For many travel companies, navigating the past two years has proven more challenging than normal. And recent capital market volatility has added to the pain, leaving many companies unprepared for this post-pandemic environment. Unchecked inflation, normalizing interest rates, upended labor markets and pandemic‐related supply chain challenges have contributed to weaker appetite for relatively riskier asset classes such as travel startups.
This cycle reset, while painful for some, will ultimately create more valuable companies and a healthier sector through greater operating and funding discipline. As former Cisco System CEO John Chambers noted, “Marginal startups just will not get funded, but I actually think that’s a healthy phenomenon.”
Let’s look at how we got here and what companies can do to best endure this cycle.
"Plan for the worst"
It’s instructive to frame this economic cycle around bookends. On the one bookend, policymakers opened the spigots in spring 2020 to fuel economic activity by slashing interest rates and jolting the economy with massive government transfer payments to businesses and individuals alike.
Capital markets were brimming with liquidity, which propped up valuations in nearly all asset class - from real estate to technology companies. According to Crunchbase, venture investments in 2021 reached record levels, measured by both deal count and funds invested.
Many large companies will weather this cycle with challenges - none of which existential.
SPACs, an unusual liquidity vehicle, flourished with several travel companies including Sonder, Vacasa, Wheels Up and Inspirato using these to raise capital at eye‐watering valuations. Capital flowed and confidence reigned.
Sadly, policymakers were slow to recognize the speed with which the post‐pandemic economic activity would resume. Sooner than expected, we’re now at the cycle’s second bookend: a historic inflationary environment and one in which investors both expect significant interest rate increases yet are highly skeptical of policymakers’ ability to get ahead of historic inflation.
In this environment investors have repriced risk by discounting growth, assuming higher input costs for goods and services and, consequently, reducing projected company earnings. Those same companies that used SPACs to access capital have seen valuations axed, dropping from approximately 2.5x enterprise value to forward revenue ratio to less than half that today.
Venture investment in the first quarter 2022 slumped 13% compared to the same period in 2021. “No one can predict how bad the economy will get, but things don’t look good,” investment firm Y Combinator wrote in a letter to its portfolio founders. “The safe move is to plan for the worst,” the firm wrote. While capital is still flowing, confidence has waned.
Weathering the challenge
Our ecosystem of travel companies includes an assortment of large and small innovative companies, all of which compete to improve traveler experiences. Many large companies will weather this cycle with challenges - none of which existential. However, thinly capitalized early to mid‐stage growth companies will be more exposed and need to respond faster and with greater clarity to avoid greater vulnerability.
For companies not planning to raise a new round, they should quickly review cash burn rates and execute their business plan until sunnier days return. Regardless of a company’s relative financial health, they should move quickly to review their business assumptions including cash projects and remark valuations, and, if necessary, they should implement cost reductions to provide a healthy cash buffer.
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However, if capital is required in the next 24 months, they should plan for a longer and potentially unsuccessful capital raise. As part of capital planning, companies should consider an internal round and dilutive top up from earlier rounds to ensure adequate cash.
Also, they should expect a shallower pool of more scrutinizing investors, exacting operating performance diligence, a shift in investor capital stack preference (equity with debt like protections), an overall higher cost of capital and renewed emphasis on the viability of capital return plans.
This current cycle will not be the death knell for most companies, and many companies will flourish during this environment. However, they should be prepared for investors less forgiving of companies lacking sector differentiation, healthy balance sheets, favorable unit‐level economics and either in place or a clear path free cash flow. If companies don’t clearly address these elements in their business planning, it's time to get to work.
Finally, and just as we witnessed at this first bookend of this cycle, there will be opportunities for consolidation through merger, spin‐off, sale or acquisition. An uncertain capital market cycle can be frustrating, but patience, good planning and disciplined execution will prove value‐enhancing.