There are many ways that a company can be financed. After a start-up has exhausted any self-financing options, the directors have run out of friends and family, and the business loan has run dry, then external investment is the next step.
If your business is in a similar situation, it’s here that venture capitalist firms (VCs) can provide the financial boost to give you the investment needed to fund your high growth start-up.
But it can be complex working with venture capitalists and the process is often lengthy. So, here’s what you need to know about working with VCs.
How Does Venture Capitalist Funding Work?
Venture capital is money put into a business in exchange for equity – typically while it is still privately owned. The venture capitalist making the investment can be an individual or a group of people working together, and the partnership between the two will be long-term.
The investment is negotiated by both parties so that it both provides the funding that will enable the company to grow and also gives the venture capitalist a good return on their investment. Often the start-ups involved are fledgling companies. But those chosen for investment will have a good business plan, a great management team and the right market opportunity at the right time.
Because they are taking on a large amount of risk, they want a correspondingly large reward. The companies may not have a track record, so to achieve the high rate of return on the investment, VCs typically seek a large ownership share of the business. But in the same way that “Dragon’s Den” investments work, they have a vested interest in the company’s success, so are often willing to support the business with strategic and advice and practical help – on top of the financial input. This added value may come in the form of providing some additional perspective, or through putting the management team in touch with other, complementary businesses in their portfolio or they may be able to introduce the company to prospective customers.
When Is the Right Time to Seek VC Funding?
When to finance a business through VC funds is different for each company and there is no right or wrong time.
But it’s clear that you will need to have met some minimum milestones before a venture capitalist will seriously consider you.
Firstly, you will need to have assembled solid founding team, preferably covering the main functional areas of a business – like product/operations, finance and accounting, sales and marketing, IT and HR. In many start-ups, these roles are undertaken by just a handful of people, with each founder taking on more than one aspect of the business. Your management team is key to the success of the business and the VC will look closely at the track records of your company’s major players.
Secondly, you will need what’s known as a minimum viable product (MVP). In technology start-ups, the MVP is an early version of the app or software that has enough features for it be attractive to initial customers. This avoids too much lengthy development time but allows for some early adopters to give their feedback on how they are using the product and what their future requirements are – which can then shape the product roadmap, with the company developing the product as they learn.
Finally, you need some customers. While you may not yet be profitable, the venture capitalist will need to be convinced that there is a solid market for your product and that the company has strong growth potential.
If you have all three of these and are set to grow rapidly and potentially disruptively, then you are prime for VC funding. Your start-up costs will be considerable and you will need investment to allow you to quickly grow your development team and to market your product.
Preparing Your Pitch
Venture capitalists see potential businesses all the time. So, even if you have the foundational team, a great idea, a working product, and some customers – you still need to stand out.
Most introductory meetings start with the business presenting themselves to the potential investor. This requires a pitch deck – a presentation. This should be an overview of your company and should summarise aspects of your business: your team, the business plan or model, the market and the opportunity you have, your performance so far and your sales forecasts. Vital too is the amount of funding you are looking for – and how you propose to spend it.
Targeting the Right Venture Capitalists
VC individuals and firms will focus on certain types of industry – be that SaaS technology or fintech or AI or environmental businesses, and so on. So, the initial decisive factor is to find VCs that invest in your type of business.
On top of this, many will also specialise in funding companies that are at a certain stage in their investment – perhaps providing seed funding or early-stage funding, or later rounds – the series, A, B and C funding. Research the options carefully to find VCs that match your stage of business.
Do some due diligence on them by investigating their business in more detail. What other investments have they made? How have those businesses fared? What sort of added value was the VC able to bring?
Once you’ve prepared a shortlist of venture capitalists, you can reach out to make appointments to see them. You can approach them directly – via email or telephone – of via a mutual contact in your network, of you have one.
When a venture capitalist firm expresses interest in investing in your company, they will submit their term sheet.
This covers the preliminary terms of the financing and sets out the VC’s offer, detailing these main areas:
- The proposed investment sum and the number of shares the VC wants in return, based on its valuation of the company and its assets.
- How the voting rights, corporate governance and decision-making within the business will be allocated between the founders and the venture capitalist investors.
- What will happen if the company goes into liquidation, is sold or dissolved, who will be prioritised, and in what proportions, to receive any payments from a sale.
- The length of time that the investor is prepared to commit to its investment.
At this stage, these terms are non-binding, but are more like a letter of intent or a working document, on which both parties can base some more thorough negotiations.
Completing the Due Diligence
Once terms have been negotiated and agreed, the venture capitalist will undertake the necessary due diligence on your company. They will conduct a thorough appraisal of the company to ascertain what its assets and liabilities are and to estimate its commercial potential.
You should make sure you are fully prepared for this stage. Have all the documents and evidence ready and available for scrutiny. This might include customer contracts, employee and customer records, legal and compliance documentation, financial reports, IP and product technical details. Try to anticipate everything that the VC will want to see and provide it in a readily accessible format.
Make yourself and your team available to guide and facilitate them throughout the process. You know your company inside out and it’s your job to help convey that knowledge to your investors and to ease their fact checking processes in an organised and professional manner.
To find out more about how NoBlue and NetSuite are driving next level growth for businesses in the software and fintech industries, download the brochure or contact us for a demo or a tailored quotation.