When a company needs additional financing in between more formal funding rounds, they may choose to employ a bridge round to keep operations running smoothly. In this blog, we will cover what bridge rounds are, how they are structured, and what key considerations should investors keep in mind when choosing to invest in a bridge round.
What is a Bridge Round?
A bridge round is interim financing used to help fund operations between larger financing rounds. Sometimes known as a bridge loan, these rounds are typically smaller in size than other financing rounds and are usually comprised of debt. There are a few reasons why companies may choose to utilize a bridge round, both positive and negative.
One reason a company may elect for a bridge round is that they need additional capital to maintain accelerated growth; perhaps they need to expand operations immediately to accommodate an increased demand for their products or services. Another reason a company may choose a bridge round is to hit certain milestones before their next full financing round. Achieving these milestones may bolster valuation in advance of a financing round.
A company may also elect to employ a bridge round in the event it is running out of cash. The company may have not yet reached desired traction or need additional funds to continue operations. For example, Robinhood employed a $1B bridge round in January 2021 in an emergency capital infusion, six months prior to their IPO. This situation can assign a negative connotation towards bridge rounds, as it may serve as an indicator to investors that the company is not stable. While this scenario may be brought on by changing market conditions, it can sometimes be an indicator of poor cash management.
Structuring a Bridge Round
Bridge rounds are often structured as convertible debt, but can also be structured as preferred shares and in rare cases, a combination of equity and debt. Typically targeted at existing investors, bridge rounds are commonly structured by the issuer or a financial institution.
When structuring a bridge round as convertible debt, the company will set either a valuation cap or a discount rate. The valuation cap is often based upon the post-money valuation of previous rounds.
If the issuer chooses to structure the bridge round as preferred shares, the bridge round will typically follow similar terms as their last priced round.
Bridge rounds may sometimes carry a negative connotation, however, it is important to understand some key considerations about bridge rounds.
Founders should be prepared to adequately explain the reasoning for a bridge round when approaching investors and may also need to be prepared to make sacrifices. For example, SaaStr founder Jason Lemkin forwent a year’s salary.
When determining whether to invest in a bridge round, investors should ask questions such as:
- Has the founder provided timely updates on their progress and financial situation?
- Is there an urgent need for funding? Why?
- Are other existing and new investors joining in on the round?
- How likely is the company to succeed after receiving capital from the bridge round?
Bridge rounds are not always the most ideal way to raise capital, especially if there is an urgent need for interim funding but can sometimes be a necessary evil to accommodate growth, help issuers reach certain milestones, and sustain operations.
The information presented here is for general informational purposes only and is not intended to be, nor should it be construed or used as, comprehensive offering documentation for any security, investment, tax or legal advice, a recommendation, or an offer to sell, or a solicitation of an offer to buy, an interest, directly or indirectly, in any company. Investing in both early-stage and later-stage companies carries a high degree of risk. A loss of an investor’s entire investment is possible, and no profit may be realized. Investors should be aware that these types of investments are illiquid and should anticipate holding until an exit occurs.