Everybody knew that the economic crisis would have a profound impact on VC-backed technology startups. Many that had been able to raise lots of funding when times were good focused on growth instead of revenue, grew headcount rapidly and planned for M&A levels and IPOs that were a part of an economy that is now a fading memory.

With many VCs unwilling or unable to continue supporting portfolio companies that haven't found a way to support themselves, it was only a time before waves of startups started closing their doors and selling themselves at firesale prices as they ran out of cash.

As The Wall Street Journal reports, the bloodbath is beginning in earnest. From online music startups to medical device companies, the number of startups that are closing up shop and/or liquidating is increasing by the day. Despite the cost cuts many implemented last year as the global economy collapsed, many are reaching the inevitable point at which the money to keep things going simply doesn't exist.

The Journal quotes Martin Pichinson of Sherwood Partners, a firm that assists startups in winding down:

Start-ups are failing faster and you're going to see a major shakeout.

He says that his firm has been helping, on average, 3 startups a week close up shop since mid-January, up from one or two closures just a few short months ago.

That may not seem like a lot, but when you're dealing with dozens of startups, some of which have raised tens of millions of dollars in funding, the impact is easier to comprehend. Even for companies that are able to sell themselves off, the outcome is usually bittersweet. Take bioscience startup Guava, which found a buyer willing to pay $22.6m. Guava did $22m in revenue last year and had raised over $50m from investors.

Any way you cut it, a lot of money has essentially evaporated.

But that's not the worst of it. The most disappointing impact the economic crisis may have on the startup world is a chilling effect on innovation. If entrepreneurs working on big ideas can't find the funding to develop them and startups that were in the process of developing new products and services can't see the process to fruition because they are forced to wind down, the impact could be significant.

At the same time, however, the fact can't be ignored: there were more than a few bad startup investments over the past several years and perhaps the ongoing bloodbath is actually a much-needed rebalancing. As entrepreneurs are forced to be more creative with their resources and to focus on building products and services that can generate revenues in a reasonable amount of time, it's possible that we'll actually see quite a bit of innovation over the next several years.

After all, necessity is the mother of all invention.

Patricio Robles

Published 13 February, 2009 by Patricio Robles

Patricio Robles is a tech reporter at Econsultancy. Follow him on Twitter.

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