Investors should not pay for past growth & market leadership Investors will need conviction on the path to profitability that companies have been talking about
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Treasa Mathew, VP at Ascent Capital, told Entrepreneur that companies which are pioneers in their domain will continue to raise capital, whereas, the smaller players will find it difficult.
Funding and valuations in 2016
We have seen a similar slowdown in VC funding in 2012. Companies that are well funded to ride out the slowdown are the best positioned. Some companies are still burning cash at a fairly rapid pace and cannot sustain their operations unless the next round of funding is raised within a definite time frame. That is not a good position to be in, in the current market environment, because those companies will need to raise capital at any cost. Companies which are leaders in their category will continue to attract capital, whereas, the smaller players will find it harder to attract capital.
Concerns before raising a fresh round of funds for a unicorn or fairly-sized startup
The biggest question is whether the assumptions of growth and market leadership embedded in the valuations are justifiable and sustainable. Given the disruptive nature of technology businesses, investors should not end up paying for past growth and market leadership. Valuations of many unicorns have risen four to fivefold over a period of two to three years. Now that capital flows have tapered off and companies are switching to capital preservation mode, investors will need conviction on the path to profitability that companies have been talking about, but were never under pressure to deliver. The billion dollar question is, what kind of growth is sustainable if Companies also need to demonstrate profitability at the unit economics level.
When is a startup ready for an IPO?
In public markets, you are only as good as your last quarter's performance. Public market investors love businesses with predictable earnings, cash flows and growth. So the most important criterion is if the business is at a stage, wherein it can consistently demonstrate growth quarter on quarter. Another important criterion is if the business has achieved the required level of maturity from a governance standpoint since listed companies have stringent norms for reporting and disclosure.
Criteria from Series A to Series B funding in 2016
In Series A rounds, quite often investors are betting on a good entrepreneurial team and the business model may still be evolving. Assuming the size of the Series A round has been meaningful, by the time the Company goes to Series B, it needs to have a distinctive product/service offering to its customers, as well as a solid revenue model. Profitability metrics will of course depend on how capital intensive the business is, and at what scale a meaningful path to profitability can be demonstrated. As far as consumer internet businesses go, demonstrating unit economics at some level, would be crucial, whether it is with mature geographies, customers, products or services. Investors also need to be convinced that there are credible and sustainable drivers for growth going forward.
Funding strategy at Ascent
Ascent seeks to back companies that have the potential to become market leaders in their businesses. While Ascent typically invests in growth stage companies which have attained meaningful revenues and profitability, we do make selective early stage bets when we have deep conviction on a market opportunity and the domain capability of the team that we are backing.