The fundraising process can be an entrepreneur’s worst nightmare! After our series of 5 articles that dive deep into the ins and outs of startup and business funding, we hope you will have a better understanding about the path you want to take.
Starting and growing a business requires capital beyond the financial ability of the founders, their friends and family. That’s why we here at Corl have created an exhaustive five-part guide that dives deep into the ins and outs of startup and business funding. This part focuses on the basics of raising capital and the common questions entrepreneurs have.
When should you start raising money?
You might have heard about a lot of companies that raised money based on an idea only. However, don’t take this for granted. Investors won’t open their check book that easily. Investors need to be sold on the idea, the opportunity, and the team executing that vision. But how does one sell that to an investor? Our team has prepared a checklist:
- You have conducted some market validation and established market-product fit. This could be measured through customer adoption and market interest. Most startups leverage an early access or beta list to measure this.
- You’ve done your homework to identify your customer’s profile and your competition.
- You understand your market, its size and opportunity, and have developed a go-to-market strategy. Saying that you will use social media and SEO is not a strategy.
- You need to know how much money you need to raise, how it’s being used, and what terms are you willing to accept for it.
How much capital do you need?
Most startups raise enough capital to buy themselves a runway of 12-18 months and then raise follow-on rounds of funding after their launch. When determining the actual amount you need to raise, you need to keep in mind a couple of things:
- How much runway and progress does that amount give you?
- Is that money enough to meet the requirements and the progress you planned?
- Are your potential investors a good fit for your company?
- How much equity are you willing to give up?
Most seed and early rounds will cost you up to 20% in equity. The amount of money you’re raising needs to be related to a budget and realistic timeline. Your investors need to know that you’re not wasting their money.
Remember that raising a low amount can shorten your runway, and raising more than needed is expensive.
Pre-Seed, Seed, Series A, what the…?
Raising capital for your company usually happens through what is known as funding rounds: a pre-seed/seed round, followed by a Series A, Series B, C and so on until an exit (acquisition or IPO). Companies might skip rounds and each one has different standards.
Most seed rounds are structured as convertible note. A convertible note is a form of short-term debt that converts into equity, typically in conjunction with a future financing round; in effect, the investor would be loaning money to a startup and instead of a return in the form of principal plus interest, the investor would receive equity in the company.
These notes usually have a “Valuation Cap” (caps the price at which a note will convert into equity) and/or a discount (valuation discount investors receive relative to investors in subsequent financing rounds – usually 20%).
What is your company’s valuation?
Welcome to the question that keeps a lot of founders wondering! We wish that there is a formula to give you an answer.
So how come some companies go for a valuation of $15M and others at $2M? Well it all depends on what the entrepreneurs sold to the investors. Either by proving why they’re worth that much or showing how they will be worth that amount in the future. Our advice is to choose a valuation by looking at comparable companies.
Keep in mind that a lower valuation means more dilution while a higher one allows you to retain more equity in your company. At the end of the day, your valuation needs to be reasonable and attractive for investors too. You need to find the perfect balance between valuation and equity retention – would you rather own 100% of a $1 business or 1% of a $100M business?
How to fund your company without giving up equity?
As a founder, you have many ways of funding your business without giving up equity. This includes government grants and traditional debt through banks and online lenders. There is also a new way to fund your business through revenue sharing or what is known as royalties.
Corl is one of the players in this market and unlike traditional debt, revenue based financing has flexible repayment terms. You basically pay-as-you-grow, and if your sales are low this month, your payment falls as well. Likewise, if your sales are high in any particular month, you are able to pay off more of the principal and thus shorten the term of the loan.
The following article will focus on the different sources of capital you can access. Stay tuned.