Statistics for 2022 show that, when the year finishes, it will be the second wealthiest early startup stage investment period in history.
2023 may be a little more challenging given the economic climate, but startups with potential to disrupt will always be able to raise startup capital.
Startups frequently use DealRoom to raise funds, giving us a practical insight into startup capital, the various types available to startups, and where entrepreneurs should be looking for it in 2023.
How to Raise Startup Capital for your Business
The high-risk nature of investing in startups means that in most cases, startup entrepreneurs will need to divest a share of their company’s equity to obtain the startup capital they require.
To sell equity, the entrepreneur needs to have a good grasp of the company’s value – no easy feat, given that the business often has virtually no revenue, an uncertain demand frontier, and only a beta version of their product to show.
Accompanying the valuation, the startup needs a pitch deck – a document which summarizes the business in a way that makes investors want to invest their capital in it.
Rarely more than 15 pages, the startup pitch deck needs to be compelling to investors in a way that has them in little doubt that using their hard-earned funds on your business is a better bet than in the much-safer underpriced stock on the Nasdaq that they’ve already identified.
Types of Startup Capital
With your valuation and pitch deck to hand, the entrepreneur’s job now becomes to approach investors with your pitch to raise funds.
These are typically broken into the following:
1. Family and friends (Pre-seed round)
Many high-profile companies worth billions began with a seed investment from family and friends. Usually less than $50,000, this first investment enables the startup founder to begin developing the product or service.
2. Seed investors
Usually the first formal investment round, the seed investor will provide funds to the startup founder to enable them to develop a minimum viable product (MVP), and conduct market research. The important distinction here is that the founder still has no product or service to show – just an idea. This makes the seed investment a much higher risk investment than later funding rounds.
The accelerator or incubator phase can happen earlier or later, depending on the terms offered by the organization in question. The essential idea is that an accelerator offers (small amounts of) capital – usually with no requirement to commit equity – mentorship, and introductions to investors. Accelerators are usually run by a public or semi-public body such as a university, and the competition to get on board can be as intense as seeking out startup capital itself.
4. Venture Capital
The venture capital round (‘series A’ being the first, followed by ‘series B’, ‘series C’ etc.) is considered the first institutional round of investment. Venture capital funds specalize in providing startup capital to companies ready to scale.
This is important: At the series A round, the company is ready to scale. Its products and services are ready, its market is defined, and revenue is already growing quickly. It now needs the capital to hire key team members, develop its technology, and market its business to capitalize on the early growth.
The company is expected to reach certain milestones as part of its contract with the VC investor and usually looks to later rounds of investment (Series B, Series C, etc.) as these milestones are met, and cashflow dwindles.
Additionally, see our guide on how to efficiently prepare for the venture capital fundraising process.
Advantages and Disadvantaegs of Startup Capital
- Mentorship: Startup capital usually comes with some mentorship involved – a considerable value-add for the founder. This isn’t the case in most investments.
- Cash flow: Startup capital usually translates as vital cash flow for startup companies with barely enough resources to get off the ground.
- No personal risk: In startup capital, the emphasis is on the risk of the business, so the entrepreneur isn’t asked to pledge any of their own collateral in the financing round.
- Loss of control: The startup capital means the founder loses part control of their business, its cash flows, and perhaps even some control over company strategy.
- Extensive due diligence required: Startup founders may not be prepared for the extensive due diligence required by angel and VC investors.
- Growth pressures: investors tend to pressure startup founders to achieve the growth forecast. After startup capital is raise, there is seldom any let up.
How to Pitch to Investors
Armed with a solid valuation and pitch deck, startup founders next need to pitch to investors. This involves searching out the dozens of suitable investors in the company and making personalized pitches to each.
Most VC investors are looking for certain high-level (‘industry changing’, ‘shaping the future’, ‘disruptive’) businesses along with some more easily attributable quantitative and qualitative measures (minimum revenue levels, industry areas, technical specifications). Usually, it’s a wast of time applying for startup capital to companies when the company doesn’t fit the criteria.
It’s important to send an introductory letter outlining the business and what you need funding for before jumping in and sending the pitch deck and valuation.
If and when the startup capital provider responds in a positive manner, the company’s data room can be shared with them.
Impressing the investors in the very competitive digital age can skyrocket your chances for investor’s funding approval. To learn more, check the 8 vital reasons your startup needs data room for fundraising.
In summary, the data room is an important part of the pitch equation. It shows the investor that the founder is professional and knows what they’re doing. It also works better when sharing more information – which investors almost always ask for.
Check out the venture capital due diligence process to learn more.
At a minimum, the data room should include the pitch deck and valuation. Other documents it should include might be management profiles, proof of IP (or pending IP) and even expressions of interest of potential clients looking for larger orders, which the cash obtained in the startup funding round will enable the company to deliver.
DealRoom has worked on hundreds of startup capital raising projects for companies across a wide range of verticals and geographies. We know the challenges that startup founders face in attempting to raise capital.
Talk to us today about how our data room solutions can work for you.