How can you find economic security for your business in a volatile market?

by Startacus Admin

Henrik Grim, European GM of Capchase, shares insights on how founders can navigate more challenging funding conditions.

While last year was a record-breaker in terms of venture capital deals, and seeing some eye-watering valuations, the trends of the last few months would suggest that we are likely to experience rather a different story this year. We’ve seen public stock markets falling, and tech companies have been among the worst affected. The Bessemer Cloud Index has slipped back to 2020 levels with a drop of over 40% in value in the past five months. The private market is harder to gauge, but evidence suggests that it is also slowing down, with valuations coming off the highs of last year.

World events - whether it’s the supply chain crisis, coronavirus variants or the invasion of Ukraine - have made the global economic outlook uncertain. There are also clear signs that higher interest rates combined with inflation are having a cooling effect on funding levels. At the best of times deciding on when and how to raise capital for a startup is a complicated process. So, if the ‘good times’ are over for now, what does that mean in terms of funding options for tech founders?

In Europe, the economic conditions and options available to entrepreneurs are very different from the tech downturns of 2000 and 2008. That said, it is always prudent to think about and plan for more difficult conditions in the future. With the right strategy most entrepreneurs can both prepare for the worst and leave themselves in a great position should the situation be better.

Let’s start by discussing why a cooling of the tech industry doesn’t necessarily spell disaster for most startups. In previous downturns the two main challenges for startups were low demand and a scarcity of funding. Europe’s tech ecosystem was also much more shallow and only integrated into a handful of verticals in the wider global economy. This led to a situation where struggling startups quickly folded, leading to a general chilling in the wider tech sector. Well run and fully viable startups struggled to raise funding - they couldn’t capitalise on opportunities or lengthen their runway. In short - both good and bad tech startups took the hit.

In 2022, the tech sector is significantly bigger, more experienced and much more diverse. Consequently, the industry as a whole should be more resilient in the face of flattened demand. The next, possibly more significant factor, is that entrepreneurs don't need to rely solely on VC capital. There are a host of different capital providing models available. This includes non-dilutive capital for startups with recurring revenue provided by companies such as Capchase. There are plenty of other options to fit startups in most scenarios, including from traditional financial institutions that have significantly broadened the products they offer to entrepreneurs.

Of course, this is not to say the next few quarters or longer will not be difficult. Entrepreneurs need to put the right plans in place to ensure they are well positioned to weather any economic storms. Ensuring there is enough capital on hand is fundamental. So how should founders go about tackling this issue?

Usually a company’s access to capital comes from three sources: cash you already have, new capital from existing financing partners, and new capital from new financing partners. For startups that already have equity investors or other financing partners, now is the time to stay in contact, making sure you’re aligned on the market situation, and its implications on your business. However, it’s worth remembering that the decrease in valuations at exit will put pressure on your investors to drive more value creation per dollar invested to reach the same expected returns.

Startups might question whether they should be trying to land a big VC round before funding dries up. In my view though, seeking a ‘big round’ for its own sake is never going to be the best strategy. Larger rounds generally come with much more pressure and plenty of strings attached. Not all investors take a founder-friendly perspective during difficult times. Rushing to get a round in will also naturally run the risk of bad decision making, potentially ending up with the wrong investment partner, agreeing to bad terms, or giving away an unnecessary amount of equity.

Funding as a hedge for the future is a thornier issue. If your startup is in a less than secure position you may be forced into a down round (equity injection with valuation decrease). It may be your last resort, but it will run the risk of negatively impacting motivation for founders, employees, and early investors. On the other hand, if your business is in a healthy position and you want capital to absorb shocks, insurance while you continue to scale, or to take advantage of any golden opportunities that might emerge then yes, seeking out more capital makes sense. However this should ideally not be at the expense of your equity.

An uncertain economic outlook can go either way. This is why non-dilutive debt financing or other debt options can be so useful. Startups that are in a good financial position will be able to get the funding they need and take control of their financial position. Finally, if this uncertainty is making you concerned about your best next step, seek out advice from experienced advisors.

ABOUT THE AUTHOR

Henrik Grim is an experienced tech leader and investor with over 10 years at leading technology, consultancy and VC firms including Northzone Ventures, Spotify and McKinsey and is currently the European GM of debt financing company Capchase. Founded in 2020, Capchase has funded nearly 3,000 startups worth over $2 billion via its financing platform, and has a European HQ in London. 

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Published on: 17th May 2022