Startup Fundraising 101

Basics on the startup process, raising capital, and thinking about valuation.

Bernard Moonbernardmoon.blogspot.com

June 2009

1

Overview

• Get Things in Order

• Packaging Your Startup

• How Much Do You Need?

• Who Is Your Ideal Investor?

• How To Think About Valuation

• Pitching Your Startup

• Last Food for Thought2

Get Things in Order

• Establish your team

✓ Define core skills needed

✓ Know your weaknesses

✓ Go lean and mean

✓ Trust is essential

3

Get Things in Order

• Discuss and decide on equity

✓ Do not nitpick on each team member’s value

✓ Among peers an equal split of shares is best

✓ Create a C corporation, not a S corp or LLC.

4

Packaging Your Startup

• Create a solid team

• Target a big market

• Build an advisory board

• Sign strategic partners or blue chip customers

5

How Much Do You Need?

• Project how much money you need for one year

• Add a 30% buffer

• Fundraising will take 6-9 months. (current climate 9-12+ months)

• Angel (seed) or venture capital (Series A)

6

Who is Your Ideal Investor?

• Capital needs dictate investor type

✓ Micro-seed capital. < $100,000 (i.e. Y-Combinator, TechStars, friends & family, savings, Visa/Mastercard)

✓ Seed capital. $100,000 - $2 million (angels/angel funds, i.e. Baseline, Harrison Metal, Keiretsu Forum, Omidyar Network)

✓ Series A round. $2 - $10+ million (i.e. Accel, DFJ, Kleiner Perkins, Sequoia. $2 - $5M for online startup and $5 - $10+M for a cleantech venture)

✓ Smart money is best. At some point you need money in. If not smart, then a hands-off investor is second best.

7

Who is Your Ideal Investor?

• Ideal Seed Capital Deal

✓ Convertible Debt. Promissory note that converts to equity upon the next round of qualified financing, which should be a Series A. Better than equity financing since there is less dilution.

✓ Deal hurdles. Qualified financing is a standard minimum (i.e. $1 million), and no backstop provision, which sets a time limit (i.e. one year) for closing your next round.

✓ Deal Terms. Interest of 6%-8% and warrant coverage 20% but can go up to 40%. This is the gravy for angel investors taking the risk early on.

8

Who is Your Ideal Investor?

• Research and target your investors

✓ Learn about their preferences for startups

✓ Avoid people or firms with competing investments

✓ Get to know the lead partner/investor on your deal

9

How to Think About Valuation

• Startup valuation is an art. Forget DCF (discounted cash flow) and other valuation methods.

• Venture capitalists have their valuations. VCs have standard ranges for each stage to optimize their return on investment.

• Increasing your valuation. The way to increase your valuation is to create a dog race not a show where you’re the only dog, or be incredibly compelling as an investment opportunity.

10

How to Think About Valuation

• Pre-money & post-money valuation. This is the basic framework of startup funding.

✓ Pre-money valuation. Share Price * Pre-money Shares

✓ Post-money valuation. Pre-money valuation + Investment

✓ % of Ownership. Shares Issued / Post-money Shares

• Not just about % but about share price.

11

How to Think About Valuation

12

Pre-money Post-money

$4 million $6 million

4,000,000 ($1/share) 4,000,000 ($1/share)

0 2,000,000 ($1/Share)

Valuation of Startup

# of Common Stock

# of Preferred Stock

• Stock option pool. 10%-20% will be set aside for current and future hires during your Series A. Most VCs will ask for 20%.

✓ Push back on 20% if not needed. Know who you need to hire during the next stage of growth.

✓ This is additional dilution. Most VCs will dilute you before their money goes in. Unless you’re Marc Andreessen and get VCs and the founders diluted at the same time.

Pitching Your Startup

13

• Tell Your Story. It’s about telling a story of momentum, vision and your team. You have to gain the trust of investors in your product, team and the market potential.

• Don’t oversell. Don’t oversell yourself or your company. There is a difference between presenting with passion and selling too hard.

• Listen to all feedback and continually improve. Whether an investor expresses interests or rejects you, listen carefully to all feedback and concerns. There will be valuable nuggets within those streams to gather and improve your business upon.

Last Food for Thought

14

• Too high of a valuation can turn off future investors.

• Don’t spend too much time negotiating terms. At the early-stages, terms are pretty generic so stay in range and you’ll be fine. Just be watchful of onerous terms.

• Each time you close your round it is a race to optimize your value. And it is a race toward profitability. If you slack off, your $6 million startup might see a $10 million valuation for its Series B vs. $20 million.

Last Food for Thought

15

• Raise as much money as possible.

• Value every penny. Know all your expenses, burnrate and runway. Don’t charter a helicopter for meetings, launch a China office on a whim, or hire 200 people in 2 months. A few million isn’t as much as you think.

• Writing a business plan is a good exercise.

• Focus your product and service. Don’t try to be everything to everyone.