Why Venture Capitalists Need To Add SaaS Companies To Their Portfolio

August 23, 2021

National Venture Capital Association

Today, venture capitalists (VCs) should know how important it is to add SaaS companies to their portfolios. In today’s business world, access to the cloud has given rise to a revolution in the technology industry.

The appeal of Software-as-a-Service (SaaS) solutions to venture capitalists (VCs) is simple: operational and efficient. This approach limits customers’ need to invest in companies’ data storage and server infrastructure.

In addition, it results in a highly scalable solution that doesn’t require high capital spending to support clients or applications. However, given these savings, uptake of technological solutions has been solid among startups.

Research shows that global SaaS sales will increase at a compound annual growth of 19% over the next 5 years. Thus, venture capitalists (VCs) looking to profit from this trend over the long term should consider establishing pure-play SaaS companies that can maintain and deliver outsized high growth.

In addition, to win market share from the traditional software packages, companies that produce specialized on-premise software have transitioned to the Software-as-a-Service (SaaS) model, gradually creating a stream of recurring revenue.

VCs need to add SaaS companies to their portfolios because SaaS companies provide predictable, recurring revenue. In addition, SaaS startups can offer services to as many clients as they want with more or less the same fixed costs, potentially creating huge income.

Also, SaaS startups tap into modern client attitudes rather than clients putting a lot of money into a single purchase. Users today prefer flexible prices and cost-efficient services that can be accessed instantly. As a result, SaaS companies are capital-efficient, and VCs can build a sizeable profitable portfolio for less than $15 million in capital invested.

There are many factors around how well SaaS startups serve clients that appeal to private equity investors. Usually, they follow a logical pricing model in which clients pay for what they use. Also, they deliver rolling upgrades and help startups offset the need for their internal infrastructure, encouraging client retention.

In addition, from the venture capitalist perspective, SaaS companies can scale to other regions relatively quickly.

What’s The Difference Between Venture Capital Firms & Venture Capital Funds?

A VC firm is sometimes called a Venture Capital firm or a venture firm. It is a collection of business entities formed together to generate substantial returns for venture capitalists (VCs) by investing in high-risk organizations that have yet to prove that their business models work and are significant in the venture capital industry.

In contrast, VC funds are typically structured as partnerships. However, it is helpful to understand VC firms as institutional investors to differentiate them from other startup companies like angel investors when contrasting institutional venture rounds from angel rounds.

Usually, VC is a form of private equity, and there are two main uses of venture capital. First, venture capital is a subset of the venture capital industry, which involves investments in small, high-growth potential startups with less risk of failure.

These investments are high-risk rewards and normally lock a venture capitalist into a multi-year holding period. Second, a venture capital fund is an entity that constitutes partnerships between general partners (small companies) and limited partners (large institutional investors).

Venture capital funds have terms and conditions that define the business relationship, which involves how the general and limited partners get paid and the process of resolving disputes between them. Also, how startup funding will be invested, the actual amount in the investment fund, and other essential details.   

However, Venture capital firms (VC firms) and venture capital funds (VC funds) are different. A VC firm is the perpetual legal entity under which various venture funds can be raised and closed. VC firms may have many funds, and each fund is a separate legal entity under the firm’s management.

Silicon Valley often provides investment to raise money

Who Manages VC Funds?

Venture capital firms usually employ many funds managers or general partners to manage their funds. General partners (GPs) are responsible for making intelligent decisions and maximizing returns on investments for the LPs who invest in fund managers’ funds.

However, some of fund managers’ responsibilities include:

  • Raising funds from LPs sourcing for early-stage companies and top startups,
  • Raising pension funds,
  • Performing due diligence,
  • Funding startups,
  • Delivering returns back to investors in the fund,
  • Providing value add to fund portfolio startups beyond just capitals,
  • Giving advice and more

Venture capital funds (VC funds) tend to be large – ranging from million dollars to more than $900 million in a single fund, with the average fund size for 2025 coming in a million dollars.

Silicon Valley often provides investment to raise money

Why Do SaaS Startups Need VC Money?

Venture capital financing is ideal for startup companies that need funds to scale up and will likely spend a significant period in the red to build their business into an extraordinarily profitable startup company.

Venture capital financing is ideal for startup companies that need funds to scale up and will likely spend a significant period in the red to build their business into an extraordinarily profitable startup company. For example, popular companies such as Amazon, Facebook, Google, and Apple were once venture-backed companies.

Unlike other companies like car dealerships and airlines, companies with valuable physical assets and predictable cash flows – startup companies usually have little collateral to offer against a traditional loan.

Thus, if a venture capitalist were to loan a startup, there is no guarantee that the traditional venture capitalists (private investors) could recoup the amount they’ve lent out if the startup company were to fail.

However, by raising funds from a VC instead of taking out a loan, startups can raise funds they are under no obligation to repay.

Nevertheless, the potential cost of taking the funds is higher – while traditional loans may charge management fees or carried interest rates, startup equity investors are buying a percentage of the company from the founders.

This means that the founders give investors rights to a percentage of the company profits in perpetuity, which could yield a considerable amount of money if they are successful.

San Francisco is a popular location to find new companies to invest in

Startup fundraising rounds

Those in the startup industry need to raise funds to establish their companies. There are more or less specific descriptions of startup fundraising rounds. However, before looking for funds, an entrepreneur must understand the process involved in fundraising, which is very significant.

Usually, fundraising should start with family and friends, and if everything goes well, then fundraising rounds should probably end with a Series C round for a well-established, profitable company.

an investor

Round 1: Pre-seed, or family and friend funding

Unless entrepreneurs are wealthy enough to raise funds, they typically turn to their families and friends to fund their startup companies. However, this round is known as a “pre-seed” round, and it is well descriptive to call it a “family and friends” round because most of the money comes from it.

At this level, the investment decision is risky because it is only a concept. Therefore, family and friends need to realize that they may lose their investments.

However, there are ways to go about it in helping entrepreneurs and their families and friends from personal liability, but let’s agree all goes well. Hence, an entrepreneur is ready to move to the next fundraising round.

Round 2: Seed funding

Seed funding is also known as seed capital. Seed capital means to fund the startup company with enough money to genuinely develop to demonstrate the viability of the entrepreneur’s ideas. It typically occurs before the startup plans to venture into operations and when the startup company has a detailed business plan.

Usually, there are two primary sources for seed capital rounds. The first source lies in the VC world, where investment companies study and carefully pick the best competing startups for funding. They, in turn, are funded by others who want to invest using the expertise of the VC firm.

An alternative source is the angel investor, who frequently is a wealthy person rather than part of an organization and invests their funds in startup companies. Sources, the venture capitalist will expect to receive some equity in the startup as a condition of funding sources funding.

Series A Round

The next phase in fundraising rounds is Series A financing. In this step, startups seek Series A financing when it has become apparent that the concept for startups is workable and has proved itself through the seed fundraising startup company with a powerful, well-thought-out business strategy will obtain Series A financing to mature the company.

However, at this level in the startup’s life, it focuses on raising money and monetizing its business. Therefore, the startup must draw a detailed business, penetrate the market and create revenue streams company.

Early investments can help fund a company's growth

Series B Round

The Series B round is where the company puts all its efforts into increasing its market trends. The company has already proven a workable business through its earlier fundraising rounds ss plan and can monetize its products.

One of the most critical facets of this is that it is designed to assist the company in scaling up to meet customer demands in the market. By this time, the company has come a long way from its humble beginnings; it may find that it needs more improvements.

Also, the company needs more employees and more departments like advertising, business development, customer support, sales and tech support, and many more. These are the kinds of expenditures for which companies engage in Series B fundraising rounds.

Early investments can help fund a company's growth

Series C Round – Maybe an IPO

Companies considering Series C fundraising rounds have become successful because they are stable and making money.

But they might decide to create a new product line or expand venture into new markets.

For example suppose, the company chooses to sell a new product in Europe. It might also be interested in doing other businesses that complement what the company does to fill its needs.

Another way of seeking Series C financing is through an IPO (Initial Public Offering). Also, the company might decide to go public, which means the founders will reap tremendous profits for their years of hard labor. 

Investments in early stage growth is good news for partners

Five Fundraising Rounds

Fundraising rounds aren’t scientifically defined, but they can overlap just as the investors seek to fund startups. Frequently, more money is raised in each type of round, but businesses generally have reached the pinnacle of success once they have passed through these five fundraising rounds.

A well invested Startup can come out of business school

The Cost of Raising VC Capital

Startup venture capitalists generally expect a 20% or more annual return on their investments and will take this number into account when determining the amount to offer for a business. Typically, a lender will charge 7.9 – 19.9%.

But at face value, it may appear less expensive for entrepreneurs to take a loan. Nevertheless, most startups do not qualify to receive loans. Still, those who receive loans often find they come with expensive interest rates, management fees, late fee penalties, warrants (such as free equity to the lender).

Early-stage startup company investing offers potential for astronomical development and outsized returns relative to larger or more mature companies. This potential can make acquiring startup equity an attractive investment opportunity to potential venture capitalists, albeit a little risky.

For startup founders, taking VC funds can come with so many benefits. Experienced startup venture capitalists (private equity investors) can provide valuable support, guidance, equity stake, and resources to new founders that can help reshape their company and increase its chances of success.

However, having access to startups can sometimes be challenging for venture capitals, as the best startups can be more discerning when deciding who to take capital from.

In this situation, startups frequently weigh the additional benefits a venture capital firm (VC firm) offers besides the just capital.

This is why it is essential for venture capital firms (VC firms) to create a reputation for adding value by helping portfolio companies with recruitment, customer acquisition, access to follow-on funding, advice, and other issues startups encounter.

VCs often stake a million dollars or more

Why SaaS Companies Make A Good Addition To a VC Portfolio

Over the last decade, SaaS companies have become a profitable investment for venture capital firms.

In 2019, it was estimated that 136.5 billion dollars were invested in SaaS companies in the United States alone. In addition, more SaaS companies have entered the industry, disrupting the current practice and assisting clients in streamlining their businesses and eliminating manual processes.

A significant reason SaaS companies make a good addition to venture capital portfolio companies is that SaaS businesses provide predictable, recurring revenue, a draw for any venture capital firm.

However, a significant reason SaaS companies make a good addition to venture capital portfolio companies is that SaaS businesses provide predictable, recurring revenue, a draw for any venture capital firm.

First, SaaS businesses provide predictable, recurring revenue, a draw for any VC firm. The SaaS model also allows startups to grow their customer base for the exact costs, more or less. In this way, SaaS startups are incredibly capital efficient.

Secondly, SaaS companies are scalable. According to research, SaaS companies offered the most scale-ups compared to all other sectors. 

One analyst described that 2020 was the best year yet for SaaS – the very business model of SaaS lends itself well to uncertainty, and its flexibility has led to more IPOs, more revenue, and even more interest in SaaS than before.

According to the Forbes Communications Council, SaaS revenue will rise to $233 billion by 2022 and over $360 billion by 2024.

Large investment for a startup can be key to success

What Can VCs Expect in Return?

Venture capitalists in a venture capital fund (VC fund) profit if the returns from successful startups outweigh the losses from failed startups. This doesn’t mean most of the startups within the fund have to be successful – frequently, one big winner within a fund can make up for a portfolio full of losses. 

Fund managers (FMs) can liquidate all fund parts to pull the capital out and distribute profits to venture capitalists. For example, this can occur when a company within the fund IPO (initial public offerings) is acquired.

Generating market-beating returns depends on investing in a top venture capital fund (VC fund) with connections to top startups and proven returns instead of spreading capital across multiple funds, as the highest returns are concentrated among the top 25% of funds.

Final Word

If you are at your business’s early stage and want to take it to the next phase, one of the best options is to seek VC funds. Investors are savvy venture capitalists, and they typically have a long-term horizon.

Although venture capital firms (VC firms) can provide capital and expertise for your early startup technology company, acquiring funding generally means you will cede control over your startup.

However, venture capital funding has several benefits. In partnering with a VC firm, you will get access to the venture capitalists’ network of contacts along with their business savvy and expertise.

an investor can come in many forms

About the author: Joe Silk -

Joseph is a Start-up Consultant, Copywriter & Business Owner with 9 years of PQE. He is extremely client-centric, able to work on a wide range of topics and deliver high-quality standards on projects of all sizes for clients all over the world. View on Linkedin

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