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Fundraising Hacks: What type of capital should you raise, and how do you meet investors?

How do you decide which investor you should target and raise capital from?  

Venture capital is just one of many options to finance your business, and it’s typically the most expensive. The broader question is: what type of capital should you raise, and from whom?

I find many CEOs/CFOs default to approaching the investors who have the most social media followers; who have spent the most money sponsoring events; or whom they met at an event. But, fame and the chance that you met someone at a conference do not logically predict that investor is the optimal investor for you. In addition, the best known investors are also the ones who are most difficult to raise capital from, precisely because they get the most inbound.

The first step is to decide the right capital structure for your financing.  Most CFOs build an Excel model and do a rough comparison of the different options.  Some firms provide tools to do this online, e.g., Capital’s Cost of Equity estimator; Lighter Capital’s Cost of Capital Calculator; 645 Ventures’ cap table simulator; Bootstrapp.co’s Comprehensive Cost of Capital Calculator.  A similar, open-source, highly visual tool focused on VC is Venture Dealr. Another tool is NoteGenie.io.

For each of the major categories of investors, you can find online databases of the major providers. Major options include:

Many capital providers lead with one type of capital, but offer other capital types and get compensated via origination fees.  Effectively they’re financing supermarkets, although they may have a bias to certain types of capital which are more profitable for them.  Examples include most of the large B2B banks, Kapitus, Kalamata Capital, United Capital Source, etc. These firms can give you an apples-to-apples comparison of what different capital forms, albeit all via one source, will cost you. 

Once you decide on the right category of investor, I suggest keep in mind that identifying the right investor is a two-way street. Ideally you’re looking for an investor who will invest time and energy with your company; has significant relevant experience; and an ability to add significant value. Alex Koles, CEO, Evolve Capital, said, “If there is not a mutual trust and shared vision in the opportunity, it will be harder to work through thorny issues down the road.  It’s not a question of if the thorny issue will occur, but when, and management needs a strong advocate willing to listen and help out.” I have a whitelist of investors I recommend to my portfolio…and a blacklist which I guide them to avoid.

Rocky Gor, Founder, CAPX, said, “Based on my interaction with CFOs, the common theme is the lack of knowhow and data for structuring the right deal. Unlike venture equity candidates, middle market companies can access 5-8 types of debt structures  (in addition to at least 2 types of equity structures), each with their own benefits and considerations. In order to structure an efficient deal, one needs to know the features of each capital type, capital providers and their preferences. CFOs don’t have time to find the ideal capital sources (there are more than 1,100 debt providers out there), so they go with the one in front of them, even though it might not be optimal (a lot of times they don’t know what is optimal as they do not have the data to readily identify and analyze alternatives). Middle market is likely the largest segment of financing in the US and it continues to operate the same way it did in the 1920s!”

Svetlana Lebedeva, Advisor, Bank Leumi, observed, “Venture debt will be most affordable from banks. However, a bank’s credit box will be more narrow than that of a non-bank lender, like a venture debt fund. Banks will typically qualify a start-up for venture debt at or after series A from VCs they are familiar with. So if you haven’t raised series A, banks will typically turn you down. The reason they need to see a VC already on the company’s cap table, is that in early stages, banks are essentially underwriting the probability of a startup raising the next round (as companies may still be figuring out their product/market fit and haven’t scaled yet and are certainly burning cash). The other reason is that in case things don’t go according to plan, VCs lose their equity investment if the bank isn’t paid out. So the bank likes to have smart, sophisticated investors backing a startup which lowers their risk which, in turn, enables them to provide venture debt at around half the cost of a non-bank lender.”

David Abraham, head of DAC Capital, observes, “The fact is that there are an extremely large number of capital sources at every strata on the risk/return spectrum.  Some will be well-known names, others will be findable using a directory. And others may not be findable at all with any level of confidence.  But it is often hard to discern the actual appetite for a particular transaction. An experienced investment banker will have experience with a wide enough group of capital providers at every appropriate level.  He or she will work with the company to develop a list of a sufficiently broad set of candidates. It’s not so much finding the ideal capital provider as it is finding a good provider with a properly structured transaction at a fair price.”

*I’m an investor.

Further reading from my blog:

Please don’t pitch a venture capitalist without this checklist

Fundraising Hacks

Financial Modeling for Entrepreneurs

Other resources

The Capital Stack: How to Optimize User Acquisition Funding

How to Find the Right VC To Fund Your Business

The Full Spectrum of Non-dilutive Growth Capital

The don’ts of debt for fast-growing startups

Expected rates of return for different categories of investors: Pepperdine Digital Commons 2019 Private Capital Markets Report

Older version of this article contributed to Techcrunch

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