One of the biggest mistakes that companies make when raising funds is setting an unrealistic fundraising target.
A lot of founders incorrectly think that bigger is better – the more funds you raise the better off your company will be. And while this sounds right on the surface, it is actually counter intuitive to a successful campaign and also not necessarily in the founder’s or the company’s best interests.
It can cause you and your team a lot of unnecessary stress and it can break a founder’s heart when they may have worked so hard to reach £800k of their £850k funding target, only for a platform to return funds to investors for failing to reach the target. Good planning from the outset and realistic funding targets are key to all successful funding campaigns.
It’s a Journey, not a one-off!
The first thing to understand is that you need to consider your company’s funding campaign as a funding journey. If this is your first time, raising funds for the busines, you need to understand that it will not be your last. You will be back raising more funds at future dates, so you do not need to raise everything in one go.
Instead of going all out to raise your full funding requirement in one go, attack things in manageable and achievable tranches. Raising in smaller chunks with achievable targets is far easier than trying to climb a massive funding mountain at the very start of your journey.
Make a Funding Plan
Think about how much you need at this point in time and really nail down your use of funds. Consider which areas of the business you need to allocate funds, to take you to the next part of your journey. What is going to give you the biggest bang for your buck and provide you with the traction needed to have the ability raise further funds?
Then lay out in clear detail, each step of your funding journey, from seed capital to growth/scale capital, right up until breakeven/profit or to the time when you will no longer need to bring outside investment into the business.
An example might be for a company that thinks it needs to raise an initial £850k. Instead of raising the full amount at once, they break is down as follows – Seed Raise – £150k; Growth Raise – £250k; Scale Raise – £450k; then onto the Series A Raise of £??m.
By laying out your plan and putting rough timescales to it, you can change the narrative of your capital raising into easily achievable and realistic funding rounds, that are dependent on the company hitting certain milestones; with each funding round taking the venture to the next milestone in its journey.
At the same time, you will be demonstrating to investors that you know the milestones the busines must achieve in order for it to be in a position to take on more investment and scale to exit.
Protecting Your Equity
When you make a funding plan and stick to it, you are also protecting your equity and the equity of all the founding shareholders, by not giving away too much equity, too soon! If you ask for a large amount of investment from the outset, it follows that you will have to give away more equity, as you have fewer validators and less traction. The more achievements a business has under its belt and the more traction you have, the less equity you will have to give away.
By putting a realistic funding plan in place, with achievable funding targets, you will be able to reach certain milestones and achieve the traction you need to increase your valuation at each point in the plan.
Taking the above example, if the company went with its original plan of raising the full £850k in one attempt at the start of the campaign, and had a pre-money valuation of £1.5m, it would have to give away 36.2% of its equity – {£850k/(£850k + £1.5M)} x 100.
Instead, if the company decided to raise the first £150k at the £1.5m valuation, they would only be giving away 9% equity on the first round – {£150k/(£150k + £1.5m)} x 100.
They could then reach certain milestones and show more traction to give them the ability to increase the pre-money valuation of the company to £3m, meaning that on their second funding round of £250k they would be giving away a further 7.7% of equity – {£250k/(£250k + £3m)} x 100.
With the initial £400k of funding allowing the business to move to a scale phase and bringing the pre-money valuation up to £6m, the final £450k will only cost the company a further 7% in equity {£450k/(£450k + £6m)} x 100.
By planning the funding journey and raising at intervals, the founder has only given away 23.7% for £850k of funding, rather than the original 36% they would have given away by raising the full £850k at the start.
Conversely, in a competitive funding landscape, by starting your journey with a lower target, you can also lower your valuation, to give away a little more equity on the first round. The reasoning behind this – to make your proposition more attractive to early investors, compared to other businesses with higher valuations.
You can then give away less equity in the following rounds, after you have achieved more traction and hit key milestones. This also has the added benefit of potentially making subsequent fund raising easier, as your business has greater traction.
It’s Better to Overfund than Underfund!
This is probably stating the obvious, but you cannot underestimate the stigma attached by not reaching your funding target. To investors, this is essentially a failure, a red flag and a reason not to invest.
Most investors will look to actually put their money in at the end of a round, so even if they think the opportunity is right for them, a lot will not actually part with their funds until the raise looks like it is in its final stages. So when you go with a larger funding target, unless you have some large lead investment, it is going to take you longer to reach that point where investors are confident the round will close, and they are happy to put their money into the venture.
If you are looking at raising £150k, consider bringing your target down to £100k with the stipulation that you will overfund to £150k. Make this apparent in your “Use of Funds” section in your deck and create some time pressures for investors. You need to get on with your business, so the lower the target, generally the quicker you can close the round off, which is better for everyone.
Convey Early Success
By having a lower target and giving your campaign the best opportunity to close in good time, you are also putting across the psychological element of early success for the business. Investors will feel confident that you have a grip on your funding plan, you know what you are doing, and other investors have the same level of faith in you as they have. A quick close is a great foundation for early and longer-term success for your venture.
Consider the Seed Enterprise Investment Scheme (SEIS) Threshold
A great starting point for target amounts in early fund-raises is the SEIS (Seed Enterprise Investment Scheme) threshold of £150k. This is the level of investment at which UK investors can receive tax relief of 50% on their investment into your company.
It is not a large amount and you can even break this down into smaller amounts if you wish. For UK opportunities that have HMRC advanced assurance for SEIS, £150k can seem a logical first step in the funding journey.
By planning your funding journey and raising investment in bite-sized, achievable tranches, you will make your fund-raising process a lot less stressful, give away a considerably less amount of equity, and set a foundation and culture of early success for your business and shareholders.
Most importantly, you will be able to avoid the disappointment of a platform not being able to disburse funds to your business, because you were unable to achieve the higher target.