Pandemic has left fashion start-ups vulnerable. Here’s what investor advisors say founders should do

Jelena Tasic Pizzolato, Innovation Director at Loomish in conversation with:
  Vanina Farber, elea Professor for Social Innovation at IMD Business School,
  Sabrina Vilhena, Advisor to the Funds, Social Starts and Joyance Partners,
  Jeroen Muijsers, Owner, Flocus,
  Andre Van der Wolde, CFO Flocus.

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“Everything is just stuck at the moment. There is a lot of insecurity. […] We needed to reduce our costs and be lean, since nobody knows how long this is going to last”, confides Jeroen Muijsers, the Founder of Flocus, an eco-friendly textile created from the fruit fibre found in kapok trees.

Before the pandemic, Flocus had big plans for expansion and opening new facilities, as the demand for its sustainable high-performance material was growing. The company was also perfectly positioned for collaborating with fashion brands on their CSR reforestation projects: planting kapok trees in subtropical areas, enriching biodiversity on non-agricultural soils, offsetting CO2 and, almost as a by-product of that: leaving brands with scalable quantities of a naturally waterproof, light and insulating modern material for their collections.

Sustainable, scalable, on-trend and with a personable, capable founder: Flocus is an example of perfect “investor material”. But, running a sustainable materials business in the current climate requires some strategic pivoting.

The impact that the pandemic is having on fashion start-ups depends largely on the nature of their core business. For instance, digital fashion and VR fashion applications are experiencing a period of the strongest acceleration ever.

In contrast, Covid19 has left alternative textile start-ups working in the fashion industry struggling. As they are positioned at the beginning of the fashion supply chain, together with fibres, yarn and garment factories, the effect for textile start-ups was tangible the moment brands started cancelling orders.

From smart money to patient capital: what are investors doing right now?

Gone are the days of founders looking for the “smart money” chimera, i.e. investors that are not only ready to inject substantial cash into the start-up, but have the expertise and high-level connections to help the business thrive. What we need now on top of that is patient capital that sticks around in these difficult times.

It will take time until we are able to fully grasp the magnitude that the systemic risk of a pandemic can have on industries, affecting all parts of the interconnected global economy in a capillary way.

Over 40% of start-ups globally are in the so-called “red zone”: they have three months or less of cash runway left, the latest research shows. On top of that, it is estimated that 74% of start-ups saw their revenues decline since the beginning of the crisis and they are looking at reducing the workforce, cutting costs and getting additional access to liquidity.

According to Sabrina Vilhena, a London-based venture fund advisor and founder coach, there is a significant discrepancy between the levels of optimism that founders and investors are working with at the moment: while founders hope that the impact of the pandemic will start diminishing by the end of the year, the VCs are expecting it to happen closer to the spring of 2022, as some surveys suggest.

This difference in perception is the reason why “valuations are being reduced on average by 20%”, explains Sabrina, adding that on the investor side it is not just about buying cheap, but evaluating the likelihood of a start-up to successfully weather this crisis. “At the VCs that I advise, we are ideally looking at the start-ups who have 12 months runaway”, she confirmes.

There also seems to be a solid global trend in doubling-down on investments, as Sabrina explains:

“Around 40-60% of VCs globally have started refocusing their investment criteria to follow-on rounds: instead of going after new deals, they double down on their previous investment to save companies in their portfolio.”

If the investors believe in the founders and the business models, it is only natural that they support them in the times of crisis.

Vanina Farber, elea professor at the prestigious IMD Business School agrees that private capital is needed for startups to survive the crisis: “You need a patient capital that sticks around in these difficult times. I can confirm that I see it a lot in impact investing: investors might be delaying new investments and they are doubling down on what they have to support more resilient business models and improve their agility”.

The importance of the founder mindset in a crisis

“You are not going to scale up only with angel investor money. You are not going to scale up if a corporate invests in you. You can, but it will take a very long time. You need to have a compelling business model and then get access to funds”, says Prof. Farber.

It is exactly the periods of standstill that are ideal for business model fine-tuning, reflections and experimentation. Although many founders are (rightly!) focused on their company survival, they need to gather their forces to look beyond and ensure they are positioned to come stronger out of this crisis.

“No one can foresee what will happen and how long it is going to take. But the actions need to be taken now”, urges Sabrina, adding that this is the time founders should be courageous.

How to improve the robustness of your sustainability start-up’s business model

It goes without saying that we cannot thrive if we do not survive in the first place.

But, how do we survive in the right way? How do we refine our business on the go, making it more robust and ensure that we exit the crisis ready to thrive?

Our interviewees suggest five strategies that founders and their teams should deploy:

1. Play with scenarios

“It is a time of uncertainty. It is difficult to predict the future because we have no data”, says Prof. Farber, suggesting to use scenario planning. It is a tool that she applies often when working with executives from finance and investment arenas as they attend their executive education programs at IMD Business School.

As the longevity of the virus is the key variable, try thinking about the effects this crisis will have on your entire ecosystem (consumers, governments, suppliers, competitors, etc.) if this crisis lasts just a few months or if it continues for a couple of years. In each of the scenarios, what threats and opportunities do you see for your company? What should you be doing in order to ensure the robustness of your business model? What opportunities should you be taking? What projects should you put on standby?

2. Think strategically about which costs to cut

“This is the moment for start-ups and investors to play offensive and defensive at the same time, which is an art. We cannot cut all costs. It is about which costs we cut and which costs we keep in a more offensive way, to gain opportunities”, says Sabrina.

“How can I be proactive and forward-looking and come out of this crisis in a stronger position?” is the question you should be asking yourself according to Prof. Farber.

3. Do not cut on your R&D resources, now is time to experiment

Sabrina firmly advises against cutting your research and development, as it is exactly innovation that will be a deal-breaker in many industries. And, if you are tight with that budget – perhaps relocating some human resources to it could be a wise move. She elaborates:

 “When markets and volumes are down, we can use the spare capacity for testing something and creating. So, when the market goes ahead, we will already be a step further than the others”.  

4. Sustainability start-ups should aim to become a part of a larger ecosystem to access blended finance

Let’s return to Flocus as an example of a start-up in the fashion sustainability arena.

There is a liquidity crisis in the industry and there are numerous alternative textile propositions in the market. Producing a high-quality, high-performance textile while supporting regenerative foresting does not suffice. To stand out and grow in this context, start-ups should connect in a more proactive way with their stakeholders, think about whom we get on our start-up’s Advisory Board, build an ecosystem or tap into an existing one.

“What we need is not a fibre, it is a solution that is already scaled, with a systemic point of view”, advises Prof. Farber.

Particularly for start-ups working in the sustainability arena and connecting in some way to the developing countries, there is a significant opportunity to access blended finance funds, those that combine development finance, philanthropic funds and private capital. For instance, Flocus could be a great candidate for tapping into a blended finance solution for reforestation.

But in order to do so, its value proposition needs to shift from “I have this fibre” towards collaborating with large corporates that need this value chain transformation and with the financial sector that finds that area of investment appealing.

5. Do not abandon your sustainability mission, but look at how you can amplify its aspects

The Covid19 Crisis seems to be solidifying sustainability as a trend that is not going away.

“Sustainable Development Goals need to be achieved, as due to Covid everybody has realised what can happen in a split second if we are not careful”, says Andre Van der Wolde, the CFO at Flocus.

Prof. Farber confirms, sharing insights from the recent scenario planning exercises she has been running with senior finance executives. Assessing the implications that a short-term or a long-term crisis could mean for businesses, she noticed quite a positive phenomenon:

“The interesting result is that regardless of the scenario, sustainability comes out as a trend that is going to survive. So, [businesses] need to get more sustainable regardless. Companies cannot cut in business transformation the parts that are material to their business model. For instance, in the fashion industry, supply chain and sourcing are the key issues that will have to be addressed. Companies with foresight will be investing in innovative solutions and will be on the lookout for better solutions”, she concludes.

Be the company that they will want to find.

Listen to the full conversation here>>>>>