which they put together for The New York Times and they said that the data was not comprehensive and probably undercounts the total because a lot of companies go out of business quietly – without any big announcement.
In Indonesia, startup giants like JD.ID, HappyFresh, and Fabelio that once valued at millions of dollars have stumbled and fall. The ones that survived laid off thousands of employees along 2022 and 2023. More layoffs are still expected in 2024.
The startup world has since undergone a drastic correction, with over 3,000 failures and 250,000 laid off workers. The boom went bust in epic fashion.
The Shift in Economic Landscape
The seeds of the startup world's unraveling were sown even before the pandemic. A decade of easy money policies had flooded the tech industry with capital, priming founders to prioritize growth above all else.
As interest rates plummeted to near zero in the 2010s, investors grew hungry for riskier, high-growth bets since even small returns were worthwhile when money was so cheap.
Then COVID-19 hit, further distorting the economy in ways that ultimately popped the startup bubble. Global supply chains seized up while fiscal stimulus and shifts in consumer spending stoked demand, driving inflation to its highest level in 40 years.
Energy and food prices spiked after Russia invaded Ukraine. With inflation raging at 9% in 2022, the Fed embarked on an aggressive tightening cycle, raising rates faster than any time since the 1980s.
By early 2024, the interest rate has reached 5.5%. A study conducted by the European Financial Management Association in 2017 reported a 1% increase in interest rates reduced venture capital fundraising (the ability for VC funds to attract capital from investors) by 3.2%.
To put that into perspective, the nearly $330 billion in capital raised by VCs in 2021 would have been about $10.5 billion lower if interest rates had risen just 1% last year.
As the era of free money drew to a close, tech companies were caught flat-footed. Growth-obsessed startups that had bloated their valuations by burning through cash suddenly found their business models untenable in the new regime of higher rates.
Venture funding dried up as skeptical investors began asking harder questions about profitability. Over 3,000 startups failed in 2022 while titans like Meta and Amazon saw billions wiped from their market caps.
The correction has been swift and severe, amounting to what IVP's Tom Loverro call a "mass extinction event". Not only have founders and investors lost billions, but hundreds of thousands of workers have suffered layoffs.
Commercial real estate prices in tech hubs like San Francisco have tumbled. And society is left questioning the excesses of an industry that once seemed unstoppable.
The fallout has made one thing clear: the startup hype era is over. A decade defined by free-spending unicorns pursuing growth at all costs has come to a grinding halt.
Chastened by 2022's failures, the tech industry must now adapt to a new age of higher rates, skeptical investors, and a focus on profits over growth. The roaring twenties of startups have given way to a severe hangover. What emerges next remains to be seen.
The Immediate Aftermath
As the startup world sifts through the wreckage of 2022, a few green shoots have emerged to offer some respite from the carnage. Chief among them is the breakout moment for artificial intelligence (AI), with chatbots like ChatGPT captivating consumers and investors alike.
As other emerging technologies have faltered, AI has become the darling of both venture capital and public markets. This has thrown struggling startups a much-needed lifeline - if they can pivot to incorporating AI, renewed funding and attention awaits.
Meta exemplifies this desperation to tap into AI hype. Despite hemorrhaging billions on its flailing metaverse ambitions, the company has seen its stock soar nearly 180% due to heavy investment in AI.
Other startups are sure to follow Meta's lead in funneling resources into AI and machine learning systems in hopes of restoring the growth trajectories that defined the previous decade. Suddenly every SaaS platform has an AI chabot embedded somewhere.
However, most startups lack the deep pockets to fund moonshot technologies while papering over core business issues. A more existential shift must take place if startups are to survive the new era of higher interest rates and cautious investors - a transition to focus relentlessly on profitability.
The growth-above-all mantra that powered the hype era will give way to more measured expansion based on demonstrated customer traction and revenue.
For most startups today, that translate to huge cuts. Over 250,000 tech workers have endured layoffs as companies look to trim costs across the board. Hiring freezes, slashed marketing budgets, and slowed expansion are the norm.
Many firms have backtracked on offices leases as remote work endures post-COVID, yielding savings on real estate. Entire projects and business lines face the axe as well so long as they are deemed non-essential.
These painful belt-tightening measures aim to push startups toward profitability after years of bleeding cash. The companies that emerge strongest will likely be those that took advantage of easy capital pre-2022 to cement business fundamentals rather than pursuing growth for growth's sake.
Last year, Uber’s CEO sent out an email to employees telling them that they are going to try to make money going forward. He said, “We have to make sure our unit economics work before we go big.”
He says that Uber will now focus on achieving profitability on a free cash flow basis rather than adjusted earnings before interest, taxes, depreciation, and amortization. “It’s clear that the market is experiencing a seismic shift, and we need to react accordingly.”
Once stabilized on a path to sustainability, today's lean startups can carefully expand again, provided they avoid past excesses.
For founders and investors, this period will separate winners from losers. Opportunists chasing the latest AI hype may capture more funding, but likely lack viable underlying economics.
Instead, the startups poised to thrive are those fine-tuning profitable operations now to flourish as the fiscal climate improves later. Though the hype era has died, disciplined startups focused on the fundamentals still stand to build dominant companies - albeit more slowly and methodically than the bubble era allowed.
The hangover will pass, but startups must first sober up.
The Future of Startups: Long-term Effects on the Ecosystem
The spectacular fizzling of the hype era may instigate a temporary maturing of the startup ecosystem - but history cautions against expecting a permanent shift.
We've seen times of irrationality give way to renewed pragmatic focus before, only for collective memory to fade and the same growth delusions to recur when a new shiny object like AI comes along.
Perhaps the post-2022 reckoning results in a cultural sea change towards longevity over land grabs. But skepticism creeps in that the innate human attraction to hype and overnight riches can be perpetually resisted.
The current back-to-basics mantra may evolve into tomorrow's baseless billion-dollar valuations if investors get restless chasing slower, sustainable returns.
Venture capital in particular seems prone to amnesia, with new generations repeating the bubble cycles of their predecessors. And for startups selling dreams over economics, the temptations of hype-fueled growth persist despite recent failures.
So while the current period of recovery nurtures stronger startups, we've seen disciplined execution give way to irrational exuberance often enough to doubt the permanence of such level-headedness. The excess and hubris of the roaring twenties may yet return when memories fade and fear of failure lessens.
Of course, the adaptable startups prepared for booms and busts stand to weather any storm. But predicting a lasting maturity to replace hype seems a risky bet in such a cyclic ecosystem. If the past is any guide, irrationality finds a way to creep back in.