The new fundraising reality for Swiss SaaS: why a flat round might not work
Many Swiss SaaS had raised equity from 2020 to 2022, one of the hottest markets ever and very favorable for raising. After a typical equity raise, companies have approximately an 18-month runway. This means that many of these companies will come to market for capital soon. As investors were pushing for growth, companies have been encouraged to achieve it even with a very high burn.
Market sentiment changed and now investors are pushing for profitability. The challenge for these companies is that they likely raised funds at a valuation higher than the one they could obtain today in the markets.
However, companies that are in growth momentum and with good KPIs might not want to kill their growth engine. In these cases, Swiss SaaS still need additional external capital to build their path to profitability. Companies are seeing their runway getting shorter and some are getting close to their Zero Cash Day, so immediate action is needed.
In order to avoid down-rounds, which are psychologically and financially painful for founders and investors, many times flat-round valuations will be negotiated with investors in return for sweetened terms, such as liquidation preferences or anti-dilution provisions.
Always remember that in case of a not-great exit, this could mean that the common shares held by the founding and general team can potentially become worthless, depending on the exit price.
The good thing
It is good to see that the funding environment becomes more realistic and comes down to earth. This is helping companies to become fitter, removing inefficiencies and polishing GTM, products, sales, marketing, and overall unit economics.
Many Swiss SaaS are growing and with healthy metrics. Despite long sales cycles, the client acquisition costs remain relatively low to their lifetime value. Low churn in the B2B space is also very positive as it helps retain or even increase logo MRR. Product development and regional expansion also look good for some, and with the recent tech layoffs, great talent became available again.
The problem
Markets corrected and became realistic. Valuations higher than 50x ARR were seen in the past with no explainable logic. The reversion to fundamentals is very positive for the industry.
When thinking about VCs, it is good to remember that they are expected to deliver their LPs an IRR of at least 20%-35%. Given the return distribution on a VC portfolio (most companies will be written off, some will help to recover the investment and a few will do great), every new investment has a return expectation attached to it. Although this changes with the market timing, it fluctuates between 10x and 15x, depending on whether it is a Series A or B. In order to illustrate the reality, let me share a theoretical example of a post-series A Swiss SaaS funding journey.
Post-series A company thinking about a Series B
Last round: 2021
Amount raised: CHF 4’000’000
Post-money valuation: CHF 16’000’000
ARR at last round: CHF 1’000’000
Valuation multiple: 16x
Round dilution: 25%
Total equity still with the founding team: ~40%
Post-Series A Cap Table
Let’s assume the company wants to raise again and thinks about a flat round
New round: 2023
Amount aimed: CHF 4’000’000
Post-money valuation: CHF 20’000’000 (Last post + new investment)
Current ARR: CHF 2’500’000
Valuation multiple: 8x
New dilution: 20%
Total equity still with the founding team: ~32%
Post-Series B Cap Table
Investor return expectations
Now in order for the Series B investors to be attracted to this opportunity, they need to see that they can achieve at least a 10x return in a 5 to 7-year horizon.
Post-money valuation: CHF 20’000’000
VC Return expectation: 10x
Valuation expectation: CHF 200’000’000
ARR needed at current multiple: CHF 25’000’000
Compounded annual growth rate needed to achieve target ARR in 6 years: 47%
Post-Series B: Expected ARR Growth
Now, founders and investors should be thinking:
- Can the company achieve a 47% CAGR level sustained over 6 years without raising funds again?
- Does achieving 10x revenues in 6 years sound realistic?
- If this sounds realistic to the team and can be conveyed to investors, then it looks like equity will be helpful.
- If this does not sound realistic, then don’t waste time on this path. 47% CAGR looks achievable for pre-series-A companies but becomes very difficult for post-series B SaaS to sustain 6 years afterward.
So what are the options ?
Unsurprisingly (or surprisingly, depending on who you ask), the best option is to focus on running your company as efficiently as possible, cutting all unnecessary expenses, maintaining your growth engine, keeping your best people, and having a healthy culture that creates value for the long-term. These efforts will allow companies to reduce cash burn as they extend their runway and potentially achieve profitability.
If the path to profitability still requires a runway extension, you could think about a bridge round with your current investors, non-dilutive capital, or a combination of both to mitigate dilution. If you are a Swiss SaaS you can learn more about our founder-friendly non-dilutive growth capital solution, Lendity Growth.