Cover the basics before you raise capital

No matter how many times I told my friend that he needed to get a deck together for a potential capital raise and model out some thoughts on market sizing and financials, I ran into resistance.  It was not because he didn't think it was important or that it mattered.  It was because he was understaffed and going 60 miles per hour trying to get a product released.  I can understand that pain but at the same time, if you want to raise capital from anyone, you need to have the basics covered.

Fast forward 6 weeks from that last conversation, and we ended up having a meeting with a "friendly" VC to receive some market feedback on where his company stood and what needed to get done to raise capital.  And sure enough, it didn't take long for my friend to be questioned on the revenue model, potential market size and opportunity, and how long the cash would last.  Of course, he did have some strong answers but they were not what the VC was looking for - it was not quantitative enough.  We all know that coming up with market sizing and revenue forecasts for a startup is as accurate as the weatherman predicting the weather.  That being said, VCs want to understand the logic behind the numbers as much as the numbers themselves. 

Overall the meeting went as I suspected it would - a VC who was very interested in the product but also highlighting the fact that the revenue model was not clear.  The kiss of death for me on the revenue side was when the entrepreneur said that he would monetize the company like Facebook and Twitter.  Hmmm?  We all know that Facebook and Twitter are unbelievable web phenomenons and suck up incredible user attention.  And yes I am sure that Twitter will find a way to monetize the stream of data flowing through the system and I am sure that Facebook has tremendous value.  That being said accumulating users and worrying about revenue years from now is yesterday's news.  Unless you have tremendous scale when you show up at a VC's door, then don't bank on ad revenue as your only revenue source.  We have seen the market numbers-overall online ad revenue declining but search revenue increasing.  In addition we all know that social apps on the consumer side have incredibly low CPMs and that you need massive numbers to turn into a business.  So if you want to get funded, you better have a clear answer on how you will make money and either be implementing that model today or in the short-term.  What VCs are looking for is a revenue model today that makes sense - this can include premium subscription revenue, analytic revenue, and even lead generation revenue, but don't ptich massive scale and advertising as your go-to revenue souce 24 months from funding.  You will be shown the door quite quickly.

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This post was written by who has written 358 posts on BeyondVC.

4 Responses to “Cover the basics before you raise capital”

  1. Adam Apr 2, 2009 at 10:16 pm #

    Ed, I think that the advice to cover the basics and get a plan down is solid. I do however wonder whether you are correct in saying that a company should not be thinking in terms of an advertising based business model. There are very disruptive forces at work in the world of advertising and media which are long term in nature and actually benefit from the downturn and to build a business that exploits that long term trend could be a very smart thing to do.

  2. Ed Sim Apr 3, 2009 at 5:59 am #

    Adam-well said. Yes, ad-based models can work tremendously in the long-term. The concern is that if you are raising capital and you pitch how big you will be 24 months from now and have no other revenue stream in the short term, it is a tough proposition in this marke. In addition, if I look at all of the companies that raised money during the last 3 years that pitched ad revenue as their home run revenue source, an incredibly small percentage of companies actually have enough users and revenue to warrant the ad model

  3. M Apr 4, 2009 at 8:22 pm #

    The mistake many make when starting a company is trying to shortcut some basic operating principles. The glow from a few high flyers (which usually crash) gives false comfort to start-ups that they can skip setting up accounting software, determining chart of accounts, locking in on a business model and having people write contracts against it. Doing your homework does not mean that you will miss out on scaling the business at the right time. Doing your homework means you might be able to see the moment of disruption years before it happens then plan for the disruption by finding customers for your future revenue model that will sign paid contracts. I spent 13 years developing a business model, bootstrapping, raising $17 Million through angels, signing up what looks to be like hundreds of customers, and locking in on the revenue model. Today we are starting to drive the investment process that will scale the technology. People are skeptical cause it took so long but those are the folks on the outside looking in. VCs will sometimes forget to give credit businesses that spend over a decade getting their revenue model ready. But in the end for a founder chances are you will only get to grab the brass ring one time so when you do make sure that it counts. Good advice on post. Advertising revenue as a driver for technology companies is a cop out. Usually means the founder has not spent the time to understand the true value of their technology or it is just a copy cat technology.

  4. Pjys Apr 18, 2009 at 8:01 am #

    Nice article. Similar one is here link to venturehacks.com

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