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Resource Center / Becoming a Founder

How VC Funding Changes in a Down Market

As a founder, it’s important to understand what investors are looking for in a non-cash-flow market. Check out the advice we gathered from speaking with a few venture capital firms in the industry.

The letter "J" for Justworks.
Justworks
Oct 27, 20228 minutes

With interest rates rising for the first time in years, and nearly every major news source reporting that a recession is upon us (or just around the corner), it can be an intimidating time to start a business, let alone searching for capital. We spoke to a handful of VC firms and investors about how their philosophy around funding changes during a down market and we’re happy to report that while a down market isn’t an easy time for anyone, it also isn’t quite as difficult as it may seem at first glance.

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Competing in a Down Market

While it might be harder to raise money based on a vision during a down market, having a fundamentally sound business idea almost makes it easier to raise money in a recession-era market. Why? There’s not as much competition.

“The biggest change is that investors are taking more time and doing more diligence, that helps a lot of founders,” investor Beth Ferreira at FirstMark Capital said. “It’s less about the flashiness of your business or who you know.” As such, most investors are not advising people to change their strategy — not too much, anyway.

Tailoring Your Pitch for a Down Market

One of the big areas to be more aware of during a down market is your pitch. Storytelling is key here, whether that be your own narration skills during your short pitch meeting or, more importantly, how you weave your story into your pitch deck for investors to peruse after you’ve left.

Incorporating a strong storytelling element into your financials, for example, and making the numbers pop beyond a balance sheet, can help ensure that you not only stand out, but that you also have what it takes to make it if the economy does take a turn for the worse.

Investors want realistic figures that are tangible.

Investors want realistic figures that are tangible, so while positive assumptions and selling yourself and your business are important, over-inflated figures will stick out like a sore thumb, especially during a down market without as many over-hyped and trendy business concepts to compete with.

Data is Mighty in a Down Market

During a down market, investors have more freedom to explore avenues of risk and go deeper into the metrics and financials you present. While your story is still relevant — how you met your co-founders, your initial customer journey and acquisition — and maybe even more important in a recessionary market, be mindful that investors are looking to poke holes in your metrics. Be prepared to answer tough questions about future valuations and how you came up with your projections.

Here, a “use of funds” slide can be really helpful in articulating how you’ll scale your business and where investor money will go, and convincing a VC that you have a vision and know how to execute on it. If you’re an early-stage founder, chances are an investor is still going to make a decision based primarily off of your story. But if you’re a later-stage founder who is going back for more capital, your projected figures are crucial, and having realistic milestones for your next raise are key. This Twitter thread (and this one, too), contain a lot of great resources (from templates to a deep-dive on how best to present your finances) to help you give investors what they want.

Differentiating Your Business in a Down Market

One part of pitching to a VC that’s often overlooked is differentiating yourself as a pre-seed stage or seed-stage company. Pre-seed companies and seed-stage companies will often get merged together since they are at closer stages compared to companies approaching a public offering. But during a down market, it’s good to emphasize what makes your company pre-seed stage or seed-stage.

Read more: How to Cut Costs & Consolidate During a Recession

For instance, a pre-seed company needs to be able to sell their vision and the experience of their founder and team members, and ultimately execute on it. Here, a VC is betting on the founder. With a seed-stage company, it’s important to underscore the success the company is seeing, their sales strategy, marketing channels, a company logo, the product-to-market fit, and a thoughtful story around the current and projected metrics. While this may seem obvious to many, it’s important to go into a conversation with an investor fully prepared and understanding what VCs are looking for at various stages. This is particularly important in a down market when VCs might not be as willing to invest in a founder if the seed-stage financials aren’t up-to-snuff.

For information specific to how minority, women, and Black entrepreneurs (MWBEs) can navigate funding options at the pre-seed and seed-stages, visit our MWBE Resources Guide. VC firms focused on the MWBE space are passionate about getting capital to underrepresented entrepreneurs, so reaching out could mean access to one-on-one conversations, additional resources, and a greater likelihood of success overall.

One part of pitching to a VC that’s often overlooked is differentiating yourself as a pre-seed stage or seed-stage company.

Visible Hands is one such firm, and their newsletter even highlights opportunities specifically available for MWBEs. Darrel Frater, an investor at Visible Hands who was once a founder himself, makes a point to respond to nearly every founder who connects with him via Twitter. It’s important for founders to research VC firms, and grasp onto what differentiates them and really emphasize that with the firms as they look for funding opportunities during a recessionary period.

Re-engaging With VCs is an Option

If you approach a VC firm during a down market, be prepared to clearly articulate why you need funding. As mentioned above, investors are likely going to try and poke holes in your narrative. Why are you seeking funding? What is the root cause of that? A VC wants to be sure that investor funding is the answer — your answers to these questions will help them to determine if VC investment is even right for you and your business, or if alternative financing options might be better. Even if VC funding isn’t right for you at the moment, that’s still a valuable piece of insight! You may be a good fit for VC investment down the line when your business has matured, so keeping these relationships warm is critical.

“As it relates to VCs specifically, most of the deals that are vetted and good to look at are coming from other VCs,” Abigail Risse, an investor at Hyperplane Venture Capital, said. “Even if they’re not going to invest in you, a quick chat with a VC (email thread, pitch deck feedback) is very helpful.” Now, the caveat here is that founders should only pursue this route if they have time. However, if you know a well-connected VC, even if they don’t invest in your business area or stage, they may be able to point you towards someone who can.

Another key piece of advice from VCs here is to regularly provide investor updates.

Another key piece of advice from VCs here is to regularly provide investor updates. Again, you may not be a good fit for VC funding right now, but providing quarterly or bi-annual updates can compel an investor to re-engage. Moreover, investor updates create buzz about your company and can help keep you on track with your metrics, which will always be useful when looking for capital. A thoughtful founder who keeps track of who they’ve spoken to and develops meaningful relationships is always better than someone who is merely trying to fish for the top intros. If you need some help in this area, TechStars is a great resource to build your investor pipeline and have a database of your networking efforts for future reference.

Understand That a VC is Not Always the Answer

What was one of the most frequently offered pieces of advice given by VCs for founders in a down market? Stay at your day jobs and pursue your passions as a side hustle. When it’s tough to raise capital, focusing on your core business idea, building out a strong network to help you, and researching the right VCs to tap once the market improves could be a better use of your time and energy. This is especially true for MWBEs who statistically receive a disproportionately small amount of VC capital.

Read more: How to Strategically Target the Right VCs

“For founders of color that are undercapitalized, you always need healthy cash flow,” Mike Steadman, founder and author of the upcoming book Black Venture Entrepreneur, said. “Fund it through your full-time job or other hustle.” Steadman’s advice comes from his experience as a Black entrepreneur whose businesses span multiple industries from podcasting to boxing gyms. Instead of focusing on VC funding, look for existing business opportunities within your existing products and services by tapping into your most profitable customers. Understand how to target them, expand your clientele, and provide additional value to the market.

A strategic business plan becomes that much more important in a down market, as it helps you set your priorities and keep a pulse on your business. And a business plan that enables you to “get off the defense and get on the offense,” as Steadman said, can be truly invaluable, especially in a recession when people are overwhelmed by uncertainty.

Need more support for the stressful moments? Learn how we can help you accelerate your business and check out our resources on how to navigate running your business — down market or not.

This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, legal or tax advice. If you have any legal or tax questions regarding this content or related issues, then you should consult with your professional legal or tax advisor.