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Experts say this decline will get worse before it gets better. Rodney Altman, managing partner of Wells Fargo Strategic Capital, said that private company valuations usually lag the public market by six to 12 months and as such, this down market won’t truly be felt until 2023.
“We’re telling our companies that access to capital is going to be constrained over time,” Altman said.
Medallion, a licensing, credentialing, and payer enrollment platform company, raised $35 million in a Series C funding round last week. The round came only six months after its $30 million Series B in November, partly in response to the difficult macro environment, said Derek Lo, the company’s CEO. He said this round will allow Medallion to make investments in the business that might be harder if it waits another year because of the down market.
“The down market actually is delayed because there are rounds being announced now that happened before the market recession really started,” Lo said. “So, I think over the coming several months, we're definitely going to see a slowdown in the number of venture deals, valuations are going get pulled down and round sizes will too.”
Jay Zeidman, managing partner at Altitude Ventures, a venture capital firm, expects to see fewer firms throw a ton of money in later-stage funding rounds before a potential initial public offering.
“I think that will start to really dissipate,” Zeidman said. “We're not going to name names, but we’ve read a lot of articles over the last few years [about these companies] because they'd benefit from that conversion from private to public and from the quick price appreciation. That’s clearly going to change. That’s not the world we’re in.”
With more companies vying for a smaller pool of money, investors see opportunity. There is going to be a flight to quality, Lo said. “Investors are going to value fundamentals more,” he said. “What is your real revenue and does that revenue look like it's durable?”
Zeidman said funds that perform the best during down markets have fresh capital to deploy and can take advantage of opportunities. His partner, Landon Gibbs, managing partner at Altitude, said companies that solve vital problems for health systems are the ones that will attract investor attention during this time.
“Must haves, not nice to haves,” Gibbs said. “Investors are looking at the must haves,” the ones poised to address “the top problems for the hospital systems, providers, insurance companies and consumers. The companies that address those top problems will do well.”
Investors say healthcare will fare better than other sectors during the downturn because it’s a recession proof industry. However, both Gibbs and Zeidman say that companies with strong balance sheets and the ability to navigate through extended sales cycles will thrive more than those that don’t.
“We want all of our companies to have capital on the balance sheet through 2023,” he said. “I think it'll be a little while before we know where this is really going.”
This is a sentiment shared by John Ryan, managing partner of Wells Fargo Strategic Capital.
“Over the last few years, there’s been a mentality out there that has been growth at all costs and don't worry about cash burn,” Ryan said. “We're trying to focus our companies on continuing to grow but to do it with profitability and cash preservation in mind.”
Ryan said the market has been bullish for so long that newer entrepreneurs may have a harder time transitioning from a mindset of cash burn to cash preservation. This also applies to expectations on valuations.
“We have some management teams that are coming to us and still expect lofty valuations. They’ll say, ‘Hey this other company got a valuation at 15x revenue, so we should too,’” Ryan said. “And then we have other management teams who understand that the world has changed.”