A bridge, not a pier
Startup founders have to deal with several factors to ensure they have sufficient runway to keep their startups afloat. After raising funds, they have to justify their operational burn rates, understand how funding will be utilized, undertake execution, maneuver around investor sentiments, and track funding milestones. However, despite all the efforts, sometimes the runway could fall short.
To ‘bridge’ this gap between their startup’s current liquidity needs and its next funding round they raise a Bridge Round.
Simply put, Bridge Round is when a company raises additional funds between priced rounds, often contributed by one of its existing investors.
Moving forward, you will understand why startups need Bridge Rounds, how they work, and their benefits.
Why Bridge Rounds?
Bridge rounds are often associated with financial difficulties for a company, but that's not always the case. There could be several reasons why a startup might seek bridge funding.
For instance, an early-stage startup might require additional funding simply because it could not raise enough capital during its initial fundraising round. Alternatively, the company's revenue may not have grown as anticipated and may require more funds to continue operations. Also, companies may want to use the funds raised to develop their product, expand their inventory, or engage in other long-term growth efforts.
A growth/late-stage company, on the other hand, may seek bridge-round capital to bolster its balance sheet before going public. These are also known as pre-IPO rounds, and they provide a bridge between the company's final private funding round and its public debut.
Hence, Bridge rounds are not always a sign of financial difficulties. It could simply be a strategic move to raise extra cash and position the organization for future success.
How does Bridge Funding work?
If you're considering a bridge round of financing for your startup, it's essential to understand how they work.
Bridge funding can take many forms, but Convertible Notes and Preferred Equity are the most common options. Convertible Notes are a type of debt that can be converted into equity later. At the same time, Preferred Equity is a type of stock that gives investors certain rights and preferences over common stock.
Investors usually prefer Convertible Notes as they allow them to set a valuation cap or discount price for shares in the subsequent funding round. It also gives them much-needed protection against future dilution and also providing them with a potential upside if the company's valuation increases.
Founders, however, are often hesitant to use Convertible Notes because they accrue interest until the next capital raise. Conversely, Preferred Equity is a more favorable option for companies, but it's also less common because businesses seeking bridge financing come from weaker negotiating positions.
When to consider Bridge Funding?
Recently, many late-stage startups saw a decline in valuation amid the turbulence and contraction of funding winter that afflicted the public markets. With the hope of raising their next round or making a public exit in a bull market, many startups opted to bridge rounds and wait out the unfavorable macro environment. In fact, despite the annual drop in total capital inflow, bridge funding was still the second highest to date in India.
No doubt, Bridge funding has turned out to be a viable alternative for entrepreneurs. Here are several other circumstances in which Bridge Financing may be considered as a funding alternative -
When the funding secured takes longer than projected to close
Fundraising can be a time-consuming process, and it is not uncommon for a funding round to take longer than expected. You will still have to pay for running expenditures like salaries, rent, and so on throughout this time. Bridge Finance can help you cover these expenses until the more significant investment is secured.
When you need to scale up quickly
Maybe your startup is experiencing rapid growth, and you need to scale quickly, but you don't have the necessary funds. Bridge funding can be a viable option for you if such is the case.
When you need to complete a significant project or milestone
Maybe you are approaching a milestone that could result in a nice valuation bump for your startup ahead of the next priced round. If that is the case, bridge funding can be a potential alternative for you.
Benefits of Bridge Funding
Bridge funding can help you achieve your goals in the short term while simultaneously positioning you better for the subsequent funding round. Listed below are some other benefits of securing bridge funding:
Bridge funding can help you pay for expenses like rent, salaries, inventory, etc., until your next round of funding.
It can help you raise quick money to capitalize on a time-limited opportunity, such as buying out a competitor.
With bridge funding, you can negotiate with potential investors from a position of strength rather than desperation.
If you're in the middle of a growth phase, bridge funding can help you keep the momentum going until your next round of funding comes through.
Securing bridge funding can help you build credibility with potential investors. It shows that you're serious about your business and that other investors are willing to bet on your success.
Securing bridge funding can help you cover short-term expenses, take advantage of opportunities, negotiate better terms, and build credibility. If you're a startup founder or entrepreneur, it's worth considering bridge funding to help you achieve your business goals. As a founder, it is important to make it clear to investors why you’re raising and that you’re building a bridge, not a pier. Since a bridge gets you to a destination while a pier leads nowhere.