The Impact of COVID-19 on the impact investment market
ClearlySo's Institutional Sales Team provide a commentary on the current landscape of the impact investment market in light of COVID-19, with analysis and evidence from the ClearlySo investor network.
It is still early to form an accurate view as to the long-term impact of these recent and unfortunate events, but we wanted to share initial insights we have gleaned from over 2 weeks of direct contact with our institutional investor network.
As witnessed in the aftermath of the last financial crisis, the true impact on Venture Capital and lower/mid-market Private Equity will only likely be felt a number of months post the event.
Funds remain well capitalised in the UK after another record year of fundraising in 2019 (£3.9bn raised in total, including the launch of 29 new standalone VC funds), so the ‘pinch’ on our world will gradually become more apparent over the next year or so – unlike the immediacy of public markets – as LPs tighten their private capital purse strings as a result of increasing internal pressure and/or as a result of the opportunistic re-allocation of financial assets (with many taking the view that public markets are in fact undervalued and therefore capable of delivering PE like returns over the long term).
We have noticed trends and present these for you here along with additional analysis and our evidence supporting what we have seen.
Valuations under severe pressure – investors were unanimous on this front. With 30-40% of value being wiped off the public markets in recent weeks, investors expect an almost parallel reduction in private market valuations. With short/medium term forecasts under severe pressure and a genuine lack of visibility as to when consumer spending will return to the levels associated to pre-COVID-19 (KPMG March forecasts indicate a -2.5% reduction in UK consumer spending in 2020), increasingly cash-conscious entrepreneurs are now waking up to a ruthless buyer’s market (KPMG March forecasts indicate a -11.2% reduction in UK investment in 2020).
Our Evidence: a London based VC quoted a specific example of this, referring to a live transaction for which they recently had to renegotiate HoTs with a prospective portfolio company. Having initially valued the SaaS enterprise at close to a 10x revenue multiple in 1Q20, the investor was now proposing a revised valuation of 6x revenue as a direct consequence of COVID-19.
Minimal (if any) deployment over next 4-8 weeks / Enhanced DD process to buy time as the dust settles – over 90% of the investors I spoke to emphasised that while the official line remains ‘open for business as usual’, it is unlikely that any of these mainstream institutions will be deploying capital over the next 4-8 weeks. The vast majority went as far as to suggest that they would be unlikely to review new deal flow (unless a compelling case and/or a clear match to the fund’s specific criteria) and that pre-existing conversations would likely be prolonged under the pretence of a more detailed/thorough due diligence process. Investors under pressure to deploy capital before a pre-determined and near-term period stated that they will likely progress live deals up to the point of signing (i.e. completing commercial, financial, legal DD, etc.) and will then hold out until there is sufficient evidence of macroeconomic stability.
Our Evidence: +20% of the institutional investor conversations resulted in a recommendation for incoming Base Case Financial Models to reflect a minimum 40-50% discount/haircut to current year revenue forecasts
Digital, Non-Discretionary Demand and the ‘New Societal Norm’ to evolve as VC sector darlings – investors touted digital services as a priority focus for their own origination efforts, as well stressing the need to think proactively as to the systematic changes that COVID-19 will enforce upon society over the medium/long term (increased remote working, the emergence of the ‘digital front door’, digital health to lighten the burden on national health services, etc.).
This, from a Dealroom.co report gives more detail:
Exceptional management teams can shine during these gloomy times – institutional investors tend to be, for the most part, rationale and realistic individuals. I was overwhelmed by the support that investors have offered to existing portfolio companies to date, as well as their understanding that the financial profile of inbound opportunities would likely be a lot more challenging to ‘unpick’/‘normalise’ and, critically, to defend in internal investment committees. That said, almost every single investor referred to a management team’s response to COVID-19 as a key consideration for future investment. Interestingly, this was not restricted to a short term basis – or until the peak of the crisis (whenever it does occur) – but rather seems likely to form a critical part of investor due diligences processes for some time to come (i.e. ‘crisis management materials’).
Our Evidence: one of ClearlySo’s corporate clients has published a weekly COVID-19 response strategy plan and has committed to weekly virtual Board meetings so as to demonstrate the management team’s ability to stay on top of key KPIs and to ensure that it can navigate the company as best as possible through these challenging times
This market analysis and our evidence, despite the overarching uncertainty, makes us confident that institutional investors will continue to review the right opportunities.
This is where ClearlySo plays a critical role. It is now – potentially more so than ever – that we can add real value to both corporates and investors during the capital raise process. As Europe’s leading impact focused investment bank, we are fortunate to benefit from unrivalled access to deal flow. We apply our deep investor insights (as per the above) to drive our origination engine, while our internal team of sector specialists carefully curate and intensively scrutinise the most disruptive, commercial and off-market opportunities on behalf of our investor network.
We know which opportunities are likely to succeed, which investors will be most interested and/or likely to deploy capital, and – critically – how to ensure as smooth, complete and accelerated a process as possible. See the Oddbox £3m March 2020 Fundraise for reference, where ClearlySo secured multiple VC offers for the high-growth sustainable fruit and vegetable delivery service within 12 weeks of launching the marketing campaign.
We think there are a few points worth exploring if you are a high impact business
- Hit the elephant in the room head on. Have a slide in your pitch deck to demonstrate strong leadership, show how you are reacting to the coronavirus and the measures and adjustments you’ve put in place
- Be realistic about your forecasts. Investors will go straight to your base case and then stress test it against extreme market conditions
- Present a longer budget and fundraising plan. Pre-crisis it would be normal to fundraise in 18-24 cycles (12-18 months to grow and hit KPIs and 6 months to fundraise). Now investors will likely want to see stretched budgets over 3 years+. How will you weather the storm, how will you reduce cash burn in the face of lower revenue expectations?
- Target funds that are early in their investment cycle with significant dry powder and a desire to partner across multiple rounds. Evergreen funds and family vehicles can make excellent funding partners given they are less likely to force an exit.
If you would like to discuss your high impact business or your own investment strategy our team is ready to have that conversation. Please contact the Institutional Sales team: InstitutionalTeam@clearlyso.com