What are the different stages of a startup fundraising?
By James Martin
February 3rd, 2020
Fundraising is a process of soliciting outside investors to finance your start-up or the development of a business.
There are two distinct types of financing, which depends on the maturity of the company:
Your project is defined, your business plan is finalized but you have not yet started your activity and you are seeking to finance your first needs (12 or 18 months). The seed money usually comes just after the "Love Money" (= the money brought by the founders of the startup and their loved ones to support its launch). With these funds some startups will be able to rent their first premises, work on a prototype or move to the marketing phase of their very first product.
You want to accelerate your startup growth, for example by launching a new business or by expanding internationally, this is why you need funds to finance this growth.
In either case, the principle remains the same: look for investors who believe in the potential of your project and are ready to invest!
To raise funds, you will then issue shares, which will be allocated to the capital of your company and you will sell them to investors. These shares are used to finance the development needs of your startup.
Investors will therefore seek to earn profits from their investment.
What are the different types of investors?
Business Angels are individuals, mostly former entrepreneurs or entrepreneurs who have sold their business, who invest their own funds to financially support one or more companies with a high potential for innovation.
It’s better that a business angel combines a significant wealth with an entrepreneurial experience.
Even if they take risks by investing their money and hoping for a return on their investment, this investor profile often goes beyond the sole financial consideration and is interested in the personality of the founders, the innovative or supportive nature of the project as well as team values.
Venture Capitalists are investors, usually banks, insurance companies or financial institutions, who invest in innovative companies with high growth potential on behalf of their clients.
The Venture Capitalists are hoping to make big gains on their investment. To qualify for this type of fundraising, your company must have proven that its concept works and that its development projection at 3 to 5 years is solid.
Fundraising is like a marathon: it requires endurance, determination and methodology.
1. How to prepare to raise funds for your startup
Before you even start writing the fundraising document, you must elaborate the strategic vision of your company, in the short and especially in the medium and long term.
Because a fundraising that results in the rise of investors' capital is not without consequences, especially in terms of the obligation to achieve quantified objectives, increased profitability and new investment rounds (if needed).
Do you really need this money? Are you fully aware of the consequences of a fundraising? What is the investors’ exit plan?
Be prepared: Preparation is essential to better anticipate the investment journey. You will need to create two essential documents:
- The Executive Summary: you will present your project globally (one page) with the main (show 3 or 4) main reasons to invest in it. The executive summary is a strategic piece of information about your startup. It summarizes the project that requires funding. The investor must be able to quickly and easily understand the ins and outs of your project by reading the executive summary.
The document must be shot in such a way as it increases the desire to know more about the company. This is a “teasing” document.
- The Business Plan: to detail your plan to grow your company, how you plan to build and sell your product, make revenues and generate profits. The business plan is undoubtedly the central document for any fundraiser. It details everything about your company, its current situation, its needs, its quantitative objectives.It details your strengths, your market, your resources.
These two documents will serve as a basis for building your pitch and increase your chances of seducing and reassuring early-stage investors!
It is also during this preparation phase that you will have to estimate the value of your company. Do not hesitate to surround yourself with other entrepreneurs and experts to support you.
Their feedback will help you to have the most convincing but also the most reliable elements possible.
2. How to find investors and business angels for your startup
Once you are perfectly prepared, comes the critical step of approaching investors.
Please note that it is much more effective to contact investors who specialize in your industry, investors who have already invested funds into companies similar to yours or for identical or close product segments.
Targeting is essential because you will have the same language and investors will be in the best possible conditions: they know the sector and are therefore more likely to trust you.
You will need to select the ones you want to contact because you estimate that they are likely to want to invest in your startup.
Once you have established your list (we have designed First Minute Angels to help founders accelerate their research of investors), you will need to reach out to them and send them the Executive Summary and Business Plan that you have previously prepared.
Pitch competitions and calls for projects are constantly organised around the world (check out meetup.com as well as startup and entrepreneurs Facebook groups).
Investors who are looking for promising projects to fund often participate as a jury. If your project wins the contest, or even the simple thing that you are participating can offer you a showcase to present your project and make potentially meet your investors.
3. The due diligence process
In fundraising, the due diligence is the precautionary duty of investors. In order to minimize the risks and give their final approval, the investors become investigators. They will get into all the fundamentals of the startup such as:
- The market: competitive analysis, time-to-market evaluation, SWOT ...
- Financial analysis: an analysis of the reliability of the projections established in the Business Plan, analysis of the latest balance sheets / results
- Technical considerations: feasibility of the project, team strength, resources, recruitment plan
- Legal expertise: verification of contracts and every legal aspects of the project
This is a critical phase where you have to keep and excellent communication with potential investors.
4. Negotiate with your investors
At this stage comes the strategic phase of the negotiations. It is delicate and can take many weeks! During this stage the entrepreneur consents in a way to a "shared custody" of the startup he has given birth, made grow, and now must negotiate the terms.
How to calculate the valuation of your startup:
The valuation of the company is its value in the market at the time of the negotiations. It takes into account previous results and projections expected from the startup. This valuation is therefore "virtual" and speculative. We can identify two steps:
- the "pre-money" value, before the contribution of the investor
- the "post-money" value = value + pre-money + amount invested
We use the term “negotiation” as you will certainly need to find a compromise.
The Cap Table (or capitalization table) is a table that contains all the information related to the valuation of the shares of the company and the distribution of capital between founders, employees, partners and investors. The Cap Table can evolve and be adjusted regularly according to the results and objectives of the startup.
What are Exit clauses?
In general, the objective of an investor is to quickly make profits from invested money. Once he feels comfortable, he could try to sell his shares. Even if this output is theoretical at this stage, a founder will need to fix the rules.
This step is crucial and very technical, it must obviously be supervised by legal professionals. The thing to keep in mind when raising funds is that the entry of investors into the capital of the startup requires:
- To modify company statutes
- write a shareholders agreement
Frequently asked questions to startup founders:
- What is your market?
- How are you going to acquire your customers?
- Why do you need to raise money?
- How are you going to spend the money?
- When is your breakeven?
We hope this article will help you to better move forward on your investment process!