Today, more than one third of the United States population falls into a financial demographic known as the “mass affluent”. Unlike the headline-grabbing ultra-rich, the mass affluent are people with assets between $100,000 and $1 million, or annual incomes over $75,000. Historically, the 33 million American households in this category have invested for their future in one of three ways: by putting most of their money into personal hard assets such as a primary or secondary residence; by investing their liquid assets into professionally managed mutual funds or their employer’s 401K program; or, for the more adventurous and/or sophisticated, by investing directly into specific stocks and bonds purchased through (and often recommended by) a large brokerage firm. Read more
Articles by David S. Rose
How would you break down the process of raising an angel round of investment in 5-10 steps?
1. Understand your business. It sounds obvious, but the majority of entrepreneurs who pitch me have obviously never thought through many of the major issues surrounding their companies. You should know EVERYTHING about your business, product, customers and competition. You should know every metric regarding customer acquisition, conversion and retention. You should have a crystal clear understanding of your business model and your financials. And all of this should be at the tips of your fingers so you can instantly answer any questions you are asked about it.
2. Understand what investors are looking for, what they usually invest in, and why. There is a vast gulf between a ‘cool product’ and an ‘investable company’ and if you don’t understand the difference, you will be doomed before you start. There are many good books on this subject, and you owe it to yourself to read at least one of them before you begin talking to angels. A good beginning would be Bill Payne’s The Definitive Guide to Raising Money from Angels, available as a free download from http://gust.com/definitiveguide.
3. ONLY after you’ve completed #1 and #2 will you then be ready for capital to be applied to your venture. And that capital is going to come from…YOU. That’s right, you should not even consider trying to raise money from anyone else until you have reached deep into your own pocket. This is the case for two reasons: first, because the bare fact is that investors simply do not fund ideas. The expectation is that in an era of increasing technology and decreasing costs, you will be bringing them an operating company with at least some traction. Looked at from their perspective, given two teams equal in entrepreneur, market, business model and potential, why should they invest in one that exists on paper, when the other has reduced its risk and improved its viability by actually getting started? The second reason is that investors want to know that YOU believe in your own startup…and the best way for you to demonstrate that is to show that you have personally put your own money where your mouth is. Keep in mind that any cash you put in will remain in the company as Founders’ Equity, and will only come back to you on a successful exit in which your investors make money.
[3a. Although it is not required per se, and therefore is not being given its own discrete step here, in the real world most startups at this point turn to friends and family for additional capital, in the form of equity or loans, to help get the company to a stage at which it is legitimately investable by third parties. The important thing to note about this is that the money should either go into the company directly as a convertible note without a cap, or (depending on the personal relationships involved) as a personal loan to the entrepreneur, which he or she in turn invests as equity into the company, but will be responsible for repaying even if things don't work out.]
4. With #1 – #3 under your belt, you should start preparing the components you will use to support your pitch to outside investors. These range from outbound materials, such as pitch emails and funding applications, to presentations of your venture in different forms for different purposes, to detailed back-up information that you will be asked to supply during due diligence. A comprehensive list of things you might want is listed in the answer to What materials or software should I use to pitch a VC?, and these can all be neatly gathered into a confidential investor relations site, such as you can create with Gust.com.
5. Now, and only now, are you prepared to start fundraising. This phase is a combination of (to mix several metaphors) WMDs and sniper fire. Start by letting absolutely everyone know that you’ve got a great startup looking for early investors. And I mean *everyone*. I have been led to deals by my barber, my interns, my cousin and my high school classmates. If you hide your light under a bushel, investors simply will not come looking for you proactively. At the other end, do your homework to really understand which investors would be the most productive for you to approach. Some only invest in their home city, others only invest $5,000, still others only invest in biotech, for example. Blindly sending your business plan to every single angel and VC in the world will have zero effect, and simply clogs the system while annoying everyone.
6. Seriously consider applying for funding from your local business angel investment group. There are many hundreds of these across the country and around the world, and virtually all of them accept applications over the transom. If you are invited to come in, even for a preliminary screening, you will have the opportunity to present your business to experienced investors. This will given you both pitching experience and usually solid feedback on your plan. And if you do get funded, the group can be extremely helpful in getting other investors to join in with additional funds.
7. Another avenue that is increasingly a good idea is to consider applying to one of the new breed of accelerators. While yCombinator and TechStars are the two best known, there dozens of others, local, national and international, many specializing in specific areas (including fashion, food, finance, gaming, etc.) Accelerators typically provide several months of intensive mentoring, at the end of which they host a Demo Day to introducing all their graduating companies to a large number of local angel investors.
8. Your goal in all this is to try to find a lead investor. This person will be critical in rounding up other investors, drafting a term sheet, and generally getting the deal done. He or she will be your primary champion, and often mentor. Doing a deal with a lead investor is 3 to 5 times easier than trying to pull everything together by yourself. Among other things, your lead can vouch for you with other investors in their circle, or who follow them on online financing platforms, which can be a good way to finish up a round (via “social proof”) once your leads are in place.
9. Before you start negotiating a term sheet with any potential investor, make sure that you GET A LAWYER, specifically, a lawyer with experience directly in the early stage financing world. This will NOT be your family lawyer, or the one who helped you beat that traffic ticket. There are excellent venture lawyers in every major city, with enough to form a flash mob in places like California, New York and Texas. For more background on this key step, see the answers to “What should one look for in a startup lawyer?”
10. Finally, from the minute you begin engaging with an investor, it is critical to COMMUNICATE early and often. Keep them up to date while circling your round, thank them as soon as it closes, and provide ALL your angels with either quarterly (at a minimum) or monthly (ideal) reports on how the company is doing. In my experience there is a astounding correlation between frequent, thorough communication and successful follow-on funding.
*original post can be found on Quora @ : http://www.quora.com/David-S-Rose/answers *
What is the ratio of equity received for sweat equity vs. cash investment in a new venture?
There is no specific ratio between “sweat equity” and cash in a venture, and that’s actually not a good way to think about the issue. The bottom line is that cash is cash is cash, and everything else is “not cash”. The reason is that cash is fungible, which means it can be interchanged for everything else, from programming skills to vacations on the Riviera. Other things, such as your particular time and effort, are not.
A better way to think about this is to separate two aspects of the “sweat” that one puts into a new venture. These are critically different, and have very different economic attributes attached to them.
The first is the entrepreneurial value of the founder(s) in a new venture. This is what happens when someone starts an enterprise and creates something of value. So if you start a company, and then raise a round of angel investment at, say, a $2,000,000 valuation, the entrepreneurial value of the time and effort it took you to get to that point is…$2,000,000. The point is that the value created has absolutely nothing to do with a quantified effort that it took to get there. You might have created that value by slaving 18 hours a day, seven days a week for five years (in which case the value of the sweat equity is $8.70 per hour), or you might have created that value by having a brilliant concept, execution plan and team that you pulled together in two weeks of leisurely work (in which case the value of the sweat equity is $25,000 per hour).
The second component is the replacement cost of the specific skills and effort that are involved in the particular work. So if the same specific tasks could have been achieved by paying a programmer (or marketer or part-time CFO), say $2,000 on a short term contract, then that is exactly what the replacement cost value of the work would be.
In practice, once a company has been funded and a valuation established, “sweat equity” contributed after that point is usually compensated based on only the replacement cost number, either 1:1 (that is, the nominal salary, what you would have been paid if the cash had been on hand) is simply accrued, or some other ratio (say, 25% or 50% extra), in recognition of the fact that you’re willing to take the risk that it will never be paid if things don’t work out.
*original post can be found on Quora @ : http://www.quora.com/David-S-Rose/answers *
How important is a video pitch to investors for an early stage start-up?
There is no one thing (aside from integrity) that is an absolute, and what you need to have when fundraising for a startup will depend to some extent on how you are managing your funding process. A good list of just about everything you could possibly want to have in your arsenal is listed in the answer to What materials or software should I use to pitch a VC?
If you are going around personally to talk to potential high net worth investor to whom you have an introduction, you probably don’t need a video. On the other hand, if your initial contact with a potential investor is online, then (at least in the US, although I assume elsewhere as well) a video can be very helpful. In the context of an organized group of angel investors, it is even more important.
The reason for this is that despite all protestations to the contrary, angel investors to a large extent react on a somewhat intuitive basis, with their faith in the entrepreneur personally being one of the most important factors in their decision process. And whether it is true or not, most people will tell you that they believe they can tell much more about a person from watching them face to face, than they can purely from their writing.
So when reviewing 20, 50 or 100 submissions for funding during the screening process, I have found that it is incredibly helpful to be able to watch a quick (2-3 minute) video elevator pitch so that I can get an instant gut feel for the entrepreneur and the company. I’ll be looking for all those same clues that I’d be watching for during an in-person meeting.
*original post can be found on Quora @ : http://www.quora.com/David-S-Rose/answers *
How much stake (equity) is an idea worth?
It depends on the quality of the idea. I’m a firm believer in Derek Sivers‘ calculus, which goes like this:
AWFUL IDEA = -$1
WEAK IDEA = $1
SO-SO IDEA = $5
GOOD IDEA = $10
GREAT IDEA = $15
BRILLIANT IDEA = $20
The real value, of course (as other answers here have noted), comes from executing on the idea. And to see how that calculation works, check out Derek’s classic, seminal article on the subject:
*original post can be found on Quora @ : http://www.quora.com/David-S-Rose/answers *
How do serial entrepreneurs such as Kevin Systrom and Jack Dorsey sustain themselves while working on a project that doesn’t yet generate cash-flow?
Unfortunately there is no magic involved here. In the two specific cases you mentioned, one had made money from his previous startups, and the other had paying jobs at Google and Nextstop.
Typically serial entrepreneurs are serial because they have successfully exited from Startup One before beginning Startup Two, and they use the first one to fund the second. If not, and they have neither savings nor parents to help them out, they need to find a paying gig (either a traditional job, or a revenue-generating lean startup such as Travis Corrigan describes) to fund their living expenses while they get the next startup off the ground working nights and weekends.
Once the startup has some traction, if both the idea and the entrepreneur are really good there is the possibility of raising seed capital from friends, family, fools or angels, in order to fund the company until it either gets to break-even (Square has $100m in revenue!), or (like Instagram or Twitter) explosive customer growth that can eventually be monetized.
*original post can be found on Quora @ : http://www.quora.com/David-S-Rose/answers *
Industry Experts, Invested Interests
How many start-ups in the US get seed/VC funding per year?
In very general terms, roughly 1,500 startups get funded by venture capitalists in the US, and 50,000 by angel investors. VCs look at around 400 companies for every one in which they invest; angels look at 40.
There are several million “startups” that are formed each year, so one way of looking at it is that there are several million “great people with a good idea who give up because they just cannot get initial funding”.
On the other hand, those VCs and angel investors spend all their time proactively seeking the best companies they can find, and despite their concerted efforts at picking the best of the best, fully half of the ones they do fund will go out of business with a couple of years. Looked at that way, of the 50,000-60,000 deals that get funded each year 30,000 of them should not have been funded (let alone the other few million who wanted funding)… therefore there are no really great people with really great ideas who go unfunded.
Of course, the reality lies somewhere between those two extremes, but my personal guess, as someone who is familiar with the issue from both sides of the table, is that “lack of available funding for truly deserving deals” is not one of the biggest challenges facing entrepreneurship in the US.
*original post can be found on Quora @ : http://www.quora.com/David-S-Rose/answers *