NextView Blog: 

Let’s build the future that we want to live in.

Seed-Stage Startups: Beware the “Stickiness Squeeze”

Tom DeVoto
February 18, 2016 · 2  min.

This post originally appeared on Medium and has been reproduced with permission. NextView is also an investor in thredUP.

There’s a lot of negativity out there. From the public markets to the private markets, everyone is feeling valuations and optimism contract. Many will say “it’s going to be another 2009 vintage!” publicly and privately lament “my portfolio is hurting…” Mark Suster over at Upfront has a great deck on this. This surprises nobody. In fact, there’s a glow among the Twitterati that alignment between founders and investors is getting back to normal. Finally!

But what I think is missing from this conversation is that there’s going to be some real pain for awhile because prices are “sticky down.” In other words, while lots of things floated up with increasing frothiness they are going to be harder to drive down quickly the same way valuations and invested capital has collapsed in the last three months. Here are the two most obvious examples:

Wages

Startup salaries — especially on the engineering side — are at near record highs. As startups raised more capital and needed to compete for the best talent, they’ve been forced to give both real equity and pay market rates. See Angel List’s breakout here for current rates. Median rate for a Full-Stack Developer in 2016 in SF is $120,000. In 2009, according to some old Payscale data I dug up, that number was $90,000. Paying current rates is a lot easier to do on a $3 million seed round. It’s very different with a $1 million seed round. Believe me, I raised that $1 million seed round in 2009 and we never would have made it at these prices. This forces companies to be more discplined on the hiring front (and likely much less competitive with bigger companies — see The Information’s great post on this) which will then poentially slow progress towards the key milestones needed to raise a Series A.

Oy vey.

This is going to be painful for those companies forced to operate businesses with cash balances like 2010 and cost structures like 2016.

Rents

Not surprisingly, when the markets decline, landlords don’t come back to companies and offer to lower rents. This will hurt Series A and Series B companies more, as they took office space under capital conditions that were very different than today’s conditions. According to Colton Commercial, a leading broker in San Francisco, current average prices for space in SOMA/FiDi in SF is $70 per square foot. For all of 2015, for all classes, it was $57.75. In 2009, it was $37 in FiDi and below $30 for all of SF. Expect to see a lot of below-market subletting.

These two costs suck up a lot of the money in an early stage company. It’s people and place primarily for the the first year or two and these costs are not going anywhere for awhile.

In softer time, there will be a lot of hard decisions to make for founders with respect to culture and morale, but nothing will impact them more then the stickiness of prices to run their businesses.