| When a company decides that it must raise | | | | memorandum, and other company due diligence |
| capital, a key question that must be answered is | | | | materials, 2) developing a comprehensive, |
| how much the company is worth. For example, if | | | | targeted prospective investor list, 3) contacting |
| the business needs $500,000 to get started and | | | | this list and responding to investor due diligence |
| or grow, how much of the equity in that | | | | requests, and 4) negotiating the transaction. |
| company should $500,000 command? Once this | | | | Completing the business plan typically requires at |
| question is answered, the company will go out and | | | | least 200 hours of work. This time is dedicated to |
| try to find investors. When doing so, a key | | | | conducting the market research to validate the |
| question often arises as to whether the valuation | | | | opportunity, developing a comprehensive financial |
| is “pre-money” or “post-money.” | | | | model, determining the most effective way to lay |
| “Before the money"" or “pre-money” | | | | out the business strategy, and actually writing and |
| and "after the money" or “post-money” | | | | proofing the business plan. |
| denote simple concepts. However, these simple | | | | The next step, developing a comprehensive, |
| concepts can even confuse even the most | | | | targeted prospective investor list is also very time |
| sophisticated analysts at times. If a company is | | | | consuming. There are thousands of potential |
| valued at $1 million on Day 1, then 25 percent of | | | | investors, each of which has very different tastes |
| the company is worth $250,000. However, there | | | | regarding the types of ventures that interest |
| may be an ambiguity. Suppose the company and | | | | them. Some invest by market sector (e.g., |
| the investor agrees on two terms: (1) a $1 million | | | | healthcare vs. telecommunications), stage (seed |
| valuation, and (2) a $250,000 equity investment. | | | | stage vs. later stage), geography, or a |
| In this case, the company may offer the investor | | | | combination of these. Many hours must be |
| 250 shares for $250,000. Immediately there can | | | | dedicated to determine which investors is the |
| be a disagreement. The investor may have | | | | right fit for your venture. This process involves |
| thought that equity in the company was worth | | | | creating a master investor list, visiting each |
| $1,000 per percentage point, in which case | | | | investor’s website to view investment criteria |
| $250,000 gets 250 out of 1,000 shares or a 25% | | | | and past investments, and determining who the |
| equity position. Conversely, the company may | | | | right contact at the firm is. |
| have believed that the investor was contributing | | | | To see how easily the time adds up, consider that |
| to the enterprise which was already worth $1 | | | | only about 25% of prospective investors who |
| million. Under this rationale, the $250,000 would | | | | show an initial interest in a transaction actually |
| give the investor 250 shares out of 1,250 shares | | | | progress to detailed company due diligence. Only |
| or a 20% equity position. | | | | about 10% of this 25% actually progress to a |
| The critical issue was whether the agreed value | | | | bonafide offer of funds, of which only 25% of |
| of $1 million to be assigned to the company was | | | | these actually result in an investment transaction. |
| prior to or after the investor's contribution of | | | | So completing a financing transaction requires, on |
| cash (pre-money) or post-money. | | | | average, contacting approximately 160 |
| In the above case, a pre-money valuation of $1 | | | | pre-qualified prospective investors. |
| million and a post-money valuation of $1.25 million | | | | The due diligence process, where investors |
| were equivalent. Because mixing up the terms | | | | scrutinize the investment, can also be very time |
| could significantly increase the cost of capital | | | | consuming for the company. Investors often |
| raised, companies must be sure to understand the | | | | request many documents, some of which can be |
| two metrics and agree with investors to the | | | | easily retrieved from files (e.g., prior tax returns), |
| metric that raises them the capital at the | | | | while others may take more time to prepare (e.g., |
| appropriate price. | | | | additional market analysis, customer lists with past |
| Raising Capital for Your Business – How Long | | | | purchases, contact information, etc.). Finally, |
| Does it Take? | | | | negotiating a transaction can take a significant |
| Most companies vastly underestimate the time | | | | amount of time depending upon the complexity of |
| commitment necessary to successfully complete | | | | the transaction and number of parties involved. |
| a financing. In actuality, a company seeking | | | | Too many companies fail to raise capital since |
| financing needs to budget between 500 to 1000 | | | | they are unaware of the significant time |
| work-hours to the capital-raising process, spread | | | | requirements to do so. Those firms who |
| out over a 6-9 month time period. | | | | understand these requirements and budget |
| The key processes in the capital-raising process | | | | accordingly are the ones most likely to persevere |
| include 1) perfecting the business plan, offering | | | | and end up with the capital they need. |