It would not be surprising if a first-time user of this site, especially if they are a new entrepreneur, selected this stage to review first. The need to raise money is almost a universal requirement to start a business, and, in many cases, scale operations after the business has received external validation through initial customer purchases. However, in the scheme of things, this stage has been listed as the fifth stage in progression on this site. The implication is that many other issues need to be addressed before the pursuit external funding begins.
The article in this series, “You Can’t Raise Money with an Idea” probably says it best. There are, of course, some exceptions to this statement. Generally, they involve entrepreneurs that have a proven track record of success, or companies that have a patented or revolutionary approach to a problem that customers acknowledge needs to be solved and are willing to pay for, now. The vast majority of startups fall somewhere between these two exceptions.
Another article in this collection helps to support the focus on other stages first. That article is “The Three R’s in Investors”and describes the three R’s as Risk, Reward, and Relationships. Any potential investor must be satisfied that the inherent risk of their investment is warranted by the potential reward that they can foresee if the company does what it claims it can do. The third R, Relationships, is often overlooked but is clearly as important as the other two factors. Investors must have confidence in the company’s CEO before they will invest. In fact, many professional investors give more attention to the CEO and their ability to meet the company and market challenges, than they do to the other factors. Essentially, they invest in the CEO first and the company plan second.
With the above thoughts in mind, asking for money before the investor’s risk and potential reward are well understood will severely impact the relationship, which will, invariably, ending up with a “no” response to the ask. Aside from acknowledging the risk and reward issues, an entrepreneur should focus on external validation of their vision and claims. It follows the simple observation of “It is what other people do, not what you say that counts”. Nothing validates a business better than having customers purchase a product or service AND use it, AND buy it the second time. The more customers that meet all three criteria, the more investors will have confidence in the risk/reward ratio of the company.
The process of raising money from external investors is, unquestionably, the most competitive activity a company will ever face. The battles with competitors that offer similar goods and services is nowhere near as difficult. Few entrepreneurs realize the difficulty of this task until they begin the process and are regularly disappointed with investor’s refusals. What most entrepreneurs do not realize is the large number of other entrepreneurs that have equally strong beliefs in their business plans and are pursuing the same limited number of investors. Two examples illustrate this point.
A well-known and respected Angel investor group receives about fifty investment requests every month. Through a quick screening process, they filter the list to fifteen companies. From those fifteen, they choose one or two to present to their group every month. The group then makes investments in one or two companies every year! So, 50 applications per month, times 12 months equals 600 applications per year, and only one or two investments are made. Best case, this equates to a one in three hundred chance of attracting capital from this group of seasoned investors.
General Partners in venture capital firms may sit through five or so company presentations every week. Those who are lucky enough to be given that opportunity have already been pre-screened by the General Partners’ younger, but highly capable, Associates. Of those presentations, a General Partner will make one or two investments per year! So, 5 presentations per week times, 40 or so weeks per year, or 200 presentations per year yield one or two investments.
If the above numbers were not depressing enough, the long term track record for investors shows that only about one out of every ten investments provide excellent returns. Clearly, the entire process from both the entrepreneur’s perspective and the investor’s perspective is highly inefficient.
The natural and logical question of “Why even bother trying” is obvious. The answer is the entrepreneur’s passion and the belief that they are special and can be one of the success stories like so many others.
Unfortunately, passion and belief are not enough. Countless others are also passionate and believe in what they are doing. The difference is preparation. The articles included in this stage focus on the required preparation. There are no shortcuts.
