Technology, the leading sector economically and financially, is experiencing massive layoffs. Since the beginning of the year, Tech Companies have laid off nearly 200K workers, by far the most significant adjustment in employment that we’ve seen in this sector in recent memory.
Layoffs are never good, but this year’s Tech Firings are unique in that they represent a broad spectrum of geographic diversity, with companies from many different countries providing service to many distinct sectors of the economy. But they all share one thing: they are new companies and cannot obtain financing. And this is the point that Wall Street is missing.
I’ve read various articles and reports about these dramatic tech layoffs. And there is a lot to be gained from their insight. The number one insight from these tech companies is the conviction that a Recession, and likely a major one, lies just around the corner. They would not be reducing staff if the economy looked hunky dory and they saw higher sales. By laying off people, Tech is saying loud and clear that the economy is likely slowing to an economic contraction.
Like all of us, Tech is experiencing the effects of inflation. They are seeing a potential decline in earnings as the cost of all inputs, from raw materials, components, and especially labor, continues to escalate. Input cost, driven by this two-year bout of inflation, is also squeezing margins. So the natural next step is to reduce overall expenses and cut back to sustainable production or service levels in this inflationary environment.
Finally, many mention the future impact of Artificial Intelligence, AI. As a finance guy, evaluating how impactful this innovation will be on employment takes time. I’ll accept the management’s assessment that fewer workers will be needed as AI rolls out.
But all of this analysis ignores the number one cause of these current Tech Layoffs: the current cost of financing. Every primary industry in this economy dramatically differentiates between the “haves” and the “have nots,” the rich and the poor. It is especially true for newer tech companies.
Mega-corporations are at the top of the Tech Ladder, Apple Computer, and Microsoft. They are the two leading companies in Tech and the economy in general. They have massive market caps and the most extensive balance sheets. They are nearly immune from any changes in the cost of capital because they are able, by and large, to self-finance. Apple and Microsoft can generally foot the bill if they have a new project or capital investment.
As everyone else struggles with inflation-driven higher costs, Apple and Microsoft sail above the waves and have enough cash flow that they don’t have to worry about going to the capital markets to raise additional funds. Remarkably, these companies will reduce their long-term debt over the next few years. That indicates just how strong their respective financial position is.
Most tech companies are in various stages of development, hoping to replicate the success of Microsoft and Apple someday. However, there are only a privileged few of those companies. They are the bluest of corporate blue-bloods, the very elite of technology companies.
On the other hand, many of these baby techs have just emerged from startup, while many others still need to define their market niche. For these baby techs, it is a very different world. Capital becomes the lifeblood they need to survive. Even if they had been profitable a couple of years ago, they might now be below break-even as the ravages of inflation drive their costs higher.
According to the Website, Layoffs. Fyi, over 700 Tech firms have laid off nearly 200K employees this year alone. But as staggering as those numbers are, what’s even more astonishing is that 135 of those companies went out of business entirely. These layoffs were just part of the company closing.
Most recent to close their doors for good have been San Francisco-based Cana, a tech company for food services, Tel Aviv-based L1ght, and Houston-based Fem-Tech Health. All were early-stage companies and needed help to obtain the financing they needed to continue.
For these 135 Tech Companies that failed, all were caught in a brutal vice between rising input costs driven by inflation, and escalating capital costs, driven by higher interest rates. This deadly equation is killing off much of our emerging Tech Sector.
I’ve been involved in a couple of startup ventures, and the rising cost of capital alone is enough to destroy many firms in their initial operation phase. Combining higher capital costs with rising expenses due to inflation is devastating. And this one-two punch is affecting the entire sector of startup tech companies.
For 50 years, America prospered under the banner of increasing economic freedom. I was fortunate to spend most of my career in the 1980s, an almost idyllic time for entrepreneurs. In the 80s, interest rates were declining, lowering the cost of capital. At the time, Government Policy lowered both taxes and regulations. Public Policy created an ideal environment for new startups to prosper. The combined financial trends of de-regulation and disinflation started an entrepreneurial renaissance that continued until now.
Unfortunately, today, all of those trends have reversed. The number of new technology firms that are failing tells the story. Entrepreneurs face higher interest costs from rising inflation and increasing taxes and regulation. And for 135 new Tech companies, these growing costs were too much to overcome.
These are very tough for new emerging Tech Companies, companies that might have provided the future innovation needed for sustained economic growth. The loss of these firms does not bode well for our continued economic progress.
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