How Can Hardware Startups Adapt to The 'New Normal' Era, After COVID-19 ?

As optimistic as it sounds, current VC trends in the US bring light to a crisis that appear to be shorter and less dark than expected back in April — at least for early stage startups. It might be still too early to come up with final conclusions, but a recent survey in the US with VCs point to startup's recovery on the rise, as companies who managed to adapt quickly to customer's needs in the ‘new normal’ era are already back to business (almost) as usual.

Start-Ups Braced for the Worst. The Worst Never Came.

2015/2016 x 2020: perception and maturity stage

Working alongside our portfolio of hardware startups and monitoring the investment scenario's challenges for Q3 2020, a quick look into the VC landscape in the last 5 months helps to clarify how the current global crisis has impacted startup investments since travel bans and lockdowns were announced in March.

The advantage for hardware companies is that they had been impacted by the pandemic earlier in 2020, as lockdowns in China during Lunar New Year disrupted their Supply Chain and gave these hardware startup teams a competitive advantage on planning for the worst case scenario, which ended up not becoming a reality (yet!).

According to a new survey on VCs x COVID-19 shared by Kauffman Fellows Research Center in collaboration with Harvard Business School, the Stanford Graduate School of Business, and the University of Chicago Booth School of Business, members and alumni of +1,000 institutional and corporate VCs from +900 VC firms have shared how their firm's decisions and investments have been affected by COVID-19. The overview brings less negative impacts than previously predicted by most investment community.

Once the pandemic became a global business concern, VCs started to recap lessons from 2008 crisis and acted as hands-on partners in order to avoid similar results, which might have been beneficial for their portfolio companies and, at the same time, respond to their fiduciary obligations towards their Fund’s LPs.

In unreported analysis, respondents to the same survey in both 2015/2016 and 2020 reflect the significant decrease in the frequency of participation, redemption, full-ratchet antidilution, and high liquidation preferences, making clear a new maturity stage, where investors are more cautious but more tolerant to risks than before.

• 45% of respondents stated that they used redemption rights
• 27% said they used cumulative dividends.
• some made use of full ratchet anti-dilution and senior liquidation preferences, but lower than in the earlier survey from 2015/2016.

Source: Venture Capitalists and COVID-19* survey compared to 2015/2016 survey.

So what else has changed in the VC community in 2020? Perceptions.

1. VCs report that the majority (52%) of their companies are positively affected or unaffected by the pandemic, 38% are negatively affected, and only 10% are severely negatively affected.
2. VCs have slowed their investment pace (71% of normal) and expect to invest at 81% of their normal pace over the coming year 2020/2021.
3. VCs expect the pandemic to have a small negative effect on their fund IRRs (-1.6%) and MOICs (-0.07)
4. Most VCs are devoting more time to their existing portfolio companies, managing the VC firm, and meeting LPs since 2015/2016.

Source: Kauffman Fellows Research Center

Similar trends found on PwC CB Insights MoneyTree™ Report Q2 2020:

• VC deals to US-based, VC-backed companies see quarterly increase but are down 18% YoY in Q2’20

So How Can Hardware Startups Adapt To The New Normal Era?

Successful hardware startups able to achieve growth during the pandemic included active and regular commitments between founders and key stakeholders, like investors, both for hardware specialized firms and agnostic VCs. Hardware-IoT focused VCs seem to have kept their deal flow with low new deals, while the agnostic larger funds lead the list of Q2 most active early stage investors. (see chart below)

Source: PwC CB Insights MoneyTree™ Report Q2 2020

Reasons why hardware startups can overcome the challenges during the pandemic:

Impacts on manufacturers included basic services from healthcare to food industries. Source: Iterate Labs

1. New customer needs require physical solutions: a.k.a. social distancing and contact tracing. Lean startup teams are ready to test and implement complementary solutions to help tackle new industrial problems after safety and health concerns raised to high levels.
2. Decentralized Resources: from remote teams to prototyping and manufacturing, decentralized operations are connected to physical spots. That's usually the main advantage IoT/ hardware startups might bring, with pilots already developed after constant rounds of iterations. While many offices had to shutdown, companies had to figure out how to continue running their business from a new or temporary location, or even substitute suppliers in their global Supply Chain.
3. Reducing costs: optimizing headcount, reducing fixed costs as office rentals and utilities, minimizing operational costs from Sales to Marketing, back to basics to stretch their runaway.
4. Bridge rounds: after achieving both itens above and proving to be flexible according to new market demands, reprioritizing milestones is a key factor to help secure a bridge round from current investors.
5. Partnering with other startups: as customer's new priorities might have shifted thanks to the pandemic, some companies could partner with each other to leverage both side's in a win-win solution targeting a specific market.
6. Massive government grants/loans: PPPs, EIDLs and widespread local government support. A short-term but well received during hard times.

Ultra-Wideband Technology

Honourable mention

Meanwhile, some failures have also been in place. NYC-based Hardware Startup Voodoo Manufacturing just announced they’re closing down their business, after PPE emergencial initiatives during the lockdown. Not much can be found online but a brief farewell Newsletter shared by Voodoo’s Customer Relations Manager on LinkedIn. Read more here

If you're part of Voodoo Manufacturing team and are looking for a new challenge, reach out to us: our portfolio startups usually need someone with your profile.

Interested to learn more about Hardware Startup Trends? Join our Monozukuri community here!

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