Struggles while raising VC funds!
There’s nothing easy about raising venture finance for a startup. The odds are massively stacked against the founder. According to research, only 1 in 100 startups successfully pitch to a particular venture fund. One should keep in mind that venture finance is just a small step in the startup story. The vast majority of startups get funded from alternative sources like loans from banks or initial cash injections from friends and family, or from crowd-fundings. It should be noted that 75% of startups that achieve an exit either via trade sale or the public markets never raised their venture capital. However, venture capital does play an important role in funding a particular class of high potential and growth companies.
- Insufficiently aggressive Most Entrepreneurs do not fully appreciate venture financing. The model really only works if the venture firm finds higher returns. This means that the founder must have a big vision and a desire to build a big company and push for a bigger exit. VCs say they need to believe the company can be a €250m exit or a €500m exit. The model of venture funding literally does not work unless they can find some of these companies in their portfolio, so each investment they make as a VC must be based on a conviction that the company could be that successful for their valuable investment. This means the founder’s plans need to align with this big exit potential. If the founder shows nice, steady revenue growth, getting to €5m a year sales after 5 years and pitching a potential exit of €50m then this is not a VC-backed company.
- Too aggressive Of course, it’s all too easy to pitch amazing hockey curve sales numbers. Rationality is the key here. You need to have a model and a rational argument backing it. The model comprising sales growth, the number of customers, lead pipeline, pricing growth, etc. is the basis for the conversation with a potential VC. The founder will have to debate it with the target VC, and unless you can back up your assumptions with good intuition and occasionally some facts, then it’s hard to believe it to be credible. The model is more important than the final number it underpins. With a good model, both sides can ask themselves “what if” questions, which gives scope for optimism to push deals across.
- Cannot articulate the customer value proposition It is astonishing how often founding teams have difficulty in understanding the pain point of the customer and how their solution actually solves that in a meaningful way. One needs to be able to put themselves in the place of their customer, feel their pain, and have enough understanding of the customer’s business and processes to be confident that their solution is appropriate, effective, and deployable. Sometimes the pain point isn’t really a pain point or is not a priority for the proposed customer, or other times the proposed solution would bounce off the organization, that is it might require too many changes to existing systems if they want to adopt it. In an ideal world, the product that solves it is a priority for the customer if it is close to what a customer would choose to build for themselves if they had enough resources and where the cost of adopting corresponds with the scale of the pain point it addresses.
- Lack of clear leadership and delegation There’s no greater turn-off by a founding team where the founders are fighting to be heard or worse, contradicting each other during the pitch. The founding team needs to draw a clear line of responsibility, authority and they need to demonstrate their understanding of the need to grow a team, bringing in the top talent into a structure. During a pitch, one quickly gets a sense of this. One not only likes to see a clear leader who drives the narrative but also defers to others on the team for their specialist input.
- Major gaps in market understanding It is relatively easy for a team to present big numbers for the size of their target market. It is much more interesting for a VC when a team can credibly walk through a bottom-up marketing sizing to identify their particular market, the type of customers they are targeting, how will those customers buy, any alternatives a customer has, how much will it cost to get the correct routes to market and the margins that are possible. A classic gap in understanding would be a failure to realize a dominant channel that entails a very different cost structure. Therefore, having someone on the team that comes from the specific market and is a domain expert really helps the company. It is equally important for them to have a real intuition for the dynamics of the targeted market and the value chain one needs to align with.