Investment landscape then and now

Thousands of start-ups get funded each year by Business Angels, VCs and Accelerators. But the ’needs and wants’ have changed in the last 5 years. What are those main differences should be considered before visiting an investor?

The entrepreneurs must understand the landscape to successfully fund a startup company. There are many things to consider before introducing yourself in front of investors so let me sum up some of the key indicators before you go for a „money run”.

1. Software solutions, cloud services such as software-as-a-service help management to focus on the product development thus decreased technical risk, but the same time significantly increased market risk. Check out the solutions of Neostratus investment of DBH Group.
2. More companies being funded means more companies looking for growth money, as there is simply not enough market space to create and differentiate hundreds of new startup companies in the crowded consumer interstitial.
3. VC’s invest in later rounds (Series A and B) in order to decrease the risk of investment
4. Higher valuations means more risk and lower returns for the people who do the deals
5. The role of early stage investing is moving to Business Angels, Incubators and Accelerators. These investors are giving rather micro venture capital for start-ups. This amounts of finance is typically less than traditional venture capital which is money to fund growth (Series A).
6. Angels typically invest much smaller amounts
7. These changes impact not only seed funding but follow-on or Series A funding as well

The investment landscape 5 years ago was different

Early stage capital mostly came from venture capitalists at relatively low valuations. For example EUR 500k was invested at a EUR 1.5M pre-money valuation (25% post-money), target exit was EUR 40M – EUR 60M thus investors were looking for a render of 20 to 30 times on initial investment. Pre-revenue was really common for Series A, you didn’t need necessarily an MVP only a product idea, because you had a better market potential, not necessarily ‘proven’.

Today venture capital firms are investing at higher valuations

For instance EUR 1 000 000 invested at a EUR5M pre-money (’post’ equity of 25%), target exit is EUR 120M – EUR 180M, pre-revenue is rare, Series A – EUR 300k-EUR 500k revenue for EUR 300k-EUR 500k revenue investment, Series B EUR3M-EUR5M revenue for EUR10M growth round, you need a working MVP and a proven market. And to add to that in many cases, capex (capital expenditures) is easier to obtain than opex (ongoing operating expenditures, for things like cloud services). It is getting harder and harder, isn’t it?

As you can see most investors want to own initially 20-25% of your company. They may consider 15% if co-investing with another investor, but then consider giving away 25-30% of your start-up. Only a few investors such as Business Angels and seed investors (incubators, accelerators) will want to own 8-10% or they buy an option to invest more later with a discount on a pre-money valuation.

So these were some principals that are changing in the landscape of venture capital investments and although you have to find your own way to grow your company you should consider these differences when preparing for an investment round.

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Sources:

• Michael Pratt, New Venture Finance: Startup Funding for Entrepreneurs, University of Maryland, College Park
• robgo.org
• wikipedia
• kittysplit.com
• www.wealthdaily.com
• collaboration.about.com
• paul.kedrosky.com