What are the Chances of a Start-up Being Funded by Investors?
May 7, 2010
What are the chances a start-up can secure funding from a venture capitalists or angel investors? The funding landscape changes and today’s market is reflective of the economic times. It’s tough, but the odds are still better than winning a mega million lottery. The odds of winning $100 million lottery jackpot can be 1 in 176 million.
Venture capitalists track their contacts with potential start-ups much like any other sales process. Last year, one firm recorded 150 qualified leads from referrals or previous successful entrepreneurs. While VCs receive proposals from strangers, most report they rarely fund these projects. What happens to those 150 start-up proposals, they are down selected to 50 that are seriously considered, and then 10 are selected to be pursued, and only 1 gets funded.
Likewise, most angel groups report receiving 600 plans last year with two-thirds from strangers. Of these proposals, 72 are considered, 36 are invited to present to an angel group, and 4 to 6 are funded. That’s less than 1% funded. A typical investment was $300,000, and took a 25% to 30% equity stake. These groups look for start-ups that anticipate a total investment of $3 million.
How do you determine if a fund is right for your company? As a rule of thumb, the expected return of each portfolio company is the total size of fund. Most funds invest in the first 4 years; the remaining years are for harvesting the investments. Where the fund is in its lifecycle is very important. If an entrepreneur wants to find out if a firm is tire kicking or really intends to invest, ask when they raised their last fund.
The VC community has an affinity for providing seed funding to entrepreneurs that have brought them great gains in the past; the home-run investments have come mostly from the first time entrepreneurs.
A company creating a new market might be unprofitable for 5 or more years, while one in an existing market might be generating cash in 12 to 18 months. Investors expected a start-up to be acquired in 4 to 6 years, and an IPO to take between 7 and 10 years.
What grabs investors’ attention is a startup that already has customers and revenue, or something they haven’t seen before. Recently, there was a startup who got their seed funding from investors in the Midwest – and the startup was not located in the Midwest. The start-up promised these Midwest towns that they’d open up a customer service office there, bring jobs to the local economy, and they did.
What many start-ups don’t do after talking to investors is to ask for more information. Ask the investors what milestones need to be met in order to receive funding. Ask what the next steps are. Ask what they thought about the company and product. Ask how they can help your start-up succeed.
Investors often admit that the more they know about a particular market space, the less likely they will invest. On the other hand, they also admit that they don’t invest in products and industries that they don’t understand and know. It would seem most everything is non-fundable. Return on investment is the only thing that really matters to investors. For example, a lightning start-up received a lackluster reception from venture capitalists recently because they viewed the industry as slow moving and company valuations are typically 1 to 1.5 times revenue, which didn’t make it an attractive opportunity. Yet, a lot of investors are chasing clean and green technologies. What a start-up to do?
First, realize that obtaining funding can be a long process. It is essentially a sales process. It is a search. Second, how can you move forward without outside investment? Then consider what your best alternative to outside investors is. How can you achieve your goals without them?
Filed under: Start Up Funding
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