Founder – How to Properly Hedge Your Fundraising Money

Many founders grapple with the question of how to invest or hedge their fundraising money wisely. In a Seed round, an average founder encounters, for the first time in their life, a sum ranging between $2–8 million, and in a Round A, the startup receives several more millions. It feels great, the smile returns to their face—but how do you protect that money, and how should it be invested in a solid and safe way? Most importantly, how can you hedge the investment money so that you’re not affected by fluctuations in the shekel/dollar exchange rate?

Exposure to Exchange Rate

Most startups operating in Israel are inherently exposed to foreign exchange rate changes, as some of their expenses are in shekels and some in foreign currency (mostly USD). This raises the question of whether to hedge and what amount to hedge (hedging = protecting the investment funds), as well as which financial instruments to use for this protection—whether through deposits or more sophisticated tools such as forward contracts or currency options. It’s important to remember that proper hedging extends the startup’s runway, and sometimes even 2–3 extra months can be the difference between survival and failure.

To simplify things, let’s look at a following example:

A young startup raised $3 million in a Seed round, with 70% of its expenses in shekels (such as salaries, rent), and the remaining 30% in dollars (hosting expenses, licenses, marketing, etc.). This startup would prefer to receive most of the investment money in shekels, since the majority of its expenses are in shekels (mainly salaries), in order to align the investment currency with the expense currency.

As a side note, most VCs (venture capital funds) in Israel raise funds in USD, and therefore, in most cases, the investment currency will be in dollars. Since exchange rate fluctuations can reach up to 10% per year, this can erode the investment funds and harm the startup’s runway.

A startup whose fundraising money was supposed to last for two years until the next funding round, if it doesn’t protect itself through hedging, may find itself in a situation where it has lost 2–3 months of runway. This means it may not achieve its goals in time and will reach the next funding round with a lower valuation—or in the worst-case scenario, might not succeed in raising funds at all.

How to Hedge the Investment Funds?

First and foremost, a cash flow report should be prepared according to the currency of the expense. For example, in the cash flow report, employee salaries will be listed in Shekels, online marketing expenses in USD, and so on. This way, the final result will indicate what the company’s primary operating currency is, and which additional currencies it is exposed to.

For example 68% of the projected expenses in the company are in shekels and 33% in dollars. It’s also important to consider currency exposure in the revenue section, as it increases or decreases the overall currency exposure.

In the above example, to avoid exposure to exchange rate fluctuations, we would keep 33% of the fundraising money in dollars (typically in a dollar deposit) and convert 68% into shekels, placing it in a shekel deposit (assuming the fundraising money was received in USD).

Once we’ve calculated the future exposure to each currency, we’ll want to hedge the investment funds based on our cash flow. If we determine that 68% of the future cash flow is in shekels, then we should convert 68% of the investment funds received in dollars into shekels. The shekels would be deposited into a shekel-based deposit account for the company’s ongoing operations.

In this article, we’re not addressing the topic of hedging exchange rate risk, because when there is a match between the shekels and dollars held in the bank and the future cash flow needs, we are essentially indifferent to exchange rate fluctuations. Of course, even in the case of exchange rates, optimization can be done using deposits, forward contracts, and options. When we have future exposure to currency exchange risk, we can then use common hedging instruments like Forward Contracts, where we set the exchange rate in advance, or Options, which grant the right to sell at a predetermined rate in exchange for an upfront premium.