- Jun 1, 2022
- Alan Wink
Raising capital can be the most difficult hurdle facing entrepreneurs. In this video, you’ll learn about various options for raising capital, tips for creating your potential investor list, and how to approach investors.
Alan Wink: Raising capital is one of the hardest tasks that a founder of a startup will ever face. It is often said that the title of founder of a company is often just another way of saying “Chief Fundraising Officer,” since it feels like most startups are in continuous fundraising mode. In most startups, a new round of fundraising usually takes place every 15- 18 months, with the expectation that each fundraising round will help the company achieve new milestones and also a higher valuation.
Funding options available to the entrepreneur depend on the stage that their company is in. Pre-seed comes before seed, which comes before Series A. Series A is followed by Series B, C, etc. All founders must certainly understand that different types of capital have different costs. Debt is the cheapest form of capital, but in the majority of cases is not available to pre-seed and seed stage companies. Equity is the most expensive form of capital, and it is usually the type of capital raised by startups.
What are my options for raising capital?
There are several sources of capital that are available to turn your idea into a profitable business. If you have the financial wherewithal, you can certainly use your personal savings to “bootstrap” your business. Another way to bootstrap a business is to ask friends and family to invest in your company. Without being too cynical, many people refer to friends and family money as “friends, fools and family” investment. If you take money from your friends and family and you unfortunately lose their investment, those are very difficult conversations to have. Another source of early-stage capital, that is sometimes overlooked, is government grants. A government grant requires the applicant to fill out a somewhat lengthy application. Government grants are a form of non-dilutive financing and they do not have to be repaid. Angel investors have become very active investors in pre-seed and seed stage startups. Angel groups are comprised of many high net worth “angels” that pool their capital together to invest in companies. Angel groups typically invest through convertible notes or SAFES, an acronym for simple agreement for future equity, but they also might participate in priced rounds. A SAFE note entitles investors to shares in the company if and when there is a future valuation event. The last source of early-stage capital is institutional venture capital and it is more common for VCs to invest in Series A and future rounds. Angel groups and VCs look at opportunities very differently. Angel investors focus on the concept, while VCs focus on the metrics that prove the viability of the concept.
What are the stages of fundraising?
The earliest stage of funding for a startup is pre-seed funding. Pre-seed funders are in most cases the founders themselves or friends and family. Pre-seed capital is normally used to develop the business idea. Seed funding is usually the first equity funding stage and the first outside capital to be invested in the company. Seed funding is used to hire employees or outside consultants to work on market research and product development. Angels or angel groups are frequent participants in seed rounds. A Series A financing takes place after a company has some level of a user base and some amount of revenue traction or even better, some level of monthly recurring revenue. Series A funding is used to scale the product and business and also to possibly enter new markets. Series A rounds are the domain of the venture capital industry. Series B rounds are about taking the business to the next level and hiring the right people to support the growth. Series B companies have achieved significant scale, which is certainly reflected in their valuations. Series C companies are certainly very successful. They prefer to stay private and raise additional capital to develop new products, enter new markets and geographies or even do acquisitions. Some companies raise additional capital beyond Series C, but that is the exception and not the rule.
When/How do I create my potential investor list?
One of the most common mistakes that founders make when going out to raise capital is underestimating the time and effort necessary to raise money and also not fully understanding the amount of capital that they will need. Remember, it is not the amount of capital that you want, but rather the amount of capital that you need to achieve certain milestones. Before you talk with potential investors, make sure that you fully understand how the requested capital will be deployed and also the specific milestones that this capital will help you to achieve.
In reaching out to potential investors, try to speak with investors who bring added value in addition to providing capital. You should certainly not overlook whether the capital provider has experience in your space or has contacts with potential suppliers or customers in your industry. Finally make sure that the reputation of the capital provider will help you and not hurt you in future capital raising efforts.
How do I approach investors?
When initially approaching investors, try to get an introduction through someone in your network (accountant, lawyer or banker); a warm lead will certainly yield better results than a cold call. Make sure that your potential investor list only includes those groups whose investment criteria match what you are seeking. With the amount of public information available about investor groups, there is no excuse for approaching investors that are not interested in your space or whose preferred check size far exceeds your needs.
Before going out to seek investor capital, make sure that you have a comprehensive and convincing business plan for your company. The business plan should be realistic and not overly optimistic. Your business plan should include financial projections, cash needs and a detailed schedule of cash deployment. The most common reason that startups fail is a lack of market need. In your business plan, ensure that your estimate of the total addressable market is accurate and realistic and large enough for your startup and possibly other competitors.
Getting an investor interested in your company should not be the first step in the journey. Pursuing investors should occur after the startup has achieved some level of product-market fit and has acquired some early adopters.
If you have any questions, feel free to start a conversation with us.
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Mr. Wink assists clients with capital budgeting, capital structuring and capital sourcing. He has worked with many tech and life science companies on developing the appropriate capital structure for their position in the business life cycle.
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