Innovation Cuts Through Tough Times to Find Success

In the current market, you’d be forgiven for thinking that now is the time for survival, not growth.

However, history shows that innovation will continue to find capital despite economic challenges, and that many venture-backed companies initially funded during downturns have gone on to become enduring market leaders.

Nationwide, there are 22 companies in business today that were funded with venture capital during the recession of 1990 to 1992, and they remain independent entities. Of these, half enjoy a market capitalization of more than $1 billion. These billion-dollar market cap companies include such consumer brands as Starbucks, Intuit and Petsmart, as well as tech companies Microchip Technology, Onyx Pharmaceuticals and Nuance Communications.

The early 1990s were not unique for producing recession-beating companies. The 2000 to 2003 slowdown also produced current market leaders, not just in the United States, but also in Europe, China and Israel.

Some of these downturn-financed companies have rewarded investors with exit liquidity in excess of $1 billion. For instance, Skype Technologies (initially funded in 2002), was acquired by eBay for $2.5 billion. U.S.-based Masimo (initially funded in 1991) pioneered life-saving medical devices and eventually launched an IPO with a billion-dollar valuation. Likewise, Semiconductor Manufacturing International and Spreadtrum Communications (both initially funded in 2001) were trailblazers for the Chinese high-tech economy with IPOs that hit the billion-dollar valuation mark.

The common ground shared by these companies is that they were quick to gain market share by harnessing trends that were lasting and fundamental to progress in their markets. Some were at the forefront of deep technological or bio-technological advances. Others recognized substantial new consumer market opportunities. And feedback from current investors suggests that the billion-dollar exits of tomorrow are likely to be positioned around such mega-trends, with a focus on communication and the environment.

Digital media, social networking and digital security (in particular, protecting personal data online) have been flagged as having strong investment potential. Cleantech and biotechnology companies are also likely to prove fertile ground. In particular, the “green” elements of stimulus packages in the United States, Europe and Asia may lay the groundwork for future growth through incentives and rebate programs that promote investment in clean technologies, renewable energy and other energy infrastructure.

Nationwide, there are 22 companies in business today that were funded with venture capital during the recession of 1990 to 1992, and they remain independent entities.

Of course, the success stories of the past don’t prove that it is better for entrepreneurs to be financed during a downturn or that companies financed during downturns are more successful than others. What they do show, however, is that even during difficult times genuinely beneficial innovation will continue to get finance.

Understandably, difficult market conditions require a longer exit strategy. The median time from initial financing to and IPO was eight years in 2008. For an M&A, it was only slightly less, at seven years.

This time lag, which is increasing, means that business fundamentals such as cash preservation, sharpening the customer proposition and clear communications with potential investors are crucial to survival. At the same time, companies must not be so focused on “just getting by” that they are unable to pursue strategic, capital efficient, opportunities as they arise.

Challenging market conditions naturally create difficulties for all companies, particularly startups, and growth is unlikely to be simple or easy. But downturns do have positive market attributes for those positioned to take advantage. Physical assets and other inputs cost less and are more capital efficient. Talent is also cheaper and more readily available. In addition, competition may be distressed and concentrating on survival, not growth.

Difficult market conditions provide opportunities for investors to find great companies early and to be the first to benefit when the upturn arrives. And entrepreneurs can take heart that VCs are still investing. As long as you have a great idea, a great team and realistic expectations of valuations, the money is still out there.

John de Yonge is global research director of venture capital and cleantech for Ernst & Young. He can be reached at The views reflected in this article are the views of the author and do not necessarily reflect the views of other members of the global Ernst & Young organization.