If you’ve talked to successful entrepreneurs and investors about raising strategies, you’re inundated with plenty of advice, some of it contradictory. If you’ve looked around the Texas investment scene, you know that there is a high likelihood that any substantial raise is going to require you to look for capital outside of Texas. Even though most capital investments are still local in nature, there are ways to get around the locality of investments. Therefore, establishing the strategy and structuring your raise appropriately is of immense importance.
Go to one raising event or talk with one investor and you’ll hear terms that have very loose standards thrown out at you: family and friends, pre-seed, seed, series A. Depending on who you are talking to, how much capital they have, and where they are located, the different stages of a raise can have wildly different values. In general, the best way for you as an entrepreneur to view these stages is to consider riskiness to the investor, rather than purely in financial terms. You should never underestimate the risks that come with investing in startups. As an investor, the one mindset that I have going into startup investments is that they are either going to $0 or they are going to make me a lot of money. Anything in-between is not worth the risk.
But don’t let the focus on the level of risk remove your focus on the valuation. Valuation is as much about hand-waving as it is about hard math. Valuing your startup shares similarities with how the markets value publicly traded companies (one such method is P/E ratios). However, unlike the public markets, setting your valuation correctly is important because eventually you are going to do the next round of investment and the worst thing that can happen to you as an entrepreneur and as a company is a down round. Therefore, it is important to figure out how much capital you actually need for the run rate that you want to have and raise accordingly.
Run rates and capital are directly related because they affect two varying ideologies. On the one hand, there is the camp that believes that you should raise as much as you can as fast as you can. Since volatility in the economy can have negative impacts on investors’ liquidity and willingness to invest money, this camp is worried that when they need another injection of capital, it will not be there. The second camp believes that you should raise as much capital as you need rather than as much capital as you can. The entrepreneurs in this camp are more worried about ownership dilution versus the risk of not being able to raise capital in the future at higher valuations. While both camps’ ideologies have their pros and cons, you as the entrepreneur need to weigh your personal risk tolerance versus the run rate you want to achieve.
Along with run rates and capital come the hype of the investment. The hardest check to get is your first check, because your first investor doesn’t feel any pressure to invest. They don’t have any concerns that they might lose out on the opportunity to invest. Therefore, you need to create artificial pressure. Never lie, but always realize that nobody wants to give money to people who need money, they want to invest in people who do not need money. Set your official raise at the level that matches your investment strategy, while allowing room to oversubscribe your round for three reasons: 1) The easiest and quickest checks that you will receive are oversubscription checks. 2) Oversubscription builds hype and pressure for investors in your next round, 3) you’re able to bring in investors who may just be finding out about you and their smaller checks will keep them interested in your company and possibly lead to a follow-on investment.
At the end of the day, there are multiple strategies. While at Abraxas Technology we took one strategy to complete and oversubscribe our raise in two months, there are multiple strategies that you can take. Here are several key bullet points that you should consider when raising money:
What industry are you in and who invests in your industry?
Who has money to invest and who doesn’t?
Which respected investor invests in your industry and who can introduce you and vouch for you to other investors?
What level do you want to set and to whom do you want to give major investor rights and discounts?
Raising takes focus away from sales and the product, how often do you want and can you afford to focus on raising money?
What run rate do you need to properly plan, build your product, and attract talent to work for you?
How much equity do you want to set aside to incentivize early employees and advisors?
Do you want to go directly to your next raise (IE seed to series 1) or do you want to ladder or bridge your raise?
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