First of all, if you’re a real startup CEO, these hard times aren’t so hard if you look at the right indicators. I’m interacting with startup money people all the time — angels, VCs, superangels, family offices, even some PE these days. There is still a lot of money out there, lots of deals happening. VC is still roaring, with the exception of about 2 months of fear over the NASDAQ and Crypto Crash.
The only thing that ‘s changed is valuations, and those aren’t much different than they were 2019-2021, which is pretty high.
Early stage angel investors like to find little gems before anyone else, they look for the $10 million valuation seed or pre-seed opportunities. That hasn’t change, money hasn’t “dried up”. I get angels asking me still every week for leads one early-early deals. If seed funding is good, follow on from these same investors later should be good also, unless the world falls apart over the next couple of years.
As they always have, investors do want a few things — a very strong level of belief in the founder(s), something new and not just a clone of existing businesses, and high energy from the startup.
I saw a very strong Silicon Valley angel say the other day that, for certain founders, he would give them $1 million without knowing the product or valuation, just betting on the founders he knows will win again and again. That’s the confidence and trust that prevails in the valley — today.
It’s also a testament to the power of the momentum of the current retooling of modern business. This recession can’t stop that.
So, the valuations are lower. Is that fair? Is that VC greed taking advantage of the stock market?? A little bit, but valuations, especially for mis and late stage were they too high and needed a reset. That couldn’t have gone on forever. And they’ll come back. Depending on where your company is, it shouldn’t matter anyway.
There are angels who look for early early deals, try to find $5M to 20M valuations. Those valuations aren’t going down.
But still, you should reassess, check your priorities, tighten things up.
1. What are people doing now because your product doesn’t exist, what is the pain you will solve?
2. What is it that you know about your specific niche that other companies do not?
3. How and when does this make revenue and profits? What is the growth graph?
I get approached often by tech startups looking for their first outside funding. They come in lots of different flavors and stages of fundability. Most are making major mistakes in their approach when seeking capital. Remember, this is a professional process you are conducting with legal and financial processes.
One of the easiest mistake to fix is timing.
In their quest for sustainable growth, the elusive dream for most first time founders is that first funding. The idea of outsiders entrusting them with a million dollars to spend is intoxicating. This article is based on my experiences and the typical mistakes I see every week in startup land.
High growth startup companies need seed money to get things going. Without funding most tech startups will die. This can either come from the founder(s) own bank account or from outside investors.
They need the money to rent offices, hire staff, and establish their initial presence (website, incorporation, marketing). Most important is that they need to grow into a real company quickly.
The last point above is important — high growth. Without seed funding most startups seeking high growth won’t make it. They need too much capital to keep pace with the market and their competitors. Capital = Growth.
When launching your company there are 2 times to raise your outside seed funding, and one time window to avoid.
Option One: Before you launch — when you are just starting, probably no product or service yet.
Option Two: Once your product or service is up and running and gaining traction. In between those times it’s pretty tough.
If you’ve already soft launched, have a product available, are telling the world about your awesome company but don’t have revenue/user growth, you’re probably in the red zone. This is not a good time to ask for outside funding.
Option Three: Or don’t raise funding. If you’re bootstrapping, you don’t need to worry about either of these options. Your strategy is to create growth with little or no money. There are several great examples of technology startups that do this. Most grow more slowly, but the longer term growth curve can be pretty impressive. They also have the enviable lifestyle of no outside investors.
This article focuses on the first two options…
Option One: Raise before you launch (Pre-Launch)
If you take this approach, you need to have built a relationship with the potential investor — a cold inquiry (a common mistake) hardly ever works and you can ruin your first impression to investors. The “idea” must be well thought out, there needs to be a team or potential team, the presentation needs to be very good, confidence must be high.
At this stage you’re essentially selling yourself and your cofounders. You are being judged on your resume, trust and the excitement you can build. That’s why much early stage funding is “Friends and Family”; your friends and family naturally overrate you and/or can’t say no.
Also, people who know you from your career are great sources, if they have had success or other positive relationships with you in the past, and want to work with you in the future. They’re betting on you.
Pre-launch funding is pretty common in Silicon Valley, but that’s a unique case. There are so many Facebook/Google/Apple multi-millionaires who receive new stock options every quarter, often a few hundred thousand dollars every quarter, that feel they should put something back into the system, plus they like the idea of being an investor.
Statistically they usually lose their investment, but that’s o.k., it’s one step closer the the next winner. They risk money they can afford to lose. They are comfortable with “risk investing” more so than anywhere else in the world.
But to get that Silicon Valley angel funding you have to be part of that social network; most of the rest of the world doesn’t have that frothy environment.
Option Two: Post-Launch — Raise when you start getting traction
To me, this is the best time to raise your seed. You’re less vulnerable, pay less equity for your funding, and you have some very specific things to talk about.
PreCog Security, a company I am currently helping to build as cofounder, is taking this approach. As we prepare for our first funding we are assembling a value chain from partners and vendors to clients. Every day it gets a little better and our brand name gets a little more well known.
So far we have no office, minimal travel and other cost cutting, but we are slowly getting stronger and our outside funding needs are getting more strategic. And we will have plenty to talk about when we sit in front of potential investors.
When you delay your raise until post-launch it’s harder to get that early stage super-growth that’s required in some niches and you don’t have the good type of scrutiny from outsiders analyzing your moves. But you also don’t get the bad type of scrutiny, especially from friends and family.
You have the freedom to build your foundation and make very quick decisions. Also, if you can build a nice little group of advisors and partners you will have the added momentum from all those people as well as some potential future employees.
In summary, which is best for you depends on your skills, what you’re building and your own tolerance for no income. Whichever you choose, keep your eye on the goal, believe in yourself and your team, read a lot of inspiring articles and drink lots of coffee. Good hunting.
This article is an excerpt from an upcoming book about Startup CEOs by the author.
[This article is based on some assumptions: you have a business worth funding; you have the motivation that inspires investment; that you have access to a “reasonable” pool of funding.]
About 4 years ago, a good friend of mine asked me to help her figure out if and how she could raise some funding for her business. She didn’t have a “tech startup” per say, rather she was a UX/UI designer, and a very good one.
She wanted to raise money because she was starting to hire people under her as contractors to help her with her workload, which was designing graphics and interfaces for startups in San Francisco. The company has nice revenue growth, some proprietary software tools (CSS, Javascript) and a bit of cash in the bank. This is not a vanity business.
I said “Sure, that could be fundable. How much are you raising?” She just gave me a puzzled look.
People wonder if it was pretentious to assume a design firm could be fundable. I tell them absolutely not – if gourmet coffee is fundable, then of course digital design was and can be a fundable, scalable, “productizable” business. The real question: Is it scalable? If is that what you want – a bigger company? Investors? why? are you ready???
Those questions caused her to go away for a few months; that happens a lot when I ask questions. She eventually came back with some great answers to my questions. My only feedback was to double the ask; ask for twice the amount she felt she needed. That kind of shocked her again. Good.
Why ask for more? So many reasons. Costs are hardly ever lower than you estimate. It’s never good to run out of money, as we all know. Also, real investors know when you’re not estimating your costs correctly and that turns them off. Believe in yourself.
Often fundable founders don’t agree with me on this point. They say…
I don’t want to give up more equity
I can do it with less
Investors will say “no” if I ask for too much.
And here are my responses:
Fight for a higher valuation, use outside experts
Over estimate all costs
Be bold
If you wait until you’re running out of money it will cost you more. Also, you can possibly sell a little bit of your own stock to investors, give yourself a six figure bonus.
Here’s the intro on iBooks, Amazon and other online sites for my new book, released in April 2017.
– – – – –
Hacking The Core explains entrepreneurship in the tech startup world in a refreshing way. Pulling no punches, the author draws from 2 decades of experience as a startup CEO, strategist, M&A consultant and investor.
The book explains how to tap into the creativity and innovation that we all have hidden inside of us and how to apply it to launching and growing a startup business. It looks at all areas of a business launch to uncover areas of innovation, differentiation, design thinking.
Hacking The Core is based on principles of common sense, honesty vs. “fake it ’til you make it” and humility in success. It will show you how to lead instead of follow trends, how to create true disruption in and market segment.
There are several personal anecdotes from the author and explanations of his own motivations and mentors in his long startup business path.
Tom Nora is an entrepreneur, startup CEO, blogger and business mentor. He has led and mentored over 2 dozen venture-backed technology companies, 5 of them as President and CEO. He has extensive experience in funding, mergers, acquisitions and IPOs.
In 2011 Tom launched The Scalable Startup in Santa Monica, California to help tech startups launch and grow by providing mentoring, funding, community and strategy consulting. The same year Tom also started publishing the popular blog The Startup CEO.
In 2014 he decided to write a series of books on the startup world and his experiences. This was in response to the continuous requests for help he receives from early stage entrepreneurs and future entrepreneurs. Hacking The Core is the first of these books to be published, focusing on innovation and originality.
Tom is also a lifelong fine art photographer and oil painter.
By most measures, we are in crazy times right now in the tech startup world. We have thousands of new companies every week, hundreds of funding rounds over $100 million every month, and so many $1 billion exits or calculations that we’re getting used to them. A $1 billion valuation used to be a big deal for a web based company that wasn’t one of the top few.
Everyone thought Facebook was nuts when they walked away from such a deal. But now the funding seems to be flowing everywhere, at many levels, and that almost anyone who starts a startup will be successful, will be “big”. Unfortunately, this is very far from the actual truth; we just don’t hear about the 95% that fail and lose all of whatever money is invested.
The frenzy at these higher levels, and the continuous stories of first time entrepreneurs in their early 20s who magically start these amazing companies is creating a demand at the bottom of the funding market, like the pyramid schemes in Southern California in 980 (see below). Look out for this trend, put your wallet away.
Unsophisticated investors, which means family, friends, co-workers, etc. or also called triple-F – friends, family and fools, who have a few thousand dollars they would like to put into the startup “market” are the fuel at the bottom of the market that get things started. It can be anywhere from $5,000 up to $500,000. They help to make ideas into reality, hoping for the higher returns of the early investors. You’ll see many dentists, doctors, parents, Hollywood actors in the crowd. They have a lower probability of return, as expected, but now are losing their money at higher rates than ever before. We don’t hear about this much because they’re embarrassed; who wants to talk about it and admit that they made such a mistake?
This market is reminiscent of the rampant pyramid schemes in the 1970s. Here’s a description from Time Magazine June 16, 1980 issue:
For $1,000 each, 32 newcomers buy slots on the bottom row of a pyramid-shaped roster. Each new player pays half of his $1,000 to the person at the pinnacle, who ends up with $16,000. The new player also pays his remaining $500 to the person directly above him on the next tier, which contains 16 people. Since each person on that tier gets paid by two of the newcomers, he ends up with $1,000, thus recouping his original investment. As more people buy in, the players move up the chart. In time, theoretically, each person reaches the top—and $16,000.
Amazing, huh? The only problem was that the need for newcomers increases exponentially, thus the name pyramid. You needed 32 new people every night, and as the word spread new groups popped up everywhere in L.A. It fizzled out within a couple of weeks, but went on for years in other parts of the country.
Skip to 2013…
Two years ago in the California startup world there was a lot of buzz, or anti-buzz, about the impending pop of the current hyperactive tech market and unsophisticated spending of . The concerns took many forms, one of which was named “Series A Crunch”, another was the gratuitous use of the word “bubble”. Series A is the second round, the one after the seed or other small amount of ignition money. It’s the round that graduates of accelerators seek. It’s also “professional money”, not triple-f.
I remember being asked in a startup panel I was on by the moderator “What do you think of the Series A crunch?”. I replied, “Do you know what a Series A Crunch is?” She tried to explain but didn’t in fact know what it was. That was a sign to me of startup overhype, everybody mimicking each others phrase of the week.
Fast forward to today, 2015, when we’ve been in a possible “end of the boom” for over 3 years. We’ve been hearing the word bubble for that long, people trying to predict a crash, mostly out of envy for not being able to harvest any cash from this current crazy market. Seed funding is at an all time high rate and it has that scary phenomenon of feeding on itself.
There are a number of articles floating around again about the lack of Series A money in the market, which is usually required to take a company to ROI.
At the same time people are bragging about how easy it is to raise seed funding of up to $1 million. Almost anyone with a web based working “app” or mobile app can get funding. No business plan, no ROI. Sometimes you’ll need to show traffic/traction/conversion, but not usually. There are plenty of triple-F investors anxious to empty their 401K or add another mortgage, take a “risk”, for the chance at those 8 to 9 figure exits they keep hearing about.
This is also reminiscent of the late 90s when unsophisticated investors lost billions diving into the dot com boom just before it crashed fairly rapidly. The difference is now it’s not crashing so visibly. There are admittedly many more successful growth startups on the Internet than ever, the second renaissance of the web, but the statistics for success are much worse than ever.
If you look at CrunchBase, almost every day you’ll see a new funding of over $100 million. Almost every day. That’s enticing to a potential angel. You’ll also see several others from $10 to 50 million. This has become the holy grail for that 401K earning slow interest.
But here’s the problem. Most of these investments will return $0. Not 80% or 50%, zero. In this flurry of amazing new Internet startups, a higher percentage are failing after the seed round than ever before, probably close to 99% vs about 85% 20 years ago. That means almost every unsophisticated angel investor is losing their savings and adding new debt to their life.
Why will so many people lose their money and why is no one talking about it? Here are the reasons:
It’s very easy now “look real”, i.e to create and deploy an Internet and/or mobile app live on the web or a phone. I get pitched one every day.
We’re still in a terrible job market, no matter what the official statistics say. I’ve met more broke unemployed professionals in Beverly Hills and Santa Monica in the past 3 years than ever in my life. They have nothing to lose. Why not start company.
The Triple F effect. Friends, Families and Fools. Those are the people who will give you funding based on no actual research or due diligence.
Erosion of true self analysis. One very critical part of succeeding in a business is being able to critique yourself as a business. As part of the new startup world people are avoiding this process. It’s become a casualty of “fail fast” and pivot and other buzzwords.
The bottom line is that people with no experience or particular expertise in almost anything will most likely fail. So get some expertise involved before you go get that wire transfer of $100,00 for the son or friend or co-worker you want to help.
