Editor’s Note: The following is an excerpt from Onswipe CEO Jason L. Baptiste’s new book The Ultralight Startup: Launching a Business Without Clout or Capital. To coincide with giving the chapter away, Jason will be choosing one entrepreneur from the TechCrunch audience to meet four of the best venture capitalists today to pitch their idea, which include Andy Weissman, Partner at Union Square Ventures, Alex Finkelstein, Partner at Spark Capital, Brad Feld, Parter at Foundry Group, and David Tisch, Managing Director of TechStars NYC and angel investor. To enter, go here and fill out some simple information about your startup. The winner will be selected by April 20th, 2012.
If you pay attention to the headlines about startups getting millions of dollars of funding from investors, venture capitalists, or partnerships, you might think the fund-raising process happens overnight. It all sounds so easy: Some entrepreneur with a thousand dollars in his pocket creates a great PowerPoint investor presentation, secures a few meetings with important people, and bam! A handshake, some signatures, and the deal is done.
The reality is a little trickier. Fund-raising is a process, and although the right pitch might come in handy, in this chapter I’ll discuss the practical start-to-finish way to think about fund-raising that will get you the money you want in the end.
The Real Purpose Of Raising Money And Why it Might not Make Sense For You
More often than not, entrepreneurs raise money at the wrong time and it destroys their startup. This is an understandable mistake, because the press, the outside world, even your peers put a lot of emphasis on raising money.
If you pitch investors too soon, they may get the wrong notion about your business and decide to pass. Although they have the option of coming back to you at a later date, that is highly unlikely. But even if another opportunity does come along later on, they’ll always remember you as the one they passed on the first time around.
There is no one reason why an investor passes, What matters is whether they pass on you based on a full picture of what your company really does. But on the off chance that a startup is able to raise money at the wrong time, it will certainly have a negative impact on fund-raising at a later date.
When is the right time to Fund-raise?
There are seven questions you should ask yourself when deciding if you are ready to fund-raise:
- Do you have a technical cofounder? If you have a technical cofounder or someone who is focused on product, you are far more likely to raise money. Product drives the growth of a company; having a product-driven founder can generate growth.
- Do you have a demo? If you have a working demo, then you are much more likely to raise money since you can show an investor what your company does. Onswipe was able to fund-raise because we could show investors firsthand exactly what we do. Show, don’t tell.
- Do you have any customers? Companies with customers are more likely to raise venture capital than those without. If you don’t have customers yet, you should make this a priority, as it shows proof of traction in the market. It’s not about the amount of traction, but the proof it shows in your model.
- Are you ready to bring more people on board? You need to be ready to manage other people and expand your team. If you are not ready for this, then you are not ready to raise venture capital. Venture capital lets you do one thing in the beginning: Hire more manpower.
- Have you rid yourself of other obligations? If you are not 100 percent committed to your startup you should hold off on raising money. Many entrepreneurs try to fund-raise while still at their current job. Though it’s good to begin a startup before you quit your job, it takes a whole lot more time and effort to raise money.
- Is your business large enough? Most companies are not large enough to be backed by venture capital. To raise venture capital, companies should be in multibillion-dollar markets or have the potential to make revenues of more than one hundred million dollars a year.
- Are you able to devote the majority of your time to fund-raising? Fund-raising is a time-consuming process that will completely slow down all other fast-moving aspects of your company. Be prepared to put business development, product development, and any marketing you may be doing on hold, or at least slow them down for a while. Put together a strategy for keeping operations going while fund-raising. I suggest spending 50 percent of your time on fund-raising and 50 percent on continued operations and product development. One founder should still be moving product development forward.
Making sure you’re ready to be a venture-backed Founder
Everything changes once you raise money for your company. Your life will be transformed and you and your startup will be on a collision course either with failure or greatness. Most important, being a venture-backed founder means that you will have a great deal of responsibility going forward. That responsibility comes in three forms: responsibility to your employees, responsibility to your customers, and responsibility to your investors.
Just before you raise money, odds are that you are a team of two to three founders. If your startup doesn’t turn out well, you’ll end up getting a job somewhere or moving on to another idea if you are adventurous. As a venture-backed founder, you have raised money primarily to hire the smartest possible individuals. Their livelihood is now in your hands. Make sure that you are ready as a founder to handle the burden of having many other individuals depending on you. Venture-backed founders need to be entirely selfless.
In the beginning you may have had a small number of customers to prove the viability of your startup over time. If your company disappeared, your customers would certainly have been impacted, but life would have rolled on. Odds are the feature set that you could have deployed would not have been super crucial to their businesses. As a venture-backed founder, your goal is to grow your product and have explosive growth in the number of your customers. Be ready to take on another burden — many companies will now be relying on your product for some very important function in their business. If you screw up, you screw them up.
Lastly, you have a responsibility to the investors who gave you money. If they are angel investors, the money came from their very own pockets. It’s money they earned by going through the very sweat and tears you are currently going through. If your investors are venture investors, they put their reputations and jobs on the line by trusting their limited partners’ (that is, your investors’ investors) money. Venture capitalists run a business too and they expect to make their money back, often tenfold or more. You now have a responsibility to make them successful.
Know how and Where to Put your Capital to Work
You need to be able to show your potential investors that you know what you are going to do with the money. If you’re hiring people, who are you hiring and why? If you are going to be spending it on equipment, why will the equipment cost so much? You do not need to know exact dollar amounts, but you do need to have a plan for where the money will be spent.
You Probably need More than you think
Investors usually have funds in the hundreds of millions of dollars. Asking for a million dollars instead of half a million won’t make a dent in their bank accounts. Although this is your first financing round, you need to think about the long-term game. If you don’t raise enough money, you may end up running out of cash too early. Investors only fund a small handful of companies a year.
If they believe in your team and your concept, they will want you to execute on the vision properly instead of running out of cash in six months. On the flip side, it’s hard to come back to your investors asking for more after you have already pitched that you’re looking for half that amount. A good investor who believes in your vision will insist that you raise more. If you happen to find an investor who suggests this, try to get them in the round. Their thinking is less about themselves and more about your startup succeeding.
How To Meet Investors
The battle for fund-raising is often won long before a single pitch is delivered. Meeting the right investors at the right time is crucial to raising money for your startup successfully. You also need to keep an eye out for those who may not have your best intentions at heart or have weak connections to potential investors. Most important, never, ever pay to pitch an investor or get an introduction.
Find a Champion
Consider the champion for your company a spark who will set off a chain reaction through his introductions. He should be well connected, willing to contribute capital himself, and have your best interests at heart. This person is usually a close connection you meet through the technology community and has already been successful. If you do not have any clout and are a complete outsider, I would spend time getting to know smart, successful entrepreneurs by asking for their advice. It’s often hard to get their attention, so this will take a good bit of resilience. Consider your champion the first person to help to get your round started. When the fund-raising process is complete, their introductions should have been where everything else began.
Narrow Down your List to those Who are in your sector
Don’t try to raise money from every investor under the sun who is willing to listen to you. Fund-raising is a time-consuming game that requires talking to a large number of investors. Do not waste your time — or anyone else’s — trying to get a meeting with the wrong person. Narrow down the venture funds and angels on your list that fit some or all of the following criteria:
They invest in and understand your sector. I’m not talking just life sciences or technology. I’m referring to the specific portion of the broader industry you are in. For tech it might be media, data plays, or mobile gaming, for instance.
They are willing to invest in your location and often do so. Investors will often spend time between Boston, New York, and California, but often prefer investing in ventures that don’t require a lot of travel. It’s much easier for an investor in California to drive forty-five minutes from San Francisco to Palo Alto than it is to take a six-hour flight to Boston. Find investors who live in your area.
They don’t already invest in your competitors. Good investors, specifically venture funds, will not want to fund competitive products. Meeting with investors who already fund the competition is not only a waste of your time, but it might also allow them to get information that could be used against you.
Start Leveraging your Personal brand through Writing
Every investor is going to Google you before they take their first meeting with you, let alone give you a boatload of money. When they do, one of the first results they should see is a link to your personal site, which should feature frequently updated writing on your industry. Writing smart things gives investors insight into how you think and communicate as an entrepreneur. If it were not for writing, I would not be where I am today.
Get Portfolio Founders to Make Warm introductions
Most investors will trust the judgment of their portfolio founders when it comes to future deal flow. A portfolio founder is the founder of another company the investor has previously invested in. Not only are the founders of their portfolio companies smart, they are also in the trenches and know what is happening in the industry. Founders often talk to other smart founders to understand where the industry is going. If you can prove yourself as a smart individual in a smart space with a great product, other portfolio CEOs will introduce you to their investors. This also requires taking time to build relationships with portfolio founders. It can’t happen overnight or be forced upon a founder you are asking for an introduction.
Stay under the radar
Many would say that talking about your fund-raising during the process is a great way to create hype, but the opposite is true. Being quiet about fund-raising will ensure that you are not analyzed by other individuals if closing the round takes more time than you would like. All investors talk to each other, and by staying under the radar you make sure the conversation stays among those who are a part of the close-knit circle of early investors. The funding announcement will be more exciting and newsworthy when people don’t know it’s coming.
Go after a specific Partner at the Fund
Of course it’s important to pick the right fund as a target, but you should also pay attention to the specific partner you are talking to. Even at well-known funds, some partners will stand out above the rest and others might not be a good fit for your company. Once you’ve narrowed down a fund, look at the partners who represent companies that are similar to yours and try to get introduced. Note that there is a difference between “similar” and “competitive.” Competitors are companies that compete head on with yours.
Similar companies are those in a space a lot like yours, and the expertise learned from one can be transferred to another. When you finally meet this partner, play to her experiences before she became a venture capitalist and to the successes of her portfolio companies. If you focus on language she understands, you will be able to have a much more meaningful conversation and connect with her on a deeper level.
Build Momentum from the Lead
Once your lead investor is in the round, utilize that commitment to get others on board. You have nothing to lose, as the money is already on its way and your lead investor will want to add smart investors to the round. Consider your investors almost like another cofounder who will be on your side while pitching. If you are really lucky, your lead investor will even come with you to the pitch meetings to back you up.
How To Pitch Investors Without Making Them Fall Asleep
Everything you know about pitching investors is wrong. It’s not about a boring pitch deck or speaking down to the investor. Investors see hundreds of companies a year and they want to be excited. They don’t walk into meetings wanting to say no; they walk into meetings hoping to find an awesome, exciting, and motivating startup. Here’s how that startup can be you.
Business Plans are Dead
Common wisdom holds that you need to have a business plan that shows investors your plan to grow your company over the next five years. But the problem with making long-term projections like that is that events never turn out the way you expect. Things always change, and your business plan will eventually become irrelevant no matter how much time you put into it today.
The good news is that if you ask any serious angel investor or VC they’ll tell you that a business plan is a waste of time. They want to know that you have a strong product and customer acquisition strategy and that you are prepared to adapt to changing times. Instead of writing a business plan, it’s best to have the following pieces of information crystal clear for the next three to six months (anything beyond that is too open to change in the long run):
- A clear product strategy that defines what you are building, how you will build it, and why your product is compelling.
- A clear way to acquire customers and the associated channels.
- All the potential revenue models that may end up being utilized by the company.
D.R.E.A.M. — Demos Rule Everything Around Me
Humans are visual creatures, and investors, though often made to seem different, are humans too. Nothing will sell an investor more than a slick demo that demonstrates your domain expertise and the way you think about delivering a great product. Don’t worry if the product is not perfectly polished. Go for the wow factor and blow an investor out of the water.
Many investors talk to companies first and foremost as users of their products. One of our leading investors was actually our product’s first customer. By having a working demo you have the following advantages when talking to an investor:
- They will be able to understand exactly what you are building. Telling is one thing, but showing offers a whole other level of understanding.
- If an investor likes the product, they can evangelize it to their vast network for quick social proof and due diligence.
- If the VC has a product or engineering background, they can easily tell if you are the real deal. It’s really difficult to explain things to a VC and have them believe that you can get the job done. If you show some simple proof of concept, they are able to get over that hump.
You will learn more about this in the following section, but make sure to build anticipation for the demo. Jump into it fast enough, but build suspense. Have the investors on the edge of their seats to see what is about to happen.
Tell a story First
Investors listen to hundreds upon hundreds of pitches per year. After a while, most of them seem exactly the same and offer nothing more than a standard pitch deck showcasing the features of a product or service and explaining why it’s going to change the world. But when you’re on the other side of things — creating the pitch — it’s easy to forget that despite how new, different, or revolutionary your product may actually be, potential investors don’t know that yet. If you try to sell yourself the same way everyone else does, you’ll be drowned out by all the other noise. That’s why you need a story.
As I said, investors are people too. They respond to and are intrigued by the same things as the rest of us. So think about it. If you were them, would you rather have someone pitch to you for thirty minutes or have them tell you a great, unique story that sticks with you? I think I can guess your answer.
Although every startup story is different, there are a few components central to each one:
How the founders met. First, you have to tell the story of how you and your partner (if you have one) met. Investors invest in people first, and they want to make sure before they decide to back your company that the people who run it are smart, engaging and, most important, work well with one another. If investors can see that a founding team has a strong rapport they will be more likely to invest in your company.
Idea genesis. You have to explain how you came up with your idea. Investors want to know that you’re inspired and passionate about your product or service, and nothing can demonstrate this more than the story of its genesis. The best startups are the ones that arose from a founder’s personal need or desire. If investors see that, they will trust that you are committed to your idea and will be more likely to jump on board.
What you have done. Next give investors an idea of what you have accomplished on a small, limited budget with a small, limited team. If you have good customer growth or a huge business development deal make that clear. Let this early traction show why you decided to take the company to the next level.
The big vision. Of course, where you’ve been doesn’t necessarily determine where you’ll go, and in order for investors to get a sense of your company’s future you’ll need to explain your vision. Big visions don’t come overnight The progression from small startup to large, scalable startup takes a lot of intense strategic thinking. Once you explain what the big vision is, you’ll need to explain how you are going to get there. It should be tied directly into why you are raising money in the first place. After you’ve shared your story, if you’ve done a good job the investors should be itching for a demo of what you’ve built. Be sure you have mentioned the demo along the way as a teaser to build anticipation.
Pitch Decks are really “Clarification Decks”
I’ve spent a lot of time dismissing the need for a typical investor presentation, but you should prepare pitch decks that summarize your presentation and that can be distributed as PDFs after (or before) the meeting. Although you shouldn’t make them part of your presentation, they can clarify the deeper questions an investor may have when he sits down with you for a one-on-one meeting. Pitch decks challenge an investor’s assumptions for or against your startup. What will really sell your startup is the face-to-face conversation.
Play to the Partner’s Previous Experience and Domain Expertise
I mentioned this when talking about who to target at a venture fund and why. It’s really important to understand the specific partner you are going after. Find out everything you can about his investment thesis, what he likes, and his strategic decisions behind past investments. Toward the end of the first meeting ask him why he invested in certain companies and what made him continue to invest in them. If you can find out what attracted this partner to those investments, parlay some of that logic into your own pitch. You’ll be way ahead of the game.
The Partners’ Meeting
The partners’ meeting is the last step in pitching to a firm. It will ultimately move them toward a yes or a no. Every firm varies in how they approach the partners’ meeting. Below are some strategic points to keep in mind when making the partners’ meeting pitch:
Get inside information from your sponsoring partner. Find out from your sponsoring partner which partners have significant interest and which ones will be difficult to deal with or have no domain expertise. If you are pitching a consumer Internet product, the enterprise services partner may have objections that do not make sense. Find out all this ahead of time.
Have your sponsoring partner keep the conversation on track. Look to your sponsoring partner as a sort of referee. She brought you in for a reason and wants to see the deal get done. She will be able to keep the conversation on track and make sure the key selling points that brought you in get across to the rest of the partnership.
Pick your battles wisely. Questions that aren’t too relevant to your business or crucial to your success may be raised by the other partners in the fund. Other questions that are absolutely critical to your success may come up. Focus on the questions that are most important to you. There isn’t enough time to go into every single detail.
Make sure you address everyone. It’s really easy to find one partner more engaging than others. Make sure that every single member of the fund gets enough of your attention and answer all questions in the order they are received. It’s a rapid-fire environment and you’re not being rude just because you want to keep questions organized.
How A Round Closes And How You Can Speed It Up
The entrepreneurial community almost never talks about closing your funding round. It’s boring, tedious, painful, and the exact opposite of the thrill entrepreneurs are used to. It is rare that funding rounds fall apart after a term sheet is signed, but it’s possible. The most important thing is to close a round fast so you can get back to building your business with a good amount of capital in the bank.
The term sheet is Just the First step
Most entrepreneurs think that receiving a term sheet means the deal is done and they can expect a check the next day. Unfortunately that’s not the case. The term sheet is not a legally binding document except in that it stipulates that you can’t shop the deal around for 30 days. Raising money takes time and you should be prepared to go from term sheet to money in the bank in 90 to 180 days, depending on how far along your company is. This is something to keep in mind as you plan your finances for the coming months.
When to have your VC Firm step in
Lawyers nitpick at things—not because they are trying to sabotage deals, but because it is their job. Things they might haggle over include whether the VC can fire you or how long you have to stay at the company to earn your stock. Things that often seem not to be a big deal get torn apart and looked at in the due diligence process. The best way around this nuisance is to have the partner at your VC firm step in.
Have a discussion with them about the issue, come to a conclusion, and then have them circle back with their counsel. The VC wants the deal done too and will move to make it happen fast as long as you are being reasonable. Only turn to your VC on serious matters (such as the rights that protect you as a founder) or if you think the process will be slowed down otherwise.
Keeping your Mouth shut
When you have a term sheet for more money than you may ever have seen in your life, you will want to jump up and down and tell everyone you know. But don’t let yourself get carried away and definitely don’t announce the deal just yet. The press will pick up on it and they will publish any secret details they can. That won’t necessarily kill the deal, but it could get an investor worried enough to pull the funding offer. It is not worth taking that chance. Get back to work and keep your mouth shut throughout the entire process. You want to introduce as few new variables into the process as possible.
Surviving The Holidays
Almost everyone will tell you that the holidays are a horrible time to raise a round of financing and close it. I actually believe the opposite is true if you are able to move fast enough and be organized. Everyone else is clamoring to get deals done during peak times, leaving little room for you. Though the holidays may be a slow time, there are fewer interruptions from other startups and companies, and if an investor loves a deal they will push to get it closed. Lawyers get paid exorbitant fees, and though they may charge you a little bit more to work during this season they will get the deal done.
Rounding Up All Members Of The Board
Make sure you have all the necessary information from those investing in your company when you are about to close the round. This might include things like agreements between founders and intellectual property agreements. The best way to get things done is to introduce your lawyer to your investor; the lawyer will then get the signed documents from the investor independently. The other key thing your law firm will do is send the information needed for money to be wired. Asking for money might feel weird to a newly minted entrepreneur, but in this case the lawyer casually takes care of it by sending along a wire transfer sheet.