Financing risk

Startups that raise seed funding face the risk of not being able to raise additional money. This is what is sometimes known as “financing risk.”

If you are a company that just raising seed funding, financing risk should be top of mind. Here are some tips for mitigating it:

- Start by thinking about the next round of financing and work backwards. What milestones do you have to hit to get VC funded at an upround? If you are a consumer internet company, the milestone probably involves getting a certain number of users. If you are building hardcore tech, it probably means building a working prototype. Basically you want to take the main risks that exist at the seed stage and eliminate as many as you can. A good way to discover what milestones you need to hit is to talk to as many VCs as possible. Experienced seed investors can also advise you on this.

- Raise enough seed money. How much money will it take to hit those milestones? A good rule of thumb is 18 months – 3 months to get going, 12 months to execute, 3 more months to raise VC. But it really depends on the specifics of the milestones, your operational plan, etc. which is why you need to figure those out first.

- Preserve cash. Pay only subsistance wages but be generous with equity for great people (this also provides a screen for hiring people with the right startup mindset). Keep legal fees low (try to keep incorporation and financing costs to $10K or lower – this is one reason I prefer convertible notes). Act like a scrappy startup.

A rule of thumb is a successful Series A is one that is led by quality VCs with a pre-money at least 2x the post-money of the seed round.

http://technbiz.blogspot.com paramendra

Sound advice.

http://www.cdixon.org chris dixon

glad you liked it!

Anonymous

We did this and it worked out well, even though the subsistence wages were pretty brutal for a long time.

The other thing I would underscore is those milestones — make them parties, make them celebrations, make them an occasion for you and your future Series A investors to have an excuse to talk or, even better, rub elbows over a cold frosty. We threw a ‘party’ every time we hit another 1,000 paying subscribers throughout our first year. Our first milestone party was at Live Bait on 23rd St., so it was low rent, for sure, but it gave all of the people involved an excuse to pat themselves on the back for a job well done.

http://www.cdixon.org chris dixon

hey marc – that’s a great idea. making the milestones really explicit like that with parties at the end is awesome.

http://twitter.com/tydanco Ty Danco

And I’d encourage companies to make those milestones explicit at the time of the seed funding (see David Skok’s great article touching on this at: http://venturefizz.com/blog/cash-king-8-tips-optimizing-your-startup-financing-strategy.)
Then when you celebrate, invite the early funders–much more likely they’ll be pumped up to follow-on and talk you up when they are up to date on your progress, even if you’re behind plan.

http://www.twitter.com/sugdaddy Michael Shafrir

Putting ‘party’ in quotes does a disservice to the epicness of some of those parties

http://www.lhartwich.com Lukas Hartwich

Good stuff as always, Chris. I would just add that if I were looking for seed funding, I would pay a lot of attention to whom the funding was from. Getting a well-respected seed investor onboard could go a long way the next time you’re “tapping the well”.

Then again, beggars can’t always be choosers

http://www.cdixon.org chris dixon

quality of investors matter in terms of signaling but also hopefully they’ll also be 1) helpful with team building 2) helpful with next round fundraising 3) supportive if things take longer than expected (e.g. be willing to arrange a bridge).

http://arnoldwaldstein.com awaldstein

Chris, I sent this along to some clients. 18 months against goals by ‘type’ of start-up is sound advice.

Timeframe is mushier in a b2c type of product. Building a prototype is easier to target from a schedule perspective than getting active users. Sometimes it just happens when it does and its hard to judge s you never really know what you have until the users let you know by starting to use it.

Useful post. Thnx.

http://www.cdixon.org chris dixon

yeah for b2b i say 18 months because it usually gives you a “couple shots on goal”. it’s so hard to predict with b2c.

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http://twitter.com/testpattern R Fleck

Useful tips & a durable rule ‘o thumb.
http://twitter.com/testpattern R Fleck

What a succinct set of instructions. Like GPS for a startup.
http://www.Spidvid.com Jeremy Campbell

That last tip of getting at least to a 2x Series A valuation after the seed round is good to know, along with the 18 month runway plan. Thanks for sharing your knowledge Chris.
http://twitter.com/fjfish Francis Fish

You could, of course, not use seed money and just get ordinary loans from the bank. Oh, and have a plan that starts from making some kind of profit from the beginning. Maybe it’s just me.

http://www.cdixon.org chris dixon

try getting a loan from a bank with hard collateral assets.

http://twitter.com/fjfish Francis Fish

If you start out with some profit to show it’s not that hard.

http://www.cdixon.org chris dixon

have you ever actually tried to borrow money from a bank without a
many year operating history?

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why do i think that it is allmost impossible?

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Thanks for sharing info. Keep up the good work…
Anonymous

A prototype is easier to target from a schedule perspective than getting
active users. Sometimes it just happens when it does and its hard to
judge as you never really know what you have until the users let you
know by starting to use it.
Plumbers
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Chris Dixon