Insider's Guide to Raising Early-Stage Capital


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An insider's guide to raising early-stage capital. An explanation of the key things to think about when raising early-stage funding from angels, angel groups, and venture capital firms.

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Insider's Guide to Raising Early-Stage Capital

  1. 1.         The  “Real  Deal”  Behind  Early-­‐Stage  Fundraising   JANUARY  2014   Nnamdi  Okike,  Founder,  645  Angels   Presenta9on  to  the  Startup  Leadership  Program  
  2. 2. The  Early-­‐Stage  Fundraising  Process  In  One  Slide   Raising  early-­‐stage  capital  is  not  too  much  different  than  this   Source:  Dilbert   2  
  3. 3. Introduc9on   •  Personal  Background:   –  8  years  experience  as  a  venture  investor,  specializing  in  Internet  and   soKware  companies   –  Worked  on  over  20  venture  investments,  including  FolhamaPc  (sold  for   $300m),  Hitwise  (sold  for  $240m),  and  Astaro  (acquired  by  Sophos)   –  Founder  of  645  Angels,  an  NYC-­‐based  angel  fund  focusing  on  Internet   investments     •  Goals  of  this  Presenta9on:   –  Provide  recommendaPons  on  how  to  best  approach  the  process  of   raising  seed/early-­‐stage  capital   –  Provide  advice  on  how  to  deal  with  investors     –  DemysPfy  the  venture  funding  process   –  Provide  advice  on  how  to  meet  your  personal  objecPves  in  an   investment  process  and  opPmize  your  outcome   –  Answer  any  quesPons  that  you  have   3  
  4. 4. Agenda   §  Why  raise  funding  at  the  early  stage?   §  Angels,  angel  groups,  and  venture  funds   §    §    §    §  What  to  look  for  in  a  good  investor   How  to  pitch  your  company   Nego9a9ng  terms   Due  diligence  and  closing  the  deal     4  
  5. 5. Why  Raise  Funding  at  the  Seed/Early  Stage?   •  Quiz:     –  If  we  don’t  raise  early-­‐stage  funding,  we  won’t  be  taken   seriously       –  That’s  a  dumb  quesPon.  If  we  don’t  raise  capital  now,  we’ll  run   out  of  cash     –  A  good  investor  can  bring  skills/connecPons/advice  to  the  table,   and  can  provide  value  beyond  the  money     –  Investment  capital  will  enable  us  to  execute  on  key  objecPves/ reach  key  milestones  that  will  create  barriers  to  entry  and   enable  us  to  capture  market  share  more  quickly   5  
  6. 6. Why  Raise  Funding  at  the  Seed/Early  Stage?   •  If  we  don’t  raise  early-­‐stage  funding,  we  won’t  be  taken  seriously     •  That’s  a  myth.  Many  great  companies  never  raise  early-­‐stage  equity  capital.   Companies  such  as  Oracle  and  Spanx  are  two  good  examples   •  That’s  a  dumb  quesPon.  If  we  don’t  raise  capital,  we’ll  run  out  of  cash   •  Fair  enough.  Some  businesses  require  more  capital  than  others.  No  one  has   ever  bootstrapped  a  semiconductor  plant   •  A  good  investor  can  bring  skills/connecPons/advice  to  the  table  beyond  just  money   •  Excellent  answer.  Make  sure  to  tell  prospec9ve  investors  that   •  Investment  capital  will  enable  us  to  execute  on  key  objecPves/reach  key  milestones   that  will  create  barriers  to  entry  and  enable  us  to  capture  market  share  more   quickly   •  Good  answer.  An  early-­‐stage  investment  can  be  very  helpful  when  markets   are  evolving  quickly  and  crea9ng  barriers  to  entry  is  important.  Think   Amazon  in  the  early  days  of  e-­‐commerce   6  
  7. 7. Key  Issues  to  Think  About  When  Deciding  Whether     to  Raise  Capital   •  Minimizing  Dilu9on:  How  can  you  minimize  diluPon  in  early  rounds?  This   becomes  important  later  on  if  you  have  to  raise  more  capital   •  Control/Economic  Rights:  What  control/economic  rights  are  you  willing  to   give  on?  Do  you  want  the  investor  to  sit  on  your  board?  Are  you  ok  with   preferred  stock?   •  Value-­‐Add:  What  key  skills  can  a  prospecPve  investor  bring  to  the  table?   –  Ability  to  help  with  hiring  –  rolodex   –  Ability  to  provide  strategic  advice  re:  market  entry,  posiPoning,   compePPon,  etc   –  Industry  contacts   •  Cash  Curve:  What  are  the  projected  cash  needs  of  your  business?  The  cash   curve  will  drive  your  investment  requirements  and  the  staging  of  investment   •  What  type  of  investor  would  be  best-­‐suited  for  your  business?  Consider   angels,  angel  groups  and  venture  funds   7  
  8. 8. Agenda   §  Why  raise  funding  at  the  early  stage?   §  Angels,  angel  groups,  and  venture  funds   §    §    §    §  What  to  look  for  in  a  good  investor   How  to  pitch  your  company   Nego9a9ng  terms   Due  diligence  and  closing  the  deal     8  
  9. 9. Angels,  Angel  Groups,  and  Venture  Funds   Solo  Angels   Angel  Groups/ Networks   Early-­‐Stage  Venture   Funds   Examples   Industry  veteran   Former  entrepreneur   Your  rich  uncle   NY  Angels   AsPa   Common  Angels   Flybridge   GreycroK  Partners   Lerer  Ventures   Level  of   Sophis9ca9on   Varies  significantly   Moderate  to  high  level  of   sophisPcaPon   Highly  sophisPcated,  this  is   all  they  do   Investment   Process   Angel  likes  the  business,   does  some  diligence,   writes  you  a  check   You  send  a  business  plan,   you  present  to  the  angel   group,  they  evaluate,  their   members  decide  if  they’re   interested,  they  make  a   proposal   You  get  referred  to  the  fund,   you  meet  them,  you  present,   they  do  diligence,  they  give   you  a  term  sheet,  you   negoPate   Terms   Most  entrepreneur-­‐ friendly   In  between  solo  angels  and   venture  firms   Less  entrepreneur-­‐friendly   Value-­‐Add   Depends  on  the  angel   Moderate  value-­‐add,  good   networks   Generally  high  value-­‐add   Investment   Amount   Varies  widely  depending   on  the  angel  -­‐  $10k  to   $500k  is  ballpark   $100k  to  $1m   $500k  to  $5m  at  early-­‐stage   9  
  10. 10. Angel  Investors   •  Angel  investors  vary  widely  in  terms  of  their  sophis9ca9on,  average  investment  size,  and   what  they  seek  from  the  investment   –  Some  do  it  for  fun,  some  are  professionals.  Angels  can  range  from  a  wealthy  former   entrepreneur  who  likes  working  with  early-­‐stage  startups  to  your  wealthy  aunt  Jane   who  always  believed  in  your  potenPal   –  As  a  result,  they  will  vary  widely  in  their  ability  to  help  you  beyond  giving  you  money   •  Pros  and  cons  of  raising  money  from  solo  angels   –  Pros:  Less  restricPve  terms,  easier  deal  process,  less  immediate  pressure  to  perform   post  investment   –  Cons:  Need  to  manage  many  of  them,  low  average  value-­‐add,  smaller  average   investment  than  angel  groups  and  venture  funds   •  Typical  angel  investment  terms:   –  ConverPble  note  structure  (with  discount  to  price  of  future  equity  round)     –  Minimal  control  rights,  generally  not  seeking  board  seat   •  How  to  find  them:   –  Tap  your  personal  network   –  Akend  angel  events  (Angel  Vine  in  NYC  is  a  good  example)   10  
  11. 11. Angel  Groups   •  How  angel  groups  work:   –  Angel  group  members  pay  a  fee  to  be  part  of  the  angel  group  and  get  access  to  its  deal   flow   –  Group  members  don’t  invest  in  all  deals,  can  choose  which  deals  they  want  to  invest  in   –  Angel  funds  may  specialize  in  certain  types  of  companies  (for  example,  AsPa  focuses  on   female-­‐founded  companies)   •  The  angel  group  inves9ng  process:   –  The  staff  at  the  angel  group  will  vet  inbound  business  plans  and  choose  the  best   companies  to  present  to  the  group   –  AKer  you  present,  if  there  is  interest  from  the  group,  a  member  of  the  group  will   become  the  “lead”  and  will  round  up  investors   –  They  will  then  present  you  with  a  term  sheet.  The  member  lead  will  then  manage  the   due  diligence  process,  which  will  include  reference  checks,  compePPve  analysis,  and   market  analysis   •  Angel  group  pros  and  cons:   –  Pros:  Larger  average  investment  than  individual  angels,  they  oKen  have  large   professional  networks  that  you  can  uPlize   –  Cons:  Longer  process  than  solo  angels,  venture-­‐like  terms  without  as  much  of  the   venture  firm  value-­‐add   11  
  12. 12. Venture  Capital  Firms  I   Source:  Dilbert   12  
  13. 13. Venture  Capital  Firms  II   •  Venture  capital  firms  are  dedicated  pools  of  capital  that  typically  focus  on  a  specific  stage   and  type  of  investment  (for  example,  early-­‐stage  Internet  deals)   –  Keep  their  focus  in  mind  as  you  assess  which  funds  might  be  a  good  fit   •  Venture  funds  are  typically  made  up  of  partners,  principals/VP’s,  and  associates/analysts.   –  Partners  and  principals  will  lead  deals,  associates/analysts  will  primarily  help  with   deal  veong  and  due  diligence   •  Most  venture  funds  have  an  established  process  by  which  they  source  and  evaluate  deals   –  Most  early-­‐stage  funds  source  their  deals  via  referrals   –  Some  will  read  inbound  business  plans,  but  they  won’t  do  many  deals  from  this  pool   •  Typical  early-­‐stage  venture  process:   –  You  get  referred  to  the  venture  fund,  or  you  send  in  a  business  plan   –  IniPal  phone  call/meePng  where  you  present  your  business   –  If  the  fund  is  interested,  this  is  followed  by  one  or  mulPple  follow-­‐up  meePngs   –  A  term  sheet  is  presented.  You  negoPate  the  terms  –  valuaPon,  investment  amount,   security,  etc.  Due  diligence  is  ongoing  and  conPnues  post  term  sheet  signing   –  Lawyers  draK  the  final  docs  and  you  close  the  deal   13  
  14. 14. Venture  Capital  Firms  III   •  Pros  and  cons  of  raising  money  from  a  venture  firm:   –  Pros:   §  Venture  firms  can  typically  invest  larger  amounts  of  capital  than  solo  angels/ angel  groups   §  Venture  firms  are  generally  well-­‐connected,  with  ability  to  help  with  hiring,   strategic  partnerships,  business  strategy   §  An  investment  from  a  good  fund  can  be  a  posiPve  signal  to  the  market     –  Cons:   §  They  desire  more  control  rights/protecPons:  preferred  stock,  blocking  rights,   drag-­‐along  rights,  board  representaPon   §  A  bad  venture  investor  can  make  your  life  difficult   •  Ques9ons  to  ask  venture  funds:   –  What  types  of  deals  does  the  firm  specialize  in?  Have  they  invested  in  similar   companies  before?   –  What  is  the  firm’s  typical  deal  process  (Pming,  due  diligence  requests,  etc)   –  Which  partner  at  the  firm  will  I  be  working  with?  Will  they  provide  porqolio   references?   –  What  is  the  firm’s  typical  approach  to  follow-­‐on  investments?   14  
  15. 15. Agenda   §  Why  raise  funding  at  the  early  stage?   §  Angels,  angel  groups,  and  venture  funds   §    §    §    §  What  to  look  for  in  a  good  investor   How  to  pitch  your  company   Nego9a9ng  terms   Due  diligence  and  closing  the  deal     15  
  16. 16. What  to  Look  for  in  a  Good  Investor   •  When  it  comes  to  venture  investors,  the  quality  of  the  investor  can  have  a  major   impact  on  your  future  success.  The  following  are  ques9ons  to  ask  yourself  as  you   evaluate  a  poten9al  investor:   –  Do  I  get  along  well  with  this  person/group?  Do  I  get  a  good  vibe  from  them?   Would  I  want  to  work  with  them  when  Pmes  are  tough?   –  Do  they  understand  my  business?  Are  they  asking  the  right  quesPons?   –  Will  the  investor  provide  references,  and  if  so,  what  do  they  say  about  the   investor?   –  What  is  this  investor’s  track  record?  Have  they  invested  in  similar  companies?   Have  those  companies  been  successful?   –  What  relevant  connecPons  does  this  investor  have?  Can  they  (and  will  they)   introduce  me  to  people  that  can  help  me?   –  What  is  the  firm’s  reputaPon  in  the  marketplace?   –  What  is  this  investor’s  Pme  horizon  to  exit?     16  
  17. 17. Agenda   §  Why  raise  funding  at  the  early  stage?   §  Angels,  angel  groups,  and  venture  funds   §    §    §    §  What  to  look  for  in  a  good  investor   How  to  pitch  your  company   Nego9a9ng  terms   Due  diligence  and  closing  the  deal     17  
  18. 18. How  to  Pitch  Your  Company   •  Rules  of  Thumb:   –  Everyone  pitches  differently.  Be  yourself  and  present  your  company  in  the  way  in   which  you  feel  comfortable.  Investors  can  see  through  B.S.   –  Be  able  to  explain  what  your  company  does  and  its  value  proposiPon  in  a  concise   way,  ideally  in  a  few  sentences   –   Think  about  what  quesPons  the  investor  is  likely  to  have,  and  have  answers   prepared   –  Don’t  make  wild  claims/projecPons  that  you  can’t  support  –  prospecPve  investors   will  see  through  those  sooner  or  later   Source:  Dilbert   18  
  19. 19. Things  to  Think  About  in  Your  Pitch   •  Be  able  to  answer  the  following  ques9ons  in  an  ini9al  mee9ng:   –  What  problem  is  your  company  solving  and  why  is  it  important?     §  Why  is  your  approach  to  solving  this  problem  either  beker/faster/ cheaper  than  alternaPves?   –  Who  is  your  compe99on?     §  Why  are  you  beker  than  your  compePtors?   –  How  large  is  your  market?     §  What  segment  of  the  market  is  addressable  by  your  product/service   today.   –  What  is  your  product  development  plan?     §  If  you  are  pre-­‐product  today,  when  are  you  planning  to  release  your   product?   –  What  does  your  financial  plan  look  like?   §  What  is  your  revenue  plan  for  the  year?  How  much  cash  will  you  burn   this  year?  When  will  you  hit  break-­‐even?   –  What  is  your  sales  and  marke9ng  plan?   –  How  much  capital  do  you  plan  to  raise  and  what  is  the  use  of  proceeds?   19  
  20. 20. How  to  Pitch  Your  Company   •  The  VC  pitch  process:   –  First  call/mee9ng:  This  is  really  a  “get  to  know  you”  session.  The  investor  is  trying   to  get  a  read  on  your  company  and  whether  it  is  a  fit  for  their  fund.  Provide  your   company  teaser/execuPve  summary  deck  and  use  it  as  a  guide.  Expect  to  get   interrupted  frequently  with  quesPons   –  Second  mee9ng:  There  will  likely  be  more  people  from  the  venture  fund  in  the   room.  Be  prepared  to  go  into  more  detail  –  you  should  have  a  more  detailed   business  presentaPon  deck  (20  to  30  slides)   §  You  will  likely  be  asked  to  present  to  all  of  the  firm’s  partners  or  a  subset  of   the  partners  before  they  sign  a  term  sheet.  This  may  happen  in  a  second  or   later  meePng,  depending  on  the  firm’s  process   –  Materials  to  prepare:   §  Company  teaser/execuPve  summary  that  is  15  slides  or  less,  that  you  can   send  to  prospecPve  investors  and  use  in  your  iniPal  meePngs   §  More  detailed  business  plan/investor  memorandum  that  you  can  use  for  the   more  detailed  pitch  meePngs   §  Financial  projecPons  that  you  can  provide  to  investors   –  I  prefer  to  see  key  assumpPons  in  order  to  sanity-­‐check  the  figures   20  
  21. 21. Agenda   §  Why  raise  funding  at  the  early  stage?   §  Angels,  angel  groups,  and  venture  funds   §    §    §    §  What  to  look  for  in  a  good  investor   How  to  pitch  your  company   Nego9a9ng  terms   Due  diligence  and  closing  the  deal     21  
  22. 22. The  Deal  Nego9a9on  Process   Source:  Dilbert   22  
  23. 23. Nego9a9ng  Terms   •  General  advice:   –  VC’s  do  this  for  a  living.  Make  sure  you’re  fairly  well-­‐versed  in  the  terms  they  use   so  that  you  can  even  the  playing  field   §  If  you’re  negoPaPng  with  a  venture  investor  or  angel  group,  hire  a  lawyer  that   has  experience  with  the  specific  of  deal  you’re  doing   –  Growth-­‐stage  deal  terms  are  different  than  early-­‐stage  deal  terms   –  Venture  investors  will  ask  for  more  control  rights  that  angels   –  You  want  to  understand  what  is  “market”  for  your  specific  type  of  deal   §  Read  up  on  deal  terms  if  you  have  some  Pme.  Good  resources  include  Brad   Feld’s  “Venture  Deals”  and  Alex  Wilmerding’s  “Deal  Terms”  and  “Term  Sheets   and  ValuaPons”   –  Think  about  what  deal  terms  are  most  important  to  you:   §  How  important  is  valuaPon?     §  What  terms  are  you  willing  to  give  on?   §  Try  to  figure  out  what  terms  the  VC  is  flexible  on   –  The  term  sheet  is  the  template  for  the  final  deal  docs:   §  Term  sheets  are  generally  not  binding,  but  they  are  the  guidelines  for  the   final  investment  agreement  that  is  created  in  the  definiPve  documentaPon   23  
  24. 24. Nego9a9ng  Terms   •  Valua9on   –  Much  more  art  than  science   §  Having  a  finished  product,  customers  and  revenues  will  increase  your   valuaPon   §  Think  pre-­‐money  and  post-­‐money  valuaPon,  they  are  different   §  Think  percentages  and  investment  amounts:   –  For  example,  We’re  looking  for  $500k  and  we’re  not  looking  to  give  up   more  than  than  10%  of  equity   –  Think  about  the  amount  the  investor  typically  invests  and  tailor  your   pitch  to  that   –  How  to  negoPate  valuaPon:   §  Investors  will  ask  you  what  valuaPon  you’re  expecPng   –  One  strategy  is  to  be  somewhat  aggressive  but  not  unreasonable,   factoring  in  that  VC’s  will  negoPate  you  down   –  Another  strategy  is  to  say  that  you’re  leong  the  market  price  the  round   §  Be  prepared  for  some  back  and  forth   §  Both  valuaPon  and  structure  are  important.  Contract  a  common  equity  deal   vs.  a  parPcipaPng  preferred  deal  at  the  same  valuaPon   24  
  25. 25. Nego9a9ng  Terms   •  Investment  Amount:   –  Raise  enough  capital  to  give  you  runway  (with  a  cushion)  to  reach  key   milestones,  where  you  can  then  raise  more  money  at  a  higher  valuaPons  if   you  so  choose   –  Think  about  the  cash  curve   •  Form  of  security:     –  Venture  investors  typically  will  insight  on  preferred  stock   –  Be  careful  with  giving  them  more  than  that:  parPcipaPng  preferred,   dividends  on  preferred,  etc   •  Control  rights:  These  include  blocks  on  sale  of  the  company,  drag-­‐along  rights,   approval  rights  for  key  hires,  maximum  capital  expenditures,  etc   •  Board  Seats:   –  VC’s  will  usually  (but  not  always)  want  at  least  one  board  seat     25  
  26. 26. Agenda   §  Why  raise  funding  at  the  early  stage?   §    §    §    §    §  Angels,  angel  groups,  and  venture  funds   What  to  look  for  in  a  good  investor   How  to  pitch  your  company   Nego9a9ng  terms   Due  diligence  and  closing  the  deal     26  
  27. 27. Due  Diligence  and  Closing  the  Deal     •  Amount  of  due  diligence  undertaken  will  depend  on  the  investor.  Venture  funds  will   typically  do  the  most  diligence,  although  angel  groups  may  also  do  detailed  diligence   –  Due  diligence  is  an  opportunity  for  investors  to  validate  their  key  assumpPons  and   make  sure  there  are  no  surprises   –  You  can  also  do  your  own  due  diligence  on  the  venture  firm  in  the  form  of   porqolio  company  references   •  Typical  due  diligence  requests:   –  Requests  to  speak  with  your  customers   –  Detailed  technology  analysis  (some  venture  funds  may  do  this)   –  Founder  references   –  Detailed  financial  projecPons  and  discussion  around  key  growth  assumpPons   –  Total  addressable  market  (TAM)  discussion  and  analysis   –  Review  of  sales  and  markePng  plan   •  One  strategy  is  to  make  more  informa9on  available  as  you  see  more  commitment   from  the  prospec9ve  investor   –  For  example,  no  need  to  provide  customer  references  unPl  you  see  that  the   investor  is  serious,  to  avoid  wasPng  your  customers’  Pme     27  
  28. 28. Final  Advice:  Try  to  Avoid  Situa9ons  Like  This  One   Prospec9ve   Investor   You   “You  look  a  lot  different  than  your  website  photo”   Source:  Ibusinessangel   28  
  29. 29.       Thank  You!     Contact  Email:     29