From a startup with a few employees to a publicly traded company with hundreds of employees, tech companies vary in size and can grow rapidly. With this growth, a tech company’s insurance needs will likely change. That’s because more growth can present different risks and challenges.
What Makes a Tech Company Grow So Quickly?
One of the factors behind a tech company’s rapid growth is venture capital funding. These firms raise capital to invest in startup companies. The firms’ goal is to eventually sell their stakes and earn a return for investors.
Venture capitalists invest in businesses for many reasons, like:
- Stronger returns compared to the S&P index. There’s typically between a 12% and 15% internal rate of return over the fund’s lifetime.
- Portfolio diversification for higher risk and return assets.
- Strategic investment to gain knowledge and influence over emerging technologies.
Even a global pandemic didn’t affect venture capital funding. In fact, throughout the world, venture funding was up to $300 billion in 2020 – a 4% increase from 2019.1
While venture capitalists invest in every industry, they’re attracted to technology startups because of the potential for scaling, high margins, recurring revenue and long-term growth. All of these factors can be accelerated with upfront investments.
The Venture Capital Firm Structure
General partners or managing directors lead venture capital firms. Firms typically have a team of principals and analysts to help with operations. The firm is responsible for performing administrative functions for funds it manages, like:
- Investment diligence
Each fund consists of a general partner and one or more limited partners. General partners make all investment decisions and oversee fund operations. Limited partners provide capital, but don’t have decision-making authority and no fund-related liabilities if things go poorly.
Venture capital firms make money after they exit a fund. This can happen with:
- IPO or other public offerings. If a company grows large enough, it may go public on one of the stock exchanges. Having at least $100 million in revenue is seen as a milestone for going public.
- Reverse mergers. Instead of going through a traditional IPO offering, a special-purpose acquisition company (SPAC), or a “blank check” shell corporation, is created to take the company public.
- Strategic acquisition. A larger company may buy a business to acquire a technology, product or team. Large acquirers in the technology industry include Amazon, Apple, Google and IBM.
- Buyouts. This is similar to an acquisition, but it’s less strategic. A venture capital-backed company may get bought out by another company to add to their portfolio.
How You Can Protect Your Tech Company as It Grows
Tech companies grow in stages and each one brings new, more complex risks. Insurance can help provide the security you need to keep innovating and growing.
“The risks a tech company faces when it’s in growth mode is drastically different than when it was a startup. There may be more employees or different products than when the company first started – all of which can bring liability risks,” said Andrew Zarkowsky, Technology Industry Practice Lead at The Hartford. “Having the right insurance coverage at each stage can help prevent any costly surprises if something unexpected happens.”
We’ll use a fictional tech company as an example to explain this growth and what a business typically deals with at each stage. Alex and Becky are coworkers who come up with an idea to start a tech company.
Learn what each stage of growth looks like for their company and the insurance coverages they can consider to help protect their business.
Angel or Pre-Seed Phase
Alex and Becky write a business plan and get feedback from trusted mentors. They decide to start their business with investments from their savings and close friends. They also build a prototype of their product. To create the first version of it, they anticipate needing about $100,000 for development, research and refining the business plan.
The first stage of funding is the angel or pre-seed phase. Founders fund their startup with their own money or with capital from friends and family. Sometimes, they may pitch their idea to angel investors to secure funding.
At this stage, a tech company doesn’t typically have liabilities, assets or contracts that would require insurance coverage. Buying insurance coverage is a proactive measure to provide peace of mind.
Alex and Becky quit their jobs to focus on their new company, A&B Corp. They spend six months to test an early version of their pilot. They make tweaks to their product based on positive feedback and customer use cases. They put together a model and believe they can make a finished product and grow their business with $2 million. The money can help them hire two more developers and another person to help with sales.
Becky’s friend works in venture capital and introduces the business owners to a few firms. A&B Corp raises $2 million at a $7 million pre-money valuation. Alex and Becky are able to grow their development, sales and marketing team with the new capital.
Think of this stage of growth as the tech company now becoming “official.” A tech company is developing minimum viable products or establishing product-market fit. The team at the tech company is still very small and usually includes the founders and a few employees, like engineers or development staff.
Funding is typically between $100,000 and $2 million. It varies depending on the type of tech company, and because of the size of the tech company, its valuation is small.
Insurance coverage for this stage of growth can typically be addressed with a Póliza para propietarios de empresas (BOP). Workers’ compensation insurance (WC insurance) is also important to help employees recover from a work-related injury or illness. Cyber insurance may also be essential because tech companies can be the target of cyberattacks. Handling sensitive or personally identifiable information (PII) can put your tech business at risk of a breach or attack.