Raising capital as a startup founder can be time-consuming and difficult. We’ve assisted nearly 100 startups in the capital raising process, providing both advice and legal documentation, and although each startup is different, there are a number of questions every founder should ask themselves before raising a round of capital. We set out the five most common but remember, this list is by no means exhaustive.
1. Do I Need to Raise Capital?
This might seem pretty obvious, but it’s surprising how many founders don’t actually ask themselves the question. Raising money isn’t easy, and if you do find investors, you’ll need to give up an economic interest (a percentage of the equity) in your business as well as a degree of control. You shouldn’t raise capital unless you need to. Of course, this doesn’t mean profitable bootstrapped startups shouldn’t raise capital. It just means that if you raise a round of funding, you need to be able to deploy the capital in a manner which will increase the value of the current shareholders’ shareholding in the company. Make sure you answer this question before all others.
2. Is my Business One Which Will Generate a Long-Term Capital Return For Investors?
The next question to ask yourself is whether your particular startup can provide a long (or even short) term capital return to investors. Most businesses started in Australia are not scalable, and don’t have any prospect of eventually being sold. They are designed to provide an income stream for the founder and potentially some employees but are never going to grow enough to ensure investors (and other shareholders) benefit from a capital return. If your business isn’t scalable and your goal isn’t to build a large business, then it’s unlikely that investors will be interested in investing.
3. How Much Money do I Want to Raise and What Will I Use it For?
It’s a good idea to know how much you’re planning on raising, and what you’re going to do with it. Building a simple financial model, setting out projected revenues (if you’re projecting revenues), and expenses, will enable you to work out how much capital you will require until you hit your next milestone (or profitability). Building a model is also a great exercise to help you think through where you’ll spend the capital that you’re raising. Of course, no one really expects you to stick to such a model in the long term, but it’s definitely a useful management tool. If you’re raising a round and your business is focused on revenue (as opposed to users or long term R&D), it’s also something investors will want to see.
4. How Much of my Company am I Willing to Give Away to Investors in Return for the Investment?
Obviously, you’ll have to give away a portion of the equity in your company when you raise a round of investment. Have you thought this through? How much of the company are you willing to give away? You don’t need to know exactly what pre-money valuation you’re prepared to do the deal at, but it’s worth getting a good sense of valuation multiples for startups like yours. This will help you work out whether raising right now makes sense or whether you should try and push through and get some more traction before speaking with investors.
5. What Type of Investors Should I Target?
A final point that’s equally as important, and you will need to think through relates to the type of investor you should target when raising capital. If your business is at a very early stage, it will be harder to attract institutional capital so that the Angel investment route might make more sense. If, however, you’ve got some significant traction and are building a real high-growth tech startup, then initiating a conversation with a range of VCs might make sense. Make sure you look at your business from an investor’s perspective to try and work out what type of investor might be interested in the opportunity.
There are quite a number of issues to think about before raising capital. It’s also worth noting that the state of the market at the time you’re raising capital make a big difference. The great thing about the startup community is that founders are often very happy to share experiences with other founders starting the journey, so reach out to all of your contacts in the startup space and ask for advice and information. If you have any questions, let our startup lawyers know.