Games startup funding during a pandemic

The world changed in March 2020. I’m writing this on March 25th, and we don’t know yet how long this will last. Significant events, like the Summer Olympics in Tokyo, have been canceled. In the games industry, it’s mixed feelings. We are mainly seeing more and more people spending time at home, playing video games.

App Annie reports that China’s average weekly game downloads rose 80% in February when the impact of the COVID-19 outbreak on China was at its peak. Tencent stated on a Wednesday, March 18th earnings call that its users “are increasing their time spent on a whole range of digital content services, including Tencent’s online games, video, and reading services,” amid the COVID-19 outbreak.

People are adjusting to work-from-home (WFH), with children. The kids get more time with their video games, and parents will be eager to allow spending. Then you have the demographic of adults without kids who have lots of time on their hands for video games. This week, I’ve been hearing that people who are are WFH, without kids, becoming productive and getting more work done because they aren’t commuting, traveling for work, or taking coffee or lunch meetings all day.

The numbers suggest that the games industry as a whole is surviving nicely from the Coronavirus. But the world is just about to enter a recession, and the gaming startup scene can become a messy landscape for quite a while. 

What is threatening the gaming startups

Gamers will have disposable income for the time being. But then if you look at things in six to twelve months, things might change. In 2008, the industry numbers were great, but going into 2009, people had less disposable income, and gaming suffered. Think about Rock Band and the decline of 2009, when people became less likely to buy costly instrument controllers.

Much of the gaming companies, especially startups in a pre-revenue stage, will need to adapt to a wartime mode. The best founders are like cockroaches, and they will stay vigilant in tough times. But if the startup is at the early stages of the venture capital route, there might be troubles ahead.

When I raised a seed round for my first startup, Ironstar Helsinki, in December 2008, the recession was at its worst. I was lucky to have pitched to Open Ocean Capital, who had just started investing, and they wrote their second check into my company. Open Ocean didn’t have limited partners (LPs) who’d provided them the capital. They were investing their own money, so the process was reasonably straightforward without several moving parts. I’ll now explain why things won’t always be as direct with VCs.

Why the VC route is hard right now

There are countless amount of reasons why raising VC funding has become incredibly hard.

• Generalist funds focusing on their existing portfolio. There are gaming-specific funds out there, who only invest in gaming-related companies. But then you have the opposite, the generalist funds, which would invest in gaming companies but also other kinds of startup verticals. The generalist investor’s portfolio will contain some companies that are either directly impacted by the pandemic, such as companies that focus on travel, events, and other gatherings, and many that will be indirectly affected because of the supply and demand shock. Travel related apps, Uber, Lyft, Airbnb, Booking.com, Hotels.com, are all down in the download charts, pointing that people have less need for them and their business. VCs at these funds will be spending time to help companies that are in big trouble. It might be challenging to get the VCs time for your gaming startup.
• Investors are all at home. You need to understand that most VCs have kids. Schools and daycare are closed. Like everyone else, they are scrambling to figure out how to support their kids and families and concentrate on work and critical decisions. For most, it is not an easy adjustment.
• Partner Meetings Most VC firms operate through partner meetings. These meetings can be challenging in a pandemic. Zoom and other communication tools work for sharing information but don’t facilitate organic discussions that most VCs are used to. VCs who don’t have partner meetings may be less impacted. In any case, everybody will be adapting to the new norm, and it will take time, given that most VCs rely on traditional institutional behaviors.
• New versus existing relationships If you have a term sheet on the table, most investors know that it wouldn’t be good for their reputation to pull the term sheet. But if you are early in the process of getting to know the VC, their time allocation might have changed. The investor is looking into their existing portfolio and allocating time to existing relationships. Existing relationships will increase in value, as it’s much easier for a VC to gain conviction to write a check when they already know the founders.
• Angel investing There will be ongoing angel activity, but most likely, lots of people will become very cautious. Wealthy people spread their investments to several asset classes, including the stock market. In the current climate, their net-worth might have become something else than what it was a few months ago. The situation reminded me of 2001 when all of the internet stock was suddenly worth zero, and a lot of people had to start from scratch.
• Stating “we are open for business” can be a hoax Lots of VCs have been talking on Twitter about being “open for business.” This message is mostly valid because the deal flow is so crucial to their business. But, because of so much uncertainty, many VCs will postpone unnecessary deals. VCs will be cautious. VCs can easily wait and see. For founders, it can become an endless time-suck, with delay after delay.
• LP reactions Most VCs raise their funds from LPs, who might be wealthy individuals, pensions, nonprofits, universities, endowments, etc. During this time we are in, these sources of capital are stressed and panicking. They’re not only investing in venture capital. Why does this matter to VCs? Well, the VCs don’t sit on top of the money in the funds. Instead, they conduct capital calls to their LPs when they are investing in the fund. In these hard times, some won’t dare to do capital calls. Other VCs might go all-in and get as much as they can from their LPs for reserves for their existing portfolio. What does this mean for startups fundraising? It’s just one of the countless reasons why raising funding can take much longer at the moment.
• Closing new funds VC funds might have their fundraising process going on. The VCs might have meetings with potential LPs canceled and postponed. Commitments to invest in the fund might be pulled out. Suddenly the VC can’t close the fund as they expected, and the founders who the VC has been meeting with, will not be getting a check any time soon.
• Accuracy of soft launch numbers in a pandemic All the numbers seem to be up, and there are lots of fluctuations going. Startups raising funding with their soft launch numbers will be questioned. Does anybody really know the full impact of the pandemic on people’s engagement in mobile gaming in general? The wise VCs will spot this, and they’ll ask for numbers from a longer period of time, to see things stabilize.
• Meetings with VCs The critical question for founders creating new relationships with VCs is how do you meet and greet them for a $2M check over Zoom? How will a VC be able to conduct due diligence? I’m sure some VCs will adjust here and make decisions, but we don’t know yet whether they will do it sooner or later.
• More information will help. We are still early in the crisis, and loads of VCs are waiting to see things stabilize. Getting clarity might take four to eight weeks, but it might take longer. Be prepared for a wait-and-see period.

Will VCs still be investing

There’s still more capital available for VCs then every before. So they won’t stop investing in startups, even when there’s a terrible recession coming on. Here’s why.

• They learned from 2008 VCs have learned from 2008. During the last downturn, 9k investors still did over 28k deals. Several funds, such as Lowercase Capital, continued to invest steadily throughout the recession and, as a result, saw massive outsized returns. Fewer VCs will sit on the sidelines this time.
• New angels are entering the market. Individual investors are tired of choosing between the wild stock market and almost-zero interest rates in the debt markets. So where will they go? Private markets, meaning they will be increasingly investing in startups.
• Great entrepreneurs will spawn from the recession Talent becomes more available, weaker companies exit the market, and all the “wantrepreneurs” go home. As Sequoia points out in this great article, Airbnb, Square, and Stripe were all founded during the last crisis.

My advice for gaming startups

In a gaming startup, the realities are quite different, depending on your stage. Are you safe, and is your team safe? Where are you in the funding cycle?

Just the founders. Maybe you have been putting together the founding team, and you’ve been spending your free time building a prototype or creating a pitch deck. You haven’t left your job yet to start the startup. What should you do? Work on finding how you can surface above the noise to get an investor to write a check. Partner with other startups to combine your strengths. Become creative.

Raised a seed round with limited runway Things are getting complex for you. You have jumped full time into the startup, and you have six months to a year of runway left. Push the gas pedal, brake pedal, or reroute your journey on the startup navigator? Most likely, you should look at revenue as soon as possible. My advice is to become profitable, grow with income, then go back to the VC market.

In both cases mentioned above, what should you do now to raise funding?

Increase the size of your funnel. While I believe investors will continue to write checks, many will be cautious and move slower. You can compensate this by treating it as a numbers game and dial-up your numbers by 50%. For example, if you’re raising a seed round and currently have 100 investors that you’re talking to, try to get that number to 200. Bring in VCs, angels, strategics like more prominent games company. Anything with money.

And if you’re not currently raising funding for your startup but plan to do so later this year, start warming up investors right now by sending a monthly update before you kick off your round. Check out my update template from here.

Final advice: if you need money right now, get it from revenue, debt, existing investors, or, best of all, figure out how to stop needing it.