Ok, let’s take inventory:
• You’ve launched your dream? Check
• You’ve put together a great team? Check
• You’ve built an early version of a market ready product? Check
• You even have some early traction? Check
Those nights fueled by (insert hip caffeine drink of the day) are really starting to pay off. A vision taking real shape is now blunting the sting of not receiving a
consistent paycheck. Up to this point, you’ve self funded your company, but now it is clear that the time has come to get that needed shot of jet fuel to get the plane fully off the ground.
Prepare yourself as terms such as AngelList, Convertible Notes, Micro-VC, and Lead investor will soon become staples of your everyday life. Last year, our team at FRB worked with hundreds of early stage companies that began their wade into the murky waters of seed fundraising, often surfacing more questions than answers. While we can’t raise capital for you, we do strive hard to make it suck 2% less!
While your situation is undoubtedly unique, there are a few considerations that every entrepreneur should think through before and during their seed fundraise. Although not meant as a complete A-Z guide, the list below provides for some of the items that should be deliberated on:
I get it. You would rather spend your time developing product, building a team, and working with prospective partners and customers. And yes, fundraising distracts you from doing that. But remember that your capital foundation is set through your first outside round of capital. Like a home, a creaky foundation can extinguish everything you’ve worked so hard for. Make sure you reserve the appropriate time and resources to raise thoughtfully and strategically.
Random side rant: Don’t pay a broker who is asking for cash compensation for finding investors. Your interests are misaligned from get go.
Objectively analyze your business
The very first question you should objectively ask before seeking outside capital is “what type of business can this be and/or what kind of business do I want this to be”? VC’s live in an idyllic world cast with dreams of Thunder Lizards and Unicorns (for the uninitiated, these are companies that are part of the billion dollar club). As such, it’s important to objectively analyze the potential of your business to determine whether it’s one that’s capable of massive scale or one that looks and feels like a great lifestyle business (whether because of market size, competition, your own goals, etc.). Within tech, we’re conditioned to think lifestyle businesses are a 4-letter word. I’ll tell you with 100% certainty that they are not. Lifestyle businesses can be significant and unbelievably lucrative for the operators. They just aren’t the type of businesses VC’s invest in.
Thoughtfully plan out how much you want to raise
On a recent episode of Shark Tank (a guilty pleasure of mine), an entrepreneur came in asking for $60K, but then bumped it to $240K because he felt the valuation given by the Sharks was too low. Not surprisingly, the ask was met by a round of disdain by the panel, who chided the entrepreneur on not grasping the importance of understanding his company’s true capital requirements. While the show can be a bit over the top for show, it does highlight the importance of being very thoughtful when setting a target for your raise. Determining that you want to raise $1.5MM because you’ve read about a similar company in TechCrunch or setting a target of $1MM because you heard that XYZ VC will only do rounds that are in the $1MM-$2MM range is the not the correct thought avenue. Instead, consider the following step by step:
1) Map out the 2-3 meaningful milestones you are focused on achieving in the short/medium term (i.e. 3 paying customers/developing a MVP/”X” amount of downloads, etc.).
2) Figure out what you need to spend to reasonably meet those milestones. Think lean. This will help you determine your projected monthly burn.
3) Develop a reasonable timeline of how long those milestones will take to achieve. Then multiply that number by 1.5-2. If you think it’ll take 6 months to sign your first enterprise client, plan for 9-12 months. The world is filled with the unexpected and many events can happen on either a macro or micro level so you might as well plan for them. Not to mention, the average time from a Seed to Series A round today is >540 days.
4) Multiply the monthly burn you calculate from #2 with #3 and you’ll have good rational base to start from (to be safe, add a quarter to factor in the time to fundraise for your next round). Of course, you’ll have to do a sanity check; if the number is $10MM, you might want to focus on more reasonable milestones prior to the next round.
This isn’t 1990. You don’t need to write a 70-page formal business plan. It’s a waste of time and will likely need to change by the time the ink dries. Instead focus your investor presentation into a short concise PowerPoint. And get help doing it if your PPT skills are like mine, and that of a 4 year old.
At the core, focus on hitting the following points hard:
• Problem – What is the fundamental problem you are looking to solve for? Why now?
• Team – Who you are, why you are doing this, and why the investor should be confident in your ability to execute.
• Market – What is the true TAM? Don’t overinflate this #.
• Technology – What is the core IP and is it defensible?
• Traction – What have you done so far that evidences your business is more than theory? This could take many forms such as paying customers, user downloads, or partnerships.
Your PPT is the narrative of your business. As with any story, the best ones inspire and compel action.
As mentioned above, getting your first round is about more than just replenishing the ole’ bank account. Setting the right foundation is about improving your odds for the long haul (and not having a bad capital structure derail your dream).
While valuation often is the most common thing many optimize for, focus instead on finding the right investor.Does the investor have domain expertise and a network in the market you’re attacking? Do their values and working style align with you and your team? Are they incented economically to play the role you want them to with your company at the early stages? If you want a hands-on advisor, remember that a General Partner from a $800B fund plunking down $100K is understandably going to be less incented to spend a ton of time with you than a General Partner investing out of a $10MM fund.
Of course, I’m not advocating dismissing valuation as it’s a very important consideration and unnecessary dilution can be very damaging by creating adverse economic misalignment on the founder/employee side. Just consider valuation as part of the entire package. Ironically, too high of valuation can seriously impede your company’s ability to raise the next round.
While it can be exceptionally daunting to ask probing questions when pitching to investors (particularly institutional ones), it’s a necessary exercise. Ensuring mutual compatibility is paramount when choosing a partner. While admittedly you may ultimately not have the luxury to cherry pick your partner, it’s important nonetheless to qualify the other side. Here are a few basic questions to potentially pose:
• Do/can you lead rounds?
• How do you engage with your investments post-investment?
• Can you provide follow-on financing?
• Can you tell me more about the fund that you’re investing out of?
• What are the milestones I need to hit that would get you interested in investing (if you get a “I like it, but it’s too early”)
• Is there any feedback you can provide me?
• Is there anyone else you would suggest I talk to?
• Do you have references of other companies you’ve worked with?
While thoughtfully planning out your fundraise is extremely important, you should anticipate a journey filled with unexpected twists and turns. Listen for early indicators that will allow you recalibrate strategy quickly if needed. If you’ve planned thoughtfully based on broad market realities (instead of planning of anecdotal edge cases), it is less likely you’ll experience market sticker shock and be forced into significant strategy shifting.
You’ll hear plenty of advice while you fundraise. It’ll be a combination of harsh, biased, smart, uplifting, and most confusing of all, contradicting. Decide quickly on which advice is relevant to your business and who your trusted advisors are, but don’t blindly follow. It’s your business. You know it better than anyone else, so use advice as framework but not as a set of unrelenting rules. The last outcome you want is failing because you ignored your instinct and followed the “experts”.
Most importantly, don’t be discouraged if things don’t take shape the way you’ve envisioned. It’s a tough business, but stay resolute with your belief and passion. After all, investors do occasionally “miss”.