The subscription economy boom has turned many legacy business models on their heads, not only connecting businesses and consumers to products and services with a bit less pain to their wallets, but opening up a world of potential for startups to generate reliable, predictable revenue.
But even with predictable income, cash flow management can be a challenge for any Software-as-a-Service (SaaS) company, and according to Pipe Co-founder and Co-CEO Harry Hurst, current financing options for SaaS firms remain less than ideal.
Speaking with PYMNTS, Hurst, explored the opportunity for FinTech to step in and connect SaaS companies to financing by treating their subscription contracts as an asset class that can be bought and sold — a strategy, he noted, that brings the value of cash flow predictability to financiers.
The Subscription Asset Class
SaaS subscriptions "have always been an asset," said Hurst. "They've just never been treated as one."
Pipe, which announced this week a $60 million funding round as well as the launch of its platform, aims to act as a conduit between SaaS vendor and financiers by enabling those SaaS subscriptions to be bought and sold, turning them liquid for software vendors.
For the SaaS company, this strategy can be more beneficial than the traditional routes available. Hurst noted that while SaaS remains a particularly hot focus for venture capital investors, more mature software firms typically rely on venture debt, and the resulting dilution can be unattractive (and expensive) to founders.
Taking advantage of the predictability of incoming payments can open up avenues for more affordable financing.
According to Pipe's own analysis, the average length of time that customers retain a subscription contract is 12 months, leaving one year of all-but-guaranteed value. SaaS companies can sell those assets to financiers on the Pipe platform, which then retain the assets on their own balance sheets, with yield coming in the form of customers' monthly or quarterly payments.
A Different Approach
The concept of securing financing on the grounds of reliable, predictable revenue isn't new for the SaaS market. Indeed, noted Hurst, many software and subscription revenue firms have already taken a similar approach with their own subscribers.
"The interesting thing is that SaaS companies have tried to do this themselves by having their customers bankroll them," he explained, pointing to some of the largest subscription service providers like Google and Amazon that will offer steep discounts to customers in exchange for paying for a year's worth of service upfront, rather than on a monthly basis.
Whether a company accepts that discount or decides to simply wait for monthly or quarterly income, a cash flow crunch can emerge. Couple that with the cost of customer acquisition, and the need for external financing can spike.
While the security of steady revenue may be attractive to both SaaS companies and their financiers, the industry is far from risk-free. Customer churn, canceled subscriptions, even canceled credit cards on auto pay all pose a threat to the predictability of this revenue model.
This is particularly true for subscription startups applying this model to an industry that hasn't yet proven to be successful. Further, the reliability of capital inflows can vary based on industry as well as customer profile. B2C software firms may see higher customer churn, for example, while in the B2B SaaS arena, price negotiations are common.
Hurst noted that Pipe mitigates these risks by focusing on more mature subscription companies as those models have already proven successful. Further, he said, as the lines between B2B and B2C SaaS blur, what matters less is how a subscription agreement is negotiated between software vendor and customer. Rather, what's important is that the subscription — the asset — is created in the first place.
Data analytics are also key to underwriting, with Pipe able to integrate into software vendors' back-office accounting platforms.
With the new funding, Pipe said it plans to expand and add more buy-side financial institutions to its platform. As it does, the company will be tasked with another challenge for this market: convincing subscription companies to use a less-familiar method of external financing, which can be difficult in any industry. But according to Hurst, word of mouth is a powerful marketing tool, and the demand is there.
"The last three months have been some of the most tumultuous and interesting times in the market," he said. "And we've seen SaaS as a business model outperform almost every other business model in the public markets. The demand on both the buy- and sell-side was always there; it's just that no one was providing the technological infrastructure to be that conduit."