How Should Startups Fundraise During Crisis?
I will not be the first to tell you how things are for startups. The rising interest and inflation rates and the turbulent geopolitical situation are pressing, and the business environment cannot help but feel it already.
Of course, no one has yet pronounced the appalling word starting with “r” and ending with “n,” but the whole 2008 - the vibe is felt in the air.
The anticipation of the downturn has already affected how investors distribute investments and give funding to startups. Statistics show that the global VC investment number fell to $57 billion in Q1, 2023, compared to the $200+ billion upsurge in the same quarter a year ago.
Global VC investment fell to $57 billion in Q1’23—a shallow note compared to the high of $200+ billion seen in the same quarter just one year ago.
And this change in pattern has significantly changed the rules of the game for startups. As a result, businesses need help to adapt. In this article, I want to highlight what steps you can take as a startup to win an investment and keep the company afloat.
What will investors look at in 2023?
In the cherished times of 2020-2022, it was all about a breakthrough idea for startups. Having a hype-driven concept (like AI or NFT) and a couple of Letters of Intent, you could easily earn an investment or get a loan from a bank (RIP SVB).
Of course, numbers mattered as well. But having a hype-driven idea could get you quite far.
Well, things are different now. Investors are sharpening their sights in search of worthy candidates for their investments. Here are the factors to have in mind.
In the existing environment, metrics are taking the leading role. The harsh truth is that investors are more interested in how you will make a profit in the nearest time (6-12 months) than in a mesmerising pitch. The strategy where you’re growing and selling your product for $0 is no longer viable in 2023. These days, profit means more than just the product’s livelihood. It means that the product gives added value to the client.
So which metrics will catch the eye of the investor? Here’re some from the list:
- MRR, ARR, Burn rate, Growth rate
- Productive sales reps;
- Rapid expansion within customers;
- Decreasing customer acquisition costs.
In particular, customer and gross retention is critical. It shows the business's ability to streamline its growth plans. Also, if the gross retention is high, it means the product is valuable to users, satisfies their real needs, and you've done a great job!
The best strategy now is to grow slower, spending less on marketing or sales.
I touched upon this one a bit earlier. As shocking as it may sound, investors will now look closer at how a product satisfies users’ needs and what value it brings. We all reminisce about the pompous failures of Segway or Quibi in the old days.
These textbook cases of failure teach us that before we pitch and develop a product, we should ask ourselves a couple of questions – will it solve a problem in people’s or businesses’ lives? And do users need this solution, or are they happy with what they have now?
These are not just some existential questions to ponder while showering. These are the fundamentals of startup development, which you should complete during the validation phase.
In 2023 the validation phase gained even more relevance. As the selection threshold gets higher, investors will look closely at what added value your product brings to users, as it determines the longevity of the startup.
So how to thrive during a recession?
Start with the basics
Whether a crisis is already at your door or is only looming over the horizon, you should always keep one thing clear – take the fundamentals seriously.
By fundamental in startup development, we mean a triad of conditions that a startup should complete to start:
- Provide a solution to a real problem (bring real value);
- Launch on a growing market: choose a domain that has the potential to grow;
- Gather an agile team who works fast and makes quick decisions.
- Concerning the last point, you can consistently enforce your team agility by outsourcing an external team. Outsourcing is a perfect solution for startups for several reasons:
- Allows finding the tech talents lacking on your project;
- You can find a holistic team with expertise in your domain or required technology;
- Ability to change the size and amount of the outsourced team depending on the growth needs with no employment responsibilities.
Focus on Core Audience Segment
Look who your clients are at the time and try to divide them into segments. What segments of the audience bring the maximum profit? And what are the narrow spots of your strategy?
It may turn out that you get 80% of your profit from 20-30% of clients. So it may be more profitable to focus your efforts and resources on this group rather than trying to spread yourself too thin.
Change your business model
Changes in the economy trigger changes in how people do things. Some things lose their relevance, while others gain momentum. For example, recruiting companies might have a different demand than before because of the massive layoffs. So maybe it is time to look at other segments of the audience.
Take a while to think – who else might need your product/service? Maybe there are some non-obvious options. Or perhaps you’ll win by switching from B2B to B2C?
Be flexible and open to change.
Prioritise your marketing channels
A crisis is not the best time for marketing, as its expenses often go under the knife. Yet, there are always the core channels that bring maximum leads. So take a while to optimise the marketing channels, eliminating the ineffective ones while focusing on those that carry the lion’s share of the leads.
Also, find the right balance between the marketing investments and the outcomes that they dwell on. For example, on one of my products Plai, we have been testing the ads channel as a source of potential leads. Ads are a pretty resource-consuming channel, especially in terms of money.
So once we started to feel the crisis behind our backs, we refocused our efforts on a less consuming and more long-term channel as inbound marketing (SEO-optimised blogging). This step was again according to the “keep growing but take it slow” rule. So, if there is an alternative, more affordable channel that pays off in the long run – that’s a path to take during the crisis!
Show your product is valuable
It’s all about value in 2023. When investors make decisions, they seek high engagement, customer retention, and a good conversion rate to payments. But let's face it, not all startups in their early stages can boast of impressive metrics. So how can you convince investors to jump on board?
Focus on your strengths and showcase a clear plan for your product or marketing strategy, explaining how the investment will be allocated to reach those results.
Also, prove that your product is bringing at least some revenue and has a group of users who genuinely need it. And hey, nobody's perfect – instead of turning weaknesses into strengths, just make sure to address the obvious flaws and iterate on them.
Reevaluate your business
Beginning with 2023, we've already seen a parade of startups changing their valuations—for example, Stripe. Valued at $95 billion during the last funding round in March 2021, Stripe was the most valuable private company in Silicon Valley.
Yet, as soon as June 2022, the fintech startup had to reduce its valuation by 28% (50 billion).
And rightfully so. Once the crisis strikes, it is vital to understand how your valuation has changed. What's your burnout rate, and how long can you exist without investments? Get support from your partners, and gather a couple of letters of intent from potential clients. That is how investors will see that you're a reliable company, poised for work, so they can trust their money to you.
And even if your valuation is far from what it used to be in the flourishing 2022 – do not reach out for a Prozac. The market today is much more sober than it used to be in 2022, and investors that. So now it is time to show how wisely you can use capital for growth.
Remember about alternative sources of funding
It is not all about investors. There are other sources of funding that you can refocus in times of crisis:
- Venture loans;
- Public grants;
- Revenue-based financing;
- Collaboration with companies seeking innovations.
This is usually during a crisis when the best innovations are born. Such startups as Slack, Airbnb, and Mailchimp thrived during recessions. So take it as another challenge, be smart, and you’ll weather this storm!
Tap into large target segments
When venture capitalists invest in a startup, they want to make at least five times their investment. That's why the CEO's job is to convince them that their company can deliver such results. To do that, the business needs to thrive in a market worth at least $10 billion and show impressive yearly growth rates in the double digits.