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5 things online sellers should consider before chasing venture capital

Coming up for three decades after Amazon was founded, there is still plenty of scope for new ecommerce brands — retail and B2B — to enter the market and build global scale businesses. 

In 2021 online retail sales alone accounted for $4.9 trillion worldwide, a total that is forecast to grow over 50% by the end of 2025. Even then, it will still only account for under a quarter of all retail sales.

That’s an attractive target and if, as I do, you keep a close eye on the startup environment, you can’t help noticing the number of new players still entering the space. The specialist press delivers a daily diet of VC funding announcements. 

Perhaps that attention given to VC startups explains why many European entrepreneurs assume they will need VC funding to get them up to scale. And that will be true, eventually. But in the early days they have many more options than they realise.

With that thought in mind, here are five tips for anyone in the early stages of online selling. 

1. Don’t feel under pressure to follow the herd

Equity funding may appear to be the glamour option but it isn’t right for everyone. It can even be damaging to long term growth. We regularly meet startups who have felt pressured by VCs to take funding well beyond their real needs at the time and to give up excessive amounts of equity in return.

Why are founders so keen to give away equity when they don’t need to? Despite all the dire stories about VCs’ incessant demands and the widespread understanding that they eat away at a large proportion of available equity before an IPO actually happens, founders have remained stubbornly blinkered about the pitfalls of the VC model. Even the discovery that VCs’ earnings mostly come, not from successful IPOs, but from the 2% annual fees on committed capital that they charge their investors, does not seem to put them off. 

And, once you’re on the VC funding path, it’s near impossible to step off. Whereas if you don’t raise and bootstrap, there are plenty of options for you still to choose from, including raising equity capital at a later date, when it is actually appropriate for your needs.

2. Do you really need equity funding? 

Let’s think this through. Online sellers starting out are probably testing whether the proposition works and is scalable. To find that out they need an online sales presence and app, stock, logistics, and a marketing budget big enough to last through the test phase.  

When it comes to a digital sales presence, once upon a time e-retailers had little choice but to build their stack from scratch. It was hugely expensive and took so long that they needed large amounts of capital to see them through to become cash-positive. 

That’s not true anymore. As-a-service retail tech is now available and as good as anything you are likely to develop yourself. Embedded finance APIs give you pretty much instant access to more customer payment and credit options and widgets than you are likely to ever need. Third party logistics services are superb, not especially expensive anymore, and paid for only when you have sold something. 

Taken together, you can now get into business leveraging a combination of monthly subscriptions, API call-based costs, and small, one-off sales-related logistics fees, all of which are directly related to the growth of your business. Other than a pot of marketing money, probably measured in low tens of thousands, you don’t need a massive war chest. A few million in the bank is not necessarily what you need at the outset. More likely, as a seller, you’ll find you periodically need smaller quantities of working capital, to cover the cost of inventory until it is sold and paid for.  

There are plenty of options to get that, without giving up your gold dust equity: Revenue-based financing (more about that later), for example, or factoring, leasing packages, even conventional loans (although read tip 4 first!). 

3. Too much cash in the bank encourages bad habits

When a company raises VC equity, it has a lot of money sitting idle in its bank. You probably expect it to last for 18 to 24 months but it’s just sitting in your account for all that time; spare cash that’s sitting there not generating anything.

Having access to more cash than you actually need is bad news. It removes the obsession any business needs to develop with controlling costs. It encourages spending that might not really be essential.

With interest rate returns on cash still so low, despite recent monetary tightening, the temptation is to do things with that money that you didn’t originally intend, just so that it starts producing a return. And that’s risky because it’s probably going to divert your time and energy away from where it should be — finding out if your core proposition stacks up, or not.

4. If your current bank is not interested, don’t worry

The word has long been out that traditional banks are not the friendliest option for entrepreneurs. They typically want charges over assets, such as a house, before lending. 

Then there is the two-year trading catch 22, which means you can’t get growth funding from banks at the outset, when you need it most. 

And prejudice can creep-in to their manual lending decisions, where human beings make decisions while trying to ignore their — possibly outmoded — preconceptions of what an entrepreneur should look like.

Fortunately, there are many other banking options available today, many of them digital native neobanks run by people who probably look and think a lot like you do. And, contrary to what you might have read about techno-bias, the AI-based lending decision engines they are using actually cut out the prejudice from the equation. 

For example, the New York Times recently reported on high levels of racial bias in the US government’s $800 billion Paycheck Protection Program during the pandemic, when minority entrepreneurs, especially Black business owners, struggled more than white borrowers to find a willing lender. A research project at New York University’s Stern School of Business found that the problem was human bias. When technology was making the lending decision, however, the bias issue evaporated. The automated loan vetting and processing systems used by fintechs significantly improved approval rates for Black borrowers, demonstrating how technology can help level the playing field.

5. Subscription based sellers are well placed to benefit from RBF

Revenue-based financing (RBF) is capital injected into a business in return for a fixed percentage of ongoing gross revenues, with repayments increasing and decreasing based on business revenues. The payments continue until the initial capital amount, plus a multiple (also known as a cap) has been repaid.

It is particularly relevant to subscription-based and as-a-Service sellers, as their future revenues are much more visible and predictable. Rather than chasing inadequate loans from traditional banks with many strings attached, or from return-hungry VCs who are going to take a large chunk of the cap table, RBF provides a sensible middle course that, in effect, securitises future revenues.

It’s perfectly suited to early-stage businesses. With RBF, if revenues slow, so do the repayments. The technology behind it also makes it possible for founders to get funding quickly, and without needing to step out for yet another pitch or meeting. It also ensures that founders stay in control during times of uncertainty. 

As you can see, you have options. Perhaps more than you imagined. Think hard about your real needs, take advice from a range of sources and make your decision from a position of knowledge and strength. 

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Mindaugas Mikalajūnas

Mindaugas Mikalajūnas

CEO

SME Finance

Member since

13 May

Location

Vilnius

Blog posts

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