Congratulations – you’ve just closed a Seed or Series A venture capital round! You’ve spent countless hours toiling late into the night to get your idea off the ground and your concept has now been validated by a respected venture capitalist. Take a moment to enjoy it – but only a moment. To paraphrase our friend Mo Koyfman, General Partner at Spark Capital, “raising money is not the goal line, it’s the starting line”.
If you’re a first time entrepreneur you certainly learned many lessons during the fund raising process – and even if you've been through it before, you were probably reminded of them again. One of the most important of those lessons is how hard it was to sell such a large stake in your company for so little money. All entrepreneurs feel this way – as they should. Now you are determined more than ever that next time – in the next round – that you will turn the tables and sell less equity for more money.
You will do this of course by building value – by working harder than you ever have before and by making the capital just raised last as long as humanly possible. But there’s more . . .
Also take a moment to think through (again) how you need to spend your hard earned capital. When doing so, divide the uses of capital into two buckets:
Working capital and everything else.
Depending on your business model, you may find that most of the need is in one bucket or the other – or it may be a mix of both.
If you find that most of the need is “everything else,” take a hard look at the convertible note market. While it is admittedly a bit of a fickle market (i.e. during some periods investors have shown little interest in it), when available (as it is today) it can be an excellent option for raising additional funds before having to etch the valuation of your company in stone another time.
Convertible notes work basically as follows. The company gets additional funding and agrees that the sum will be converted into equity at an agreed discount (often in the 15% to 30% range) to the valuation placed on the company in the next round. The company is usually given 12 to 24 months to raise that next round. The investor gets a senior position (typically unsecured, but regardless senior to the equity and existing preferred stock) and a high interest rate (often upwards of 15%, but normally less than 20%).
The benefits of convertible notes can be great for the company – additional funding and the ability build a lot more value for a period of time before having to fix the next valuation on the company.
If you find that most of the need is in the “working capital” bucket, take a hard look at asset based financing and/or factoring. This market is not fickle and is an excellent option for financing AR and/or inventory without ever requiring a stake in your company.
Asset based financing is a highly competitive market and it is therefore quite easy to find competitive rates and terms, including no long term commitments. The caution for companies considering this type of financing is, unfortunately, that a large majority of the firms that offer this product are neither well run nor very professional – but there are a few very good ones. So just be sure to interview the firms you may consider to judge for yourself.
And lastly, if you find that the capital needs of your company are a mix of both “working capital” and “everything else,” you can do both quite easily.
The key is to use the proceeds from selling equity and/or a convertible note only for things in the “everything else” bucket and to only use asset based financing to finance necessary investments in the “working capital” bucket. The better you are able to accomplish this, the more shareholder (i.e. you) value will be created.
Happy hunting and congratulations again – for raising venture capital, but more so for having built an idea worthy of it.
Just remember to maximize your advantage “Before the B Round.”