Published to YTech Runway on - 30 minute read
You thought of an idea for a start-up; you started to build a cool technology product; you might have even started a company and launched a product. Indeed, at one point or another, you began to deal with one of the most burdensome, frustrating, unclear, and unregulated processes, with amounts of disinformation that can drive even the supercomputers crazy. Yet, it is one of the fundamental and essential processes for building a technological start-up -- the start-up investment fundraising process.
In this tutorial, I will try to simplify and clarify the process of fundraising for a technology start-up, with an emphasis on the seed investment phase. This will be through providing a practical approach and working method with which you can start or continue your fundraising process with methodology and tools that will make your life a lot easier. Guaranteed!
Feel free to send this guide to your entrepreneur friends in the various seed raising stages.
Table of Contents
First, let us map out the various investment channels available in the market and relevant to the seed stage start-up.
The triple-F (FFF):
Friends, family, and fools.
A private individual who invests for the company's equity.
A multimillionaire family that has set aside some of its capital under a legal entity that invests in start-ups.
A private group of investors incorporated under one legal entity. Very similar to an angel's investment, but neater and more institutionalized.
Venture Capital Fund (VC):
An organized and institutionalized legal and financial entity, that has raised funds (investment round) from a number of different entities, of a total of tens/hundreds of millions of dollars. The fund is invested in several start-ups over several months/years (the fund's portfolio). The fund has an overall return on investment target, taking into consideration the failure rate of most start-ups.
A profit-minded investment entity that invests in several different verticals, including in start-ups.
A technology platform that allows start-ups to raise money from the "common man".
We all know or at least have read about the names for the different rounds of funding: pre-seed, seed, seed plus, investment round A, investment round B and the other letters. One of the most obvious things in the various stages of investment is that there are no clear definitions. Where exactly does the line between seed and A Round go? What is the value or values that define the seed round or round A? There are companies that have raised hundreds of thousands of dollars several times and are still not ripe for Round A fundraising through a standard venture capital fund. However, there are some start-ups that the initial investment amount that went into the company as a seed investment was $5 million or more. The values that were the benchmarks two or three years ago are not valid this year. The market movement raises the minimum investment level from year to year. If in 2014 a start-up could raise $1 million as a round A based on the Minimum Viable Product (MVP) and a business model, today VCs consider Round A no less than $5 million and the investment would be on the basis of an MRR of at least $50K plus, with the addition of some other tough parameters.
These market changes have created quite a few new opportunities for start-ups, but also quite a few problems, challenges, barriers, and pitfalls. But to put it simply, more private investors and different investor groups have entered the investment market covering the various start-up stages (the seed stage), as venture funds have become "start-up banks" with risk aversion, at a level I sometimes don't understand why they even keep the "V" (Venture) in their nickname.
As an entrepreneur, you should know:
a) Investor Market Research: A central and fundamental part of the fundraising process is your ability to answer a few basic questions. You need to dig through the internet to find the information required to answer these questions. Just like that, learn and familiarize yourself. Note that this is an investor market study and not start-up or customer market research. Here are some points to cover in investor market research:
b) Prospects: The collection of leads, which are the potential investors, is carried out regularly. It is important that you concentrate all the records in an organized and orderly manner, as it is very likely that you will encounter the same investor several times, at different times and by different leads. If you have problems with order and organization, you should put in the effort here, and if you don't, then you are dooming yourself to pointless headaches and mistakes.
c) The story/message: Tell the story, right! You can invent the next internet, but if you don't know how to tell the story and convey the message well, then you will continue to speak only to yourself. Your story needs to convey the message you need, the challenges, your solution, and the added value you bring. There are professionals who specialize only in this section, and I would strongly recommend consulting one of them by getting objective feedback on how you sound to new ears.
d) Investment marketing materials: Just as you don't leave home without an umbrella on a rainy day, don't you dare start an investment process without having marketing materials for investments, ready, proofread, and if anyone had any doubt - only in English. Remember that an important part of the process is you learning what works and what doesn't (details in the next section) and therefore the marketing materials for investment are not the Torah from Mount Sinai, and they must be updated regularly, and in some cases even make adjustments for a specific investor. Here are the main types of investment marketing materials:
e) Investor presentation: True, it's part of the previous section, but the investor presentation is worth a paragraph in itself. Different people, different styles, and yet it is worthwhile and desirable to keep the following skeleton:
Each presentation should be no more than ten slides. Do you have more than 10?! Not good. Delete. Less is more!
And two more tips:
f) The Launcher: From the verb "Launch". These are templates that are ready to be sent/emailed to an investor or finder. Besides the fact that it saves rewriting emails (or the confusion of fonts when copying/pasting emails into pieces of text), it's important to use a template for an investor. First, this is a quality, well-written, proofread email that includes all the important points you want to convey in the initial email. Second, when you use the same template, over time, you will see repetition in feedbacks, which will show what works and most importantly, what does not work in your messages. The launcher will allow you to update the source email and coordinate all versions of the emails you have sent.
g) Questions/Answers document: All investors' questions end up being repeated. Be a professional and prepare a document that concentrates all possible questions and answer them quietly at home or in the office. Build the ideal answer to any question with the right structure, wording, messages, and make sure to keep them short. The value of this document is invaluable. First, you will be perceived as professionals who can answer (almost) all of the investors' questions in a qualitative and purposeful way. Second, at the same time ask questions asked by investors, secretly you become their "interviewers" because with time and experience you will understand what is more important to them, what points and nuances they focus on, and accordingly sharpen your answers for subsequent meetings. This is a "living" document that is updated according to the feedback you receive.
h) Finder Management: An investment process without a finder involved in one way or another is like taking a shower without getting wet. They are there, and in many cases, they are the key to the doors you are looking for and need. At the same time, the lack of regulation, and the zero-entry threshold for the finder role have brought many charlatans to the market. Finder management must be done in a very thorough and defined manner; otherwise, you will find yourself getting into pointless friction, and it may even come back to haunt you after a few years. Read The Complete Guide to Working with a Finder that I wrote; it will cover the whole topic in a complete and comprehensive manner. Another important point is, in my opinion, that the use of finders is only relevant to unconventional investors. For accessing popular funds and angels, you are better off going directly through an intro venture or another investor rather than through a finder.
i) The Intro: The direct and first point of contact between you and the investor. There is no second chance for this first impression and this email. Whether someone has connected you or you sent directly, the email has one single purpose -- to lead to a meeting. Therefore, the content of the email, the message and its essence are not to (!) close an investment, but rather to bring you together with the investor. That's it. Formulate it accordingly and keep it short and to the point.
Below is a recommended structure for an email intro:
Here are some tips for your email:
j) The pitch: Usually, first meetings with the investor will take up an hour in a schedule. A standard meeting structure will begin with pleasantries; personal acquaintances (with Israelis they usually get straight to the point); followed by your pitch; the questions/answers phase that will be based on the investor's level of knowledge and interest; and the last part of the meeting will be feedback, including a request to submit material for examination.
However, once you have started your pitch, if you have not reached the top of your start-up after five minutes that means you are lost, and as a result, you lose the potential investor in front of you. Don't be mistaken, it's fine that the core of the meeting, which includes the presentation itself and the conversation with the investor, will continue for about 20 minutes, but once you've arrived at the stage to give the pitch, you need to make those in front of you drop their jaws and open their eyes in minutes. That's how you make a pitch.
k) The follow-up: In the first meeting, you covered all the important and critical points about you that the investor wanted to know, whether you shared this information as part of the pitch or through their questions. Naturally, the first meeting is the most critical of all the meetings that you will have. It's very rare to close an investment deal on the first date (it happened to me once, which is kind of like winning the lottery), so the goal of the first meeting is one and only - to arrange a follow-up meeting. It is your responsibility to send a follow-up email after the first meeting and strive for a follow-up meeting while understanding from the first meeting what the important points are for the investor and make sure to cover them. It typically takes up to two days, maximum three, until the investors return with feedback. The feedback can be divided into three types:
l) The logbook: The place where you keep thorough track of all your interactions with potential investors and funders. Most entrepreneurs don't do this, and in my opinion, this is a grave mistake. Orderly management of the investment in the logbook gives you abnormal power and understanding of the matrix. In the next section, I will elaborate on this issue in depth.
m) The foreplay: The step that comes after the intro which lasts until the due diligence phase. This is the stage in which you and the investor, each from his/her own perspective, examine and discuss the future relationship. Each side has its own considerations, alternatives, desires, and preferences to take into consideration when deciding whether to take the relationship to the next level or end things. As we already said, you will get a lot of "no", which also has many interpretations (see next chapter), but the best way to deal with this step is to be yourselves! If you read the guidelines in the previous chapter, you know that you should be authentic, transparent, and maintain healthy communication.
n) Term sheet: A simple and short document that you will receive from the investor showing the future investment fundamentals. This is the first official legal document that brings you to the investment line. The next step will be due diligence by the investor and of course the negotiation of the investment agreement itself, so from here the question posed to the investor changes from "why should I?" to "why not?", so from your side try not to mess things up. My tip at this point is, if there is nothing critical or unrealistic in the Term Sheet (such as a "hostile takeover of the venture and throwing the founders to the river") do not enter into negotiations and friction over the term sheet, it's unnecessary. You will have enough time and opportunities in the negotiation stage to discuss the fine details.
o) Data room: A library containing all the key documents of the start-up, ready to be shared with the investor as part of the due diligence process. This section alone is worth an article in itself, as it differs from the perception of many entrepreneurs that "everything will be okay, we'll prepare and send everything when requested", the importance of the data-room being ready, orderly and high-level in advance is critical to a smooth process and success of the investment process.
p) Due diligence: As we covered in the first chapter, according to the type of investor, you can anticipate the kind of due diligence you are going to go through. It is very important to do this process in a thorough, high-quality and transparent manner. The more organized and professional you are, the smoother and more positive the process becomes. Another point is that since the documents in the data-room are an appendix to the investment agreement, lack of information or incorrect information (even if it is an innocent mistake) can lead to legal problems in later stages. In my experience, assuming that you performed the previous phase (preparing the data-room) professionally, the due diligence phase should go quickly, smoothly and even add to the positive impression that your investors have on you.
q) Negotiations: This is the stage where each party will try to maximize its profitability when it clearly comes at the expense of the other party. The negotiations stage is very complicated, full of nuisances, corners, and many consequences which you will only experience in a few years. We can write and discuss endlessly on this stage but remember that the most important rule in negotiations is not necessarily whether you succeeded in getting everything you wanted, but rather the flow and direction. As long as you and the investor are moving in the same direction, it will be possible to overcome any obstacle. So, choose your battles wisely in order to win the war.
r) Signing Off: Congratulations, you signed the investment agreement. The good news is that you've earned a week of sleep, the less good news is that after you wake up, you return to the starting line of the process.
s) Post investment transaction: Nor signing the investment agreement, and nor receiving the money in the bank account are the stages when you have complete the investment process. There is another stage, and that is the post-investment transactions. It includes, among other things:
t) The big picture: Good management of the seed investment process is due to the entrepreneur's ability to delve into the small details, lead a specific meeting with a specific investor and provide some type of information, and in the same breath "get out" and view the whole process from the bird's eye view. Understand the true positioning and visibility of the start-up vis-à-vis potential investors objectively, while responding and improving tactical processes in order to maximize results.
The main challenge - managing the campaign
There are dozens of challenges and difficulties in the seed investment process of the start-up, but there is one major challenge that if you manage to master it well, the rest of the challenges become controlled and relatively easy. I call this challenge -- the management of the campaign.
During the various investment processes in the start-up, the entrepreneur will meet hundreds of investors of various types, funders, leads and strategic players. Most entrepreneurs make the same mistake and are managing the investment at the single investor level, as a sprint, as if they were the only saviour on earth for a start-up. In a military analogy, they wage a battle and not the whole campaign.
Entrepreneurs at the outset usually shoot in all directions and try to fundraise from every possible source. When someone expresses interest, they become laser-focused in their correspondence, continuously and intensively for several days or even weeks. But then when the opportunity fails (which happens in most cases), the connection disappears at once for several months/years or even forever. During this time, the entrepreneur loses his broad perspective.
If the investment process was only in front of one or a few investors, it would be okay. But what happens if we were talking about dozens or even hundreds of potential investors, at different times, with different messages, for different amounts, and for a period of months or even years?! It becomes tricky to keep track of everyone.
Another layer to the challenge is that while you forget the specific interaction you had with a potential investor after about a year of discontinuing your relationship with him, he remembers you. And he definitely remembers why he didn't invest. Life happened, and once again, your paths crossed, and you must now proceed from the same point where the previous conversation ended, explaining your progress since that conversation. Sounds easy?! Try to accurately track 200 potential investor calls spread over the years. And that's before you even tried to connect all the parts to the big picture.
The big picture
I explained earlier (Chapter 3, Section 18) what the big picture is. It is a serious challenge to understand the big picture while managing the investment process for a number of reasons:
Seeing and understanding the big picture is critical in the fundraising process, as it helps you see the "Matrix", thus achieving three important points for fundraising success:
The healthy approach in the investment process is from macro to micro. Assuming that you completed in a quality manner all six steps laid out in Chapter 4: Market Research, Marketing Materials, Data-Room, Story/Message, Launching, Prospect, then you have a solid and high-quality foundation for engaging with investors.
The basic concept is that for every potential investor, the methodology would be:
When managing the investment process, dozens of leads and prospective investors need to be executed simultaneously, alternately, and over a long period of years.
Quite a few entrepreneurs come with the attitude of "bang and we're done", with the thought that the first meeting will conclude the entire seed investment process with signing a check right after the first pitch. To me personally, this happened, closing a 500k Pound seed investment on the first date in less than 60 minutes. And I still say - don't let the various publications of one or the other entrepreneur cause you disappointment that it doesn't happen with you. Serial entrepreneurs with deep, long-standing investor relationships can raise a seed of a few million bucks after giving a presentation, but for most entrepreneurs, the process takes many months and even years.
When embarking on the seed fundraising process, and while working with the methodology I mentioned above, think long term. Here are some guidelines for proper strategic thinking:
Know the field
Entrepreneurs at the outset make the mistake of turning to investors without knowing "how an investor thinks." Don't expect to raise capital by "bursting into the room" proudly delivering your pitch while investors start pushing bills into your laptop. You might bring cool innovation, but you still need to speak their language. Or as they say - "You have to fall into the right slot". In the end, you are a horse that the investor is going to bet on to reach the finish line and provide an investment return, according to his financial plans. You have to understand these financial plans and understand what "slot" the investor is looking to fill.
In quite a few cases, new entrepreneurs do not know the basic terminology of the world of entrepreneurship and investment in start-ups. As a basic part of your preparation, you must know the full range of terms in the start-ups and in the investment world such as LTV, MRR, ARR, ROI, calculation of the return on investment, multipliers, and dozens more. Your lack of knowledge will stand out with the investor, and you will lose points, so don't fail over the small things.
How do you learn the terms and terminology?! Two main channels:
One of the basic guidelines in raising seed is that it is not "for the faint-hearted" (see chapter 3). But even the Rambos between us will occasionally cross their breaking points in the capital-raising process. This is because of the simple reason that the fundraising process is inhumane. The following are a select number of events, seemingly extreme and unreasonable to the average person, and yet are common and important parts of the process you will go through on the path to money:
No matter how much you want to explode in anger at the injustice done to you and in some instances even a strong instinct to move that person to 404 status, the way to deal with all the cases is the same - to breathe, learn, and move on. Just disconnect the emotion and move on. Even though at the time you thought it was the best and hottest source in the world to receive your long-awaited investment, currently your focus is required on other investment channels, so swallow the frog, and move on. Remember you are fighting a war, not a battle.
Understanding the "No"
As you have already experienced, or at least understood so far, you will get a lot of "no". More so, you will get so much "no" that you will not remember if "yes" exists at all. Your responsibility is to understand "why not" so that you can improve for the next times. Here are some points that can clarify the different situations for you. In any case, remember that as human beings, you are not always objective, so it is important that you be as honest as possible with yourself and be attentive to feedback. Otherwise, you are only fooling yourself.
If to go back to the main challenge - The management of the campaign, do not get excited and a pivot after any investor who told you "no" and gave his opinion. But assuming you build and manage the big picture in a responsible and realistic way, you will recognize trends in the "no" s you receive. And this is my entrepreneurial friends, a red flag pointing to your Achilles heel. Take care of it and only then continue.
The ideal investor
Who is the ideal investor? The one with the most money? The one with the widest network? The "famous" investor? Maybe the "added value" investor? As with any relationship, communication is key. Investors are not a bank; they are (almost) a Catholic wedding. Your investor on most days may be the most loved person in the world, but when the crises come (and it will), the investor could potentially be the one to crash the start-up, whether directly or indirectly. Here are some points to consider about the hidden weight that seed investors have, which are the first to join the venture:
At the end of the day, for all investors, the colour of money is the same. As an entrepreneur looking for a seed investment for a start-up, it is clear to you and me that you are like a man in the desert who is looking for water and being picky is not on the agenda. However, when you are looking for a lump sum capital investment, do not look for money, look for the following:
And one last point to finish. It takes two to tango. Although the investor is putting down money, the burden of proof is on you. So, deliver as you promised.
Know about CRM for Customers?! So here is an IRM for investors.
There are quite a few existing systems in the market that can functionally serve as a tool for monitoring and controlling the various investors and leads, but personally, in the end, I found that simplicity is best, and the "Excel" system that I built has been with me for six years now and with great success.
The system helps me monitor and keep track of the various investment processes, based on the information, the basics, and the methodology I described in this guide. Working with this "system" will significantly improve your investment process, including leveraging your positioning with investors.
The system structure, the working method and even the template file of the system for your professional use - I will write and publish soon. So stay in touch.
Hope that with this guide, I was able to clarify and help you with the investment process, if only slightly.