Cybersecurity is one of the safest industries, but how to invest in cybersecurity startups in challenging times?
While cybersecurity is somewhat immune to the general economy, it is also not entirely immune. Despite plummeting valuations of companies in the public markets and concerns about the economic environment, venture capital remains an available option, especially for cybersecurity startups.
It can be said that the venture capital market is very tight. In May 2022, Japan’s SoftBank, the world’s largest investor, reported a loss of about $27 billion for its Vision Fund in its most recent fiscal year. Tiger Global reportedly lost $17 billion. These figures are largely based on performance prior to the upheaval of the Russia/Ukraine war.
But despite this, investment in cybersecurity companies continues to grow — from $6.3 billion in 2020 to $22.5 billion in 2021. This level has shown clear signs of continuing into 2022 – even though the global economy is now on the brink of a possible recession.
To understand why cybersecurity investing isn’t affected otherwise, and what could happen in the second half of 2022 if the world falls into a recession, Security Week interviewed Jake Flomenburg, a partner at seed and Series A specialist financing firm Wing Venture Capital (Flomenburg). Fort).
Startups market conditions :
The first thing to note is that despite the rapidly dwindling disposable income available to individual investors, there is still plenty of cash available in the venture capital market. Venture capitalists are estimated to have around $500 billion in so-called “dry powder.” It’s their job to invest in it. The question is not whether venture capital will continue to exist, but where it will go.
The second point is that the real cause of much of the current economic uncertainty — the Russia/Ukrainian war — is driving companies to continue investing in their own cybersecurity. As many organizations engage in digital transformation, the growing threat from cybercriminal groups means that cyber defenses need to be strengthened. The other option — a pause in the digitization process — would threaten the competitiveness of companies, and poor cybersecurity could threaten their very existence.
The upshot is that when VCs decide which markets to invest $500 billion in, cybersecurity seems like a good bet. But while cybersecurity is somewhat immune to the general economy, it is not entirely immune.
Cybersecurity layoffs aren’t unique to 2022—the serious problems started with the Covid-19 pandemic. OpenText, the parent company of Carbonite and Webroot, will cut 5% of its workforce in 2021. FireEy will cut about 6% of its workforce in 2020; in 2020, Herjavec Group will cut 8% of its workforce.
Most recently, ADT Cybersecurity announced that it will close its Greensboro operations and lay off employees at the facility by the end of 2022, as part of what the company calls a “total shutdown.” Belden, which bought Tripwire in 2015 for $710 million, sold it in February 2022 for just $350 million to HelpSystems, which began laying off “dozens” of Tripwire employees in May 2022.
In May 2022, Lacework announced a 20% layoff just six months after raising a massive $1.3 billion in Series D funding. Cybereason and OneTrust also cut about 10% (100) and 25% (950) of their workforce, respectively.
In short, VCs have access to the huge sums of money they have to invest; cybersecurity is one of the safest industries in these times of economic uncertainty, but even cybersecurity is not immune to economic impact. So the question — and the one we asked Jake Flomenburg, is “In the current economic climate, how do VCs choose where to invest in cybersecurity?”
How to choose a Startup to invest in?
Wing Venture Capital focuses on seed and Series A rounds, primarily targeting startups. Series B and C rounds are for growth — the company is doing well and has the potential to grow into a major force. Series D and above are more established companies that are ready to exit venture capital — either through an IPO or a sale to or merger with another company.
The last one is the most difficult. IPOs are risky in a recession, but M&A activity remains an option — two successful companies merging may be safer than two separate companies. Growth financing is still possible, but VCs are more cautious; perhaps investing less than a year ago.
Startups are different, according to Jake Flomenburg. The current economy is a great time to start a business, and a startup is a great place for investors. “Let’s say we’re entering a recession,” he said. “You can probably count on the one hand that this country has been in recession for more than 24 months. So there’s a good chance that within two years, hopefully, sooner, the economy will pick up again.”
His argument is that companies that should grow may struggle to grow, and mature companies won’t maintain their current performance. However, the startups are not yet in the growth stage, while capitalizing on the impact of the recession. They may not deliver much, but they are not urgent nor need to deliver anything.
“When these companies are ready to grow, in a few years, the economy will be better, and they’ll be in a good position to take advantage,” he said.
This leaves the entrepreneurial venture capitalist with two fundamental questions: how does it find potential investment opportunities, and – from those opportunities – how does it choose which companies to back? “Sometimes we find them, sometimes they find us,” he said. But this is in the context of his own extensive market research.
“We did a lot of our own homework first-hand,” he continued. “For example, we have an event around RSAC where we will bring together about 200 CISOs from companies valued at over $10 billion. We ask them about their top three priorities for the next 12 months and where they are looking for solutions. ” This has two benefits: it shows where there is a need and where an existing solution is lacking. “It’s not about influencing them in any way, it’s about learning from them and informing our own investment decisions.”
The remaining question is how to choose which one to invest in from all the investment opportunities he finds. “It’s team, technology, and traction,” he said. “We look at their technology and the market they’re going to serve. But at the end of the day, it’s the people. What superpower does this team have that gives them a unique insight or unique ability relative to the market that can bring something to the universe something that makes an impact.”
He puts more emphasis on the quality of the teams involved, rather than the details of what they’re doing. “When you analyze which products stand out from a factory run, it’s mostly up to the management team. Sometimes entrepreneurs come to me with research papers they’ve read and want to tell me how well they’ve solved this Question. That’s great. I’m very interested, I’d love to be with you forever – but I believe in you. I believe you’ll do it. If I didn’t believe you’d do that, we wouldn’t be doing this conversation.”
So Fromenburg’s formula is to find the demand, find the startups working in the field, and then select investment opportunities based on the quality of the people involved. Most importantly, he believes now is the right time to invest in cybersecurity startups.