The Tech correction in Q1 2022 started in the quoted markets and accelerated quickly into the private markets as so many of the larger US VCs had kept hold of their quoted holdings and forced to make major ‘mark to market’ down valuations at the Q1 valuation point. Through Q2 & Q3, this has filtered through the mid and earlier end of the tech investing market.
It has brought the world back to principles that are core to the Frog team as evidenced by our unique Scale-Up Methodology, Operating Partner group and track record of 8 profitable exits in the last 4 years.
Raising primary funding rounds for loss-making companies (small or large), outside the very best performers, is incredibly tough right now. GPs are facing tough valuations and portfolio management decisions. Here are 5 areas to watch out for in your fund portfolio:
Cash runway
Clarity on how many months cash runway businesses have (based on a realistic sales and retention forecast) is a key measure. With fund raisings taking circa six months start to finish, cash runways of less than a year are at risk and need scrutiny.
Internal bridging rounds
Since Q1, GPs may have had to fund their companies internally because they can’t raise new money from new investors. The key questions here are; is the bridging round to profitability and stability or to a further potential bridge; are all shareholders contributing pro rata and if not, why not; why is the round not being ‘priced’ – and if it was priced, what would the value have been if it had been priced and why is this not reflected more in the fund NAV.
Venture debt
Many loss making companies are raising venture debt if they can. Only the better ones will get it. Much of this is wise conservatism to take cash on when you can. Venture Debt providers are smart and look to back the best companies so research is required into companies that have tried but failed to raise venture debt.
Burn rate and the path to profitability
The industry has shifted from a ‘growth at all costs’ approach to a ‘profitable growth’. This is not new to Frog given our ‘profitable growth’ DNA, but by now all Management teams should be thinking about the ‘Rule of 40’ and executing a path to being self-financing.
Biting the bullet on down-rounds
Many deals were over-priced during the hype of 2019-21, some with complex liquidation structures. These inject potentially damaging misalignments into the share capital structure and will impact management incentives. Ensuring your GP is reflecting how the proceeds sharing waterfall impacts their NAV and updated exit expectations is key.
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Specialist insights
If you want to read about the 5 key commercial metrics in software companies your GP’s should be focusing on, read more here.
