August 19, 2014 | 5-minute read (944 words)
I’m not trying to be an alarmist, but honestly startup fundraising can oftentimes feel like you’re navigating a minefield: one false step and the money blows up! That’s why you need to be clear on what you’re looking for, where to look for it, and what you need to get it.
You start the process by targeting the right investors, seeking connections for warm intros, and then doing your research and homework to prepare yourself for investor meetings. For more details on this process, check out my previous post 8 Tips for Making Real VC Connections.
Assuming you’ve done all this, you’re on the right track. But at this point, there are still many mistakes you can make that can sabotage your fundraising process. From my perspective as CEO of Early Growth Financial Services, so many of the worst funding mistakes have to do with the way companies understand, monitor, and communicate their financials—or don’t.
Here are some of the most egregious financial fundraising blunders, and how to avoid them.
1. No clear funding objectives. If you want an investment, you need to be clear on how much capital you need. This may seem obvious, but I can’t tell you how many companies I’ve seen who miss this step. This is why milestone fundraising is the way to go. Figure out how much money you need to get to the next milestone (whether that’s getting out a beta product or some other discrete achievement). Then determine how much capital you’ll need to hit your milestone, from operational costs to essential professional services. This is your magic fundraising number (plus a little cushion built in for comfort).
2. Seeking funding too early. Don’t be too quick to raise money. Bootstrapping is a viable option for many, many companies. The sooner you sell equity, the more it will ultimately cost you in loss of leverage and dilution. Early dilution is offset by valuation increases, but early funding just ups the ante and is often a poor move.
3. Not providing a cash-flow analysis. Potential investors want to see that you understand your cash flow and how you intend to spend their money. Carefully monitor your cash in and cash out. Use these numbers as the foundation for your business decisions.
4. Overestimating future revenue. Financial projections are essential. While a top-down financial forecast can be inspirational, it is really just a bogus means of generating unrealistic numbers. While some investors might want to see this, be sure you back it up with a more substantial and reliable bottom-up forecast. For more information on top-down versus bottom-up forecasting, check out my previous article: Bottom-Up vs Top-Down Forecasting: Realistic Financial Planning.
5. Underestimating your variable expenses. While fixed expenses are those that will stay constant and you can expect to pay consistently, variable expenses will vary depending on your level of business activity. Of course there’s no way to definitively account for all variable expenses, but you can identify key variables, take them into consideration, and factor them into your calculations—because if you don’t understand your total costs, how can you be sure that you can cover them?
6. Not using GAAP (Generally Accepted Accounting Principles). To keep track of money in / money out, you need a dependable accounting system. Using GAAP standards ensures that you have reliable accounting information on which you can base important financial decisions. GAAP statements are essential for investors. If you need help with these standards, this is a good time to hire an accounting firm for support.
7. Raising too much money. I’ve said this time and time again, but it bears repeating: more is not better. Really. Raising just what you need is capital efficiency: a much more telling indicator of your company’s success than capital access. Not to mention, the more capital you raise, the greater your dilution.
8. Raising too little money. The flip-side here, of course, is not raising enough money. Again, milestone funding is the key here. If you have mapped out the next milestones you want to achieve—and what you will need to achieve them—you should be clear on how much you need.
9. Not using your financial model to create a narrative for your business. It’s important to calculate your startup costs, to create financial projections, to analyze your revenue potential, etc. These financial calculations are important for your business. But numbers alone don’t tell a very interesting story. It’s your job to connect the dots for potential investors, drawing a compelling line between the financials and your company’s future.
As you can see, financial management isn’t just about tracking your accounts payable and accounts receivable. Your finances are woven into every aspect of your business. Whether you’re looking for your first funding round or are further on in the game, understanding your finances is key to avoiding major funding mistakes.
What was the biggest startup funding mistake you made? Tell us about it in the comments section below or contact Early Growth Financial Services for a free 30 minute financial consultation.
David Ehrenberg is the founder and CEO of Early Growth Financial Services, a financial services firm providing a complete suite of financial and accounting services to companies at every stage of the development process. He’s a financial expert and startup mentor, whose passion is helping businesses focus on what they do best. Follow David @EarlyGrowthFS.