Decide which type of investor to target for raising capital
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I recently wrote Should you raise venture capital from a traditional equity VC or a Revenue-Based Investing VC? Since then, I’ve talked with a number of other firms and greatly expanded my database: Who are the major Revenue-Based (RBI) Investing VCs?
That said, venture capital is just one of many options to finance your business, typically the most expensive. The broader question is, what type of capital should you raise, and from whom?
I find many CEOs/CFOs default to approaching investors who have the most social media followers; who have spent the most money sponsoring events; or whom they met at an event. But, fame and the chance that you met someone at a conference do not logically predict that investor is the optimal investor for you. In addition, the best-known investors are also the ones who are most difficult to raise capital from, precisely because they get the most inbound.
The first step is to decide the right capital structure for your financing. Most CFOs build an Excel model and do a rough comparison of the different options. Some firms provide tools to do this online, e.g., Capital’s Cost of Equity estimator; Lighter Capital’s Cost of Capital Calculator; 645 Ventures’ cap table simulator. A similar, open-source, highly visual tool focused on VC is Venture Dealr.
For each of the major categories of investors, you can find online databases of the major providers. Major options include:
- Traditional equity venture capital and private equity. For early-stage startups in particular, I suggest Foundersuite*, Samir Kaji’s Master List of US Micro-VC’s and Shai Goldman’s database of VC funds at/below $200M in size. You can find other databases of investors at AngelList, CB Insights, Crunchbase, Dow Jones VentureSource, Pitchbook, Preqin, and Refinitiv Eikon.
- Revenue-based investing VC. See Who are the major Revenue-Based Investing VCs?
- Venture debt. See FindVentureDebt and this comparison guide of debt options for SAAS companies. Watch out for double dipping, or interest on interest.
- Merchant cash advances/factoring. See Debanked’s list.
- Small Business Association Loans. Ravi Bhagavan, Managing Director, BRG Capital Advisors, said, “a low-cost and often convenient form of capital for small businesses is SBA loans, which are guaranteed by the Small Business Administration. SBA loans are $5k – $5M in size and are typically at a lower cost of capital compared to alternate forms of debt, since up to 85% of the loan is guaranteed by the SBA. Additionally, SBA loans have longer payment periods (5-25 years) than traditional forms of financing and come with less onerous ongoing disclosure requirements. However, SBA loans typically require a personal guarantee (PG) from the founder(s), who are scrutinized for income and credit history at the time of application. PGs can be quite daunting to founders because it puts their personal assets, including homes and investment accounts, on the line. SBA loans are available through SBA-approved banks and SBIC funds. SBICs make equity and debt investments of size $100k – $10M in qualifying small businesses. A good resource for looking up SBICs is here.”
- Crowdfunding, e.g., Republic*, Indiegogo*. This option provides you capital and also market validation for desire for your product.
Once you decide on the right category of investor, here are some tools I suggest using to find the optimal capital provider:
- Most important, reference checking. I have a whitelist of investors I recommend to my portfolio — and a blacklist which I guide them to avoid.
- Comparison websites: BitX, Fundera, GUD Capital, Lencred.com, Lendio, and NerdWallet Small Business Loans are all resources which can help you evaluate different options for small business financing, typically within a defined category of financing. Braavo specializes in financing app companies.
- Financing supermarkets: Most investment firms start out with one asset class, and then over time they often add others. There are countless examples, e.g., most of the large B2B banks, Kapitus, Kalamata Capital, United Capital Source, etc. These firms can give you an apples-to-apples comparison of what different capital forms, albeit all from one provider, will cost you.
Identifying the right investor is a two-way street. Ideally, you’re looking for an investor who invest time and energy with your company. along with significant relevant experience and an ability to add significant value. Alex Koles, CEO, Evolve Capital, said, “if there is not a mutual trust and shared vision in the opportunity, it will be harder to work through thorny issues down the road. It’s not a question of if the thorny issue will occur, but when, and management needs a strong advocate willing to listen and help out.”
Svetlana Lebedeva, Advisor, Bank Leumi, observed, “venture debt will be most affordable from banks. However, a bank’s credit box will be more narrow than that of a non-bank lender, like a venture debt fund. Banks will typically qualify a start-up for venture debt at or after Series A from VCs they are familiar with. So if you haven’t raised Series A, banks will typically turn you down. The reason they need to see a VC already on the company’s cap table, is that in early stages, banks are essentially underwriting the probability of a startup raising the next round (as companies may still be figuring out their product/market fit and haven’t scaled yet and are certainly burning cash). The other reason is that in case things don’t go according to plan, VCs lose their equity investment if the bank isn’t paid out. So the bank likes to have smart, sophisticated investors backing a startup which lowers their risk which, in turn, enables them to provide venture debt at around half the cost of a non-bank lender.”
David Abraham, head of DAC Capital, observes, “the fact is that there are an extremely large number of capital sources at every strata on the risk/return spectrum. Some will be well-known names, others will be findable using a directory. And others may not be findable at all with any level of confidence. But it is often hard to discern the actual appetite for a particular transaction. An experienced investment banker will have experience with a wide enough group of capital providers at every appropriate level. He or she will work with the company to develop a list of a sufficiently broad set of candidates. It’s not so much finding the ideal capital provider as it is finding a good provider with a properly structured transaction at a fair price.”
*I am an investor in these firms.
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