The simple and painful reality for startups in this economy goes like this: Survive until things pick up, or die quickly and start over.

Mark Peter Davis at DFJ Gotham makes this point in his recent post, The State of Venture: The Ugly, The Bad And The Good.

In this new economic environment, access to capital will become an increasingly important differentiator. If venture investing contracts substantially, a strong balance sheet will no longer simply be a means of staying with the pack, it will increasingly become a substantial advantage, enabling some companies to get way out in front of their competition.

Mark points out that companies with solid funding should be thinking big, albeit cautiously. As competition falters – either showing signs of weakness or dying completely – the companies with solid balance sheets and good funding can execute more aggressively. That means hiring top talent (because more of it will be available), executing more quickly and playing a louder, more dominant market role.

Ultimately, there aren’t many companies with huge amounts of funding and great balance sheets – especially amongst early startups. So what are the alternatives?

Startups can die quickly

In many cases, as Mark points out, this is a blessing in disguise. The economic downturn forces us to re-examine everything about our businesses and we might not like what we see. At some point, you have to say, “Enough is enough.”

In a recent presentation by Howard Lindzon he pointed out that now is the time to shelve ideas or early stage startups that simply won’t work in these economic situations, and revisit them later.

Dying quickly isn’t the worst thing in the world. Failure isn’t the end of your opportunity as a startup entrepreneur. And oftentimes it’s better to die a quick death versus a slow and much more painful one. Out of the death of one startup, others will be born.

Making the decision to kill your startup is hard. I don’t have an easy answer for when and how to do this, although I do think it should be discussed more openly and frequently within the blogosphere, amongst startups, etc.

Startups can survive

The other option is to survive. It certainly sounds more appealing than dying quickly, and in most cases it is. Although survival with no chance of success isn’t really survival…

Mark makes an important point in his post:

While I believe the frontrunners will come out of this downturn positioned to win big, the story isn’t entirely bleak for the second and third tier players. Once the end of the downturn is in sight, corporations will likely exploit the financial woes of startups to make low cost acquisitions. The hunters will be coming. For some entrepreneurs this could yield decent (if not life altering) returns.

This is absolutely true, and you can see this coming when the economy does pick up. Of course, we’re not quite sure when that will be, so banking on surviving as a second or third tier player is a tough bet. Nevertheless, survival of the “second or third fittest” is an option; especially if you haven’t raised huge amounts of money and can take smaller exits. I believe this is the route for many startups at this point – especially those that are early stage and not very well capitalized. You can grow a low cost business, focus in stability, build out some worthwhile and interesting technology, create a small but vocal fan base and survive until the economy picks up. When it does, the big players will emerge as huge victors, but there will be other companies looking to acquire the second and third tier players to compete with the big winners.

Incidentally, Mark’s follow-up post is also worth reading, DFJ Gotham Is Actively Investing, Others Should Too. There are numerous reasons for venture firms to keep investing aggressively:

lower valuations means they’ll get a bigger piece of the pie

exits aren’t really expected until 2011-2012 when (we assume and hope!) the economy is recovering very strongly

opportunities still exist to radically shift and innovate in a number of markets; the crappy economy doesn’t change that fact

Go Big. Die. Or Survive.

In many respects now is the time where you have to make the decision – do we go big, die quickly or try and survive (without it being a bullshit survival)? The amount of money you have, the current status of your company and many other factors all play a role in making that assessment.