As with Virtually Every Other Industry, SaaS Companies are Facing a Difficult Road Ahead
Indeed, many SaaS companies may be experiencing these challenges already, with customers looking to cut back on spending (such as by reducing their tech stacks) or holding off on subscribing to new solutions until more positive economic indicators emerge. As a result, SaaS funding for growth has become more difficult to obtain with the investor hype train slowing down significantly.
While the VC market of the past year was hotter than ever before, and recent capital commitments are still being deployed, new capital is now harder to come by as a result of the downturn. VCs are pushing on their SaaS investments to become more efficient and explore options for expanding revenue with existing customers. These are all worthwhile efforts, but SaaS leaders — and their partners — still have ambitious growth goals, regardless of the negative economic outlook.
Flexibility addresses complexity — Dig deeper into the challenges the tech industry is facing today and how to offset them with the right funding.
Recapping Common Funding Sources and Their Challenges
As mentioned above, venture capital and private equity firms have become far more conservative in their approach due to recession fears and inflation. Previously, equity investments were made more liberally and rapidly, with investors looking to capitalize on market momentum and energy. Investments are still being made, but multiples are much lower and investors are much more cautious, taking their time and requiring more due diligence first.
Thanks to rising interest rates, the option of a bank loan is looking far less attractive. Coupled with the fact that banks typically require more collateral in order to make an investment, and scaling-up SaaS companies often not having significant assets, getting SaaS funding for growth is less accessible with this route.
Venture debt financing remains a readily available vehicle for obtaining growth capital. While venture debt features an interest rate, and lenders may have opted to increase their rates in light of the current economic environment, rates generally are tied to other details. As we’ll explore shortly, venture debt financing offers flexible options that help to offset the impact of a higher rate.
Dig deeper into funding sources — Explore these and other solutions that SaaS companies use to accelerate growth.
Why Use Debt as SaaS Funding for Growth in Today’s Market?
Depending on the lender, this form of SaaS funding for growth is typically available in a few different flexible structures that enable SaaS companies to use capital strategically. Two of the most beneficial include interest-only and step-up structures:
- Interest-Only — Just as it sounds, borrowers only pay interest on the loan. Note that if tranches are in place, the borrower would only pay interest on the amount currently in play — not the total loan amount. This allows SaaS companies to use the capital right away while reducing the cost of the capital early on, enabling them to retain more of their profit and use it to accelerate growth. Learn more about interest-only repayment here.
- Step-Up Structure — Similar to revenue-based financing, a step-up structure means borrowers’ monthly payments increase as their revenue increases. The key difference is that revenue-based financing is tied directly to revenue, so the payment isn’t always known nor can it be planned for. With a step-up structure, the increases are scheduled out during the application process, so borrowers know when and how much those increases will be. Learn more here.
Venture debt financing is designed to help SaaS companies accelerate growth. Whereas equity investments are often used for infrastructure, platform, financial, and other purposes, debt is most advantageous when used to scale up marketing and sales initiatives. Common examples include building out content marketing and paid digital advertising and expanding sales teams or hiring experienced sales leaders. Learn more about sales and marketing solutions that can be funded with venture debt.
We touched on this lightly already, and this will depend on the lender selected, but venture debt interest rates aren’t tied to any index or market rate. While factors such as inflation can influence what the rate will be, more common variables considered in determining the rate include the borrower’s credit profile and the amount of risk associated with the deal.
No Equity Impact
Every lender is different, but venture debt is typically non-dilutive, so the borrower doesn’t have to issue shares or provide warrants in exchange for receiving capital. This not only preserves existing stock values but also eliminates additional costs due to dividend payments, having to give up a board seat, losing control over the direction of the company, and having the long-term exit opportunities for founders reduced. Ultimately, venture debt financing keeps SaaS companies in control operationally and financially while providing the resources they need to grow quickly.
Position Your Business for Growth in 2023
Don’t let the gloomy forecasts for the year ahead deter you from pursuing and achieving your growth goals. River SaaS Capital has worked with numerous SaaS companies to help them use debt capital with extreme focus and to realize significant results. Learn more about some of our portfolio companies here and what we’ve been able to achieve together. When you’re ready, connect with our investment team to learn more about the benefits of venture debt financing.