From spinouts to fundraising to M&A, founders need transparent deal terms

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With down rounds looming, startup founders have a lot less dealmaking leverage than they did in 2021. If new to the fundraising game, the changing market will require an accelerated class on less-favorable term sheet provisions like liquidation preferences. The information may have been forgotten during the last cycle, but at least it’s available, which is less the case for university spinouts and M&As. Let’s dive in. — Anna

Investor protections are back

When it comes to startup fundraising, there’s a lot more open discussion these days around deal terms than there was 10 years ago. But with founders only getting a few coin tosses in their lives, compared to the multiple deals that VCs and lawyers get to see, it is as important as ever for entrepreneurs to understand what they are signing onto.

“Deal terms look different in a downturn,” my colleague Rebecca Szkutak wrote. The lawyers she talked to predicted that certain clauses meant to protect investors are going to make a return — which also echoes what we are hearing through the grapevine. Among the provisions to watch out for are liquidation preferences, pay-to-play, and antidilution protections, including the dreaded full ratchet.

Retail investors or guinea pigs?

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There is a paradox when it comes to retail investors: Many startup-related deals are out of their reach (in part for their own sake). Yet, laypeople have also become the target of novel schemes hoping to attract their bets and savings. Are nonprofessional investors assuming more risk than they should? Let’s explore. — Anna

Opium for the masses

I am by no means a stock exchange expert. But while writing on cannabis and psychedelics startups for TechCrunch lately, I discovered that some young companies in these verticals are listing on trading markets that I had never heard of. I mean, I had heard of “pink sheets” — in “The Wolf of Wall Street.” I just didn’t think that over-the-counter securities were something startups would ever use. It looks like needing money for drugs makes you creative!

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I have nothing against innovation, even when it comes to fundraising. But the fact that listed cannabis companies — many of which went public with nascent revenues more reminiscent of startup metrics than mature-company results — have seen their market caps crash is likely no coincidence. And when we consider the period of hype surrounding their public debuts, it’s difficult to not wonder how many retail traders got burned.

We’re not merely discussing the most obscure exchanges, either. Cannabis companies listed on the Nasdaq, such as Akanda and Tilray, have also seen their value plummet.

My perception that we’re seeing a new crop of companies, those focused on psychedelics, follow in the footsteps of cannabis companies is not mere speculation. “There is an unwarranted rush from founders to list their cannabis and psychedelics companies on stock exchanges,” VC Bek Muslimov told me.

Muslimov is a co-founding partner at specialized investment firm Leafy Tunnel, and he sees a danger in rushed listings. “In this pursuit, founders and management teams bypass private financing markets which consist of professional and diligent investors such as VCs or growth capital funds,” he told me in an email.

The problem here isn’t that private investors lose out on juicy opportunities. The problem is that they would have declined to invest in the first place. Not because they don’t invest in cannabis — few do. But Leafy Tunnel is one of them, meaning that its viewpoint here matters.

What Muslimov objects to is seeing cannabis and psychedelics companies going public when they would not have passed venture capitalists’ criteria to get funded. “Unfortunately, this can lead to a situation where companies with poor business fundamentals and insufficient level of maturity are listed, allowing them to tap into funds of retail investors.”

25 French unicorns, 25 French unicorns, do I hear 100?

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My home country’s president, Emmanuel Macron, wants to have 100 French unicorns by 2030. Economy minister Bruno Le Maire, 10 homegrown decacorns. But shouldn’t we all dream of centaurs instead? Let’s explore.  —Anna

Moderation brewing

There must be 100 French unicorns by 2030, Macron said at the VivaTech conference in Paris earlier this month. “It is achievable,” he later argued on Twitter. “And because startups have a role to play in the ecological transition, let’s set another goal: 25 green unicorns by 2030!”

It isn’t new for Macron to set unicorn-related goals for the country. He famously already did so in 2019, when he wished for the country to count “25 unicorns by 2025.” And despite some debate around France’s exact unicorn tally, the consensus is that Macron’s goal has actually been reached this year.

French economic newspaper “La Tribune” did the math: For France to be home to 100 unicorns by 2030, it will need to add nine or 10 unicorns a year. According to the newspaper, this makes Macron’s goal “quite realistic, or even unambitious.” Why? Because in 2021, “La French Tech” “generated 11 new unicorns, which is more than the pace predicted by the President’s forecast for the next eight years.” However, that would still be a lot faster than in 2019 or 2020.

Speed aside, France’s goal doesn’t seem terribly aspiring when put into a global perspective. India, for instance, recently crowned its 100th unicorn, Bengaluru-headquartered neobank Open. Sure, France has a population of only 67.39 million, compared to more than 1.38 billion in India. But it’s not just about population size. For France to be on par with the U.S. in terms of unicorns per capita, it should already have 130, BlaBlaCar founder Frédéric Mazzella told Les Échos in an interview.

However, the market has turned on startups in recent months, which doesn’t exactly support overly ambitious goals. France minted a bunch of unicorns in January of this year, but those deals were presumably born out of late 2021 dealmaking, when capital flowed more freely. That euphoria is long gone, and young unicorns are becoming a rare animal once again.

Furthermore, aside from Deezer’s SPAC plans, IPOs seem to be paused in France as much as they are in the U.S. That means that French unicorns are likely to stay private longer, keeping their number artificially high. And with the inertia of them having already raised mega-rounds and needing more cash, those who don’t see their valuations slashed will perhaps become pentacorns or even decacorns.

The rise of API-first companies, in fintech and beyond

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API-first companies aren’t a new thing, but I have been paying more attention to them since TechCrunch Disrupt 2021, where I moderated a panel conversation with Plaid CTO Jean-Denis Greze. Plaid is a fintech company, yes, but it’s not just in fintech that API solutions are on the rise — and helping solve a great range of problems. — Anna

Tracking API-first companies

I was going to take a stab at defining API-first startups, when I noticed that Alex already had. And since it’s no easy feat, I’m going to keep the same scope: What I am talking about today is “any startup that either delivers its main value proposition via an API — Twilio, say — or is built to use APIs to facilitate a particular data transference — AgentSync, etc.”

The definition above comes from a post on the index of API-first companies launched by GGV Capital, a multistage VC firm whose areas of interest include “finding the most promising developer-first software companies commercializing APIs.”

GGV’s thesis on API-led startups already led the firm to back Authing, Pinwheel, Mindee, Stream and Agora, the latter of which went public in 2020. And outside of GGV’s portfolio, API-focused Auth0 was acquired by Okta for a whopping $6.5 billion, giving the firm yet another reason to track other private companies using a similar approach.

GGV’s index leaves exited companies aside and ranks the 50 API-led private companies that have raised the most funding. For lack of an IPO, Stripe tops the list, while AI/ML startup Deepgram is the last one to make the cut, having raised some $56 million in funding to date. In total, GGV says, API-first companies in its index have raised $12 billion in funding, including $5 billion in 2021 alone.

Beyond fintech

About 40% of GGV’s API-First Index consists of fintech companies. That’s a lot, but it also shows that there’s room for developer-first companies in other spaces. The promise of API companies, GGV wrote, is to “fundamentally simplify software development” — and there’s no reason why this would be limited to banking or payment solutions.

You could also argue that fintech was very emblematic of the first wave of API companies, paving the way for a more diverse range of API-led startups. For instance, former Plaid employees launched Stytch, an API-first passwordless authentication platform that raised a $90 million Series B round last November.

“I get why a16z says that every company is a fintech company, but I think that there are other areas that need our attention,” Jorge Madrigal told TechCrunch. He and his co-founder Alex Hernandez are building Vivanta, an API-first company centered on health data.

Why some startups don’t want to be called that

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When does a startup stop being a startup? It’s a tougher question than it seems — tech companies have found that there’s power in words. Let’s explore! — Anna

Startup versus scaleup

“We’re not a startup, we’re a scaleup,” marketing executive Cristina Marcos told me of her employer, interactive content creation platform Genially. This was actually one of the first things she said when we met in person earlier this week, and her emphasis really caught my attention.

On the one hand, it seems reasonable to say that a company like Genially, which has millions of users and raised more than $26 million in funding, is no longer a startup. On the other, “startup” is such a buzzword that it is interesting to see companies steering away from it.

That “scaleup” is Genially’s preferred term over “startup” is noteworthy. Joe Haslam, a professor at IE Business School in Madrid, has been arguing for almost a decade that “scaleup is the new startup.” But even he concedes that the “scaleup” term didn’t take off as much as he expected.

For mental health startups, happiness is in niches

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Last April, Alex and I reported CB Insights data showing that venture investment into mental health startups had dropped sharply in Q1 2022 compared to the preceding quarter. But in the last couple of weeks, I have heard about several venture-backed deals into the subsector of health tech. They got me curious: In which areas of mental health are VC firms still willing to invest? Let’s explore. — Anna

Mood swings

The more the pandemic seemed to subside, the less venture capital investors seemed willing to commit to companies and sectors that had initially benefited from strong tailwinds when most of the world started staying at home. On public markets, the pandemic trade is over, with former darlings like Peloton and Zoom experiencing whiplash. Similarly, we saw a net decline in private investment into telehealth and mental health startups.

Market corrections after a period of hype are part of the investing game. But it would be hard to argue that mental health needs have decreased. According to the World Health Organization, incidents of anxiety and depression increased by 25% in the first year of COVID-19. Just because we are now hopefully leaving the worst of the pandemic behind us doesn’t mean everyone is suddenly feeling better — which is why a few recent funding rounds in the mental health space raised my attention.

Of course, a few mental health–related deals are anecdata. And since we are talking mostly about early-stage deals, this doesn’t mean that the investment decline has been reversed. In aggregate, we will only have more clarity once Q2 numbers are available. But what’s interesting is that these startups hint at some novel approaches to mental health in which VCs are still willing to invest. Or, dare I say, show us where their mind is at.

No longer underserved?

VCs might have no headspace left for the next Headspace. The broad-ranging mental health-focused platform and its most direct competitor, Calm, seem to have captured most of the mainstream market for bite-sized mindfulness. But there are still gaps in the mental health market to address — at least, some startups think so.

Cannabis, sex tech and psychedelics startups deserve more than stigma

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Cannabis, sex tech and psychedelics are often lumped together under the “vice” category — a characterization that prevents many VCs from investing in these spaces. But does that make sense? Let’s explore. — Anna

It’s (not) a sin

Isn’t cannabis actually similar to coffee, wine and spirits? That’s the argument Emily Paxhia made on a Twitter Space hosted by TechCrunch+ earlier this week to discuss our latest U.S. cannabis investor survey.

A managing director at cannabis-focused hedge fund Poseidon Asset Management, Paxhia argued that marijuana-derived products have a lot more to do with wellness than with the “sin” category they often fall under.

“Sin clause” and “vice clause” are terms that venture capitalists use to refer to their inability to invest in certain business categories, from porn and gambling to alcohol and tobacco. When I explored fundraising strategies for sex tech startups earlier this year, I found out that this veto typically comes from the fund’s limited partners, or LPs.

It is understandable why investors wouldn’t want to put their money in certain types of businesses, let alone be known for doing so. But there’s a fine line between moral stances and stigma.

“I don’t identify with the word ‘vice’ at all,” Andrea Barrica told me. Barrica is the founder of O.School, which she describes as a media platform for sexual wellness. “Wellness” is a popular term in both the sex tech and cannabis industries — because it makes them more palatable, sure, but also because it truly reflects the impact that entrepreneurs are hoping to have.

It is worth keeping in mind that cannabis isn’t just about providing a recreational high. In Europe, we heard from investors, it is medical cannabis that has most of the momentum. It is the perspective of health benefits that drives many entrepreneurs, who deserve better than cheap laughs.

Similarly, a deep dive into psychedelics taught me that this is about much more than drugs and fun. With investors sometimes getting into this space after personal journeys with depression or burnout, and founders hoping to make a dent on the global mental health crisis, easy jokes quickly feel out of place.

Missing out

The vice clause applies only to certain types of investors, which is also problematic. The fund that is handling your pension might pass on cannabis investments, but many family offices aren’t. This means that returns from these potentially lucrative bets will be concentrated in the hands of the already-wealthy.

Some fund managers are also investing as individuals, Paxhia said — and it’s them who will get the upside. Meanwhile, fiduciaries are missing out on the returns and the impact they could have, for arbitrary reasons. After all, what’s legal is not always moral, and vice versa.

The most glaring paradox is that the tobacco, nicotine and alcohol industries are actually keeping close tabs on cannabis and whether consumption might shift. Would the shift be a net negative for society? Perhaps not. As for psychedelics, there’s research ongoing to use nonhallucinogenic derivatives to treat opioid addiction. With overdose deaths involving fentanyl and methamphetamine surging in the U.S., is this vice? I don’t think so. Do you?

Europe’s deep tech depends on university spinouts

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Deep tech has become a hot topic in Europe, with hopes that the region can have an edge over the rest of the world for innovation rooted in fundamental research. One of the key arguments: European countries have great universities and talent. But how can academic talent translate into startups? Let’s dive in. — Anna

Universities, a deep tech cauldron

“From startups to universities, we join forces to make Europe a world leader in the new wave of deep tech innovation!” European commissioner Mariya Gabriel tweeted earlier this week after her talk at the Summit in Brussels. As I noticed while attending the event, she was far from the only one to mention this topic enthusiastically.

That deep tech raises high hopes in Europe wasn’t exactly a surprise. Alex and I already wrote about Europe’s deep tech boom and investor interest in it earlier this year. But the role that educational institutions are expected to play piqued my interest.

“There is no doubt that the future of innovation in Europe will emerge from its world-leading universities,” Riam Kanso wrote in a guest post ahead of the event. Kanso is the founder of Conception X, which I had coincidentally heard about for the first time earlier this month. The U.K.-based nonprofit aims to transform Ph.D. researchers into venture scientists.

“It’s a simple but well-proven recipe,” Kanso said. “You have a Ph.D. team working on cutting-edge research with key real-world applications. They know their innovation could help discover effective treatments for now-incurable diseases, power up carbon-negative cities or tackle the future of automation. Through a combination of entrepreneurship training, access to pro-bono legal advice, funding opportunities and expert connections, we help them figure out how to turn their research into a viable deep tech startup.”

It isn’t a new thing for universities to more or less willingly give birth to spinoffs or spinouts (we will use the terms interchangeably here.) MIT, for instance, is famous for counting many entrepreneurs among its alumni, and quite a few of these ventures are based on intellectual property developed during their studies or research.

But in Europe, intellectual property can be a thorny issue. The “potential for meaningful innovation brewing across Europe’s research labs,” Kanso said, “largely remains untapped due to varying — and at times stifling — IP ownership rules that can make spinout companies uninvestable and hard to scale.”

Increasingly though, both European universities and venture capital firms are making efforts to make sure the most promising seeds turn into successful companies.

Mind the gap

Despite the hurdles, VCs looking for innovation know that spinouts are very much worth their attention. “As an investor in early-stage businesses, many with a deeply technical nature, we see universities as foundational to the companies we invest in,” said Simon King, himself a VC with a Ph.D.

If everything is the metaverse then the metaverse is nothing

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Happy Saturday! A few notes from the house before we get to work. TechCrunch’s new crypto-focused podcast Chain Reaction launched this week, which I am excited about. And, the TechCrunch+ team is hosting a Twitter space Tuesday, April 26 with Silicon Valley-based attorney and TechCrunch+ columnist Sophie Alcorn who will discuss immigration-related issues and answer questions relevant to startup founders and workers.

I think that’s it. Now, to work!

Defining the metaverse

Ever since Facebook decided to chart a new future toward the metaverse, even changing its name to mark the shift, the term has become ubiquitous. Myriad startups and public companies are slathering themselves with the term in hopes of catching the wave.

I have no real beef with companies tuning their marketing for the current moment. What I do struggle with is just what the metaverse is. For example, back in January this newsletter said the following:

The most fun that I had this week was a visit to Decentraland. In short, I was in edit and trying to distract myself so that I wouldn’t bother the editing team while they worked, so I fired up the social-crypto environment – metaverse, in other words – and went for a tour. Rocking a mohawk and some pretty cool pants I managed to get lost, visit an NFT gallery, and fail to gain access to an arena.

Is the metaverse a social-crypto environment, bringing together human interaction and decentralized ledgers? Perhaps that’s part of it, but it doesn’t feel sufficiently complete a definition.

The definitional nuance of the term came up this week in a piece that Jacquelyn Melinek wrote for TechCrunch+ on how artists both musical and visual are tapping into crypto products to connect with fans, and make money:

Meta‘s version of the metaverse consists mainly of virtual reality or augmented reality for friends to interact with one another, while web3’s take on the metaverse is more centered around how users will experience the internet in a digital world.

What’s good about this particular riff from Melinek is that she’s correct. There are several definitions of what the metaverse is. This is the precise gray area that has allowed anyone working with digital communities, or really digital assets more generally, to claim the label. The result is that everything is the metaverse, which is the same thing as saying that precisely nothing is.

As Melinek notes, there are two main thrusts toward building the metaverse. The Meta approach appears to start from the perspective of personal representation inside a persistent, video-game like environment. This means that the ‘metaverse’ is akin to an MMORPG, but without a genre-specific quest focus; it’s more open-ended, and thus more open to continued thematic expansion. The more crypto, or web3, approach is to consider digital assets that can be viewed as an extension of one’s self as the metaverse, or at least part of it. A “PFP NFT” being, for example, how you want to display yourself in a digital environment. That sort of thing.

It’s possible to imagine a hybridization of the two definitions. A place where you and I might have a persistent avatar of sorts and digital goods are recorded on some sort of decentralized ledger.

The issue with that vision is that it’s not super possible to build at the moment. Why? Because there isn’t a way to build an MMORPG atop the blockchain, and companies able to build such a platform don’t want to allow for decentralized asset creation and management, as it would limit their ability to rip value out of their game or digital living environment.

Yes, this is tension between decentralized and centralized systems, but in this case it’s a useful divide to note as it appears to be keeping what could be the metaverse from reach. It is not too hard to come up with a way forward. For example:

  • A DAO is created to collect several billion dollars.
  • The DAO funds the creation and maintenance of a persistent digital environment, perhaps with its own token.
  • The software — a fusion of Minecraft, Slack, the Unreal engine, and not Elden Ring — is open for folks to mod, make worlds, and so forth, perhaps even allowing companies to build more virtual offices.
  • From there, everyone can participate and do their thing as they will.

Is that a compelling metaverse? I guess at this juncture if that isn’t then we need to entirely rewrite what we mean when we say the word. Because that’s as close as I can smush things together without literally dropping all current definitions and starting over from scratch.

Good luck, Facebook!

Elon Musk, dual-class shares, and who owns the future

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Technology news was entertaining this week, if nothing else. The fact that we started the week learning that Elon Musk had bought a material percentage of Twitter’s stock, spent the mid-week period learning that he had joined the board, and by the end of Friday were busy reading about how employees were digesting the matter, it’s been busy.

But better busy than not, and the saga has given us a lot to think about. I want to touch on the matter one more time today through the lens of voting rights.

Something that we have seen the last few years are multi-class shares at startups. In simple terms, multi-class shares exist when investors and founders create a class of equity that affords them more votes per unit of stock than what is provided by other, lesser types of company stock. This does a few things, including concentrating power in fewer hands. In extreme cases, multi-class share setups can ensure that a founder has complete control of a company, forever.

Facebook is one such company. Twitter is not.

The difference between the two companies isn’t idle. Facebook is struggling to reinvent itself under the guidance of the same leader that brought it to early success while, in contrast, Twitter is now run by a non-founder, and just added a controversial power-user to its board. These are very different results for publicly traded social networks.

This brings us to what is making me laugh. By my understanding of today’s technology tribalism, the folks most enthralled with Elon Musk and his own brand of capitalism are also those most in favor of using multi-class shares to control companies. Or more simply, the folks who see little issue with Facebook’s CEO holding all the cards, are also the ones excited about what Musk can do at Twitter.

It’s an example, I think, of intellectual dissonance, and one that forces me to folks who share my view — that creating corporate governance that looks like monarchy is a poor choice over a long time horizon — to ask a question: Given that a very wealthy shitposter just arrogated himself onto Twitter’s board through creative use of their checkbook, does it change how we think about corporate governance, and the importance of shareholder voting rights being more than mirages?

Nope. Not really. Elon is doing activist shareholder things, which is fine, even if some folks find him distasteful as much as some consider him a hybrid of visionary and role model.

What will Musk bring to Twitter? Who knows. But at least it will be entertaining.

Empowering non-developers

My friend and colleague Ron Miller wrote about a project at Salesforce this week that will let folks write code by having a conversation with a computer. I recommend that you read it. It reminded me heavily of what GitHub built recently, namely a method to suggest code to developers as they type. Tools are coming for boring development work, it appears.

Neat tech from Salesforce and Microsoft — GitHub’s parent company — will not supplant developers. The tricky work that they do will remain in demand. Instead, consider code-writing tools from the perspective of folks who don’t write code daily, but need to at times to do their job. For them, the market appears to be clearing obstacles from their path.

Between the rise of no-code and low-code services, and the above work regarding more automated code-generation, we are slowly moving toward a future where development work will be far more in the grasp of the beginner, and even more for the dabbler. This could unlock a lot of human potential. And perhaps even lessen the developer shortage on a modest basis.

All told I am excited by this part of tech work. Let’s give more people more power. It will be good for humanity as a whole.