The Decibel - Unicorns, camels and the tech crash

Episode Date: January 26, 2023

To cope with the rising interest rates and higher-than-normal inflation in the economy, many tech companies are changing how they do business, focusing on turning a profit over growing revenue or market share.Technology reporter Sean Silcoff explains why for many years, forgoing profit was a good bet for startups, why that focus has led to mass layoffs in today’s shakier economic reality, and how some companies are thriving in these tough times.Questions? Comments? Ideas? E-mail us at [e-mail]

Over the last year, the tech sector has hit a rough patch, and there have been major layoffs at places like Shopify, Spotify, Amazon, and others. All this has forced more companies to focus on making a profit. And as Globe technology reporter Sean Silcoff tells us, that's unusual in a sector where many companies have been chasing the kind of growth that leads to big valuations and the coveted unicorn status. Today, Sean will tell us about those unicorns and about companies like Jane Software Inc. to help explain the tech sector's historic highs and current lows. I'm Maina Karaman-Wells, and this is The Decibel from The Globe and Mail. Sean, it's great to have you on the podcast. Thanks for being here.

Thank you for having me. I'm going to start by asking you a question that you're going to have to kind of, you're going to have to explain a little bit, but I think it's a good place to start. What makes Jane Software Inc. a quote unquote camel? A camel is a company that can sustain itself through the market's ups and downs. Camels can walk through the desert with ample storage of what they need to make it through drought. Okay. And this is in contrast to, of course, a unicorn, right? Yes. In the tech world, everyone wants to be a unicorn and nobody has heard of camels until Jane kind of came up with the concept and started talking about that in 2021 when everyone wanted more unicorns. And what is a unicorn? If people haven't really been familiar with this, what is that in the tech world?

A unicorn refers to a private technology company that has been afforded a $1 billion valuation. That's $1 billion in American money. That means, let's say, somebody invested $100 million and the value of their investment was 10% of the company. So the company, therefore, had a valuation of a billion. That didn't mean necessarily that they had a billion dollars of cash or that they had a billion dollars of revenue. It's just that the whole company was worth a billion dollars of cash, or that they had a billion dollars of revenue. It's just that the whole company was worth a billion dollars.

Wow. And this was a popular idea in the 2010s, the idea that you'd kind of made it as a tech company. If you could convince investors, thanks to your solid growth and the big market you served and the buzz that you created, that you were worth a billion dollars, that made you a special company. And we started to see unicorns pop up here and there in Canada. And then once the pandemic started and everyone went digital and you started to see a lot of shifting to online communications, online commerce, the number of unicorns in Canada absolutely soared.

When we say soared, what are we talking about there? They started to pop up once a week. In 2021, I was run off my feet writing about the latest unicorn. Now you have to remember the environment that this came out of. We had, coming out of the credit crisis, this amazing confluence. Everyone was suddenly on smartphones. You had this whole economy that was bursting out of people's palms. Companies like Uber just did not exist or couldn't exist before

smartphone. You had artificial intelligence. People were now selling software by the month over the internet. You had an explosion of cloud computing. So all these things came together and just created this enormous opportunity for startups to launch companies. And then you had all these venture capitalists who were showing up to back these companies like Facebook and Google that led the way. And then companies like Uber. Pretty soon people were ordering food from their palms everywhere they went. And you had this enormous surge of companies in America and Canada as well. Okay. Well, this is actually, this is really interesting context then. So this

is kind of where the unicorns come from. And let's figure out where Jane comes in then. So what does the company do? What does Jane do? Who founded it? Can you give us some information about this company? So this company starts with a classic story of an entrepreneur with a problem they're trying to solve. A woman named Allison Taylor had a clinic. She rented out rooms to various practitioners. You had naturopaths, you had physiotherapists, massage therapists, and she wanted a practice management software that could manage the businesses for them. And she didn't like what she found.

So she asked an old friend who had designed her website, hey, can you build me a piece of software? He did. It was great. And pretty soon other people were saying, hey, can we try your software? Same thing happened with Shopify, by the way, because Shopify started out

as an online snowboard sales company. They built a piece of software because they couldn't find one to run an e-commerce store to their liking, and it was so good that others started to ask them if they could do the same thing. So anyway, Jane went to market. By 2014, they'd built out the software. They went out, and they basically just met professionals at conferences.

They started out with BC massage therapists, and that's where I met them. It was 2016. There was a big tech conference in Ottawa, and I just started talking to them. Hey, who are you? Why are you here? And they told me about their little software company that had a few hundred massage therapist customers in BC. And I think my thinking at the time was, that sounds kind of cute, but they're really nice people. So, you know, in 2021, it's Unicorn Central. And I haven't heard at all from these folks in a couple of years. I sort of reached out to Allie and said, hey, how are you doing? And we just started talking. And I realized she had gotten to an amazing size. Jane at this point

had expanded geographically, had expanded to different disciplines. They had $30 million in revenue, which is pretty big for a software company. In revenue. So this is money that they're making here. This is revenue. This is the top line. But they were also profitable. And that was almost unheard of. You see, the whole model in software, the way it's developed over the last 10, 15 years,

is you want to scale. Everyone wants a total addressable market of billions, tens of billions, hundreds of billions of dollars. The idea is to spend quickly and get those revenues up quickly. And if you're a venture capitalist, you can write a check. And ideally, the company within 5 to 10 years has grown exponentially to the point where the million dollars or the $10 million you invest is worth $10 or $100 million. Everyone in venture capital wants what they call a 10-bagger.

In other words, for every dollar you invest, yeah, for every dollar you invest, you want $10 back. Is this the idea of growth stocks? Like we hear that term thrown around. Is that what we're talking about here, Sean? That's what growth is. When people talk about growth in tech, they mean fast growth. Because the idea with the whole venture capital system and tech the way it is, is venture capital has come along. And for every 10 companies they back, one or two of them are the superstars, the ones that return 10x or 50x their invested money.

And the idea is the big winners of Facebook's of the world, the Googles of the world, are supposed to make up for all the other ones that fail. Because the idea with venture capital is you are making high-risk bets. High risk, high return. Why is this so popular in tech specifically, though? Why is this the sector that we see this in? The thing about tech and software specifically is that you can double and triple your sales, but you don't have to build a new plant. You don't have to secure more metal.

You don't have to source new batteries for that. Tech is software. Software is code. Code is easy to replicate. I want to ask you about something you said a little while ago, Sean, about how Jane was unique because it actually was turning a profit. And in the tech sector, that's actually something that's special, which is kind of amazing to think about. Because, you know, I think that when you found a company and you're taking millions of dollars in investment without actually focusing on profitability, that seems almost counterintuitive. Like founders have to pay back investors, don't they? Why not focus on profitability? Well, here's the difference between Jane and

tech companies. First of all, Jane didn't start out as a tech company. It didn't really think of itself as a tech company. It thought of itself as a small business. So Jane was not trying to build a tech business. It was trying to build a business business, a small business. They have their revenue, and that's what they can pay for things with. And at the end of the month, at the end of the year, whatever's left over is profit. And it seems simple, and it seems universal, but that's not the way it works in a lot of early stage disruptive businesses where often you're starting out with an idea and you

have no idea if it will work or not, but you're driven by the conviction that it will. And if it does, it will actually change the world. It's like Facebook, social media. Social media was sort of a new business model the way it was done. In the case of Facebook, you have to get a billion, two billion users before you can actually start to try to sell advertisement against it. So that's where venture capitalists come in. They listen to these ideas. They take a look at the entrepreneurs. They say, I have faith in these entrepreneurs.

I have faith in this business idea. Let's give this a shot. And then they might write the first million dollar check. And if they're delivering against all of their objectives and the growth is coming and the people are signing up and the advertisers are interested and people are spending money for the product, they say, OK, well, we'll invest the next $10 million. And that model has worked time and again. And some of the largest companies in the world are technology companies. And a lot of them started out this way. And some of them, by the way, are very profitable now. We'll be back in a minute. Let's talk a little bit about the tech sector kind of on a bigger level here, Sean.

We've gone over this a little bit in previous episodes on The Decibel with our colleagues Tim Morgerani and Tim Kulatz. But I guess just to remind us here, could you give us a quick assessment of what's happening in the tech sector right now? Well, we've just come through a very difficult 2022. Things really started in late 2021. And inflation began skyrocketing across the board. People started to worry that that was going to mean interest rates would start going up as well to get that inflation under control. And sure enough, they did, of course. Yes. And that happened last year. Exactly. And what happens when interest rates go up? It starts to put a damper on the economy. And also, you see anyone who's been investing in riskier assets like early stage technology companies, biotechnology companies, cannabis

companies, anything that's a little riskier than say, banks or telecoms, you tend to see a flight away from these types of investments. So if you've been on this machine of fast growth and raising venture capital, and the idea that you'll raise money one year valuing your company at $100 million and the next year at $300 million and the next year at a billion, and suddenly valuations are down, you're not so sure that you're going to be able to raise your next round of financing at very good terms. And so the venture capitalists who already are invested in you and have a vested interest in seeing their investment value go up, turn to the entrepreneurs and say, well, hey, listen, we don't know if you're going to be able to raise money in the next couple of

years. So what do you have on the balance sheet now? Oh, you have $10 million. That was supposed to last you six months. Well, now it's going to last you two years. So how do you take all the money that's on the balance sheet of all these companies and make it last longer? Unfortunately, it typically means layoffs because that's where most of the money goes in tech companies. And a lot of recruiters lost their jobs last year. You stop the hiring because typically fast growing tech companies are hiring against the revenues they anticipate will be coming. And those first rounds of cuts really were just about tampering expectations for growth. We saw 150,000 layoffs worldwide in the tech sector last year. So we're talking a lot of people lost their jobs.

That's right. And it began accelerating really in the third and fourth quarter. I think that was just the trailer for the movie. We've now seen already in early 2023, two companies in Canada, for example, Clearco is one of them. Thinkific is another. They each laid off over 20% of their staff last year. They've come back and laid off another 20% plus this year. This time they're talking about we're going to be profitable in 2023. That's the promise they're making. Wow. Yeah. I'm glad you brought up Clearco. So I want to ask you about this company because this, I believe, was actually valued as a unicorn in Canada. And maybe let's contrast this to Jane, the camel from North Vancouver here.

Both Canadian tech companies, but they're looking very different these days. So can you just give us some background on Clearco, Sean, so we can understand really the difference here? First of all, very different businesses. I mean, when we're talking about Jane, we're talking about a piece of software. Basically, it's the one piece of software you would use to run your practice. Clearco offers financing for e-commerce merchants. And the idea is, if you're a fast-growing e-commerce merchant, you need money. Venture capital is really expensive. And if you want to go get a business loan, you have to sign away your

life pretty much, is the idea. It's very hard and very costly to get a business loan, you have to sign away your life pretty much is the idea. It's very hard and very costly to get a business loan. What they offer is advances. And the idea was that you could go online and give them access to your bank account and your Facebook advertising account. And with a few buttons and in a couple of hours, a few hours, they would come back to you and say, okay, well, we can offer you this much money at this fee. So that's what they were doing, and they were doing particularly well at it, and they expanded quickly. They weren't profitable. They hired a lot.

They were getting into different geographic areas. They were starting to offer different types of financing products. They wanted to – And fun fact, their CEO was a – or is a dragon on Dragon's Den, of course. Oh, yes. We forgot to mention that. Their CEO is one of the most well-known CEOs in Canada, Michelle Romano. She's a star of Dragon's Den. She's built and sold a few different businesses, and she was the CEO of this company. So, okay, 2021 comes along. There's a big shift to online spending, and suddenly they have a lot of demand for their product from all these e-commerce entrepreneurs who are doing really well. They become one of these hot companies.

So they went out and they raised money at a big valuation, and they became one of the unicorns. And then things start to turn south because what happens when interest rates are going up is their cost of capital goes up. And so they have to charge their customers more. And as interest rates are going up, the idea is that people will start spending less because the brakes are going to get put on the economy. So a lot of those e-commerce merchants are going to be under pressure and then they're getting money at a higher rate. So it's a very difficult and a very tricky business to pull off. And this is also where the layoff started too, right? Last year was a year where they actually laid off a lot of people.

Clearco made a lot of headlines last year they probably didn't want to make. They had a lot of people exiting the company. They started to get a spike in demand from people who needed money, but they couldn't necessarily do it at the rates they were doing. So they actually stopped giving out money for a week. They froze originations. That's their whole business, though. Yeah, exactly. Let's take a look at this business. So they had to increase their rates. They had to tighten up their underwriting requirements. And then they laid off 125 people, which was a quarter of their staff. So they pulled back a lot. They now really only offer one financing product

where they were trying all sorts of different things. They're only in the one market of Canada and the U.S. as opposed to being in 13 or 14 different countries in Europe and elsewhere. And they've laid off yet another group of people in January. This is like hearing the details of how this unicorn, Clearco, that was so highly valued and how they're not in a great place right now. This is really kind of showing how Jane the Camel

out in North Vancouver, how that's actually a really good model for this point in time. They're turning a profit. They're not. They haven't been hiring or spending like crazy. This is where that kind of business model is actually a really good thing, it sounds like. That is true. Although, to be fair, Jane's co-CEOs would be the first to tell you it's not a business model that works for everyone. It's worked for Jane. And, in fact, Jane had a lot of naysayers along the way saying you're not spending fast enough. You're not growing fast enough.

And there have been examples of other companies who, you know, don't grow necessarily as fast as they could. And then inevitably what happens is other people come along and they do a similar thing. They raise a lot of venture capital and they start to crowd out the market. So it's always a very tricky balance if you're going to not grow as fast as others, you better be pretty good at what you do. And that's what happened in Jane's case. Jane has crazy employee engagement scores. Their rating on Glassdoor, which is where employees go to rate their CEOs, is 99%. 99% approve of your CEO. Wow.

That's almost unheard of anywhere. And I've seen some of their employee engagement scores. Everything in their internal surveys is high 90%. Like this is a company that cares for me. People answer 95, 96%. And their customers love the product. So they love the product so much that Jane doesn't actually have to pay for a sales force. They don't have a sales force because 8 out of 10 new customers come from referrals.

That's also very rare in software. You go on a Facebook site for physiotherapists and you say, hey, I'm setting up a practice. What software should I use? Everyone says, Jane, Jane, Jane, Jane, Jane. Yeah. So all this being said and done, we look at the state that tech is right now. We think about the Canadian unicorns that were built up to be kind of the biggest, best thing that everyone was aspiring to beforehand. Are the days of Canadian unicorns totally extinct in Canada?

Are we going to see another cycle? What do you think is going to happen here? Well, we're just at a bad point in the economic cycle, but the key word there is cycle. In 2002, tech was terrible. There was a lot of carnage out there, a lot of wrecked companies. 1995 to 2001 was a huge party. Everyone was going public. You were creating these monster tech companies.

This was the dot-com boom. I was around and covering it at the time, and I remember what a crazy hothouse period it was like. And then from like end of 2001, 2002, 2003, it was bleak. But you know what? Things came back. As long as tech continues to deliver the next big thing and the next big opportunity, it's going to continue to draw and attract financiers and entrepreneurs who are going to try and harness that and create businesses out of it. If you think about the most valuable companies in the world now, many of them didn't exist 15, 20 years ago. And 15 to 20 years from now, some of the world's most valuable companies will probably be companies that don't exist now. That's an interesting thought to end on.

Sean, thank you so much for taking the time to talk to me today. My pleasure. Thank you so much. That's it for today. I'm Mainika Raman-Wilms. Our producers are Madeline White, Cheryl Sutherland, and Rachel Levy-McLaughlin. David Crosby edits the show. Kasia Mihailovic is our senior producer, and Angela Pichenza is our executive editor. Thanks so much for listening, and I'll talk to you tomorrow.