The Facebook IPO has created quite enormous amounts of press with good reason. Most of us are not immune to feelings of jealousy, curiosity or outright amazement at the staggering amounts of money raised. More widely it has also drawn attention to the Silicon Valley phenomenon of lightning fast start-ups that sell for huge sums in record times. It?s true.
Although down on the previous quarter in calendar Q1 this year, VC?s (venture capitalists) invested $5.8 billion in 758 deals, according to a MoneyTree Report from PricewaterhouseCoopers LLP and the National Venture Capital Association (NVCA).
So if you have an idea how do you go about raising money for your very own start up? I thought these tips might be fun to share. I learnt most of them from my experience working with others and based on what I have learnt from an excellent book on the subject Venture deals by Brad Feld and Jason Mendleson. If you want to know where to find a Venture Capitalist check out this directory here. But before contacting them?
- Don?t ask for an NDA (non disclosure agreement) before talking to them. They won’t sign them. They see 1000s literally of start-ups and won’t do it. But anyone else should sign, most especially before ‘touching’ the product, inc. when the VC wants to try a demo.
- Many will be uninterested. Don’t take it personally. There are a lot of VC’s, just move on quickly and don?t chase anyone.
- Respond fast when they are interested. They are all about speed, speed, speed.
- Decide how much you need to raise before any discussion. Be specific and make sure it’s enough. They don?t need detailed spreadsheets or forecasts because those are nearly always turn out to be wrong. But they do want to know you have thought it through. They don’t like ranges. Do not say $2-$3M, there is a $1M difference in there and that is a lot of money. Say what you think you need.
- Milestones. Make sure you have figured out what these are, either in terms of feature set, users, revenues or a combination.
- Elevator pitch, funding presentation, product presentation, demo. Have all these ready. Make them short; all VC?s have short attention spans at the beginning because they get so many approaches. But short does not mean low quality, this is your first impression, keep the quality high.
- Don’t get excited because you have ‘interest’ save it until someone talks about a ‘term sheet’ this is the goal. A term sheet sets out the deal and the terms of the investment. Once signed the money comes in.
- There can be a lot of noise around the negotiation. Focus on just two things. Money and management. How much money gets raised, when and how and how will the business be managed. What restrictions will be placed on the founders?
- When you form the company you will be issued with COMMON STOCK. The VC’s will be issued with PREFERRED STOCK. The two are separate because they get treated differently.
- Each time VC’s invest it’s called a round; the first investment is round A, the second B and so on. Each time it happens ownership gets diluted which is bad, how each party gets diluted and by how much is very important.
- VC’s refer to a company’s valuation PREMONEY and POST MONEY. Premoney is the value of the company before anyone invests. If your company is valued at $10M before anyone invests and they say they will invest $5M premoney it means they get 50% of the company. But after the investment the company is worth $15M.
- If they say they will invest $5M on a $15M post money they get 33% since $5M/$15M.
- PREFERRED stock works on the basis of it being either participating or non-participating. Non-participating stock is in effect just like common stock and the term is then used simply to separate the terms and conditions that apply to it. But participating preferred stock is very different. In this case what happens is as follows;
- Let’s assume that the same VC stuck in $5M on a post money valuation of $15M and they own 33%. Now someone offers to buy the company for $30M. With non participating stock the $30M would be shared 33% to the VC $10M and 67% to the founders $20M but with participating stock it works like so.
- The VC gets back his first $5M first. Then he gets 33% of the balance, i.e. 33% x $25M = $8.3M and the founders get 67% of the $25M or just $16.7M. See the difference?
- - Pay to play is important. Some early investors, friends and angels are usually offered pay-to-play which means that to keep their value in the business they can continue to invest pro-rata at series B, C funding rounds. But this can be tough. Your friend/uncle/parents may wish to invest $50k now and if you value the company at $3M that means he would own 1.6%. But when the company is valued at $15M to stay at 1.6% he would need to invest a further $230k. This needs explaining to early investors so they don?t feel screwed down the line.
- Of course there is much more to raising money and dealing with a VC than just this but after I made these notes for a friend I had so much interest I thought I would share them. I make no guarantee for their accuracy and will gladly make edits and / or changes based on feedback. Of course all this assumes that your product and business has a plan and a product that can make money.
Before you do all of the above, watch the video below. Good luck.
About the Author
Roy Taylor is a veteran executive in the tech industry. Roy was one of key executives at NVIDIA, creating and leading divisions in the company which drove the company to its leadership status. The start of NVIDIA in EMEA region, developer relations, The Way Its Meant To Be Played program, Telecom Relations (first Tegra design wins) were all driven by a charming Englishman who discovered his second youth in both sides of California. Currently serves as Executive Vice President and General Manager of MasterImage 3D and his vision is to bring glassless 3D to our hands in the forms of tablets and smartphones. You can follow him on LinkedIn, Techhollyood and via his new Twitter account.