Potentially Fatal Mistakes Start-Ups Make When Raising Capital, Part Two
Last week, we covered potential fatal errors related to funding and valuation. This week, we’ll continue our discussion and address the fatal error of not raising enough capital.
Though there are usually underlying issues, running out of cash is the number one reason that start-ups fail. So, why don’t founders raise more money at each round? The answer is usually based on fear or ignorance, and sometimes both.
Key point. For your start-up, ensure that you raise sufficient money based on a detailed strategic financial plan, plus a 15% to 20% fund cushion for the uncertainties that will arise.
Fear Sometimes this happens early in the raise process, but more often it happens after they’ve gotten feedback from potential investors that causes them to question their business. One common reaction is to decrease the raise ask, believing that will take care of objections.
While the fear is understandable, if you’ve been reading our series on raising capital and have a product with a compelling business case, clear path to revenue, outline business plan, financial model, and have done all the work that’s needed for a successful raise, you’ve got a much better chance of getting funded.
The secondary fears around funding are more subtle and sometimes cloaked in truth. We hear from clients regularly that they don’t want to take too much money. Why? Because they’ve heard many horror stories and are scared of:
Giving up too much ownership,
. . . which will lead to . . .
Losing control of the business,
. . . which will lead to . . .
Getting a very small payoff at exit after many years of extremely hard work.
Losing ownership control is a risk with any start-up and is something that you need to address if these types of business ventures are in your blood. However, if you can avoid making fundamental strategic errors early in your funding, losing control rarely happens before later funding rounds—with one big caveat: You screw things up.
Frequently we hear stories from founders—usually second or third hand—justifying their fears that investors are going to screw them. While there definitely are unscrupulous investors prowling around, it’s usually the founder who has failed to meet commitments that causes the problems. Most founders and CEOs prefer to keep this truth to themselves, repackaging it as an investor problem.
Key point. The majority of founders lose ownership control because they fail to meet objectives and commitments previously promised to their investors, causing a cascade effect.
Ignorance In theory, this should never happen, but it does. Book knowledge and past work experience are great, but it takes practice and repetition to be a top founder and CEO. Get the counsel that you need from your board of directors, legal team, or a trusted advisor who specializes in start-ups and can help you avoid making fatal errors.
Key point. Unless you’ve participated at the C-level in more than a few start-ups, you probably don’t have the breadth and depth of experience needed to do it well.
Want some guidance on a new venture? Want to improve your current situation? Get in touch with us. We are always willing to spend an hour talking with new, solid founders who want help.
Next week, we’ll cover a hidden fatal error that regularly catches founders and CEOs by surprise—often after it’s too late to fix.
All the best,
Did someone forward this to you? Great! Sign up here so that you don’t miss the next article in our series.