Money’s been flowing. VCs have been investing money at levels not seen since the bubble year of 2000. Entrepreneurs have been raising enormous amounts of money at valuations that assume years of future growth and eventual profitability. So what’s the downside of all this? That entrepreneurs mistake what they’re reading on Techcrunch as the reality for their own companies both now and for the foreseeable future. Raising money seems like a cakewalk, but that’s only because you don’t read about the failed financings, down rounds and recaps nearly as much as the unicorns and decacorns. And warning signs are emerging that the cascade of cash is about to end. The reality may be very different soon, and that’s something that we’ve emphasized to our Homebrew partner companies as they’ve hit the fundraising trail this year. Fundraising is confusing, frustrating and all-consuming at its worst and informative, exciting and rewarding at its best. But regardless of the process, we like to say that for all startups there are only two goals in the fundraising process: put money in the bank and maintain optionality.
Put money in the bank: The number one goal of fundraising is to get money in the bank so that you have the opportunity to solve the problem you set out to solve. If you’re fortunate enough to have a story or metrics that attract multiple term sheets, feel free to aggressively negotiate pricing, structure, syndicate partners, etc. But more likely is that you won’t have so many options and you’ll need to accept the terms you’re offered (more or less) so that you can live to fight another day. The number one cause of company failure is running out of money. And many times the key to winning is just surviving so that market timing finally lines up with your product or service. If you want to build a high-growth, venture-backed startup, do whatever it takes to push cash on the balance sheet. That way, you’ll be able to fund operations to hit the next set of milestones that will allow you to raise additional capital or achieve profitability.
Maintain optionality: It’s incredibly tempting to raise as much money as you can at as high a valuation as you can. All startups believe that with more money they will accomplish more in the same amount of time. But in our experience, constraint is what yields innovation and results. More money typically yields more spending. Companies often end up trying to solve problems by hiring more people and burning more cash. In the meantime, the bar for the next financing has been set much higher because investors expect to see greater results given the larger amount of money and the higher price at which it was raised. Everytime you raise money, consider that you’re cutting off possible paths in your financing/exit decision tree with every increase in dollars raised and valuation. While every founder envisions building a unicorn, the odds are that if your company is successful, that success will be at an exit value much lower than $1 billion. So why not approach your financing in a way that maximizes your options for raising more money when you have additional data that gives you the confidence to take more risk and double down on the business? Or why not maintain the option of accepting an acquisition offer or going public at a fair valuation and still generating incredible wealth for you, your employees and your investors? With a currently mixed exit environment (even for unicorns) and historical exit data skewing much lower than $200 million, maintaining optionality through your financing can be the difference between surviving or winning and the failed financings, down rounds and recaps that no one wants to talk about.
Raising large amounts of money has been glorified. Being able to do it quickly and painlessly has become the expectation. But the reality is very different and likely to become more so as the market adjusts to a reality with few exits and difficult to justify valuations. So just remember that at the end of the day, only two things matter when it comes to fundraising. Put money in the bank and maintain optionality. Give yourself the ability to control your startup’s destiny and take on more risk only when you feel ready.