Backing entrepreneurs that want to “take over the world” is out, and building profitable businesses is back in vogue. There’s a waterfall of cashflows that companies should aspire to:

1. Internally generated cash.
2. Debt.
3. Equity.

This might seem like a simple premise, but I’ve had productive conversations with entrepreneurs recently where they’re manifesting this hierarchy in their plans. A friend of mine, a successful entrepreneur, mentioned during lunch that when raising a subsequent round, an investor asked him about his end goal. He responded, “To make a cash cow,” to which the investor replied, “That’s the best answer I’ve ever heard.”

Cash Flow Independence

The desire to create a cash cow stems from the challenging experiences entrepreneurs face raising cash from investors. Once the business generates cash, the founder is no longer subject to the whims of the fundraising market. Not too long ago, investors might have shunned entrepreneurs who weren’t thinking of world domination.

Investors used to favor entrepreneurs building massive platforms that required millions or tens of millions in capital before eventually generating free cash flow. This presents challenges for entrepreneurs in Southeast Asia, where platforms may need additional cash, but the benefits (cash flows) haven’t started to materialize. This situation forces entrepreneurs to focus on short-term cash flow opportunities, which often deviate from the long-term vision.

The Hierarchy of Funds

Entrepreneurs should consider the hierarchy of funds when deciding where to source capital:

1. Internally Generated Cash: If cash can be generated from sales, the company is selling a service.
2. Debt: By raising debt, the company is effectively selling a portion of its future cash flows. If the company fails to meet its debt obligations, it might forgo some or all equity to creditors during restructuring.
3. Equity: Selling equity means giving up a portion of the business’s future cash flows in perpetuity.

Funding rounds are often celebrated due to the hurdles an entrepreneur overcomes to secure external capital. But as an investor, when an entrepreneur enthusiastically sells a portion of a seemingly profitable business, the question arises: Why sell so early if the business is that profitable? In Southeast Asia, scaling quickly to fend off competition is seldom the reason.

Too often, entrepreneurs are uninterested in building a business that generates cash flows to sustain corporate luxuries. A nice office with art is a function of stable, growing cash flows—not something funded by investor capital.

Conclusion

In today’s funding market, building global platforms is out, and building businesses that generate immense cash is back in. Founders are increasingly focused on how to build businesses without relying on external investors. This shift will be positive for the ecosystem, forcing startups to achieve some level of revenue early and solve real problems, leading to healthier companies overall.