If you are fundraising and your fundraising round is taking longer than usual, you may be heading towards a down round. In this update, we conclude that, what's key for founders is to (a) think outside the box and not assume that venture capital is the only financing option available to them (b) review corporate strategy. Here are some options you may want to bear in mind, before considering a down round:
- Cost Cutting
Cutting costs means the money from your previous funding round
will help you to continue operating and having funding
conversations for longer. Cost cutting is often a strategic,
data-driven decision and not one to be taken spontaneously, because
cost-cutting may have operational, legal and product implications.
It is therefore important to carefully think about what costs to
cut and when to cut those costs. One way we have seen this done, is
for senior management to come up with a documented cost-cutting
plan which:
(i) identifies/ prioritises mission-critical FEEs (i.e. Functions,
Employees and Expenses)
(ii) identifies what specific cost-cutting actions would be taken
as per each FEE. Such cost-cutting actions can include any of, a
hiring freeze, laying off staff, re-negotiating a contract, merging
functions, furloughs or converting "willing" employees to
"contractors"
(iii) adopts a time-based graduated approach to implementing
cost-cutting decisions based on your company's runway.
Essentially, the cost-cutting plan is saying, these are my most important FEEs. If we don't raise in month 1, we would apply cost cutting action ABC to either F or E or E. If we don't raise in month 2, we would apply cost cutting action A or B or C to either F or E or E.
Cutting costs can also have legal implications. Where, for instance, laying-off some members of staff is considered part of your cost-cutting strategy, it's often important to adopt disengagement procedures which does expose your company to litigation liability and additional expenses.
- Delay Your Fundraising
Sometimes, it's just the market. In a cold market, it's often wise to to delay a fundraising decision, as you might be able to secure better terms of financing at a later date. Investment bankers often hold off a fundraising exercise when they think the market conditions are not right and may not support their pricing expectations. Also, if you exhaust all your options of prospective investors in a "cold" market, having fundraising conversations when market conditions get better, with the same venture investor prospects, may prove difficult.
- Revisit Your Valuation
Sometimes, the reason you are not getting a yes, is because prospective investors consider your current valuation too high and unrealistic. Not all investors will give this as a reason for returning a No (even when you ask), but it can always be a factor. How do you know if your valuation is too high? One good approach is to speak to your existing investors. Even though your existing investors have an incentive to secure the highest possible valuation, they can often be able to provide a reality check. Speaking to venture capital lawyers may also be useful because they get to see valuation figures across board
- Re-evaluate Your Strategic Priorities
Sometimes, you are thinking of expanding into another country and that priority underlies the narrative in your fundraising deck, whereas it might be more useful to hone-in on your in-country customer and revenue strategy with an aim to increase market share. Other times, you are thinking what you need is a Series A, whereas, a late seed financing or a Series A extension, may be a better proposition.
- Appoint Industry Experts as Directors/Advisers
Every tech company finds expression within the context of an established industry. Appointing a professional with deep industry expertise can provide access to insights and key relationships. The insights can be very useful in meeting strategic milestones and for ultimately, fundraising.
- Do a Bridge Financing
A bridge financing assumes that you have a temporary cash flow problem and that you need some cash infusion to get your company to a point (i.e. achieving a milestone) that positions your company for a successful financing round. Many of the bridge financings we have advised on, are structured as convertible notes, (with an extendible tenor and pre-agreed interest rates), which the investors can either take out as cash repayment upon maturity or converted to preferred equity. Founders should think ahead about the size of a dilution that a convertible note than create upon conversion. A bridge financing can be used to provide an injection of cash at just about any stage in the life of a start-up. Perhaps, the closest example of a bridge financing used at the late stage is Robinhood, that raised a $1billion bridge round in January of 2021 before its IPO in July of the same year.
- Try Strategic Partnerships
Strategic partnerships can be very useful in driving customer acquisition. A strategic partnership may also be what you need to achieve a key milestone. More importantly, a strategic partnership, can position your start-up to receive funding from, sometimes with a new type of investor, which could be a strategic or impact-driven investor
- Try Revenue Based Financing
With revenue-based financing, the investor provides a cash injection in exchange for a pre-agreed percentage of your company's gross revenues with a repayment structure that is spread over an agreed tenor. Revenue-based financing is a type of debt financing because you would have to pay back and investors will not wait for an exit event for a return on capital. However, instead of a fixed interest rate of return and fixed monthly payment, repayment of capital is tied to revenues. An example could look as follows: $100,000 injection to be repaid with 4% of gross revenues until lender is repaid the total repayment amount of $110,000. Usually, the repayment amount will factor in a risk premium to cover the risk taken an investor. Revenue financing is also not dilutive as you are not required to issue shares or equity-linked instruments to the investor in exchange for the cash injection. Its not also typical for an investor to request for security in a revenue-based financing. However, some investors do request a charge on company assets.
- Try Receivables Financing
With a receivables financing used as a type of venture capital financing, you are essentially using your receivables ( typically, contractual debt) as security for cash injection. In its most basic sense, the way a receivables financing works is for you to sell your receivables to a bankruptcy-remote offshore SPV funded by your investor. The SPV pays for the receivables sold to it using cash received from your investors, whilst your investors get a return on their investment from the interest and principal payments received by the SPV upon the maturity of the receivables. A receivables financing is typically off-balance sheet and with no recourse to your company, in the sense, that you will not generally be liable to your investors, if some or all your debtors fail to pay a contractual debt. Receiving financings are typically used by lender banks to monetise their illiquid assets, like mortgages, credit card receivables or student loans but is also now being used as a financing strategy by venture backed start-ups.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
