2022 was a big year for investors piling into mid- to late-stage, high-growth companies via the secondaries market, in many if not most cases acquiring shares from founders and early employees who were looking for an interim or final payout after years of risk-taking and salary sacrifice.
And those who did take cash off the table – say, the patient data engineer, third in the door, who had agreed to EMI shares as compensation for sub-market pay – will now be feeling rather pleased with themselves.
In the middle half of this year, with tumbling valuations, the secondary market – especially for tech – dried up. As is often the case in a bear run, those with liquidity hold their purses tightly, convinced that if only they wait another month, the markets will fall further and there will be a better deal to do.
The consequence for vendors is a double whammy of pricing pressure, and low deal activity.
Founders and employees with shares also held the line, hoping for improved conditions, but as 2021 dragged on it became clear that, barring a few short-lived rallies, there was no prospect of a sharp recovery, and the IPOs which were rain-checked in 2021 were not going to be penciled into 2022.
Accordingly, with vendor expectations dashed, activity has picked up again as the bid/ask spread has shortened, with shares changing hands for discounts of up to 80% versus twelve months earlier, according to the head of market insights at EquityZen, a secondaries marketplace. (Almost nobody is immune: shares in the payment specialist titan Stripe are currently trading at a 30% discount. SpaceX, exceptionally, is trading at a premium of 5-10%, seeming to prove that Elon Musk plays by a different set of rules.)
Those worst hit are, perhaps unsurprisingly, crypto and crypto-adjacent technology businesses. Following a series of scandals there has been a flight to safer tech havens. Business-facing software companies by contrast still command healthy multiples, and other enterprises which can demonstrate conventional SaaS income profiles.
What will 2023 bring?
We can expect to see Middle Eastern sovereign wealth funds, swollen by record oil prices, shopping for big name bargains. It is unlikely that funds of this size will be interested in smaller tickets (anything under $100m is simply not worth the overheads), so early- or earlier-stage startups should not expect HBJ to come knocking. Liquidity at this end of the market will come from VCs and Angels, for whom the secondary market provides a more conservative risk/return profile, whilst preserving sector exposure.
What are the lessons for startups?
Firstly: be patient, and if you cannot be patient, then do not be greedy. Secondly, and more fundamentally: if you cannot demonstrate a means to pivot to profitability, or at least positive EBITDA, you will never be downturn resilient, and all your enterprise represents is a gamble that someone else will be holding the parcel – you having cashed out already – when the music stops.
There will always be a bigger fool out there, but fools are harder to find when there are bears about!
