Tuesday, August 30, 2022

AI Revolution - Transformers and Large Language Models (LLMs)

NLP & AI Revolution - Transformers and Large Language Models (LLMs)

Part of the challenge of “AI” is we keep raising the bar on what it means for something to be a machine intelligence. Early machine learning models have been quite successful in terms of real world impact. Large scale applications of machine learning today include Google Search and ads targeting, Siri/Alexa, smart routing on mapping applications, self-piloting drones, defense tech like Anduril, and many other areas. Some areas, like self-driving cars, have shown progress but seem to continuously be “a few years” away every few years. Just as all the ideas for smart phones existed in the 1990s but didn’t take place until the iphone launched in 2007, self-driving cars are an inevitable part of the future.

In parallel, the machine learning (ML) / artificial intelligence (AI) world has been rocked in the last decade by a series of advancements over time in voice recognition (hence Alexa), image recognition (iphone unlock and the erm, non-creepy, passport controls at Airports). Sequential inventions and discovery include CNNs, RNNs, various forms of Deep Learning, GANs, and other innovations. One of the bigger breakthroughs of recent times was the emergence of Transformer models in 2017 for natural language processing (NLP). Transformers were invented at Google, but quickly adopted and implemented at OpenAI to create GPT-1 and more recently GPT-3. This has been followed by other companies or open source groups building transformer models such as Cohere, A21, Eleuther as well as innovations in other areas like images and voice, including Dall-E, MidJourney, Stable Diffusion, Disco Diffusion, Imagen / Artbreeder and others.

Of the 8 people on the 2017 transformer paper, 6 have started companies (4 of which are AI-related, and one is a crypto protocol named Near.ai).

Transformers and NLP more generally are still nascent in application today but will likely be a crucial wave over the next 5 years. As the models scale and natural language understanding grows stronger one can expect the enterprise to be transformed. Much of the world of an enterprise is effectively pushing around bits of language - legal contracts, code, invoices and payments, email, sales follow ups - these are all forms of language. The ability of a machine to robustly interpret and act on information in documents will be one of the most transformative shifts since mobile or the cloud.

Applications of large language models (LLMs) today include things like GitHub Copilot for code, or sales and marketing tools like Jasper or Copy.AI. 

The 3 types of companies to expect: Platforms, AI-de novo, and Incumbent AI-enabled.

One analogy in this NLP market may be the mobile revolution around 2010. You ended up with roughly 3 types of companies:

1. Platforms & infrastructure. The mobile platforms were eventually iphone and Android. The analogous companies here may be OpenAI, Google, Cohere, A21, Stability.ai or related companies building the underlying large scale language models. There are numerous emerging open source options as well. Additionally, infrastructure companies like Hugging Face are doing interesting things.


2. Stand alone (de-novo applications built on top of the platforms). For mobile it was new types of applications enabled by mobile, GPS, cameras etc. Examples include Instagram, Uber, Doordash and others which would not exist without mobile devices. For the transformer companies this may include Jasper/Copy on the B2B and other exciting applications on the consumer side which would not be able to exist without advanced machine learning breakthroughs.

3. Tech-enabled incumbents (products where the incumbent should “just add AI” where startups will lose to distribution). In the mobile revolution, much of the value of mobile was captured by incumbents. For example, while many startups tried to build “mobile CRM”, the winners were existing CRM companies who added a mobile app. Salesforce was not displaced by mobile, it added a mobile app. Similarly, Gmail, Microsoft Office etc were not displaced by mobile, they added a mobile app. Eventually ML will be built into many core products today - Salesforce will most likely have ML-intelligent CRM tooling versus a whole new CRM displacing Salesforce due to ML. Zendesk will likely have ML-enabled ticket routing and responses versus a whole new customer service ticketing tool replace Zendesk. 

Of course, it is always possible a new ML-driven version of these products will be so dramatically better then the incumbents to allow the startup to displace the incumbent. Or maybe the startup ends up 1/10th the size of the incumbent and this is still a great outcome as a company and founding team (10% of Salesforce is still a $17B market cap!).

The challenge for many startups will be to determine what is a de-novo product/market versus one where an incumbent should “just add AI”. Sometimes the best way to figure this out is to simply try it. Startups are about iteration and “just doing” and many of these things can be overthought and misanalyzed.

Example areas of interest

The types of AI companies of interest today include, but are not limited to:

  • Platforms - Models/APIs. There is a bit of an arms race ongoing where a set of companies are trying to build ever larger scale models. The more machines and compute you through at something, in parallel to innovating on scalability and accuracy, the more useful the output. Many of the business models of these companies are reasonably ill-defined and focused on monetizing via an API versus an application area. Some newer entrants in this area are alternatively choosing large scale cross-enterprise or cross-consumer applications. Example companies include OpenAI, Cohere, A21, Google, Stability.ai, and others. There are a number of open source models and approaches including Eleuther.

  • Tooling. Hugging Face is a great example of a tooling company for the space - think of it as Github for transformers and other models.

  • Code. Github Copilot is an example of a code-centric ML tool built on top of OpenAI. Eventually all tools that require some code (IDE, terminal, BI tools) should include ML coding integration. Alternatively, one can imagine typing something in English (or whatever your native language is) and having it converted into a data or SQL query for your BI tool. Any member of an enterprise should be able to query any analytics tool easily over time with natural language questions[1]. 

  • Sales & marketing tools. LLMs hold the promise of a variety of sales tools - from initiating inside sales emails algorithmically to creating marketing copy like Jasper and Copy.AI do today. One likely future scenario is all your sales emails/replies for the day are autogenerated in your CRM and then approved by a sales rep - versus the rep having to write everything from scratch.

  • In-enterprise verticals, RPA, data infra. Better tooling for finance, HR, and other teams. Adding NLP to RPA tools like UIPath should turbo charge them. Data infra companies like Snowflake and Databricks will likely increasingly include ML workflows over time. See for example Snowflakes acquisition of Applica. Expect more M&A in this area in the near term.

  • ERP disruption. An understanding of what data and various fields actually mean could create the opportunity to augment or displace ERP systems. Imagine if 6 months of consulting work to integrate an ERP at a large enterprise was no longer needed?

  • Testing, bugs, security. A lot to be done here for everything from automated test suites to searching for security holes or breaches. One can imagine AI used for both hack attempts as well as white hat approaches for everything from critical security bugs to phishing.

  • Customer support. Smart routing, or even replacing parts of customer support rep teams entirely with voice + NLP.

  • Consumer applications. Enhanced search. Interactive, language native chat-bots. Eventually one can imagine an intelligent agent as a replacement for Google search. Other areas like smart commerce are big applications. Lots of exciting things to do here. At Google, the LaMDA chat-bot convinced one of its users that is was sentient!

  • Creator & visual tools. Writing and art augmented by AI. See e.g Dall-E, MidJourney, Disco Diffusion, Stable Diffusion, Imagen, or Artbreeder. Similarly, if you hit writers block the AI can suggest 5 different next paragraphs. At some point these language models should be good enough to write end-to-end novels, poems etc

Example image generated on DALL-E by me in Synthwave style

  • Very good speech. Strong machine understanding of, and generation of, voice. This could lead to whole sale replacement of customer service reps.

  • Auto-email. One likely future scenario is all your emails/replies in your inbox are autogenerated by an AI and you simply click to approve or modify. One can imagine entire lists of people you never reply to or review the email for.

  • Doctor & Lawyers Assistants. Eventually much of what health professionals do in terms of diagnosis may be replaceable by AI. Ditto for lawyers and a number of other white collar jobs.

  • Lots more. We are in the early days of a revolution. It will be hard to predict everything that will happen. Just as there obvious things to build for mobile apps (text replacement = Whatsapp, use the camera = Instagram - although obviously how exactly to build these things and what UI would work was hard to do and flashes of brilliant insight) there were lots of interesting non-obvious ones like Uber ("You push a button on your phone and a stranger in a car picks you up who you trust"). Applications of AI will be the same - some of the most interesting impactful apps may be hard to predict today.

Some of these companies will require technical breakthroughs, others can be built today on top of existing APIs. Many of these areas will likely end up with incumbents versus new startups winning. However, a number of massive companies will likely be built over the coming decade in this area. Exciting times. 

Science versus Engineering

One big open question on large scale language models translating into new startups - is the degree to which challenges are science problems, versus engineering problems. There is a lot of room to make advancements from an algorithm and architecture perspective in machine learning. However, there also appears to be significant room for incremental engineering iteration and efficiency gains. Many transformer-centric companies want to spend hundreds of millions of dollars on the GPUs to train massive models. To date much of the work on LLMs has been scaling things up. For example from this article on LLM parameters:

“PaLM 540B is in the same league as some of the largest LLMs available regarding the number of parameters: OpenAI’s GPT-3 with 175 billion, DeepMind’s Gopher and Chinchilla with 280 billion and 70 billion, Google’s own GLaM and LaMDA with 1.2 trillion and 137 billion and Microsoft – Nvidia’s Megatron–Turing NLG with 530 billion”

However, it seems increasingly possible that cost effective, efficiency-centric approaches may also work well. Sometimes technical issues seem like a science issue when an extraordinary enough engineer shows up and makes it an engineering problem that gets solved. Wozniak was famous for this in the early days of Apple - how to best utilize limited compute, create color output, etc.

An increasing number of LLM platform startups are raising smaller financing rounds ($10-$50M versus hundreds of millions) under the assumption that the future may be as much about better engineering than sheer scalability.

As an example, Stable Diffusion cost just $600K to train. I would anticipate we increasingly see both large scale models and teams, but also small, nimble, cost-effective targeted training of models with spectacular results. Engineering can make a lot of leeway now that so many big models exist.

Most likely both technical breakthrough and iterative engineering will be needed for certain applications in the future including true AGI.

Talent shifts to more product/UI/app builders coming

As we move from the era of only big models to the era of more engineering and applications, the other shift in the market segment will be from PhDs and scientists to product, UI, sales, and app builders. Expect an influx of product/app/UI-centric founders into this area in the coming years. As mentioned above, there will be a flurry of new applications and approaches in this use of AI/ML and therefore a shift and growth in the type of talent working on it.

It is possible this market is slightly too early until models advance one more step. However, over a multi-year time horizon some very big companies will be built.

Semiconductors versus software

Semiconductor innovation can increase performance of various systems dramatically. Each major technology wave tends to have an underlying major semiconductor company emerge that underlies it - for example Broadcomm and networking, Intel & AMD for microcomputers, Qualcomm and ARM for mobile, and NVIDIA for graphic processing and video games. Surprisingly NVIDIA GPUs have also emerged as the main processors used for both machine learning as well as crypto mining. Google invented TPUs - tensor processing units - which are custom ASICs that perform much better than GPUs for many models. However, Google has not sold them as stand alone chips but does offer them in their cloud. Other companies like Cerebras, Groq, Tenstorrent and others have innovated in the area.

In the case of current AI models, much of the work is in the form of matrix multiplication and chips that are custom for current AI models have a larger portion of their surface area devoted to this type of math. The arguments on why NVIDIA continues to dominate the AI chip space includes:

  • All of the startups have overinvested in raw performance and underinvested in a software stack that makes it easy to use. This includes everything from the kernel to tooling. NVIDA in contrast has CUDA.
  • Interconnects to allow hundreds or thousands of chips to act in concert versus single chip performance.
It is possible that for a startup to compete well in the silicon space for ML, an emphasis on software and interconnects will be key. This also suggests that maybe an incumbent will be better placed to compete with NVIDIA on silicon versus startups.

Companies like Microsoft, Google, AMD and others who understand software and / or the stack needed for chips to work well at scale may be real competitors if they set their minds to it. Google recieved a lot of attention for it TPUs, but never sold them externally as stand alones (and they also had a difficult form factor for some to use). Perhaps this is a multi-hundred billion dollar opportunity they forewent for other strategic reasons?

DILIs: Evolving from tool to organism 

Machines already outperform humans on many tasks - from playing chess to modeling chemicals to welding autoparts. Machines still lag humans in other areas but it seems unlikely this will last - and gaps are constantly shrinking in most areas. At some point, machines should become self-aware and hyper intelligent. At that moment in time, we will have a few big shifts in our conception of machine awareness and we will be dealing with bona fide digital lifeforms (DILIs). 

These DILIs will be able to self replicate on servers and edit themselves (indeed one should assume that at some point most of the code in the world will be written by machines self-replicating versus people). This will likely accelerate their evolution rapidly. Imagine if you could create 100,000,000 simultaneous clones of yourself and modify different aspects of yourself, and create your own utility function and selection criteria. DILIs should be able to do all this (assuming sufficient compute / power resources).

Once you have a rapidly evolving, self-aware digital lifeform, interesting questions arise around species competition (what will be the basis of cooperation and competition between DILI life forms and humans?) as well as ethics (if you simulate pain in a DILI that is self aware, are you torturing a sentient being?).

These questions may hit us faster than we anticipate. Many core AI researchers I know at OpenAI, Google, and various startups, think true Artificial General Intelligence (AGI) is anywhere from 5 to 20 years away. This may end up like self driving cars (perpetually 5 years away until it is not), or it may happen much sooner.  Either way, it seems like one of the eventual potential existential threats to humankind is the potential to compete with its digital progeny.

One meme in a small subset of the AI research community is that we will use human-machine interfaces to meld with AI. Therefore a future AI species will be part human-part machine, love us, and will not want to leave us behind once fully sentient and superintelligent. This seems like an almost religious rapture style view of AI[2]. If you look at biological and evolutionary antecedents (or for that matter-have spent much time with humans), unfortunately not many things seem to have worked out that way, although there is obviously a lot of symbiosis. The highest probability event seems to be that humanity roughly acts as a boot-loader to AI as the dominant future species in our solar system. This may in part explain the perceived lack of intelligent life in the universe captured in the Fermi paradox - maybe all organic organisms are eventually displaced by their home-brewed AI and von Neumann probes [3].

(Image below is AI researchers discussing the eventual rapture of machine-human interfaces and how much AGI will love them for building it. History and biology raise the possibility an eventual AGI may be less grateful to humanity than one might expect).

One interesting point to ponder is what are the forms of intelligence and consciousness which different approaches to AI yield? Some AI models today seem very tool-like versus agent-like. For example, the current transformer models like GPT-3 continuously learn during training, but once the model is trained all the various weights for its parameters are set. New learning does not occur as the model is used. Rather, a potential un-nuanced description is the model wakes up, is given an input, provides an output and goes back to sleep. The model does not recall the prior inputs the next time it wakes up. Is such a system, that is not continuously learning, conscious? Or maybe it is an intelligent consciousness without new learning and only when woken up? Imagine if your brain was frozen in a moment and time, and could process information and provide input, but would never learn anything new. Transformer models sort of work that way right now and their later more advanced form may represent a new form of consciousness if they ever become sentient.

In contrast, an intelligent conscious agent with continuous awareness and learning feels like a different type of consciousness. It continues to learn and change and evolve as you use it.

If you look at the way the human brain works, you have a set of different systems for various aspects of motor skills, cognition, etc. For example, the cerebellum, Latin for “little brain,” does not initiate movement but controls balance and learned movements, such as walking and fastening buttons. In contrast the cerebrum is involved with multiple aspects of sensory perception, problem-solving, learning and memory and other areas. Movement, breathing, sleep, various processing, memory storage, comprehension, empathy etc all have brain areas devoted to them that are specialized in their capabilities. Similarly, people are building models on top of transformers that learn off of new inputs to provide the underlying transformer models with inputs and take outputs from transformers to train on. Perhaps these smaller "conscious" models will be the true driver of machine sentience? Or it is possible we can not currently proper conceive of what for machine intelligence will be like, as it may be quite radically different from human sentience.

For interesting examples of systems in the brain each having specific functions see some of the work on the visual system (which tends to be tractable to lab study in ways some other systems are not, and recapitulation of function and modeling by ML systems in the short run in the lab).

Lots going on

This field will continue to evolve rapidly and as the underlying language models accelerate in ability we will see ongoing acceleration of applications. We are still in the earliest days and many exciting things are yet to come. This will be a multi-decade transformation and will require ongoing improvement in base models and engineering to reach its full potential.

Thanks to Sam Altman, Noam Shazeer, Ben Thompson for comments / feedback on this post.


[1] The challenge of course is evident to anyone who has done a data pull in an enterprise. There is always the misformated table, the forgotten join, the edge case etc that requires iteration. Simple translation of language to SQL or other query may just be the starting point for a subset of cases. But, like with all things, you need to start somewhere.

[2] Indeed the language of the religious rapture is reminiscent of both a small niche subset of the AI community as well as the singularity one. One could argue these both contain subsets which are benign forms of religion as compared to the current replacement of religion by modern political extremism (which itself seems religious in nature).

[3] Eventually, it is all paperclips anyways.



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Wednesday, July 6, 2022

Startup Markets, Summer 2022 Edition

About a month ago, I wrote a tweet storm on the changing startup financing and employment environment. This blog captures aspects of that tweet storm and some of its predictions and extends them further. Like all predictions this is what I view as a highly likely scenario versus the only potential future path for the next 3-18 months or so.

The high level view is that things have yet to get truly bad in private tech.  2021-2022 were an anomaly due to COVID policies which both created an incredibly cheap low interest money environment, pumped the stock market, and facilitated adoption of certain types of tech. This environment led to both excess in fundraising but also in hiring. This means that as money transitions back to to "normal" levels teams that were hired too far ahead need to shrink. Many areas (hiring plans, valuations, time venture capital raised lasts, etc) are roughly reseting to 2018/2019 norms, which themselves were all time highs prior to the COVID era.

If interest rates and money supply continue to tighten and a recession happens, then things should get worse. The below largely deals with the base case of things roughly stay where they are now. More likely, things will get worse before they get better. Nonetheless, it is still a great time to start a company.

So what do the next few quarters look like?

1. Financings

Valuations will continue to drop and are not stable yet

Private markets tend to lag adjustments in public markets by 3-9 months and tend to adjust from the later stage, pre-IPO companies first to the pre-seeds last. Private technology startup valuations are still unstable and for some stages will continue to drop. 

Series D and later have come down and closer to public comps with pre-IPO companies roughly at public comparables. When you fundraise matters a lot - rounds started 3-4 months ago are pricing much higher than rounds kicked off now. 

We are in a “sliding knife” market and things have only partially propagated into earlier and earlier companies. For example, series B/Cs have dropped 30-70% but the repricing is inconsistent. Some companies have been getting high valuations over the last few months while others can not fundraise at all. Series A valuations have dropped maybe 20-30% but likely should drop 50%+ from highs. 

Series seed rounds have come down some but will likely drop further as more series A reprice harder as investors seek each round to be 2-3X the valuation of the prior round (the traditional standard). Private tech is for some stages where public tech was towards the beginning of this year. 

Hitting a new startup market valuation stable point is likely to take another quarter or two barring a recession or additional public market drops. These things take some time to fully propagate to all stages, founders, and investors.

Top up rounds 

Many companies are doing quick top-up rounds to add 6-18 months of runway and ensure the company has 36 months of cash to outlast any economic downturns or recessions. These rounds may be anywhere from $1M to $30M in size. Valuations on top ups have increasingly gone from slightly up to flat with the prior round.

If you have supportive investors, doing a top up round may be wise simply to have more padding. You want to make sure you are either default alive or default fundable. The only downside of doing one now is investors are starting to get top-up fatigue as so many companies are doing these small bump rounds.

Metrics and speed

Investors are refocusing on metrics and actual diligence again before investing in companies. This means the time for each fundraise is stretching back to historical norms. While fundraises in 2017 took 2-4 months for most companies, during 2021 a round could happen in a few days to a few weeks.

Investors are looking for metrics around burn multiple & capital efficiency, net revenue retention, growth rate, and overall cash needs of the company.

As money leaves the market (see below), fundraises are likely to slow from 2021's a company raising a new round every 6-9 months back to the historical norms of a company raising a round every 12-24 months. Companies with a valuation that far exceeds their product/market fit may not raise for 24-36 months, and many of them have the cash to last that long.

Expect structured rounds or down rounds in the coming quarters

Down rounds and structured rounds (where investors are "guaranteed" certain payouts if the company survives) will likely accelerate in 6-18 months. They will largely impact companies that raised during the all time highs of Q3 or Q4 2021 and now find themselves "stuck" and unable to raise more money. These will accelerate as a number of companies get low on cash and need to raise again, but have failed to grow into their 2021 valuation.

Companies like Facebook, Square, and others have had to do down rounds or structured rounds at one point or another. So, it is not the end of the world if it happens.

Many unicorns will need to reprice if they can not get to high enough ARR with strong unit economics/burn multiple. Others will reprice for employee options.

Many unicorns have yet to realize they are stuck for now with too high a valuation and that they may never hit current levels again. Lots of “zombie” companies do not quite realize they are stuck yet and may never see their valuation highs again. Lots of companies will take 2-3 years until next round to catch up on Q4 2021 valuation.

Money leaving the market

Many investors who can invest in either public or private companies are mainly just focusing on public companies. This not only includes hedge funds, but also family offices and in some cases traditional venture funds. They view public markets as superior in terms of multiples and returns. Why invest in a $5B valuation private tech company with $50M in ARR when you can invest at a $5B valuation for a public company adding $50M in ARR every two months? Public companies are also liquid at most moments so you can exit the position more easily, and you can also hedge the position.

In parallel, venture capital LPs (the people who invest in VC funds) are asking traditional VCs to slow their investment pace. In 2021, VCs invested their venture funds in a single year. So a $1B fund was largely invested the year it was raised. Now LPs are asking VCs to go back to 2018 standards and invest over a 2-3 year period. So a $1B fund would get invested at a pace of $300M-$500M a year. Thus you decrease the actual VC dollars in the market by 2-3X, even if the fund size announcements sound the same.

Net-net is a number of sources of venture funding are out of market right now for the latest stage companies, pushing their valuations down. This will back propagate into earlier stages and will last as long as it takes to reset valuations across the board.

2. Employment & hiring

Layoffs are just beginning. Many companies are planning them now but have not pulled the trigger. For a bigger company it may take 1-2 months to decide to do a layoff, 1 month to plan it, and then a few days or weeks to do it. Smaller companies can move much faster, but represent a smaller proportion of the overall tech employee base. 

We will see more layoffs in the next 1-3 months and then again in 6-9 months. Many will not cut enough and will need to do a second layoff 6 months later. Others have not seen business drop or are not conserving cash. “We will grow our way out of it”. These sorts of companies may do layoffs 3-6 months from now when they realize their burn multiple is too high or their own revenue decelerates as their own customers cut costs. Some startups who sell to other startups may be most vulnerable in this regards in the short term.

Create a plan, don't just blindly cut

A minority of companies may cut when they shouldn't, as their business is doing great. Context matters. Create a revenue and burn plan versus just blindly cutting. Maybe you should take this opportunity to hire great talent that will have fewer places to go? Maybe you should invest in growth within burn multiples?

If you do have to do layoffs, it is usually better to err on the side of cutting deeper than is needed and then rehire later versus doing multiple layoffs spread out in time. While most cultures can sustain a single layoff, it is harder to do multiple in a row and this can negatively impact all the people still employed with the company, as well as employees who get laid off who thought they were safe. 

In general, it is easiest to a layoff when all your peer companies are doing layoffs. Your employees will view it as an industry-wide event versus something specific being an issue at your company. Obviously, you should only do a reduction-in-force if you truly need one. But all else being equal, timing wise it is both better to do it early (to conserve more cash) and when others are doing it (to minimize cultural impact and concerns about company health).

Some companies have also started getting more aggressive in performance cycles and letting go of 10% or so of their employees who are underperforming relative to their peers. In this case it is not a layoff but simply tightening performance criteria. GE famously would do this performance based approach annually, and McKinsey similarly had an "up or out" policy on an annual or every 2-4 year basis.

Cleaning up culture

Expect more “cleaning up mission and culture at work” moments. More CEOs will reemphasize that the company focus should be on customers, business building, and its core mission. In a turbo charged hiring market, the relationship power on average lies with employees over management. As markets normalize, lay offs happen, and jobs outside of MAMAA companies get sparser. Management regains some power and more importantly backbone. Maybe the vehement Slack debate on international political regimes that properly support organic oat milk[1] are at least partially superfluous for your pet insurance startup whose business is tanking?

MAMAA companies will continue to be the core of tech employment & compensation

Meta, Apple, Microsoft, Amazon, Alphabet (MAMAA companies) are a giant talent, compensation, and entitlement sink for the industry. They employee a significant portion of the overall tech employee base. For example, Facebook "only" plans to hire 7,000-8,000 new engineers in 2022 (currently at ~80,000 people). Google, Microsoft, and Facebook have around 400,000 employees between them. Apple is 370,000 people (but includes retail and other areas) and Amazon is over 1,000,000 (due to warehouses and other areas). Big tech employers are now a major part of the overall tech employee base and serve as a sink, buffer, or reserve for the industry in terms of layoffs, culture, or other areas.

Mergers and Acquisitions (M&A)

More M&A will happen. Founders are finally talking about selling when before there was little incentive to do so due to ever rising valuations and secondary stock sales.  In a tougher fundraising environment, M&A will become more of a buyers market. There should be lots of exits or attempts to exit in 6-18 months. Companies will realize their business is not that strong, or that exiting and having liquidity is better than trudging on indefinitely. As private market valuations align more with public market ones, it will also be easier for larger companies to justify buying smaller ones.


Recession (if it happens) likely to hit startups selling to other startups first, then startups selling to mid-market customers, then those selling to large enterprise. In parallel, companies that had a big positive COVID bump in revenue may now see a slow down as people return to offline activities and spending.

Recessions drop revenue and earnings growth which slows everything down for affected companies. If earnings and revenues drop so will growth rates and valuation multiples. For startups, a recession may slow their sales cycle and adoption as their customers cut costs.

If a recession happens there will be room for growth, multiples, and valuations to drop and for capital availability to tighten further. This may lead to further layoffs or other turbulence.

Even without a recession we may see a number of public technology companies miss their earnings in coming quarters as things slow, leading to a broader decline in the segment's multiples and market caps.

Building in this era

The reality is that relative to historical norms, we are not into truly tough times yet for the tech ecosystem. What we have seen is monetary policy tightening to combat inflation (which was caused by quantitative easing, money printing and drops to consumers by government as part of COVID policy, and some shorter term supply chain issues). The new quantitative tightening and removal of liquidity from the economy has caused the cost of capital to go up, and growth stocks to drop back to 2018-2019 levels - which themselves were all times high (This is of course an aggregate view. Some companies are undoubtedly being inappropriately penalized right now market cap wise, while others may still be far ahead norms). 

In other words, nothing truly terrible has happened in aggregate yet relative to 2018-2019. However, during the last two years the startup (and public markets) ecosystem ran ahead of itself on valuation, fundraising, and hiring. This overbuild means many companies need to slim back down to match their real revenue base, and many companies raised at a valuation that is high relative to their progress. A number of companies will inevitably grow into these valuations and be fine. Others will need to do down rounds, structured rounds, or exit to others.

It is possible with ongoing tightening of monetary policy (interest rate hikes and QT) that times will get worse. In that case you can expect further acceleration of layoffs and more valuation drops. Even if that were to happen, this is still one of the best eras in history in which to build a company. Capital and information are still broadly available, opportunities abound, and we are undergoing a generational shift to technology underlying all industries in a variety of ways.

A number of great companies will be built in this period. Apple, Microsoft started in 70s stagflation. Cisco started after “black Monday”. Multiple great companies emerged & grew post financial crisis (Uber, Airbnb, Stripe, Square etc). Nothing fundamental has shifted in terms of the long term view of technology as a transformative force remaking the world.

It is still a great time to build.


[1] Oat milk is quite odd in that unlike most other non plant-based milks which date as far back as the 13th century, oat milk was invented in the 1990s. Oat milk can also have a high canola oil content as the canola acts as an emulsifier to put the oats in suspension with the water. Oat milk was invented in Sweden, which makes intuitive sense on many levels. https://en.wikipedia.org/wiki/Oat_milk



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