SMB Finance: Funding decline means better choices for startups

Venture capital (VC) funding has historically been seen as the only way for a company to find true success. While there have of course been some companies that broke this mold, for the most part it has been the general perception. But as the global downturn in VC funding begins, startups are being forced to look elsewhere, and that’s not necessarily a bad thing.

Mindaugas Mikalajūnas, CEO of SME Finance, a rising fintech star in the Baltics. Since its establishment in 2016, the company has financed invoices worth more than €800 million, cooperates with such insurance companies as Coface, Euler Hermes and Lithuanian Business Support Agency Invega.

He has 13 years of experience in finance, including eight years of project management (CRM) in a Scandinavian bank, followed by managing director and board member (incl. CC) position in SME Finance. He has published a few articles and commentaries in several news media in the Baltic States.

Talking to Fintech TimesMikalajūnas explains that as VC funds tighten, European startups are opening their eyes to more suitable funding options.

Tiger Globala loss of $17 billion, reported in May, was certainly eye-catching. But it won’t be the only tech VC currently nursing a negative asset and tightening its loan book.

It is far from a route, but government-initiated credit crunches mean that in May 2022 global risk funding was down again to $39 billion, following Crunchbasethe lowest level since November 2020 and well below the peak of $70 billion in November 2021.

As a result, European startups looking for new funds need to take a long look around at their options. What they discover is that the starry VC option might not have been the right route after all.

Instead, they are looking at the many new ways that are now available to them to obtain debt financing. These usually involve less risk, less intrusive behavior by lenders, and serve to encourage more disciplined business practices.

A startling glimpse of the obvious

If anything needs explaining here, it’s the status quo. Why were entrepreneurs so keen to give away equity when they didn’t need it? “Founders chase VC funding as if it’s the answer to all their prayers and the only way to scale a business,” said James Routledgefounder of Sanctus and author of Mental health at work.

Despite all the horror stories about VCs’ incessant demands and the widespread understanding that they take up to 85 percent of available equity before an IPO actually happens, founders have remained stubbornly oblivious to the pitfalls of the VC model. Even the discovery that VCs’ income comes largely, not from successful IPOs, but from the two percent annual fees on committed capital that they charge their investorsdoesn’t seem to bother them.

Part of the answer for the fixation was the sheer availability of funds. says Crunchbase global venture investment in 2021 a total of $643 billion, compared to $335 billion in 2020—an increase of 92 percent. With the amount awarded, perhaps the criteria were not as tight as they could have been and funding rounds larger than they needed to be. It was a heady mix that many founders couldn’t resist.

And VCs have been chasing companies at earlier and earlier stages. One startup that saw through the VC equity trap was Stockholm-based Plan hat. “We’ve had investors reach out since very early on. We thought we were working under the radar, but it’s crazy how they find companies at such an early stage,” said co-founder Caveh Rust stampTalking to The charge.

But many founders were flattered by the rock star attention they expected—and often received—if they made it through the pitching rounds. And once they were on the VC funding treadmill, it was virtually impossible to get off.

What they found was that the one-size-fits-all VC approach to funding was not right for many, perhaps most. We regularly meet startups who have felt pressured by VCs to take funding far beyond their needs at the time, and to give up excessive amounts of equity.

At first, these founders tend to just assume that being a startup means getting VC capital. But the more they think about it and examine the options, they find that there are more appropriate ways to satisfy their working capital needs.

Many alternatives to VC funding

The VC obsession was always curious. If you don’t raise equity and bootstrap instead, there are many options available in Europe for you to choose from, including raising VC one day.

More appropriate working capital availability through revenue-based financing (RBF) and tailored factoring, loan and leasing packages has widened EU companies’ access to finance, enabling them to grow faster. Adequate working capital allows them to establish their market presence, be more flexible, gain greater bargaining power with suppliers and partners, manage operations more flexibly and obtain insurance against the challenges startups face in the early stages.

Did the founders confuse their needs? Did they really need such large amounts of equity or just smaller amounts of working capital? In my opinion, SaaS entrepreneurs would be better off if they could secure future income. With RBF, if income slows, so do repayments. The technology behind it also makes it possible for entrepreneurs to get funding quickly, and without having to go out for another pitch or meeting. It also ensures that the founders remain in control in times of uncertainty.

Credit squeezes exist to weed out the excessive

And having too much money on the table encourages bad habits. When a company raises equity capital, it expects it to last 18 to 24 months. The money stays in the bank account all the time: reserve cash that sits there and generates nothing. It only leads to inefficiency because the company feels forced to use it or, even worse, forced to buy bad assets. As many startups that have over-expanded are now discovering, there is a natural limit to how quickly you can deploy effectively or how many people you can hire effectively.

The whole point of central bank-induced austerity is to make people think twice about the debt they take on. In the white-hot world of tech startups, the medicine seems to be working. Entrepreneurs are looking for, and finding, methods of financing their business that are much more appropriate for their needs.