Risks for Late-Stage Startups & How to Overcome Them

1. Regulatory Compliance Risks

When a company raises funding through a Series C round, it means they are at a rapid growth and expansion stage. But with this success comes an increased level of complexity in the company’s operations, which can lead to more regulatory compliance issues. More than ever, companies are aware of this: Compliance platforms are growing in popularity, and financial compliance spending topped $274 billion in 2022 — accounting for more than 5% of institutions’ annual budgets.

A hot regulatory compliance topic is the data protection laws popping up worldwide. This trend directly responds to growing concern about protecting personal information, intellectual property, and geopolitical underpinnings. Late-stage companies must learn about pending data privacy laws and develop a plan to respond efficiently. Failure to comply with these regulations can result in fines, legal action, damage to a company’s reputation, and even loss of a business altogether.

Series C companies should always be on top of US Securities and Exchange Commission (SEC) updates. For example, in 2022, the SEC proposed rule changes to enhance climate-related disclosures for investors and make companies provide consistent and transparent reporting. Investors will know what companies must comply with, so educate yourself about these regulatory changes to avoid roadblocks in your funding round.

Additionally, regulatory agencies are becoming increasingly vigilant in enforcing regulations, which means that companies face a higher risk of being penalized for non-compliance. For example, the US Consumer Financial Protection Bureau (CFPB) — since November 2021 — has been investigating Buy Now, Pay Later (BNPL) companies like Klarna and Afterpay, offering installment payments. The CFPB plans to subject BNPL vendors to stricter oversight and reporting requirements. So, even companies with plenty of capital could suffer under regulatory changes, and those after Series C funding should take note.

2. Operational or Execution Risks

Operational risks are a given when founding a startup. They can include anything from issues with embracing automation and robotics to management liability and problems retaining top talent.

If you’re small and early-stage, the fixed cost of delays or issues is modest; however, for Series C companies, a 6-month delay in recruitment or cybersecurity deployment, for example, could be detrimental and costly. If left unchecked, operational risk can escalate and become a firm-wide failure.

For many, operational risk management (ORM) and governance is the missing link to building a sustainable organization. It must be integrated into the fabric of a Series C company to solve communication issues, align the vision, and lead to loyal employees. Advanced analytics are creating significant improvements in detecting operational risks more quickly, especially for financial services companies.

Insurance is also a vital part of operational risk management. Employment practices liability (EPL) insurance covers costs and damages related to employment-related claims like discrimination and harassment. Directors and officers (D&O) insurance can respond to any accusations surrounding a breach of fiduciary duties and help protect companies from claims of mismanagement.

3. Global Economic Risks

Series C companies must prepare for economic turbulence, global recessions, and unprecedented circumstances. Economists often suggest longer-term corporate thinking and for companies to look beyond the turbulence to position themselves effectively for the state of recovery — a more competitive environment.

Furthermore, it’s essential to build a financial model with investors in mind. This approach increases the chances of securing the investment needed to grow businesses and achieve lasting success.

Fernando Honorato Barbosa, Chief Economist at Banco Bradesco, said: “Forging resilience, integration, and financial robustness with an eye on the people and nature will be mandatory.”

Take Lime as an example, a transportation company offering dockless scooters and electric bikes worldwide. After raising a Series C round in 2018, the company was hit by the economic impact of the pandemic and saw a 95% drop in ridership (despite already laying off 14% of employees and pulling scooters from many cities pre-COVID). However, with a focus on people and resilience, the company reactivated small fleets of scooters called Lime Aid, an initiative offering free rides to healthcare workers and law enforcement officers during the pandemic’s social distancing measures.

On another level, startup insurance policies can also help during global economic uncertainty by providing financial protection and stability. Let’s take a deeper look:

• Business Interruption Insurance: This type of insurance helps a company stay afloat by covering loss of income and expenses during any unforeseen event, such as a natural disaster.
• Property Insurance: This insurance can help companies with global economic risk by providing funds to repair or replace damaged tangible assets, enabling a company to continue its operations.
• General Liability Insurance: Known as “slip-and-fall” or “all-risk,” this insurance protects a company against claims from third parties for bodily injury or property damage caused by a company’s products or services.
• Cyber liability: This insurance protects a company against losses from cyberattacks, which can be particularly damaging during economic uncertainty.

4. Liquidity Risks

Funding or cash flow liquidity risk can arise from slower-than-expected sales growth or unexpected expenses. For example, a Series C company may rely on external funding sources to finance operations and development. If these funding sources dry up, the company may face funding risk, impacting its ability to meet short-term obligations to investors. The current assets vs. liabilities ratio is a classic indicator of funding liquidity risk.

Series C companies may also be exposed to market risk and struggle to generate cash flow if their products or services link to a particular market or industry that faces a downturn.

These issues are more likely to arise when business owners fail to plan for a strategic exit due to being distracted by day-to-day business operations. However, exit strategies should be included when you write the original business plan. That way, existing shareholders know where the exit door is. This would also mean fewer issues with minority shareholders, conflicts of interest between investment firms and companies, and accusations of negligence by investors.

With post-acquisition litigation on the rise too, there’s a hefty amount of risk surrounding mergers and acquisitions (M&A), an exit strategy. Company directors and officers can face scrutiny before, during, and after corporate transactions are complete.

For companies and investors, D&O insurance is a huge requirement. Investors may even list this insurance as a condition to close Series C funding rounds. Representatives and warranties (R&W) insurance can also help buyers and sellers respond to the ramifications of disputes frequently stemming from M&As.

With new exposures at a Series C funding round comes the need for fresh policies or a revamp of current insurance coverage. And at Founder Shield, we’re passionate about taking the stress out of buying startup insurance for rapidly evolving, venture-backed companies.

Want to know more? Contact us at info@foundershield.com or create an account here to get started on a quote.