As companies look for funding to propel a strong rebound off the economic lows of the COVID-19 pandemic, many are turning to venture capital. But VC is a universe unto itself and unless you know the rules and routines, you’re doomed to failure.
And even if you do get VC funding, if you’re hooked up to the wrong VCs, you’re in for a world of hurt.
Warning: Do not wander into the realm of venture capital without first reading this insightful and practical overview.
Whatsapp, Alibaba, Spotify, Dropbox. These are all very different businesses. But aside from their popularity, they all have one thing in common – they’ve been the recipients of venture capital (VC).
We’ve all heard of businesses that start small, scale-up, and explode in popularity, becoming a household name. But businesses rarely achieve this kind of success without outside funding.
Further, understanding VC now is proving very important to many business as they seek financing to get them back on their feet. So, what should you look for in venture capital funding?
What is Venture Capital Funding?
Venture capital funds are pooled investment funds. They manage the funds of investors who are looking for private equity stakes in businesses. These businesses could be startups or small or medium-sized businesses.
These investments are usually made in businesses with the potential for a high return.
But the same businesses are also often high risk. Investing in them is a long-term investment.Venture Capital Rounds
Most successful startups raise capital through external funding rounds.
A seed round is where investors provide start-up capital. Sometimes this is followed by an angel round where early outside investors (angel investors) buy stock.
Sometimes there is also a pre-seed round, where funding comes primarily from the founders and their family and friends.
Series A, B, and C rounds are bigger investment rounds. Series A funding is used to further develop product and service offerings and increase the customer base. Of course, funding could also be used to scale up and hire more staff.
Series B funding is for taking the business past the development stage. Capital raised during this round is used to scale up the company to prepare them for further increasing their market reach.
By the time a business gets to Series C funding, it is already successful and well known. Capital raised during this round could be used for mergers, acquisitions, or operations in a new market overseas.
Sometimes there will be other rounds of funding as well, especially if a business needs more money to accomplish its goals or is pushing for an IPO (initial public offering).
Now that you know what it is and how it works, you need to ask yourself if your business is ready for venture capital funding.
Are You Ready for Funding?
Venture capital funding is good for businesses that may have substantial startup costs, but not the means of securing enough funding. Many smaller businesses can start with a loan of a few thousand dollars. But the kind of businesses that require venture capital funding has the potential to be many times larger than your typical small business.
It’s important to understand that venture capital funding is secured by ownership in the business, not by a loan.
If you’re unwilling to give up a stake in your business, you might not be ready for VC funding.
While VCs will have ownership in your business, they won’t have complete control. Make sure you have a solid business growth plan that you’re ready to implement. You should be able to detail how you are going to use their investments and what the expected results will be.
Your company’s management team is something investors are going to look at very closely. Make sure your team has a good pedigree. That can include a combination of education, experience, ability, and passion.
Now that you know what venture capital funding is and if you’re ready for it, let’s talk about what to look for when it comes to finding funding for your business.
Build a Pitch Deck
Before you look for funding, you need to build a pitch deck. Your pitch deck is going to be the overview of your business. It’s a presentation that provides insight into your business model, product or service, team, and funding requirements.
A pitch deck doesn’t have to be long. At a minimum, it should include your vision, a problem you’re going to solve, the target market, your solution, your business and revenue model, a roadmap, your strategies for marketing and sales, financials, and your team. Of course, you can always include more slides.
But at its core, you will want to keep your pitch deck simple and short.
Minimize the number of words and bullet points used on each slide. Instead, use images to convey your ideas.Remember, your pitch deck is your chance to tell a story. It’s your chance to grab your potential investors’ interest. If you can grab their interest, you can move on to the next stage.
Find the Right Venture Capital Fund
You need to find the right venture funds for you. Many specialize only in certain industries or verticals, such a software, fintech, green technologies, or consumer products. Then you need to find a firm that specializes in the stage of investment you are in – seed, Series A, B, etc.
Take your time to find the right fund.
Look for investors that can add value to your business, not just give you money. Remember, this is a long-term partnership.
Get a Good Recommendation
You can contact VC firms through email. But what’s even better is being introduced by a mutual acquaintance.
Before cold emailing, check to see if you have any mutual connections. You can ask your fellow founders if they can introduce you to anyone. You can also check LinkedIn to see if you have any second or third-degree connections that work at VC firms.
Don’t despair if you don’t have any mutual connections yet. You can always make introductions through networking events and meetups.
You can use LinkedIn and other social media sites for this as well.
If all else fails, reach out to others who have received venture capital funding and ask them for recommendations.
Who are your target VCs and who are they interacting with? Find a common connection between you and them. If one doesn’t exist, you can make a mutual connection.
Understanding the Term Sheet
A term sheet is a non-binding list of terms for venture capital funding. The key term here is non-binding. A term sheet is not a guarantee of investment, but it is a sign that investors are at least interested in your business.
It serves as a template for more detailed, legally binding documents. A term sheet will list details such as the company valuation, investment amounts, VC voting rights, and exit terms.
A good term sheet will ensure that both founders and investors are of the same mindset
The term sheet is presented to entrepreneurs by investors, however, the relationship goes both ways. Founders need to have talks with investors. Early investors can play a huge role in shaping a company and its culture.This is an important step in your negotiations with a VC, so be careful. Don’t make any of these common mistakes others have made during negotiations.
Due Diligence and Closing the Deal
Due diligence is when investors gather more information on your business prior to closing a deal. They’re looking for risks involved in their investment. Due diligence is anything an investor does to evaluate a potential investment.
Much like the term sheet, this process goes both ways. Founders should evaluate their investors and do due diligence on them as well.
Look at more than just money: What can your potential investors bring to your company?
Be patient. This process can take several months. Assuming everything is good to go, you should receive your offering documents. Then it’s a matter of signing everything and receiving your VC funding.
Assuming all is well – Congrats! – you’ve just closed the deal and received funding.
Pitfalls to Avoid
A word of caution: venture capital funding sounds great, doesn’t it? Maybe even too good to be true? That’s because in some cases, it can be.
Investors may pressure you to grow quickly. But if you don’t solve small problems, small problems scale into big problems. Fixing an ongoing problem while growing rapidly may be impossible.
If your investor only wants to provide money and doesn’t want to or doesn’t know how to support you in other areas, taking their investment could be a major pitfall.
Another mistake when taking VC funding is taking it too soon.
The longer you can wait to take an investment, the smaller a percentage of your company you will have to sell to raise capital.Turn to the Business Coach
Still have questions about running your business? Can you see that the better your business operates and the more efficient it is, the more likely it is to get increased investment money for a smaller percentage? Are you looking for business tips to increase sales, plan for an exit, or find venture capital funding?
Every month our newsletter answers your business questions. If your concerns are business related, we want to help you. We will help you make your business the scalable, effective, and efficient business that attracts the right type of VC partner. Want to explore further? Questions? Get in touch and let’s set up a time to talk