Information Deficit in an Economic Crisis: What it Means for Your SaaS Business
When you’re a business leader dealing with information deficit during an economic crisis, is it better to overreact than underreact?
The past few weeks have been an interesting ride for business leaders everywhere. We’ve been making decisions with what can only be described as a major information deficit. No one knows what the future will look like for the economy—or for our businesses.
As intrinsically optimistic people, entrepreneurs could be prone to underreacting to the situation. However, when dealing with events as unprecedented as this, and with the level of information deficit, founders need to err on the side of overreaction.
Smart founders have been busy adjusting 2020 business plans to focus on survival and liquidity—instead of growth—in the face of this information deficit. Here are four ways to navigate this difficult time:
- “Sell” Some Upside to Reduce Downside Risk
- Watch Your SaaS Metrics Closely
- Preserve and Shore Up Cash
- Close Financing Fast
1. “Sell” Some Upside to Reduce Downside Risk
To deal with information deficit, we need to port some of the risk assessment ideas from the finance world, specifically option pricing theory, over to operational business characteristics. For example, founders can redesign a business plan to operate like a derivative stop loss, in effect, exchanging some of the upside benefits in order to get rid of the downside risk.
Exchanging the upside is not easy. It means making tough decisions to lay people off, cut business lines, and preserve cash. Because you’re dealing with a lack of information, cut more than you think you need to. Look at the cost breakdown of your profit and loss statement and start with the most significant items—usually headcount and marketing—and work your way down. These actions can be reversed later whereas running out of cash in the middle of a downturn can have permanent consequences.
These decisions mean you’re not going to grow at your intended rate. However, you’re ensuring your company can avoid bankruptcy for 12 or 18 months. Banks and investors will be very forgiving of flat revenue or even a slightly downward revenue curve. They will not be as forgiving of a company that runs out of cash.
2. Watch Your SaaS Metrics Closely
In times of information deficit, SaaS businesses are lucky in that they have excellent information on hand in their own metrics.
Firstly, look at the customer churn rate. If your regular churn rate is over 2% a month, be prepared to cut costs more deeply than if your churn rate is 0.5%—if you can’t control your top line, you’ll have to work harder on cash collection and cost structure. Since most businesses’ revenue growth will temporarily stagnate, there will be nothing to plug the hole that churn creates. As such, the greater the churn, the sharper the decline in overall revenue.
Secondly, assess your cash flow dynamics. The team over at SaaS Capital wrote an excellent post on this topic. If your company is collecting annual revenue commitments upfront on new customers, you could be consuming deferred revenue and generating no cash from it due to the economic slowdown. Therefore, renewals and new bookings sources of cash are not keeping up with churn and revenue recognition. Cash flow will decline much quicker than the P&L will indicate.
Part of selling your future upside is realizing that obtaining customers is not going to be as profitable as it was before. This is represented by your LTV to CAC ratio which will take a big hit as new customers become harder to find and take longer to close. Let your metrics guide your decisions. Note that this may require doing near term forecasts on your metrics as world events can move faster than your monthly accounting system. Part of the solution to an information deficit is to conservatively forecast the next 3 months and see where that leaves you.
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3. Preserve and Shore Up Cash
Optimistic entrepreneurs may take the view that this economic downturn will be a sharp downward spike followed by a quick recovery. As such, there is a substantial risk that young, growing companies won’t take the necessary action to shore up and preserve cash.
Our rallying cry at TIMIA Capital has always been to build your SaaS with customer cash. We still believe in our hierarchy of growth capital and the superiority of non-dilutive financing but the past few weeks have changed everyone’s priorities.
As we head into an economic downturn, all cash is important. As such, founders should move away from capital optimization to aggregation. Aggregate all the money you can from all possible sources. We can begin the optimization phase again once the economy has stabilized.
Whatever your priorities were in the last couple of months, your new top priority needs to be cash.
4. Close Financing Fast
Following the financial crisis in 2008/2009, venture capital investments fell by more than 50% from their peak in 2008. It took over two years before funding levels recovered.
If you’re currently raising funds, try to close the deals as soon as possible. The longer this crisis persists, the more likely it is that your financing offer will fall off the table. A lot of other companies are in the same situation as you are, so acting quickly and decisively is so important.
As such, this is not the time to start arguing over terms. When you’re dealing with information deficit and risk, the risk may be worse than you think so, if somebody is renegotiating terms on you, close the deal fast.
You’ll be forgiven for closing a financing deal with unfavorable terms—you will never be forgiven for walking away from several million dollars in financing at a time when cash is more important than anything.
Light at the End of the Tunnel
As a founder or CEO of a SaaS business today, your job isn’t about hiring that new team, launching that new product, or growing the business. It’s about survival. And those businesses that preserve cash and survive the next few months will come out stronger on the other side.
At TIMIA, we’re facing the same information deficit as everyone else. Our first priority is to maintain the security of our existing portfolio. This doesn’t mean we’re not open to new business. We’re just prioritizing our portfolio until things stabilize.
Please get in touch with us if you’d like to chat about our founder-friendly financing options.Back to top