If your startup is currently in the middle of a fundraise or considering fundraising in the near future, you may be wondering how those efforts will be impacted by the current health pandemic involving Coronavirus Disease 2019 (COVID-19). The good news is that venture funding is still going on despite the economic impacts of COVID-19. It’s just happening in a more decentralized way. VCs are currently using Zoom to meet with founders rather than meeting in-person and this trend may outlast the current pandemic. And there will likely be some deceleration in venture capital activity generally. We are already starting to see early signs of that. If you feel like your current fundraising efforts are hitting a wall, you may want to consider all of your fundraising options. This is a time to get creative. While much of the startup fundraising focus lies in VC funding, you may consider alternative options such as loans and grants. You should also seriously consider ways to reduce your burn rate to make it through a downturn and likely recession with less capital. This article lays out some of these fundraising options, as well as some ways to lower your startups expenses.
Consider Your Fundraising Options
SAFEs and Convertible Notes
In general, SAFEs and convertible notes provide a simpler, faster, and less expensive way to raise funds. These options may be particularly attractive for startups right now since startups will be able to raise funds on a rolling close. A rolling close is when capital is raised from several different investors over a period of time rather than all at once in a typical priced round with a set closing date. In this uncertain environment where many investors may be taking a wait-and-see approach and tightening the purse strings, founders may find it increasingly difficult to coordinate a consolidated closing. Using these convertible instruments, founders will have greater flexibility to close investments with the investors that are currently ready to commit while continuing to raise funds from new investors over a period of months as the impacts of COVID-19 start to stabilize and eventually decrease. Rolling closes are typically 30 – 90 days, however, your startup can push for as long as it needs and the current COVID-19 disaster may be a good reason to extend that timeframe. However, there are things to watch out for when raising funds using SAFEs and convertible notes. For example, you want to carefully consider the dilutive impact of certain deal terms used in these convertible instruments such as valuation caps. Additionally, if you use a convertible note, you want to be careful that the maturity date is long enough so that your investors can’t demand the note during a recession. For these reasons, it is best to work with a knowledgeable attorney in this area.
Venture Debt Financing
Venture debt financing is a term for loans available to venture equity-backed companies and is provided by technology banks or dedicated venture debt funds. Usually, startups must secure venture debt simultaneously with or soon after they raise equity financing from a venture capital firm or similar institution (not just “friends and family”). So this is an option available to you if your startup either recently raised a round of VC financing or is in the process of doing so. While commercial banks will generally only lend to startups that have a history of cashflow or assets to use as collateral for repayment, venture debt providers focus more on recurring revenue and the startup’s ability to raise capital in the future to grow and repay the loan. Venture debt is attractive because it gives startups access to capital without any of equity dilutive effects for founders, employees, and investors and the due diligence process is typically less in-depth than venture capital fundraising. Kruze Consulting has put together an incredible resource for startups considering venture debt financing as an option. See here for more details. You can also check out Silicon Valley Bank’s venture debt offerings here.
Traditional Bank Loan
A traditional bank loan may be an option for your business as a way of obtaining capital. The Federal Reserve dropped interest rates to 0% this week. This means your business may be able to get a loan from a bank or credit union with extremely low interest. When applying for a small business loan, make sure you know how much you need to borrow, have good credit and a solid business plan.
Government Loans for Small Business
Your local city, state or the federal government may have disaster specific loans available to help support your company during this time. For example, the City of San Francisco is providing COVID-19 Small Businesses Resiliency Fund assistance to small businesses with fewer than 5 employees and $2.5M in revenue and that have suffered a 25% loss in revenue. You can learn more about that program here. Similarly, the City of Oakland’s Small Business Finance Center (SBFC) has a loan guarantee program for disaster relief and is currently available to small businesses needing assistance to overcome economic injury caused by COVID-19. You can find more information here.
The SBA is also now providing its low-interest disaster loans (EIDL) to businesses in many counties suffering substantial economic injury as a result of COVID-19, even if the business has not sustained any physical damage. The SBA will provide up to $2 million in financial assistance depending on your business’s amount of economic injury. There are specific requirements that businesses have to meet to be eligible, including being in certain designated regions and having no access to alternative forms of capital. You can check whether your county is eligible for an SBA disaster assistance loan here and if so, you can apply online here.
Finally, the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) was signed into law, providing startups with up to 500 employees with SBA-approved loans of up to 2.5x average monthly payroll or $10M. Under the Paycheck Protection Program (or PPP), the loans may be forgiven subject to certain conditions. Therefore, it is recommended that most eligible startups apply for these loans through their lenders. See here for more details about the CARES Act.
Government Grants for Small Business
During the current Coronavirus pandemic, you may want to take advantage of any federal or state grants available to small businesses. The Small Business Administration (SBA) works with different organizations to provide grants to small businesses. Find out if your business is eligible here. If your company performs scientific research and development, it may qualify for the Small Business Innovation Research (SBIR) program. SBIR funding usually takes some time to secure, so it may not provide you with immediate assistance. However, it can help your business weather a recession. You can find out more and see if your company is eligible here.
Consider Ways to Decrease Burn Rate
Starting before the Coronavirus pandemic and even more so now, startup founders are being advised to focus on more sound business practices, such as cutting unnecessary expenses to extend their cash runway. Sequoia Capital, one of the most respected venture capital firms in Silicon Valley, recently issued a “Black Swan” memo to its portfolio companies, advising them to think about ways to reduce their burn rate. The impact of the Coronavirus on the economy may actually be giving startups the final push toward implementing these business strategies. Many have written about strategies for limiting expenditures for startups. Below we offer just a few ideas to help you reduce your startup’s burn rate.
Lowering Employee-Related Expenses
Hiring remote employees can allow your startup to reduce expenses in several ways while also gaining access to talented workers outside your city. Different geographic regions may offer higher quality of life for your workers with lower costs of living, which may correlate to lower salary needs. This is especially true for cities outside of San Francisco and New York City. Having a decentralized workforce may also reduce or entirely eliminate the need to lease office space. However, keep in mind that you have to comply with the employment laws of the states in which the employees reside. Therefore, you should consult with a corporate attorney before hiring employees in another state.
If you aren’t able to hire remote employees, or if you need to further lower payroll-related expenses, you may consider asking your team to agree to a temporary reduction in salary, taking temporary unpaid leave, or reducing hours. In certain circumstances, affected employees may be eligible for unemployment insurance or other government benefits. In the unfortunate circumstance where you need to lay employees off, make sure you comply with legal requirements. You can learn more about legal and practical considerations regarding layoffs, as well as alternatives to reducing headcount here.
Review Relationships with Vendors and Other Service Providers
In this environment, it is a good idea to revisit your current vendor or service provider relationships to determine whether that provider is the best option for your company. Many startups work with larger professional services firms, which may not be a good fit for a startup. Smaller, boutique firms can provide the same, or even higher, quality services as larger organizations, often by providing access to highly experienced professionals along with a much higher degree of personal attention. And without the high overhead (e.g., large commercial leases, legacy software subscriptions) smaller firms can offer those services at a fraction of the cost. From marketing services to accountants and legal services, there may be better options available for your company.
- See our other articles related to COVID-19.
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DISCLAIMER: The information in this article is provided for informational purposes only and should not be construed or relied upon as legal advice. This article may constitute attorney advertising under applicable state laws.