BEAMSTART Logo

Why ‘non-VC-compatible’ SaaS companies are increasing and what it means

Founders aren’t only sharing their experiences bootstrapping and growing their businesses, but many of them are sharing their disillusionment with VCs as well.


Why ‘non-VC-compatible’ SaaS companies are increasing and what it means | BEAMSTART News

- From our Sponsors -

If there’s one aspect of the SaaS landscape that I saw changing tremendously the past 10 years, it’s definitely the rise of bootstrapped SaaS companies.

Financing a SaaS business with VCs or by bootstrapping is becoming a bigger topic of discussion. Founders aren’t only sharing their experiences bootstrapping and growing their businesses, but many of them are sharing their disillusionment with VCs as well.

- Featured Sponsor -

Since it’s a topic that I discuss quite often with early-stage founders—and that impacts VCs too—I wanted to address it properly and share my point of view in this post.

4 types of SaaS companies

For the purpose of this article, I’ll distinguish four types of SaaS companies:

  1. Funded SaaS: These are companies that finance their business with VCs (aka equity against money). From early-stage startups with no revenue to companies going public with hundreds of millions of dollars of accounting rate of return (ARR), the range is extremely wide.
  2. Bootstrapped “scaling” SaaS companies: SaaS companies that manage to pass the US$10 million ARR threshold without VC money. Examples of this are Mailchimp or Atlassian (which raised VC money but at a very late stage). These “unicorns among unicorns” are very rare.
  3. Bootstrapped SaaS companies: These are bootstrapped companies that manage to reach the US$300,000 to US$10 million ARR range without VC money.
  4. Bootstrapped micro SaaS: These are companies with one to three people that operate in the US$1,000 to US$300,000 ARR range without VC money.

What’s important here is not so much the ARR range, but the trends for the different categories.

The trend is moving toward category 1 (SaaS companies being funded). However, the company remains linked to the capital available and the VC’s will to invest or not. I also think we’re seeing more of the companies in category 2, but they are still very rare and can’t be classified as an explosion.

If ever there is an explosion that is changing the SaaS landscape, it’s definitely happening in categories 3 and 4. When I entered the SaaS world 10 years ago (building a product on top of Flash), I knew very few founders running bootstrapped SaaS companies. Raising money was the way to go. But this has changed, and I now encounter awesome bootstrapped and micro SaaS companies almost on a weekly basis.

Why bootstrapping is an increasingly viable path

The available market is getting bigger. More businesses buy SaaS products, and building and distributing a SaaS product has become easier, faster, and less expensive, thanks to developer tools, APIs, and the emergence of software platforms (e.g. SalesForce, Zapier, Segment, etc.).

All these factors make bootstrapping a SaaS company beyond several million dollars of ARR a more viable and proven path.

The rise of ‘non-VC-compatible’ SaaS companies

An important characteristic of this growing trend is that a big chunk of them are not “VC-compatible.” Here are several reasons why:

  • The founders want to bootstrap their business. This happens very often because they have previously worked in VC-backed companies and don’t want this model anymore and because being experienced helps tremendously when bootstrapping.
  • The company operates in a crowded category where it’s almost impossible to scale but where it’s possible to run a lean and profitable SaaS business.
  • The company is more a feature than a product that can be monetized on SaaS platforms.
  • The company addresses a niche or a very specific need that is not replicable/scalable.
  • The TAM (total addressable market) is not big enough for a VC return but big enough for a very profitable bootstrapped company (read Prasanna K’s comment for more details).
  • The company has a strong local component which is hard to expand.

The majority of these companies have their sweet spot in the tens or hundreds of thousands of dollars of monthly recurring revenue (MRR). Once they reach this, they’ll continue to grow but slower, and they won’t scale to an MRR of millions of dollars. A minority will enter category 2 and become the new Mailchimp or Atlassian.

I by no means suggest or imply that non-VC-compatible companies are inferior or less prestigious to VC-compatible ones:

  • These bootstrapped companies can be equally, or even more, life changing for their founders and employees.
  • Like bootstrapped businesses, the vast majority of VC-backed companies won’t scale to tens of millions of dollars of ARR.
  • Growing a bootstrapped or a VC-backed company is equally hard but for different reasons.

Some words on being VC-compatible

Without going into detail, the aim of a VC is to invest money in companies in order to get a return on investment (ROI) through exits (the startup gets acquired or goes public, etc.). In general, the faster and bigger a company grows, the better the VC’s ROI. And this is why we are chasing these kinds of companies and why financing a company with VC money makes no sense if the founders are not aligned with this aim.

Consequences of this trend

  • VCs must be aware that they’ll see an increasing number of non-VC-compatible companies in their deal flow.
  • Founders must increasingly be aware that going the VC way might not be the best solution for them and that bootstrapping 100 percent or finding alternative ways of financing their company can be healthier.
  • The line between VC-compatible and non-VC-compatible companies can be blurry and even change over time.
  • There’s currently a clear gap in early-stage financing for these non-VC-compatible SaaS companies and this is why we’re witnessing the multiplication of debt, cash flow, or crowdsourcing-based financing vehicles and also of startup studios or specialized funds that build a portfolio of lean SaaS companies.

Edit: For those interested in the alternative financing aspect, here are some data points from Tom Tunguz.

A VC-compatible checklist

As an-early stage founder, if you have no idea on which side you’re leaning toward (VC or non-VC-compatible), here are some questions that you can ask yourself:

About your inspirations

The very first thing to know is whether the VC model fits your personal inspirations as an entrepreneur or not:

  • Is your aim to build and scale a very fast growing company at the cost of giving up some control along the way (aka speed versus control)?
  • Do you value building a company that might not grow as fast but you can control 100 percent?
  • Are you sufficiently aware of what it means to work with VCs? If yes, are you ready for the constraints and benefits it implies? If no, do reference calls with VC-backed founders first.

About your business

The characteristics of your business, product, or market positioning also play a role:

  • Is your SaaS a feature or a product?
  • Can you monetize your first users quickly with an early version of your product?
  • Do you need a lot of capital up front to build the first version of your product (e.g. heavy tech)?
  • Do you need a lot of capital up front to acquire your first customers (e.g. you target the enterprise segment from day one or you need to educate your market first)?
  • Is your product in a crowded category? If yes, do you have an unfair advantage to break out at scale—either on the tech or distribution side?
  • If you’re a niche product, can you expand to other problems or bigger markets?

Again, the line between VC-compatible and not compatible businesses can be very thin and change over time, especially at the early stages. There are plenty of examples of awesome startups that started as a feature and evolved to become a big business. However, it’s a tiny minority, and in the majority of the cases, they could show huge traction without raising at first.

Conclusion

I want to emphasize again that the VC path is neither better nor more prestigious than the bootstrapped one. Working on the VC side, my first aim is to be aligned with the founders we work with.

If their aim is to build fast-growing companies with the help of VCs, then it makes sense to work together. But if they prefer to do so by financing their businesses purely with the revenue they generate from their customers, it’s fantastic too.

There’s no right or wrong here. These are just two different approaches to building a business. Everyone should chose their path wisely.

- From our Sponsors -

BEAMSTART is a Global Community and News Portal for Entrepreneurship. We cover the latest news and bring together a global network of CEOs/founders, Investors, Business Leaders, and Professionals.

 

Download the Community App

Connect with the BEAMSTART Entrepreneurship Community from the palm of your hands. Connect with CEOs/Founders, Investors, Business Leaders, and Professionals. Download below to instantly form partnerships and discover opportunities:

PlayStore ButtonAppStore Button

© 2016 - 2021 BEAMSTART. All Rights Reserved (Legal).