Hello friends! Axel from Gilion here.
Time to try to make sense of some of the going ons in the tech funding space. This week, let's delve into a significant development: defaults.
It took a while, but defaults are a thing now. It probably doesn’t come as news to our readers that times are tougher for the tech community than a few years ago. Last newsletter, we covered down rounds and their implications. Many companies have been struggling to raise capital, lower willingness to spend among consumers and corporates alike have taken a toll on growth, and interest rates have been high.
Many founders succeeded despite all the headwinds through heroic efforts to adapt, and raise capital or successfully accelerated their journey to profitability, but many also persevered, running on fumes and pure grit, without managing to fundamentally change their outlook, until now.
Hardware is hard
We did of course see an increase in defaults already in 2023, but the feeling was that companies that were emerging as industry champions and were generating significant revenue could always raise capital, even though they remained significantly in the red. This seems to have changed in the past few weeks, with stars of the European echo system like Renewcell, and mobility hardware companies like Cake, RGNT, and Vässla defaulting.
Investors Ditching Risk for Profitable Paths
Speaking to hundreds of founders, and looking at our portfolio companies who've raised capital during the last 12 months, it's becoming more evident that a credible path towards profitability is taking center stage in the eyes of equity investors. This is likely a response to the adverse equity environment, but also likely a direct consequence from higher interest rates, where the “forever” part of a DCF calculations e.g. drawing a line from cash flows 5-10 years out mathematically become a relatively smaller part of a company’s valuation (vs. cash flow years 1-5).
That said, young companies with exciting stories to tell in sexy industries, like AI or cleantech, can still raise initial seed and A rounds. As can more mature companies with strong unit economics, but with expensive investments into growth. What seems to have disappeared lately is the middle ground. A few recent high profile defaults have been companies with tens of millions euro of revenue, that had raised capital with ease every 12 or so months, but where unit economics still didn’t work, and products were essentially sold with a VC funded rebate. It seems as though investors' tolerance here has been significantly reduced.
What about debt?
Traditionally, taking on too much debt is the classic reason for default. This has been evident through a record amount of defaults in 2023 across the wider economy, where also profitable companies default. Here increasing reference rates from close to zero to say 4% can be devastating for a strong profitable company, as it might in effect double their interest rate if they are e.g. paying additional margins of +4% on top of the reference rates.
In tech lending, where interest margins range from around 10% (where we start lending) to 30% (RBF, contract based lending) an increase from 0 to 4% in underlying interest rates has limited effect).
That said, the general downturn in the economy has likely decreased the willingness of some players to lend, meaning a squeeze on certain companies as loans roll over.
Two sides of the same coin
Defaults are of course awful for founders, staff, and other stakeholders. But, it can also be a force for good for the wider tech ecosystem as it frees up talent to join or start other businesses. It might also mean a healthier business environment for surviving competitors as it might become easier for them to price their products at true cost. And for a select few, it also seems to have created a booming industry.
Dawn of the undertakers
Just the other week, TechCrunch did a deep dive into how investors are supporting startups that help other VC-backed ventures manage unused capital, asset disposal, or shutdowns. Companies like Sunset raised $1.45 million in seed funding, mainly from angel investors, and SimpleClosure, known for making shutdowns easier, raised $4 million after a $1.5 million pre-seed round six months ago.This trend isn't new but has gained investor attention lately, making it a more discussed and attractive sector.
Fresh from Gilion
1. Meo secures €1.67M for European expansion
Meo just announced their capital raise of almost €1,67M with us and existing investors EIFO and Scale Capital. Meo is a late stage seed company, servicing VC’s, PE firms, big law firms, auditors and others doing big transactions to stay compliant. Usage of the Meo platform translates to instant AML and KYC compliance, which makes for an incredibly sticky product.
2. Revamped VC Mapping for 2024
Take a look at our revamped VC Mapping for 2024. We've highlighted key players, but if there's someone crucial we've overlooked, do let us know.
3. Gilion launch referral program: Intro Makers
We’re all about helping the tech ecosystem, and historically, you, the ecosystem have really helped us grow our business as well through high quality leads. Thank you! Now, we feel it’s time to show our gratitude. Hence, we've launched "Intro Makers”—a referral program aimed at rewarding those who help us find hidden gems to lend to.
Stay tuned for more updates as we navigate these market trends together. And if there's a specific topic you'd like us to dive into, don't hesitate to speak up!
/Axel
