So, you’ve got a business idea. It’s ground-breaking. It’s going to change the game; it’s going to be revolutionary!
Now all you need is a bit of funding to get off the ground. After all, a start-up without funds is like a band stuck in the basement phase: Sure, your songs are catchy, and I’ll admit, the drummer has great hair – but if your fans consist of your mum, your dog and your girlfriend, you’re probably not going to be the next Rolling Stones.
Eager to get things moving, you wander into the world of Venture Capital looking to secure investment in your idea. However, with no guidance on where to begin, which investors to pitch to and which terms you should agree to, your great idea will just remain a great idea; a scribble on a napkin, a shower-thought, a 3am Eureka moment between dreams.
Every year, thousands of innovative ideas are wasted because of the mistakes made in securing funds at an early stage.
I mean, can you just imagine all the potential businesses that would have existed had the founders gained funding? By now we could have cat translation firms, companies selling reverse microwaves or maybe even square watermelons – in fact, these already do exist. That’s right, someone actually funded these….
So, if you’re a first-time entrepreneur looking to raise funds through the VC industry, you may want to bear in mind the following tips before diving head first into the deep end.
Don’t choose the wrong investor – be smart before you start!
When it comes to fundraising for your start-up, you do have a few options. Before you start, it’s essential to do some research into the Venture Capital industry as a whole.
Venture Capital funding:
The job of a Venture Capital firm is to invest in business start-ups who have high growth potential. By helping them to develop their business and increase profitability, the Venture Capital firm sees a healthy return on their investment.
The Venture Capital firm is made up of limited partners (those who invest into businesses) and general partners (those who manage the fund and work with you to develop your business.) In return for funding your start-up, they will take shares in your business and have a seat on your board. That means they will have a say in how your company is run and your future plans. After a few years, the investor will sell these shares back to you or to the public for a higher price than they paid for them, thus making a profit.
Angel investors are sent from heaven to help small businesses become successful. Once they have done so, the angel investor earns their wings.
Not literally, of course. But this does have some truth to it.
Angel investors are people who put their own finance into the growth of a start-up at an early stage, potentially helping by providing advice and assistance with business development. This could be a particularly well-connected individual you met at an event, a group of angel investors who have taken a liking to your business idea or even your rich old uncle who has decided to give you a helping hand.
In return for their funding, the angel investor will take shares in the business. If you profit, so will they. However, while the angel investor has equity, they will not have a say in how your business is run. You can take their advice, but unlike a VC firm, you don’t necessarily have to.
Both angel investors and VC firms come with their own benefits and drawbacks; and your decision on which one to choose will be based on your own unique circumstances.
Getting advice from a professional certainly won’t hurt. After all, this is a serious commitment. Making the wrong decision could end up harming your growth and hindering your success.
There is a plethora of additional funding options open to start-ups from private backing to government funding and you can find out more about these by researching the web or asking a trusted advisor.
Focus on how you will achieve your goal
When you pitch to a Venture Capital firm, it won’t just be your idea they’ll assess. What they’re also looking at is the strategy you have devised for attracting customers, driving profits and growing the business. That means there’s a lot more to think about than your initial concept.
Before creating a business proposal, consider how you plan to achieve your goals and what resource you need. (Tip: “by being awesome” is probably not sufficient at this stage!)
Remember, funding is a big deal for your start-up, but it’s also a big deal for the investor. By investing in your idea, they are putting some big eggs in your basket. If you drop that basket and the eggs go all over your shoes, the investor won’t have anything to dip their soldiers in. You’ll be left with an empty basket and a “hangry” investor.
Because of this risk, your investor will want to perform due diligence before committing to anything.
Due diligence is the process in which an investor checks out whether the claims you made are substantiated to measure the risk involved in investing. This might include researching your Intellectual Property, checking whether you’ve got a shareholder agreement in place, auditing your legal business structure and just generally making sure that you’re a squeaky clean, legally compliant, safe bet.
If you’re worried about an investor performing due diligence, don’t be. Its standard practice and there are specialist business lawyers that have extensive experience in this area that can help you prepare.
If a VC firm is interested in your start up, they might present you with an investor term sheet. Within the investor term sheet, you’re likely to see a “no-shop” clause (also known as an exclusivity clause). The “no-shop” clause states that from the moment the investor term sheet is signed, your start-up will not be able to ask for funding from any other investors for a specified period.
This is basically the “bagsy” of the Venture Capital world; a way for the investor to claim your start-up as theirs while they perform due diligence to make sure you’re worth investing in. This is normal practice and the majority of professional funders have reasonable “no-shop” time periods. However, its worth checking this out when you talk to a potential investor as they can be quite restrictive if longer than required.
It’s like going on a date with someone new and being asked:
“Can you give me a month to decide whether I fancy you or not? I just need to examine every Facebook post and photo you’ve ever shared. Oh and, during this month, can you promise not to see anyone else?”
It also makes sense to do your own due diligence of your investors before signing the term sheet. Make sure they’ve got sufficient funds to be investing in you, and that they don’t have a history of walking away from deals mid-way through. Professional investors will expect you to do this as part of standard best practice.
And remember, everyone makes mistakes, whether you’re a seasoned professional with multiple ventures under your belt or it’s your first start-up. If you find yourself making any funding mistakes, talk to an experienced professional, adviser or mentor and make sure you limit the damage, but also learn from your experience.
If you have a business idea that needs funding, get in touch with us. Our business lawyers are heavyweights of the industry and we understand the VC & PE markets and work with PE & VC backed businesses.
Each start-up will come with their own unique requirements and objectives, so having an expert assess your situation before pitching to investors is a good idea.