Asset prices have been drawing down in every market over the last few months. You can see it in stocks, bonds, real estate, commodities, and crypto. There have been numerous people warning business owners and founders of technology startups to prepare for a tough economic environment.
This usually entails cutting costs, taking on outside investment, and focusing on profitability. The average small business is well prepared for these situations because profitability is the name of the game in good times or bad times. Technology startups have a different approach, which usually allows them to lose money for a period of time before they find product-market fit and profitability.
So the technology companies are the ones who will have a tough time over the next few months if they can’t get access to new investment. But as the saying goes, beggars can’t be choosers. Raising new capital during a market downturn can be excruciatingly painful. There is heavy dilution and unfavorable terms. Venture capitalists are price makers and founders are price takers.
This isn’t the only path though.
With the recent rise in subscription revenue products, both consumer and enterprise, there has been the creation of a new financing option for founders as well. Pipe, and other companies like them, allow founders to access non-dilutive capital by using their recurring revenue as an asset. I am not an investor in the company, but I am friends with the founder Harry Hurst and have been working with Pipe on the podcast for awhile now.
I asked the company to put together an overview of how founders can access this non-dilutive funding during these severe market downturns. Here is that overview:
2022 has started out to be a wild year for founders and business owners. From the Fed raising interest rates and possibly planning to raise them again, to economists talking about impending recession, to valuations shrinking and VCs cutting back on deployment, the funding environment is very different than where we were just a year ago. But even with all that change taking place, there are some great opportunities for companies to grow if they can access the financing they need to make it happen. Alternative finance may just have the answer for that.
What you can’t control
When the growth of your company depends on external financing, all the above factors can be massively disruptive. They can lead to paying a much higher interest rate than you otherwise would, raising a down round where you give up too much equity for too little capital, or even putting growth on hold because you’re not able to access capital at all.
All those environmental factors are outside your control. For example, while you can work harder to convince VCs of your company's value, you can’t change the overall climate of valuations in your industry or the wariness of VCs to part with cash right now. It’s an uphill battle at best. But there is one factor you can control—and one which you work to control each and every day as part of running a company—your revenue.
What you can control
If your business is healthy and generating predictable revenue, you’re in a very good position to grow, especially if that revenue is recurring. Recurring revenue models like subscriptions and memberships are becoming more popular across almost every industry because they give customers convenience and they give companies predictable revenue streams. In fact, these streams are so reliable that they’ve become an asset class in their own right. And that asset class is the foundation of a new financing model—recurring revenue financing.
What is recurring revenue financing
Recurring revenue financing (RRF) capitalizes on the health of your business and the predictability of your recurring revenue assets. It allows you to trade your revenue streams for up-front capital so you can grow faster. To see how this works, let's talk about what recurring revenue financing is NOT.
It’s not a loan. Loans involve borrowing money and repaying with interest, often using your assets as collateral. Instead of borrowing, recurring revenue financing (like what we offer on the Pipe platform) is actually the sale of future revenue for cash up front (at a slight discount). Investors love the steady, fixed-income-like returns, which helps keep the discounts low. Pipe uses a two-sided trading platform, so institutional investors actually bid on your anonymized revenue, which keeps the costs even lower.
It’s not dilutive equity financing. When you trade your revenue streams, you’re trading just that—the revenue. You maintain complete control of your company and never dilute your equity. This also means the amount of financing you can access isn’t limited by valuations because investors aren’t buying a piece of the company. Your trading limits are based on the health of your business and the amount of recurring revenue you have, so you can trade more as your business continues to grow. And if you are looking to raise an equity round in the future, you can use recurring revenue financing to grow your business and your valuation and extend your runway until conditions are right for you to raise the round you really want.
When is recurring revenue financing right for you?
Equity and debt financing both have their place. Banks and VCs are all focused on making the kinds of investments that are right for them, which may not always be right for you. If you’re pre-revenue and trying to turn a great idea into a viable business, a VC who focuses on your industry and believes in your vision is probably going to be the best fit. If you have good revenue and cash flow but don’t have recurring revenue, some sort of loan product might be the right fit.
While equity and debt financing can work at the right time, they’re not always a good idea. Many VCs and lenders work only with specific industries, and both are tied directly to the current market conditions, as we’ve already discussed. For healthy businesses with recurring revenue—and I mean any type of recurring revenue, not just SaaS (D2C, service businesses, real estate, insurance, etc.—trading that revenue can be the perfect hedge against an unpredictable market. Regardless of what central banks do, you can finance your growth based solely on your business’s health. And regardless of what valuations look like or how VCs are deploying capital, you can access the cash you need to keep growing and investing in hiring, marketing, geo expansion, or whatever path you see fit to scale your business.
And right now Pomp readers can get trade fees waived for 12 months via pipe.com/pomp
Every company is going to have to prepare for the market downturn. Maybe it comes or maybe it doesn’t. Maybe it as severe as some are predicting or maybe it isn’t. Either way, you need to understand the options available. Hopefully this is helpful to a few of you who are spending your time, money, and energy trying to build solutions to our hardest problems. Keep going. We all need you to succeed.
Talk to everyone tomorrow.
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Ric Edelman is the author of the new book "The Truth About Crypto" and is the #1 Independent Financial Advisor in the country.
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