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Fintech’s next big down round may have an upside

dollar markets

Financial technology startups are facing lean times. Klarna set the tone last month by raising cash at an 85 per cent discount to its previous funding round. The Swedish buy-now-pay-later group won’t be the last to experience an embarrassing valuation cut, known as a down round. But for some, there may be a reason to embrace the trend.

Fintechs have the same problem as all growth-focused startups: investors are suddenly more interested in short-term profit than soaring revenue. Investors in July marked loss-making Klarna’s valuation down to less than $7 billion from roughly $46 billion.

There are plenty of candidates for a repeat. Fintech startups raised $125 billion in 2021, or almost 3 times 2020’s total according to Dealroom. Seven of the biggest – Stripe, Checkout.com, Revolut, FTX, Chime, OpenSea and Blockchain.com – on average boosted their valuations by 275 per cent in their last funding rounds to hit a total of $253 billion, based on Breakingviews calculations using PitchBook data.

Founders will be reluctant to dilute their ownership stakes by raising money at a lower price. But many fintechs have burnt through cash to dominate their niche, meaning they’re likely to need a fresh infusion at some point. The ARK Fintech Innovation exchanged-traded fund, which aims to track the sector, is down 56 per cent this year.

Sometimes down rounds can even bring benefits. First, having an unrealistically high valuation means employee stock options may have less upside. A lower price tag can therefore make it easier to attract and retain talent.

Second, raising capital while others are retrenching could help some fintechs steal a march on the competition. Take cryptocurrency exchange FTX. Founder Sam Bankman-Fried has been on a shopping spree in the past few months and has kept investing while Coinbase Global (COIN.O) is slashing staff. FTX has overtaken its rival in terms of spot trading volume, according to The Block Research. Raising money could allow Bankman-Fried to double down on that advantage. A similar logic could apply to Blockchain.com and digital bank Chime. The latter group could use the money to push into new products like insurance.

And not all fintechs face a writedown as humiliating as Klarna’s 85 per cent. Shares in Chime, for example, are being quoted in secondary-market trades at a 49 per cent discount to January’s level, according to data provider ApeVue, compared with an 89 per cent fall on average for US-listed peers Upstart (UPST.O) and Dave (DAVE.O). Down rounds are never pleasant. But in relative terms, they can be a show of strength.

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