I AM RAISING MONEY FROM INVESTORS
Few tasks in business have a higher risk of failure than raising capital. There is a good deal of preparation that consumes time, energy and capital. There is the stress of feeling the need (which may not be real) to respond to investors’ needs and whims almost on-demand. There’s intense networking, responding to due diligence, and frequent rejection. Then, there is the pressure that your employees and your existing investors are depending on you to come through, protecting their interests, while securing the company’s short-term future.
When you finally are presented with an opportunity to raise capital, you’re faced with a double-edged risk - set your valuation too high, and you scare off a potentially legitimate (and critical) investor, depriving your company of much-needed capital. Set your valuation too low, and you set your return threshold (and that of your other investors and employees) so far behind that you may never fully recover.
In addition, professional investors rarely accept plain vanilla common equity. They often require either preferred shares or convertible debt, which complicates the valuation and increases the founder's risk. Because preferred shares and convertible debt contain embedded options, their value relationship to common is not simply 1 to 1, nor is it a neat formula, such as common stock being worth 25% of its preferred share counterpart. A $10 million valuation with a convertible preferred stock investment results in a founder's return on investment that is far less than if the $10 million valuation were the result of a simple common stock sale. And that’s before considering terms such as preferred dividends, board seats, participation features and anti-dilution rights.
If you’re in the rare position where you have multiple investors bidding to invest in your company, these risks might resolve themselves. However, most startups, especially by first-time founders, don’t have this luxury. You have to know the market and be able to do the math that translates a preferred share investment into a common stock equivalent value. Fortunately, you can manage these risks even without the benefit of an active auction for your stock. A valuation of your business will empower you to negotiate with the knowledge of market pricing and terms for businesses such as yours. Whereas many potential investors will have done many deals, and thus benefit from that deal experience, this might be your first ever capital raise, and a valuation can make you as knowledgeable about your company’s value as any investor you’re likely to meet.
If you’re concerned about achieving the best outcome you can from your capital raise, contact High Score Strategies for a consultation. With a more level playing field that is accomplished with improved knowledge on your part, you can negotiate a good deal that preserves your return, protects your existing investors, and reinforces employee morale.
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