This is a guest post from Tori Piccin, Partner Marketing Manager of Clearbanc. Clearbanc has invested over $1B in 3,300+ eCommerce businesses to date. Sign up with Clearbanc today to see what capital offers are available to you and start growing your online business!
There are different stages of growth for every eCommerce company, and merchants don’t always know when the best time is to bring in funding. Merchants want to make sure they have a viable product before stepping on the gas and investing more. So, what are the common “tells” that indicate an eCommerce business is ready and will benefit from funding? This article will cover how to decide when to bring in capital, different stages of growth in a business, and some common concerns around funding and how to address them.
How you know your eCommerce business is ready for funding
eCommerce businesses of all sizes need to be serious when considering their funding options. When it comes to timing, there are several factors to consider.
For example, a startup faces questions such as: “Should I raise funding before or after launch? Is it optimal to wait until the company is generating revenue and has customers? Should I seek funding from investors or launch a crowdfunding campaign?” There are no one-size-fits-all answers, but having an accurate business valuation and knowing your fundraising needs can help make the process easier and more successful.
The best place to start is to ask yourself, do you need investment for your business? If your answer is yes, think about how you would use the funding to grow your company’s top and bottom line. Then the next question is: when should you start looking for funding? There are some best practices to get through before any business can start seeking investment.
A few major signs that your business is ready for funding are:
- You’ve gone from idea to validated demand via an audience signing up for a waitlist or pre-buying your product. You need to buy inventory now.
- You’ve gone from some early sales to proving repeatable unit economics; You now have a predictable investment that can scale
- You’ve scaled and want to exponentially grow, either through new SKUs, markets, etc, and need risk-tolerant capital like equity to fund those step changes in growth that may not pan out.
The different phases of growth in an eCommerce business
1) Startup phase
Where the business is looking to gain its first customers and perfect its product or service. Many early-stage entrepreneurs increasingly turn to equity financing via startup accelerators and crowdfunding platforms for alternative ways of raising money. Startups, for example, have been able to raise millions of dollars by tapping into other people’s networks on platforms like Indiegogo — a crowdfunding site that helps you raise money from friends, family, fans, and complete strangers.
2) Growth phase
Where the business is looking to grow and expand to meet increasing consumer demand. Here is where revenue-based financing is your best option. Get funding fast, keep equity, and have the working capital to invest in growing your business. Rapidly growing businesses at this stage are also ideal candidates for debt financing in the form of bank loans or lines of credits.
3) Maturity phase
Where the business has reached an established level of success within the market. Revenue-based financing is still a great option here, or you can start exploring some equity financing options from angel investors or VC’s.
4) Expansion phase
Where the business looks to expand their brand into new territory or sectors. In this phase, the company has enough liquidity to explore a combination of both debt financing and equity financing. Having both forms of financing allows the company to subsidize the debt burden and keep monthly expenses low, while also keeping more ownership, decision-making power, and future profits.
Which growth stages you should inject more capital into
No matter what phase of growth, having capital in your back pocket can help. Ultimately, the decision between debt, equity, and/or revenue-based financing depends on the type of business you have and whether the advantages outweigh the risks.
There are three main phases to think about where external financing is needed.
At this stage, you have not sold any product. Financing is needed to invest into core infrastructure like your website, branding, design, and potentially initial inventory and packaging commitments.
Funding at this stage comes from personal savings or traditionally friends & family round of investments or loans.
Alternatively, you can finance early growth with pre-sales of your product through crowdfunding.
2) Early Stage, Post-Revenue
Once you’ve validated there is an audience that is willing to buy your product, you are earning gross profits and cash flows primarily become a concern.
There will be challenges in bridging the gap between when you must commit inventory payments to have your goods available for sale, and when you actually realize the profits from the sale.
Similarly, you will need to make upfront investments in marketing which have a certain lag period before the ad spend results in a sale.
Financing can be extended early on by negotiating payment terms with all your suppliers, or by leveraging debt or revenue-based financing like Clearbanc, which provides you access to capital to bridge you until you realize the profit on the sale of goods.
3) Scaling & Growth
At scale, you’ve most likely solved for the cash flow cycles of your business and are now at the stage of step-change growth. This is when you might be experimenting with new marketing channels or launching new product lines.
In some respects, this is similar to the pre-revenue stage in terms of cash needs and uncertainty, but you may have internal profits to finance it.
In addition to revenue-based financing options as in stage 2, you can also consider equity financing at this stage from more established institutional investors, PE funds, or VCs. Banks are also typically able to extend more sophisticated products like Asset Backed Lines of Credit or Term Loan Facilities.
The big eCommerce funding question: Having debt or giving up equity?
The biggest concerns around deciding what type of funding to explore really come down to what’s better for you and your company; Having debt, or giving up equity?
Revenue-share financing is a happy medium. You keep equity in your business without the restrictions that come with debt typically tied to loans, also reducing overhead. It’s a shared funding style where you pay back over time as your business generates revenue. So if you have a slower month, your bottom line is less impacted. This type of funding is a great option for businesses that need capital in the short-term, rather than the long-term, and you can access multiple tranches to be flexible for all time horizons. That’s why so many startups use revenue-based financing.
If you’re looking to grow fast, equity and revenue-based financing provide you the capital you need without the obligation to repay the money acquired. It places no additional financial burden on the company, meaning there’s more capital available to invest in growing the business. But, you give up a % of your company in doing so.
Equity financing is primarily used for large infrastructure spending or on risky investments without a clear payoff. It’s used for new SKU development, international expansion, hiring a team, etc., but there are additional financial burdens in the form of investor expectations and board control.
On the other hand, many fast-growing companies use a combination of equity and debt-financing to support their growth, but debt-financing is arguably less expensive. The main advantage of debt financing is that as a business owner, you don’t give up any control of your business as you would with equity financing. Plus, interest on debt is a deductible business expense for tax purposes, making it an even more cost-effective form of financing.
Typically, it’s a combination of both. Debt has specific use cases like revolving lines of credit, which are used to bridge cash flow periods. Term Loans are similar to equity in that it’s permanent capital, but has forced payback period, which isn’t as flexible as equity.
When choosing a financing option, a company should consider how much money it needs and how it will be used. The more working capital a company needs to operate or grow, the more likely it is to seek debt or revenue-based funding source rather than an equity funding source.
Debt financing can be a wonderful tool if your company has high-growth potential and accurate forecasting so that you can pay it off in line with your projections, which avoids breaking covenants or other issues that force default or claim on assets.
But since debt financing is a bet on your future ability to pay back the loan, the downside to debt financing is very real to anyone who has debt. You have to ask “What if your company hits hard times or the economy, once again, experiences a meltdown? What if your business does not grow as fast or as well as you expected?” Debt is an expense and you have to pay expenses on a regular schedule. This could seriously affect your company’s ability to grow.
Wrapping it all up
Every day hundreds of eCommerce companies make the decision to go after funding. The process can be daunting, but it can also be rewarding. Whichever type of funding you decide to accept, considering your company’s overall goals, the current state of your market, and how the different types of funding you obtain may affect your business, will ensure the future success of your company.
The more considerations and contingencies that are put into place before seeking out capital, the higher the chance of success.