Securing a valuation and subsequent funding can be critical for startups that are trying to get to the early growth stage of their business, but don’t have the operating capital to do so. The bad news is that the journey is often fraught with challenges. The good news, though, is that many of the reasons startups fail to get funding can actually be avoided with a little bit of knowledge.
To that end, here are three gaps that derail many founders on their path to getting seed funding and taking their business to the next level.
1. A LACK OF VIABLE BUSINESS
In an era where things like revenue and even profitability are precursors to capital allocation, an idea is not enough to help raise money—it takes proving the presence of an actual business first.
Too many entrepreneurs send their pitch decks to venture capital firms via LinkedIn or through their website contact forms. It should go without saying that’s not how to land meaningful capital. It takes cultivating relationships first (more on this below). It also requires substantiating the business.
Founders need to have their proforma and be confident in defending it. This means being able to measure objectively whether the solution is viable and has tangible market validation. A founder must be capable of selling their solution to people they don’t know and present evidence of customer value realization, demonstrated by the fact that they’re buying, renewing, or expanding (and evidenced by profitability).
Investors need to see that a founder is creating genuine demand within their ideal customer profile, and with consistent pricing, before they’ll be willing to entertain an investment.
2. A LACK OF UNDERSTANDING ABOUT WHAT MATTERS IN FUNDRAISING
Startups often struggle with understanding the nuances of fundraising, particularly in identifying the appropriate financing for their business stage.
For instance, if an entrepreneur lacks early indications of product-market fit, they’re not a seed-stage company. For early growth B2B SaaS investors like us, this means having at least $250,000 in annual recurring revenue (ARR). If a team is pre-revenue or below that threshold, seeking angel investors, convertible notes, SAFE agreements, or accelerator programs might be more suitable. Addressing the economic requirements of each growth stage in alignment with personal business goals is crucial for success.
Venturing into equity rounds requires a clear understanding of dynamics and participation requirements to avoid dilution, a potential entrepreneur killer. While convertible notes and SAFEs offer immediate capital without valuing the business, they come with risks. Agreeing to future valuations that may undervalue a company could lead to unintended ownership dilution.
Equity always matters, so treat it like the treasure that it is. It’s not uncommon to find early advisors on cap tables that have large stakes in the business—or startups that have a list of small equity holders as long as your arm. It’s easy to give away stock or issue investment instruments when the company is worth very little, but we build businesses to be worth something, and once it is, this will equate to a death by a thousand papercuts.
Understand that investors care about one thing above all others—the returns they’ll get on their money. They’ll need to see a clear path to those returns, and that path is what venture investing is all about. Therefore, founders must understand every piece of that roadmap so that they can explain it to potential investors and help them see it just as clearly.
3. A LACK OF RELATIONSHIPS
Finding the types of investors who are seeking a particular roadmap and solution requires conducting extensive research and really listening to what firms ask for. This requires not only deeply understanding the business at hand, but also understanding the ideal partners to invest in it. This could include everyone from individuals to large venture firms.
A founder should ask themself, “Who are the fish who occupy the pond you’re looking to swim in?” From there, it’s all about creating relationships to gain access to that coveted fishing hole. With the list of target investors in hand, it’s time to find out who they’ve invested in. Then, more due diligence. Founders will need to talk to those people, learn how the process went, and how they have been to work with. What did the firm look for when they pitched? In many cases, it’s worth asking if they’ll share their pitch deck, insights, and advice.
With that background research complete, and connections made with the investors’ portfolio companies, founders should try to get the attention of the partners by leveraging their network. Any best practices that apply to sales apply here—the warmer the introduction, the better.
By the time a founder walks into the room with a prospective venture partner, they should know exactly why that firm would invest in them—and what they can deliver in return.
FINAL THOUGHTS
Securing funding is far from an easy process, but it can go a lot more smoothly—and successfully—by avoiding the pitfalls outlined here. Ultimately, VCs want to invest in people they believe in who have revenue they can prove. When founders show they have both, the likelihood of getting funding greatly improves.
Justin Gray is the Co-Founder and Managing Director of In Revenue Capital.