Raising capital is a complicated process that can often be quite opaque, so it’s not surprising businesses can face confusion. The market changes frequently and investor expectations adjust with broader trends.
We’ve made a handy breakdown of the 5 most frequent misconceptions we’ve discovered while talking to businesses and investors to help you avoid making these mistakes.
Let’s dive in!
1. Investor expectations are the same for every round
Having completed one or two rounds of fundraising, it can be tempting to simply rinse and repeat for subsequent rounds.
Unfortunately, it’s not quite that simple. As your business progresses through rounds of funding, investor expectations and priorities will change, and a successful pitch requires that you change with them.
This means that, while you may get the construction of your pitch deck down to a fine art, it will have to address different issues in each round. For example, later stage funding focuses on financial due diligence and the story your business metrics tell. This means increasing scrutiny of your CAC (customer acquisition cost), LTV (lifetime value of a customer) and churn.
The further you progress through rounds of funding, the more investors tend to focus on the concrete over the abstract, and on your historical performance rather than your business plan. This makes it vitally important that you both know your business and these expectations well, and that you have considered these factors as your business has developed over the preceding months.
For example, at Series B, you can expect scrutiny of your churn as it is much cheaper to retain customers than to find new ones. While at Seed and Series A, when you are still proving a concept, investors are generally more concerned with whether you are seeing enough revenue to suggest customer interest.
As a result, you will want to know metrics like your NPSs (net promoter score) and have considered them long enough in advance that you can be confident they will be attractive to investors – you don’t want to put in all that work only to get the cold shoulder.
You may also want to consider the timing of these later rounds. While you will likely increasingly feel the pressure of running out of funds, ideally you should have good quarter-on-quarter growth under your belt if you are looking for investment opportunities. The investors 7PC recommend a 5-10% week on week growth during your initial few rounds of funding in order to demonstrate traction, though they note it will not be sustainable once you reach a certain level of market saturation. By contrast, unstable or choppy growth can lead to a poor valuation that will see you giving away a larger share of your equity than planned.
Different markets will use different core metrics, according to the way sales are structured. If you are a SaaS or any other business operating on a subscription model, a strong ACV (annual contract value) might be an important metric demonstrating sales repeatability where other businesses might favour NPS. Regardless of which metric you choose to focus on though, you need to be able to justify your choices, and be aware of how your competition might frame their own businesses.
Clearly then, it pays to know how investor expectations will have changed for each round.
2. Preparation begins with a pitch deck
While your pitch deck is a vital part of any fundraise process, it is certainly not the first thing you should consider.
There is a huge amount of preparation that comes before pitch deck creation. Very frequently, we encounter businesses rush to investors with a pitch deck, only to realise they haven’t done the necessary research, due diligence, or planning necessary to position and close a deal with the right investors.
Failing to do this preparation will not only cause time delays getting cash in the bank, fluffing an interview with a prospective investor can be a big problem. In most cases you will only get one chance to speak to an investor, and once they’re out, they’re out. The investor community is also quite small and very interconnected, making it important you don’t make a bad impression.
Beginning your pitch deck before you have prepared properly can also lead to a deeply flawed deck. Your pitch is a narrative that takes the investors from who you are to exactly how you can best leverage the capital you will receive into growing the business and producing results. This requires that you know your business’s key metrics inside-out; can give quantitative information around the size of the opportunity; and that you have done this planning and analysis to produce a well-thought-out plan for the investment. You will also want to do the market research necessary to properly explain your firm’s competitive advantage.
The best pitch decks are tailored towards their audience. This means researching potential investors beforehand to make sure your pitch deck will address all of their concerns and play to their interests. This research will also ensure you are talking to the right people – making it more likely that you will be successful and that you will have a productive relationship with those investors going forward.
3. Venture capital is the only capital
While VC capital (and Angel Investors at early stages) are the most widely-known forms of investment, they are not the only ones.
Venture capital can be lucrative, but this comes at a trade-off for control. It can also be expensive and exhausting chasing VC funds – making it well-worth exploring other sources of capital to grow your business so you can be sure you are getting the best value.
A bootstrapped business grows by not accepting any external investment in favour of ploughing all of their profits straight back into the business. This may sacrifice early returns for maintaining full control but obviously yokes growth to profit generation.
Other businesses find investment through crowdfunding platforms. These offer your shares more widely to the general public as non-voting shares, which carry less investor pressure. By providing a platform for founders and shareholders to buy and sell their shares, crowdfunding can also provide vital liquidity.
There are also a great number of debt-based products, from venture debt to ARR (annual recurring revenue) lending. These products are structured as debt, providing cheaper capital with less investor pressure.
Venture debt provides capital in the form of a loan. This allows businesses to fund growth without having to dilute their stake in the company. It also means that once the original capital (plus interest) is paid off, the business won’t have to keep paying out to shareholders. Therefore for a successful business, venture capital can be a lot cheaper than venture capital in the long run.
Venture debt does require a very solid financial foundation, and comes with the caveat that, should the business fail to make its repayments, the loaner might try and repossess assets and push the business into bankruptcy.
Revenue-based financing can also provide a valuable tool for future growth. It is similar to venture debt, in that once paid off there is no remaining obligation to your investors, but repayments are drawn as a share of revenue rather than as fixed payments. This means they will rise and fall according to the success of your business, allowing you to carry less risk.
There are a whole host of innovative debt products out there to explore, allowing you to find a package that suits your business. It might be that venture capital is right for you, but it’s worth exploring these avenues to make sure you are getting the most out of your round.
Eventually a successful scaleup will reach Series C and D funding. At this point the amounts raised can often no longer be fronted by venture capital alone and most businesses will start courting institutional investors from wealth managers to banks. These new investors have a lower tolerance to risk than earlier-stage investors and will require successful businesses to navigate a lot more red tape and undergo rigorous due diligence.
4. Investment is a good solution for cash flow problems
Too often, founders look to investment as a cure-all for any business woes they might be facing. Unfortunately, while funding can be used to develop products, expand teams, and deploy new marketing strategies, it is inadvisable to rely on it to solve revenue shortfalls.
The first problem with this approach is that investors will be looking to your revenue for evidence that your business is a good investment. Depending on your particular business model and stage of funding, they will have different expectations for where your revenue should be, but you will need evidence that your business is making sales. Certainly by the time you reach later stage fundraising, sustainable sales figures will be vitally important.
While some businesses, particularly tech ones, do sometimes spend a long time in product development – using investment to keep the lights on – this method has inherent risks. Spending a long time in development without trying the product out in the market not only damages revenue production, it can lead to poor product-market fit when you do eventually release your product.
Padding revenue short-falls with investment is also ultimately quite a short-term solution. Unless you use this money to make serious growth-oriented structural changes, you will likely find yourself in the same position again before long, but this time with discontented investors. Instead it can often be more valuable to spend the time you might have spent preparing for a fundraise looking at your customer acquisition, GTM or churn. At the very least, if you can improve these factors, you will be in a much better position when you eventually do come to fundraise.
5. Your innovative business should have no competitors
Businesses often portray their business as operating in a completely new market, when talking to investors. However, this frequently doesn’t have the impact the business intended.
Ultimately, any investor looking at a business is looking for a comparatively safe and lucrative return on their investment. One of the ways to ascertain whether a business can make a profit is to look at current market size, and measure the profits of this business’s would-be competitors. Blazing a new path is all well and good, but unless you can show investors evidence people will want to buy your product and that there is proven value in the market, you may struggle to get them to open their wallets.
While many businesses surge to prominence with products that are very different, appearing to create new markets around their business, they still compete with businesses in adjacent fields for customers. Identifying these competitors for investors can not only bring a lot of peace of mind, it also demonstrates understanding of the landscape your business will be operating in.
Once you have highlighted your competition to investors, you will also be in a good position to describe how your business model differs, allowing for a more developed argument in favour of your own business.
Avoid these common misconceptions and hopefully you will be in a good place to begin your next fundraise!
If you would like any more information on any of these points, or on the fundraising process as a whole, Invigorate provides a whole range of resources! We have plenty more articles on our website breaking down elements of the fundraising process, or you can sign up to our free platform to see dedicated workflows that allow you to tackle your fundraise step-by-step.
If you would like more tailored support, you can also get in touch with us here. Let Invigorate take the guesswork out of fundraising for you.