Often as entrepreneurs, we have audacious goals to become the next ‘unicorn’ start-up and hopefully in the process, change the lives of billions of people around the world who use our product or service.
But if we want to become a ‘unicorn’ company, we need to start acting like one long before we ever reach that status.
There are two common terms you hear in the start-up space ‘bootstrap’ and ‘venture capital’ (VC).
It’s a common concept to think you need Venture Capital funds to be able to become a unicorn and while that may be true, it’s important to bootstrap for as long as possible before seeking outside investment be it friends, family, angels or venture capitalists; and here’s why.
- Your equity is your return on investment
In the early stages, your company has either no value or very little value however it will one day have enormous value. Being too liberal with giving away equity means you’re giving away pieces of your vision and the return on investment that comes with it.
It’s always better to have a little of something rather than a whole lot of nothing but in turn, you want to ensure you spend your equity wisely.
When you’re considering giving an investor or staff member equity, imagine your company is already at ‘unicorn’ status, aka worth $1 billion, would it still be worth giving that person equity?
- Your limiting your ability to raise future capital every time you gain investment
A double edge sword – every time you raise funds you need to assess how needed and valuable they really are to your business. This is because every time you raise, you have more investors on your cap table or capital table (basically the list of investors in your company), the more investors, the less desirable your company becomes to other investors (this is mainly because your need to keep raising, shows an investor that the likelihood of their shares being diluted is high, so their return on investment lowers).
- Your removing yourself from your own business
We’ve all seen how ‘social network’ the movie turned out and unfortunately a lot of founders are pushed out of their own companies by the very investors that help them get started.
Every time you give an investor shares in your company, you’re giving away a portion of your control. Even if you think you have more shares than the other shareholders, they can easily vote together and therefore vote against you.
This leads me to the importance of the word ‘bootstrap’. Bootstrapping is growing your company on your own with your own funds or non-equity funds.
Some founders prefer to bootstrap their way to success or at least to a Series A round of funding where your company is worth more and therefore the equity required to be given to an investor is often less.
If you are raising capital from a VC or any investor – angel, family or friends, it’s important to understand the value their money brings.
Money is always great, however, ‘smart money’ is always better. Smart money is money that comes from an investor with the right expertise to be able to help your business grow faster and more cost-effectively. If you’re not filling your team with the right expertise, the money will be short lived and not maximized. You’ll often also need to raise more funds sooner and therefore add more investors to your cap table, which can limit your potential to raise funds in the future, eat into your equity and reduce your control, as outlined in the points above.
It’s also important to note that raising capital can also devalue your company if you do a ‘down round’ of funding. This is where an investor gains more shares or percentage of your company for their investment and therefore devalues the company valuation.
For example, if your company has a pre-money (pre-revenue) valuation of $2 million and you are raising $200K for a 10% share but you accept a $200K investment for a 20% share, it means you have had a ‘down round’ of funding. This shows future investors that previous investors didn’t value your company at the current valuation, and it can put them off investing in you. It also means your company would be valued at $1 million rather than $2 million and therefore your company may be worthless in the next capital raise than it was pre the $200K of capital being invested.
When you’re starting a business and particularly when you’re thinking of capital raising you should assess the size and growth of the industry you’re operating in and your potential for growth and remembering that VC money is not free.
Starting a business is one of the largest investments you’ll make both in time and money, like any investment you want to ensure you understand your return on that investment both from a monetary aspect and a happiness aspect which will help you to better overcome the challenges you’ll face.
If you want to be a ‘unicorn’ company, you have to act like a unicorn company long before you ever become one. Adopting this mindset will help you to think differently about how you grow your company and will position you for that growth and the future success that comes with it.
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