For the past 15 years, startup funding and valuations knew only one direction: upwards - especially in SaaS. And it made sense: Fuelled by low central bank rates, venture capital was abundantly available, sparking an era of digital innovation and creating a generation of entrepreneurs.
Founders and CEOs who wanted to grow their SaaS businesses could rely on a well-oiled automatism at play: To grow their business, they needed capital, and so they would raise more equity, mostly from VCs. It was relatively easy.
A new paradigm emerges: debt as a viable form of start-up financing
But more recently, European SaaS Startups are increasingly turning to debt funding as an alternative or complement to venture capital. Two trends have worked in tandem as a catalyst:
- VCs going risk-off
They are a lot more restrictive in their funding, sending startup valuations south. According to VCs, this is not gonna change before 2024 or even 2025.
- New form of capital
Debt providers have emerged as an alternative in start-up funding, giving founders more options to choose from.
And it makes sense: Even absent a valuation crisis, non-dilutive growth capital - a specific form of venture debt - has many advantages over venture capital. To list just a few:
- No dilution
founders and early shareholders don’t get diluted when raising capital while still having the means to fuel revenue growth. This makes a big difference at a later exit - and keeps founders in full control until then.
Debt funding from dedicated SaaS lenders like Float just takes 1-2 weeks, and the application just takes a few minutes. This doesn’t just free up working hours that founders can spend on the actual business - it also drastically shortens the period of strategic uncertainty that businesses face while the funding situation remains unclear by several months.
Some providers offer a type of credit line to SaaS businesses from which loans can be drawn on an on-demand basis and increased in size exactly when needed
- Low cost
It may sound paradoxical - but non-dilutive growth capital is often more cost-effective than available alternatives like venture capital, convertibles, factoring, or making clients pay for a year in advance (see our other blog posts for more detail)
Funding is highly situational - debt is ideal for specific use cases
But funding is highly situational. Founders, CEOs, and CFOs of SaaS companies should assess the nature of their business and the upcoming investments when choosing their form of capital. As a general rule of thumb: Unproven new endeavors are typically Venture Capital cases whereas situations of acceleration of functioning businesses, or temporary cash needs, are often more suitable for debt. Similarly, businesses whose costs exceed revenues many times over, or where the team is still experimenting in the market, are equity cases. Contrarily, if you have found product market fit, growth is solid, and MRR exceeds monthly net cash burn, debt is a very viable option for you. What these characterizations have in common: It’s less a question of size or funding series - but of the nature of the business, the situation, and the upcoming investments.
Tailor your funding to your use case
At Float, we have seen hundreds of SaaS companies raising debt to drive their business forward. The most common and successful use cases we see:
- Accelerating growth
Investments in sales and marketing. Debt is particularly suitable when the CAC payback period is shorter than 12-18 months max. Investments in marketing or new sales reps generate revenues that finance the loan so that the company ends up with higher revenues, lower cash burn, and debt-free after the first cycle. If it’s working: repeat - you may never need equity again. And as any such investments typically need 3-6 months of ramp-up until they generate cashflows, we recommend looking for providers that offer an amortization-free “grace period”.
- Extending the runway
If you are not satisfied with the valuation you could get today, why not wait for 6-12 months so that you can grow your topline, reduce your burn, reach certain milestones, or improve your KPIs like NRR? Or simply wait until equity valuations recover. Debt is a great way to extend the runway until the next fundraising round. Float created a great ROI calculator (see Float’s ROI calculator for extending the runway).
- Mix & match
Combining a VC round with non-dilutive growth capital is a great option when founders don’t get the full amount or not quite the valuation, they had in mind. Simply top up your equity with some loans and you may get to a similar total funding - and a similar dilution! - as you would have gotten while markets were still booming
- Reducing price discounts for annual prepayments
A common way of improving liquidity is to make your clients pay in advance and give them a discount in return. But the cost of those discounts is horrendous, as we explain in another blog post. In fact, the cost of capital easily reaches 35-40%, it reduces the topline, on which the next revenue multiple will be set, by 15-20%, and it harms the conversion of new clients (especially if you are following product-led growth). Non-dilutive growth capital can advance the same revenues without incurring all these disadvantages. We consider this one of the most underrated use cases.
- Temporary cash bridges
We all know the situation - sometimes there are just a few months of cash shortage in the bank account. Common reasons include seasonality (e.g. in retail tech), upcoming incoming payments (e.g. in enterprise sales), or short-term expenses (like onboarding cost or hardware investments). More established companies get a credit line - but banks don’t lend to unprofitable SaaS businesses. Short-term loans from specialized SaaS lenders can fill the gap.
In conclusion, after years of equity-only financing, SaaS businesses are increasingly turning to debt financing as a viable alternative, giving founders more options to choose from. Debt financing provides advantages such as non-dilution, speed, flexibility, and cost-effectiveness, making it ideal for many use cases. However, funding is highly situational. So to get the most out of it, founders, CEOs, and CFOs of SaaS companies should tailor funding to their specific use cases.
Float specializes in non-dilutive growth capital for European SaaS and subscription companies and offers up to 70% of their ARR as part of a transparent and flexible credit facility. The sign-up is fast and simple and Float takes no shares, warrants, or personal guarantees by the founders. Sign up today to learn more!