For lots of tech-based startups, raising investment is part of the journey. It’s almost a matter of course, a right of passage. Sure, you can do it organically and there are many who have (- look at 37 Signals), but it’s difficult to compete with funded competitors and speed to market is often your only and best protection. That requires a bucket of cash.
Angel Investors should be the first port of call for an early stage startup, although many wrongly start by approaching VC’s, having watched too many films or read too many TechCrunch blog posts about X startup getting millions from a VC. The reality is that very few VC’s are truly early stage investors, most are looking for your startup to have between £10k & £20k per month revenue before they will be interested.
Angels, also known as High-Net Worth individuals, have personal money to invest and often bring not only cash but a bag load of experience and connections. The amount of investment angels are able to invest varies significantly and can be anything from £5k through to millions. What they are willing to invest in your startup is completely different and will always be a question of the perceived risk reward return.
I have helped over 30 startups raise investment now and most of that has been from a combination of angels and private equity, so here are my golden rules that you break at your peril:
1- Equal – All parties to the investment round should be on the same terms. As soon as you start promising one angel special terms you are in trouble, because the others will find out about it – it will be in the legal documents for all to see. You can guarantee that when the other parties find out about the special terms that they will want exactly the same thing. So whether it’s fees, anti-dilution or extra shares for consultancy work, you need to be transparent with all investors and get agreement for any special terms for an individual investor. Be prepared for them not to be accepted by the others, though.
2- Mixing investors – Mixing fund investors and angel investors, although quite common, can be difficult because they are approaching with different agendas. Although those agendas may not be clear at the time, they certainly will be over the course of the investment. Fund investors almost always come with monitoring fees (10% of funds invested would not be unusual, anything higher is not good). Let’s say you have a fund putting in £100k and two angels putting in £50k each (so, a total round of £200k) and the fund wants to take out £10k in monitoring fees. The angels may not be very happy with this because they think you are really only getting £90k from the fund for the same equity as the angels £100k. For this sort of reason it can be difficult to have a mix. Try and complete a round with one or the other, not both (if possible).
3- Valuation – This is always a controversial and much debated aspect of investment. My golden rule for tech startups is that if you are pre-revenue then your max valuation is £1million. If you are pre-traction (i.e. few customers or users), then a maximum of £500k. Of course, there are startups who have achieved higher valuations with less, but they are the exception and not the rule and almost certainly there are other factors at play, like the CEO is a successful entrepreneur who has done it before. Also remember that if you go in with a high valuation then you are setting yourselves a very high bar to get over when it comes to your next investment round. You will need to show that not only have you got the revenue and traction that justifies your existing valuation, but you now have to have significantly improved those figures to justify an increased valuation. Of course, no one wants to lose big chunks of equity by having a really low valuation, but do consider your next round and what is achievable. For example, raising £100k at a 1.5million valuation is asking for trouble because you probably don’t have enough cash or runway to make the significant progress you will require to warrant a higher than 1.5million valuation for your next round.
4- Pipeline – Treat finding angel investors like finding customers. There will need to be chemistry between you and the angel for it to work. You should run it like you would a sales pipeline, because for every ten who says they are interested you will actually get money from just one. You are going to have to kiss a lot of frogs before your find your prince or princess. If you assume that your average angel is going to invest £25k and you want £250k you are going to have to pitch to 100 angels to get your round closed.
5- Time - However long you think it’s going to take, double it. A typical angel investment takes between 6-9 months to close – nobody moves fast. Try to create an artificial deadline that all need to meet.
6- Full-time job – Raising investment is a full time job for someone; the chasing of potential investors, pitching, follow up information and dealing with the lawyers – this takes most of your day. Dedicate someone to doing this within your startup and free them up to focus on it. I would choose the best sales-like and charming person in the team, even if that’s not the CEO.
7- Runway – You need to be able to fund your startup for at least 18-months as a minimum; anything less and you will be back on the funding merry-go-round as soon as you have closed. Here is the big risk – if you give yourself too short a runway and you have to go back to investors, then you need to be able to show progress to demand an equal or higher valuation. If that’s just 12-months after your last round closed, then the chances are you haven’t made significant advances and so your next investment raise becomes like a scene from Oliver, “You want more!?”. This is where startups get into embarrassing down rounds (i.e. valuation goes down rather than up), and your existing investors will be less than happy with this.
9- Tyre kickers - There are a bunch of individuals who are Angels by their own label, and not by the fact that they have made investments. Of course, every Angel has fitted that label at some point prior to their first investment. However, there are a group of people out there who have a different agenda but call themselves an angel, and usually they are looking for advisor roles or some form of consultancy agreement with your business, using the value of being an investor to get close to your business. Now they may indeed be helpful to your business but they are not investors, and you should politely tell them that once your round is complete you will pick up the conversation with them. It can take several meetings to unveil their true intentions which is a waste of time and frustrating.
10- Paying to find – There is a lot of debate around paying a third party to help you find investors and whether it’s a necessary thing or should be avoided. The reality is that lots of investors opt to sit behind a third party like an angel network, because the angel network filter opportunities for them and make things easier. Therefore, if you want to reach large volumes of investors, then you need to engage and pay these third parties for access. As a rule of thumb, never pay more than 10% of funds raised in fees, typical in the UK at the moment is 5 or 6%.
Good luck with your investment raising.
Simon Jenner, CEO Oxygen Startups