VCs Say Open-Source Startups Are Resilient in a Recession

• Open-source-software startups could be resilient in the face of a recession, investors say.
• The technology stays relevant because it helps companies cut costs and is used for critical tasks.
• Companies like Red Hat, HashiCorp, Confluent, and MongoDB have grown during downturns.

Startup valuations are being slashed left and right amid a market downturn. But some startups, like the ones that give away their software, may hold the secret to staying afloat, and even thriving, during a

recession

, investors say. 

Some of these startups are resilient because they provide a mission-critical service, such as cybersecurity technology, Daniel Docter, a managing director at the venture-capital firm Dell Technologies Capital, told Insider. In other cases, companies cut costs during a recession based on where can save money over the next year, and open-source software is free to use. So customers keep using open-source software, and the startups continue to grow.

“If there’s open-source software that has a clear path to cost savings in an enterprise, they will do well,” Docter said.

And there’s a proven track record of open-source success during a downturn. In fact, founders built some of the most influential open-source businesses during recessions and downturns, Joseph Jacks, the founder and general partner of the venture-capital firm OSS Capital, which invests in open-source companies, told Insider.

Red Hat, which IBM purchased for $34 billion in 2019, continued to grow in 2008 during the Great Recession. That’s partly because it provided support for Linux, a free alternative to Microsoft Windows, Red Hat’s chief technology officer, Chris Wright, previously told Insider. 

More recently, the pandemic led to a downturn in 2020. But the open-source-software companies GitLab, HashiCorp, and Confluent still went public last year. Meanwhile, MongoDB surged in the markets, and Databricks skyrocketed in valuation.

While open-source startups usually sell paid features or support services, the core open-source software can be viewed, downloaded, and modified by anyone for free. That means these startups can acquire customers much faster to scale their user base, Jacks said.

“A lot of the biggest investors I’ve talked to, people we coinvest with, are interested in capital-efficient business,” Jacks said. “Open-source companies are the most capital-efficient.”

Capital efficiency measures a company’s output compared with how much it spends to make its products or services. Open-source startups meet that standard because they can spend less on sales and marketing but still gain customers.

Plus, open-source software adds another layer of security for companies using it. If the maintainers ever step away from the project, companies can keep the code running because the source code is readily available, Docter said. 

Still, it’ll take years to determine which companies will benefit or even emerge from this downturn. But that doesn’t stop investors from announcing funding rounds for commercial open-source-software startups each week, Jacks said. 

When deciding which open-source startups to invest in, venture capitalists look at the potential of the software’s market to grow, how the open-source community adopts the project, and the founding team, Jacks said. That helps them evaluate if they’re the right people to build a large business and understand market dynamics.

“Do they need to burn $100 million to get to $100 million in revenue, or do they only need to burn $10 million or $20 million?” Jacks said. “It’s increasingly becoming the consensus that open source falls into the latter category.”