Toolkit – Five Tips to Prepare Your Startup to Raise Capital
Raising capital and preparing to raise capital are two different things. The preparation begins long before your first investor pitch. To actually raise capital, a startup must demonstrate a credible plan and a founding team capable of executing the plan. The capital plan is the cornerstone of the company’s overall business strategy.
Here are five tips to help your company prepare to raise capital when the time is right.
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Most companies raise capital more than one time. Success depends on matching the appropriate capital sources to the milestones that position the company to raise its next round.
Almost all startups lose money in their early phases of growth and development. Entrepreneurs who understand the investment priorities and expectations of pre-seed, seed, and early-stage investors can save time pursuing investors for which the company is too early.
There are pre-seed and seed-stage funds that specifically target very early-stage companies. These funds are typically structured to make smaller investments, generally less than $1 to 2 million. Large seed rounds above $10 million, while possible, are still relatively rare.
Early-stage venture capital funds typically fund companies with customers and revenue, usually investing $2 to $10 million or more in a Series A round in return for equity in the company. Series A investors generally want to see evidence of product-market fit and increasing sales velocity.
Point of caution, continuously collaborates with counsel when raising capital, even from friends and family. These capital raises, even if small, must comply with applicable securities laws and be properly documented.
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From day one, make cash management a priority.
Founders do not need to raise a great deal of capital up front (and with most startups, it isn’t possible anyway). However, being a good steward of investor capital, no matter how large or modest, is critical. Not only does the survival of your company depend on it, the discipline of managing cash (and all other scarce company resources) effectively is a mindset benefiting a company across all stages of its development.
Be judicious about adding fixed costs. Test and retest growth assumptions to build conviction that additional fixed costs are justified. Avoid adding high fixed costs if possible. For example, hybrid and remote work reduces the need for office space and long-term lease payments. With plentiful co-working spaces, business incubators, and other flexible office and conference center options, startups have an abundance of low-cost options for connecting and convening their teams.
Be especially mindful of variable costs as well. Use collaboration and communications tools to reduce travel for internal meetings. Design a sales process that supports “remote” first calls with potential customers. Interns and contract workers can bring digital-native know-how and contribute to lower-cost operations as a startup scales.
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Become well-prepared for the realities of investor due diligence.
Institutional investors expect an adequately formed corporation, executed founder agreements, early contracts with customers and vendors, and protections for assets, especially intellectual property.
Work with corporate counsel to organize and digitize the following on a cloud storage drive that serves as the company’s data room. Prepare the company’s data room well before a potential investor request to review it. Typical data room documents include:
There are many red flags (personnel, operational, and financial) that can cause an investor to run, not walk, away from a deal. With careful business planning, these can generally be avoided. Learn more here.
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Consider sources of non-dilutive capital.
Grants, solicitations, and RFPs are only a fit for some startups; however, it is prudent to explore what grant funding might be available before ruling this out. Ohio and other states offer economic development grants, some directed at university or research institute spinouts, with others targeting workforce development with tax credits for hiring, or similar.
Federal agencies, particularly the Department of Defense, seek technologies and products that meet government needs and have commercial applications. It is wise to seek the advice of advisors that are knowledgeable of these programs and have been successful at this process. That could be another founder, a mentor at a university or a research institution, or a professional grant consultant. Several of the startups that Rev1 works with have received federal grants from $100,000 to $1 million and more. Learn more here
Strategic customers and partners have helped many a startup bootstrap. Early adopter customers may see so much value in your solution that they are willing to help fund progress by prepaying for an unbuilt product or a strategic investment in the business. Your product or service may fill a gap for other solution providers in the industry who may be willing to enter into a financial arrangement or at least a process of customer referrals.
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Learn to think like investors think.
Investors will have different expectations of what they want a company to accomplish before they consider that company for an investment, but almost all investors will want to understand what a founding team has accomplished to date as well as the next milestones the founding team intends to pursue.
The young company must demonstrate with data the tangible early progress defining the product’s differentiated features and a hypothesis of which market segments and customers will want to buy the product. Investors want evidence that the founding team has a record of successful execution. They want to see that the team is coachable and can pivot when conditions change.
Investors know that the sooner a startup accumulates evidence of product market-fit—including customer survey data, early delighted customers, an expanding customer pipeline, and increasing customer contract values—the higher the probability that the business will succeed.
Brainstorm with co-founders and mentors on the questions you would ask your team if you were considering an investment in your business. How much information is enough without being too much? If you were an investor, what could the founder say, or not be able to answer, that would make you turn away? Whether it’s a first meeting, a second meeting, or submitting a formal investor presentation, be clear and concise, and make it easy for investors to want to learn more.
Rev1’s Entrepreneur Toolkit offers a handy collection of practical tips and tools for entrepreneurs and founding teams. Explore our virtual library of capital topics here.
Rev1’s Customer Learning Lab helps founders with a process to define their product concept’s differentiated features, assess the competitive landscape, and test for signals of potential product-market fit. Let’s talk.
