DTC Briefing: In a scarce fundraising environment, startups are asked to balance profitability and growth
This is the latest installment of the DTC Briefing, a weekly Modern Retail column about the biggest challenges and trends facing the volatile direct-to-consumer startup world. To receive it in your inbox every week, sign up here.
It’s no secret that it has gotten more difficult for direct-to-consumer brands to raise venture capital this year. While e-commerce was an attractive area for investors during the pandemic, consumer startups now have multiple forces working against them right now, ranging from inflation to venture capitalists pulling back on check-writing ahead of a potential recession.
Still, the discussion around how difficult fundraising has gotten seems to have hit a fever pitch within the past couple of weeks. Particularly after aperitif startup Haus announced it was looking to sell itself after failing to secure a lead investor, some founders in the consumer space told me they are comparing notes on social media — as well as through their own personal networks — as to what it takes to catch the attention of investors these days.
While investors’ expectations vary depending on product type and startup size, founders say that in certain categories like food and beverage, a DTC approach is being deemphasized with expanding wholesale distribution taking center stage. Meanwhile, investors are expecting a more clear pathway to improvement in certain key profitability metrics, like gross margins or EBITDA, without sacrificing growth rates.
“There’s a focus now away from growth at all costs,” Chip Malt, co-founder of cookware brand Made In told me.
While none of the founders I spoke with were currently fundraising, they said that all of their insights were based on what they have heard from other founders who were out raising, as well as in conversations with investors.
“Part of [my] role as founder and CEO is kind of always to be talking to investors, kicking the tires, meeting people,” Malt said.
Sandro Roco, founder of Asian-inspired sparkling water brand Sanzo, shared some fundraising advice for food and beverage startups after he tweeted last week that he was “overwhelmed with more requests than I can handle.”
“It felt like particularly over the last six weeks, there’s been a marked increase in folks that I’ve been hearing from, [about] rounds either not closing or slowing down a bit,” Roco told Modern Retail.
In the food and beverage space, Roco said that “we have been seeing a bit of a discounting in revenue from DTC and just like the general notion of DTC as a sales channel.” While DTC-first plays like Haus and Dirty Lemon may have previously attracted a lot of attention, now the focus is on “what brands are doing in retail.”
Roco said that during the Series A round and beyond, founders can no longer just rely on “vision and storytelling” to win over venture capitalists. While he said companies don’t have to “put every single number in the pitch deck,” he’s seeing an increased focused on certain metrics that prove out the company’s ability to grow profitably, depending upon what their sales channel of choice is. For wholesale-reliant food and beverage brands, that includes an increased focus on “solid gross margins with great sales velocities.”
Cristina Ros Blankfein, co-founder of zero-sugar beverage brand Swoon, echoed this sentiment. She said that metrics proving out velocity, such as an increase in same-store sales, have always been important in the food and beverage space. But, as talk of a potential recession ramps up — which may make it harder for brands to raise capital — she said there’s more of a focus on “how do you just increase your gross margin as much as possible?
Essentially, as she put it, it boils down to “do you have a business that’s going to work as you scale?”
A similar conversation is taking place among later-stage brands. Malt said he recently attended a private equity conference where the mantra was “overfunding a business that shouldn’t exist is dead.”
He said that at the later stage, the focus is all on growing EBITDA and all the calculations that feed into it: gross margin, contribution margin, etc. “If you are $5 million in EBITDA right now, is there a pathway to get to $75 [million] with your current profile?”
The tightrope that consumer startups are going to have to walk in the next year is that while investors want to see an improvement in key profitability metrics without sacrificing sales growth, the cost of doing business is getting more expensive.
“I think one of the things that is a pressure that founders feel right now…is that everyone’s costs have gone up,” Ros Blankfein said. “Our materials, our labor, every cost that touches the business…has gone up.’
“It’s really such a tight balance of how to continue growing while having the pressure of increasing costs on our end,” she added. The buzz is hold on tight, get through the next 18 months as best you can, without going out to look for capital.”
What I’m reading
- Thingtesting looks at how the 2018 CBD beverage brand boom has turned into a cooldown, as some brands like Recess and Vybes have moved away from explicitly mentioning the psychoactive ingredient in their marketing.
- The Wall Street Journal unearthed some interesting stats in its examination of the state of booze-free startups: namely, that Athletic Brewing says it’s now the most-sold beer at Whole Foods.
- Partake Foods spoke with Retail Brew about the steps it has taken to “recession-proof” its merchandise, making adjustments to some of its formulas as certain key ingredients got more expensive.
What we’ve covered
- Why natural beauty brand Raw Sugar Living is launching an e-commerce site for the first time after nearly a decade of selling through national retailers like Target.
- Gen Z shoppers are flocking to buy now, pay later services like Affirm to beat inflation – even as they a potential doorway to debt.
- Inflation could be a boon for luxury resale, as secondhand services like ThredUp and TheRealReal are reporting an uptick in shopping among higher-income customers.