Venture Capital Trends: Investors Buy Distressed Startups

Bending Spoons, an Italian company, has recently gained attention after announcing a significant acquisition of AOL and a $270 million funding round, which has increased its valuation from $2.55 billion to $11 billion within a short period.

The firm has adopted a strategy of acquiring stagnating tech brands like Evernote, Meetup, and Vimeo, turning them profitable through aggressive cost-cutting and price increases. This approach diverges from traditional venture capital strategies, as Bending Spoons plans to retain these businesses rather than sell them, marking a notable shift in investment tactics towards distressed startups.

Andrew Dumont, the founder and CEO of Curious, a firm that revitalizes what he calls 'venture zombies,' believes that this 'hold forever' strategy will gain traction, especially as AI-native startups diminish the relevance of older VC-backed software companies.

Dumont asserts that while the venture power law indicates that 80% of companies fail, this creates opportunities to purchase businesses at low prices and quickly generate cash flows. Curious has raised $16 million in capital dedicated to acquiring stalled software companies that cannot secure further investments.

The firm has already purchased five companies, including UserVoice, a startup that raised $9 million in venture capital but struggled due to misalignment in its capitalization table. Dumont notes that stagnant companies often sell for a fraction of the valuations of healthy startups, with estimates suggesting they can go for as low as 1x annual revenue.

By implementing cost-cutting and strategic price increases, Curious can achieve profit margins of 20% to 30% shortly after acquisition. Dumont explains that the ability to centralize functions across their portfolio allows for more efficient operations compared to standalone companies.

Interestingly, he points out that traditional VCs often prioritize growth over profitability, leading to a lack of incentive for startups to operate sustainably. The cash generated from the revived companies is then reinvested into acquiring additional startups.

Dumont foresees acquiring 50 to 75 more startups over the next five years, highlighting a segment of the software market that has been overlooked by private equity and secondary investors. While Bending Spoons' recent valuation increase may validate this venture zombie acquisition model, Dumont cautions that turning these businesses around is a significant challenge, indicating that not many investors may be willing to take on the extensive work involved in such efforts.