This post was inspired by a short presentation I was asked to give this morning at Hill Hofstetter at their most recent Technology Breakfast Seminar. The topics all centered around best practices for raising capital as a tech startup, and having just come off a fundraising round where we secured $3M, it was a topic I’m quite familiar with. This is the second major round of funding I’ve raised and each one is always a major learning experience. In addition to my own experience, I’ve spoken with literally hundreds of other entrepreneurs about the trials and tribulations of raising money.
So without further ado, here’s my top 5 mistakes to avoid when raising capital:
1. Raise Money At All
I know it sounds a bit radical considering the whole point of this seminar is around raising money, but the first thing you should consider before taking the plunge into the VC world is: Do I really need the money? Just because you’re a tech company, doesn’t mean you need to be VC backed.
Living the dream
We all want to live the Silicon Valley dream, which of course goes:
- Step 1: come up with great new tech idea
- Step 2: raise a monstrous Series A
- Step 3: grow company to mammoth proportions
- Step 4: exit for millions
Now if you really are an entrepreneur you’ll know this simply isn’t true. Exiting for millions isn’t the end game – or at least it shouldn’t be. What you’re really about is solving a problem you’ve identified and growing a profitable business around it while at the same time doing something you enjoy. There are many routes to the top of the mountain – so to speak – and raising capital is only one of them.
Accepting investment comes with a lot of strings – which are not necessarily bad – but they do boil down to you giving up some control over your business. You may be the CEO, but you still answer to the board of directors. It’s somewhat of a personal preference, but if you can legitimately keep your startup running through other means – usually revenue – that might be the best way to go. It certainly provides you with a lot more freedom.
2. Raise too little
Once you’ve decided to seek funding the next thing you need to decide is: how much to take. Adequate cash flow is key to running a successful business, so make sure you ask for enough. Traditionally, startups ask for enough to keep them running for the next 12 months. In my experience though, it’s best to err on the side of caution and shoot for something more like 15 months of run-rate. The reason for this is simple: life is unpredictable.
Inevitably you’ll end up spending more money than you budgeted for. Whether it’s new hires, a new office space, advertising, event sponsorship or a legal battle – the truth of the matter is that things come up. It’s practically impossible to accurately predict how much money you’ll need for 12 months, especially when you’re a young startup and things change in weekly cycles as a opposed to quarterly ones.
Raising money is time consuming and exhausting, so give yourself some breathing room between investment cycles by asking for more than you think you’ll need.
3. Raise too much
Yes, I do know what I just said. But before you shoot for the moon and ask for $10M in your seed round, take a step back and figure out how much you really need. Yes you want some breathing room, but you don’t want to flood your business with cash either.
If you have it, you’ll spend it – it’s just the nature of having money – and that may not be good for your business. There are times in the life cycle of your business where it’s great to have a lot of extra capital, and there are times when it can be a serious detriment.
If you’re at a stage when all you need to do to take your company to the next level is scale up your sales and business development teams; then by all means shoot for the maximum. If you’re still at the stage where you’re ironing out the kinks in your technology or experimenting with your business model; then take only what you need.
Having extra cash will only encourage you to hire resources you don’t need, take on projects you’re not ready for and buy a really expensive coffee machine!
4. Raise from the wrong people
Once you’ve come up with figure that’s not too little or too much (think Goldilocks here), you’ll need to find the right investor/investment fund.
It may be hard to believe, but there is such a thing as dumb money. You don’t need to agree to take money from the first guy off the street who offers to write you a check. I realize, of course, backers are vital; but they should bring more to the table than just cash.
Good investors can be an invaluable resource both for the business advice they can provide you and their industry connections. Good investors will have some experience working with other startups in your industry, if not personal experience as a startup entrepreneur themselves. They’ve seen first hand the successes and failures of others who have been in your shoes and as such can provide you with some pretty solid advice.
5. Raise at the wrong time
You’ve got your number and your hit-list of investors you’d like to target…now, timing is everything.
First of all you want to raise money at the right time for your business – mostly to help you get the best valuation possible. It helps to have proved everything or nothing. Let me explain…
Proved nothing: if all you have is a good idea, then your evaluation is largely subjective and you can pretty much ask for whatever you want (within reason). With a good idea and a solid business strategy, the only thing investors have to go on is your sales pitch – you’re selling the dream here.
Proved everything: if you’ve completely validated your business model and have a significant number of good quality users or clients, you can make a strong case for good terms and significant investment figures. This doesn’t necessarily mean you need to have generated significant revenue. Think What’sApp, the free messaging system acquired by Facebook for $19B. You just need to prove that there is a significant demand for your product and that it is monetizable.
Proved something in the middle: this one is more challenging, because it means you need to think seriously about what you have proved and what you still need to prove. It opens you up to a lot of questions from potential investors – which you had better have good answers for – and makes a large investment a much bigger sell.
The second piece of the timing puzzle is a more practical one. Believe it or not there is a calendar to investment, and there are times of the year that are better for raising money than others. You definitely don’t want to find yourself in the situation where you are trying to contact investors and set up meetings during a break like Christmas or the summer holidays. This is especially important if you’re raising money in another country. I made the mistake earlier this year of trying to have exploratory meetings with investors in the US in the week leading up to the 4th of July – not a good plan!
Remember as well that raising money takes a long time – longer than you expect. You need to make sure that you plan your fundraising schedule out accordingly. This is where taking a little extra cash comes in handy – you never want to find yourself raising money when you are desperate and almost out of cash.
Bonus: Raise money on poor terms
Because I’m a nice guy, I’ll give you one last piece of advice. Whatever you do, no matter how desperate you are for capital: DO NOT accept money with bad terms. It’s not worth it.
The real problem with terrible terms is that they follow you around. If you start out on the wrong foot with investors it will be an extremely difficult uphill battle to get better terms from anyone else. Terrible terms now will mean that all future terms will also be terrible.