February 1, 2023

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After a wave of new businesses, the cold economy intrudes

An unexpected consequence of the pandemic era has been an increase in entrepreneurial activity. Since 2020, applications to start new businesses have skyrocketed, reversing a decades-old slump.

the reasons for prosperity forked. Millions of people were suddenly laid off, giving them the time and inclination to start new businesses. Personal savings have skyrocketed, fueled in part by a frothy stock market and government stimulus payments, providing would-be entrepreneurs with the means to realize their visions. Low interest rates made money cheap and widely available.

But the spirited economic environment that helped foster this entrepreneurial spirit gave way to soaring inflation, soaring interest rates, and dwindling savings. This has left these startups navigating intersecting financial challenges — and a possible recession — at a moment when they are most vulnerable. Even under normal circumstances, nearly half of all new businesses fail within five years.

“Startups are inherently vulnerable,” said John Haltiwanger, a University of Maryland economist who studies entrepreneurship. “They are more likely to fail, and they are especially likely to fail in a recession.”

In 2021, Americans applied to start 5.4 million new businesses, according to data from the Census Bureau. This was on top of the 4.4 million applications filed in 2020, which was the highest in more than 15 years the government has been tracking. (Filings from last year through November were running before 2020 but behind 2021; numbers for December will be released this week.)

Data on the actual business composition will not be available for several years, so it is not yet possible to measure the effects of the cooling economy on new projects. The success of these new businesses could have broad implications for the health and dynamism of the overall economy.

“Innovation is driving gains in productivity,” said John Deere, president of the Center for American Entrepreneurship, an advocacy organization. “And innovation disproportionately comes from new companies.”

But he warned that the Fed’s monetary policy – aimed at curbing the fastest price increases in decades – is “escalating the headwinds facing entrepreneurs into gale force by crushing demand and increasing the price of money”.

In interviews, the entrepreneurs expressed a mixture of determination and resignation about the months ahead. Some said they learned lessons from the disruption of the pandemic about how to weather financial adversities that they believed were recession-proofing their business models. Others have been clear about the need for outside funding that they fear will no longer arrive.

“It’s definitely been a bumpy ride,” said Jennifer Sutton, who started a smoothie and wellness bar in Park City, Utah, in 2021. She said she is deeply concerned about inflation, as well as the possibility of a recession that could reduce tourism on which her business relies. I opened a second location inside a grocery store, in part because it required less startup capital than opening another standalone storefront.

However, Mrs. Sutton is lucky in many ways. She financed her company, High Vibes Juicery and Wellness Bar, largely with her family’s savings and credit card debt.

Taylor Wallace, a businessman from Florida, is in a different situation.

After being laid off from augmented reality company Magic Leap at the start of the pandemic, he reconnected with a friend, Mike Milbin, who was looking to start a dog daycare business. In the fall of 2020, the two began acquiring doggie daycare locations that were for sale, and got into a new business called Paws ‘n’ Rec.

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The company, which provides membership-based, boarding and personal care daycare services, currently has two locations in the Tampa, Florida area, with a third under construction. But the company wants to grow by opening more sites — just as inflation drives up construction costs and higher interest rates make loan terms more difficult. His borrowing costs on the company’s credit line, which he expects to draw on soon, depend on prevailing interest rates and have increased by more than four percentage points from last year.

“The rising cost of debt will be a great challenge for us and for everyone,” he said. “When we started this, we were dealing with the money being the cheapest out there in the US.”

Some entrepreneurs said high interest rates and uncertainty about the economy appeared to have dried up sources of capital that had previously flowed in.

When Lundon Attisha started his first business, Bidstitch, a subscription-based online marketplace and news site for vintage clothing, in the summer of 2021, he quickly raised about $200,000 in venture capital and angel investments.

“I thought I was the star of it all in raising capital,” said Mr. Atisha, who quit his law firm job within a month to start his firm. “The space was somewhat squeezed at that point.”

But he said investors seemed more reluctant to put money into early-stage companies when he went to raise money again last year. “The tone of the room with investors – there has been a tangible change,” he said. He ended up selling Bidstitch in September to a Los Angeles portfolio company.

That experience helped shape the business model for a second company he started last year, Cita Reservations, an online reservations system for tables at coveted restaurants. Instead of relying on outside financing, the company began charging people right away, selling reservations at some restaurants for $200. To get attention, he gives reservations to social media influencers.

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“We have to be more aware of where we put resources,” he said.

Census data shows that a raft of new business applications were for sole proprietorships that had no intention of hiring employees. Many of the filings were also for companies in industries that have been upended by the pandemic, including retail, food services and logistics, some of which may have been replacing others that have closed.

But despite a slowdown that could hurt new businesses, many economists are optimistic that the start-up rush that began in 2020 will continue to translate into job growth, innovation and, ultimately, a more productive economy.

“A lot of these new businesses continue to grow and hire,” said Luke Pardue, economist at Gusto, a payroll and benefits platform for small businesses. “These new companies are driving employment growth right now because they continue to grow and because they are ambitious in their future roles.”

CEO of a vacuum manufacturing company in Price, Utah, that his father started in 1985, Spencer Lovelace became frustrated during the early months of the pandemic because supply chain issues were preventing him from obtaining parts from China. So he started using his company’s 3D printers to make his own parts. Companies that were similarly stuck in supply chain crises caught on at what he was doing and began asking him to print items for them, too.

In November 2020, he founded Merit3D, a 3D printing company. The company originally had two employees, but it has been growing. Last year, he had 20 workers; This year, he aims to get 30 to 40.

His employment plans don’t stop there. He wants Merit3D to eventually have 1,700 employees — helping offset job losses at nearby power plants that will close in the coming years.

Mr. Lovelace said his goal for the year is to “get as much revenue as possible for the company so it can support itself as quickly as possible”. Relatively unaffected by the prospect of an economic downturn.

“I think the recession is going to be stronger than most people think,” he said. “How we prepare for that is we become the best at what we can do.”