Crunchbase statistics show that more than 1900 start-up and Series A investment rounds took place in June–August 2020, although this is the peak of the coronavirus. Even a pandemic couldn’t deter entrepreneurs from seeking capital to finance their dreams.
I think it would be fair to say that investors have been more cautious than usual as markets have softened globally in the wake of COVID-19. Entrepreneurs should be able to find the money they need to make their business successful. However, many of them are having a hard time deciding if this would be a good idea in the first place …
Dealing with VCs can sometimes feel like you are embarking on a treacherous journey, as you may be at a disadvantage when it comes to negotiating a good deal. However, seasoned serial entrepreneurs will tell you that it is possible to raise capital as and when you need it, without sacrificing your future options. You need to know exactly what you are doing before embarking on the fundraising process.
Having run several companies, worked as an investor and raised funds from top investors, such as Boost VC and Natalia Vodianova, I am often asked if it is a good idea for budding entrepreneurs to look into on the financing of venture capital.
As someone who understands the ins and outs of venture capital, I can tell you that every business has its own unique circumstances. So if you are asking whether or not your business should be raising capital, I won’t be able to give you a yes or no answer. Instead, I recommend the following simple and practical framework to determine what’s right for you.
Your appetite for risk
Are you a low risk / low return entrepreneur looking to grow a business for 20 years? Or do you see yourself as a high risk / high reward entrepreneur who prefers to develop 4 different businesses for 5 years on average in a fast growing mode?
If you chose the first option, the answer is simple – you probably won’t need venture capital investments. You already have enough time and patience to get the business to reach your profit / valuation goal with the resources available. Who knows, you may be able to arrive in time for your retirement!
But if you choose the second option, how long can you stay focused on one business before you focus on other projects? From my observations, it typically takes 3 to 7 years for entrepreneurs to move from one business to another. If this is your case, you will need financing to propel your business towards success.
Your financial goals
Are you aiming for complete financial freedom as quickly as possible or do you want to focus on short-term investments and progress gradually?
If you want to be financially independent within 5 to 10 years, you will probably need a venture capital investment. But if you’re willing to wait 20 years or more, keep going, because you can do it without VC’s help. But you have to make yourself comfortable because it’s going to be a long wait!
It is interesting to note here that there have been 273 mega-towers, i.e. $ 100 million fundraiser and more for tech companies last year. So, why not claim those mega-towers that are creating more startup unicorns with bigger valuations than ever before? It could have been you!
Your market growth rate
Knowing the annual growth rate of your market (year over year) is essential. These numbers will be useful to you in assessing the performance of the business and estimating future growth prospects, ultimately helping you to make investment decisions.
At the same time, you also need to consider how quickly this YoY can be commoditized and if there is a risk that competitors will take a share of your growth. Also, how fast are the multipliers increasing, whether EBITDA is increasing or decreasing, and how external factors such as a pandemic could affect it.
Knowing the answers to all of these questions is essential to understanding the opportunities available to you. This way you will know when and how much capital you need to raise to get the most out of your situation.
Profitability or breakeven point
Don’t worry about either of these things just yet. The point is, profits can be the enemy of a startup’s success. This mindset can cause startups to lose momentum in growth rate and market share.
Founders often believe that reaching the breakeven point validates their business model. The reality is they made thousands of times less than they might have had if they had hit a liquidity event (exit / IPO) without focusing on profitability.
Aiming for profitability makes you complacent and less willing to take a risk. In fact, I firmly believe that you should reconsider working with investors who put too much emphasis on breaking even.
Why is this happening? Let’s start with the basics. A startup is a team of like-minded people who seek maximum capitalization (CAPITALIZATION, not profit). Therefore, any delay in this path jeopardizes the existence of the startup as a whole.
Only an inexperienced investor will ask you the question “So when is the breakeven point reached?”
Of course, the focus on growing capitalization, by all means, implies a healthy unit economy, which means that the company will be able to make a profit when it becomes the leader in its market, with an ARR of $ 100 million.
It is very rare, but there are exceptions to this rule. For example, when a SaaS grows at the specified rate, increases capitalization and also manages to achieve positive EBITDA all at the same time. But I barely saw it happen.
Venture capital can wait, as evidenced by the fact that in 2019 the median age of companies raising funds was 2.9 years.
Fundraising isn’t easy, but reviewing and analyzing the above points can help entrepreneurs make sound financial decisions about when to approach investors and how much to ask. Also, consider other ways to raise money, such as debt financing or crowdfunding.
Finally, encourage your team to set goals that can help minimize risk and assess potential rewards. And use this guide for the practical information it offers on ways to improve your business and your financial situation.
Published March 17, 2021 – 08:00 UTC