A top global VC’s important lessons on securing venture capital

Raising capital is a massive challenge for any startup. It’s not just the who, what and where – it’s the how.

There are generally two types of capital available to a startup or scaleup: debt and equity. Debt capital is the kind you’re used to: you borrow money from a lender and pay it back with interest. Equity capital, on the other hand, means you sell company shares in exchange for funding.

For high-growth startups, the most common form of equity capital is venture capital (VC). VC can be provided as technical or business expertise as well as monetary form, depending on how involved a VC firm plans to be.

“Startups are interesting because they need some of the most sophisticated products really early on but are also capital constrained,” Timothy Hui, Senior Manager for Startups and VC-in-Residence at global accounting firm BDO Australia said at the recent Startup Daily From Idea to Unicorn event series.

“So, it’s a fine balance that we play between just-in-time delivery, but also making sure we set you up so that we don’t have to reverse engineer anything or backtrack on anything in the future.”

Understand your numbers

If you want to raise venture capital, Hui can’t stress enough the importance of knowing and understanding your numbers. Investors are looking for a scalable business opportunity with practical unit economics and you’ll need the numbers to prove your track record.

“We put in the investment early on to make sure that we have a robust management layout to your profit and loss statement,” Hui noted. “Which can also be used for your board reporting, which can also be used for your general stakeholder or prospective investor list. So, understanding your numbers is critical.”

Hui said that the best approach to valuating your startup is to be reasonable with your numbers. A little bit of optimism is fine, but aim for the highest valuation that makes sense for the stage you’re at.

For startups in the seed stage, with little or no operating income (or even a saleable product) and high outgoings, valuation can be especially tricky. This is where techniques like market multiple analysis (where you value your company against what similar companies in the market have been acquired for) can give a reasonable indication.

Hui also pointed out that in today’s market, you need to be prepared for 10 or even 20 per cent dilution. So, a funding partner will be looking for buckets of monthly burn that are acceptable for each stage of your startup’s life cycle. They will calculate your rough valuation based on that burn.

Have a solid business plan

The majority of venture capital investors will be looking for a solid business plan that shows well-managed, scalable projected growth.

“When it comes to the numbers, it’s about the vision,” advised Hui. “For VCs and for angels and early-stage investors, it’s about finding the opportunity.

“The last part of your business is money. It’s actually building in revenue and how that works as you go through the stages of growth. Inevitably, you’re going to have all these KPIs and milestones that will give you indications of growth, but behind the scenes, it’s about how you actually have that transaction.”

You business goals and strategy will underpin every aspect of VC negotiation. Where your startup is headed and how you plan to get there is key to demonstrating the potential of your business.

Make teams strong

One aspect of your business plan that’s critical to your success is the way you build your team and company culture. To ensure the success of both, Hui is all-in with adopting an ESOP (employee share option plan).

“If you don’t have an ESOP, I really encourage you to put it in place and you don’t have to necessarily have to ESOP plan,” advised Hui. “If you like, from day one you might have a back-of-a-napkin [ESOP] until you do your first raise, and then we cement it all into place.”

Hui reckons an ESOP is the best way to get buy-in from everyone in your team. “When Eventbrite IPOed, Eventbrite had this pure philosophy where every single person down to the kitchen hand had some element of ESOP,” he said. “And so, when they IPOed everyone in every single office globally was able to hold a glass of champagne and say, we were part of that journey, and we had an upside to it.

“And to this day, me telling that story and just imagining that gives me shivers down my spine on why we do ESOPs.”

Timothy Hui of BDO talks venture capital funding at the recent Startup Daily From Idea to Unicorn event series. L-R: Martin Karafilis, Tiliter; Timothy Hui, BDO; Tom Humphrey, Blackbird Ventures; Simon Thomsen, Startup Daily. Image: Pinstripe Media

Consider your company life cycle

It’s especially important to have a strong team and a solid business plan when you’re in a seed-stage or early-stage (series A and B) funding round. Keep in mind that early-stage funding is significantly more risky for the venture capital investor than later-stage funding. So if you’re looking to fund your first raise, your projections will need to be especially tight.

“Think about your next raise more than your first raise or the raise that you’re doing right now,” Hui advised. “So, if you’re going through your first raise or your second raise, or even in the later stages, as you’re moving into private equity, think about that next raise…”

Another key consideration here is scaling only when your channels are hitting saturation point. If you try to grow any sooner, you can get wiped out by bigger competitors you’re not ready to take on. So focus on proving concepts, growing your customer base and developing your IP, team, channels and overall company culture before your start pitching to VCs to grow your business.

Perceived loss of control

“There are two things I find [people] really get stuck on when negotiating deals,” Hui said. “One of them is valuation and the second one is a sense of perceived loss of control. And so, that’s the balance that you’re doing in economic term and a financial term.”

We’ve all heard the story of the founder relegated to employee status after investors start making all the big decisions. The fact remains, unless you can swing a massive loan, at some point you’re going to have to give up equity in order to scale up.

One of the most underrated negotiation tools that a startup has is what Hui talked about above: starting with a fair valuation in the first place. That way, no matter what stage you’re at, your investors have an opportunity for a great return.

“What you should be doing as a founder is reviewing your numbers,” Hui stressed. “So, you should be constantly reviewing your financial model so you can work out what are you on track with or what are you against?”

Remember, your venture capital partner has the same objectives as you do: ensuring your startup stays viable and scaling it as high as you can.

Build ongoing relationships

To do that, a good VC firm offers more than just money.

“It’s really [about] finding that team that understands your business and can add value to it,” said Hui. “We talk internally around BDO around the focus on not only just having the compliance work but being the trusted advisor… for us to be there as an available advisor on a day-to-day basis is critical.”

Ironically, the more involved your VC is in your everyday business dealings, the more likely they will be to leave you to it. That’s because transparency in your operations allows your VC partner to see your long-term goals and whether you’re on track to achieve them.

“Look, inevitably founders always break their financial model,” said Hui. “So, be it in three months’ time, in eight months’ time, or when you do your next raise. The model is really about the logic, not actually that number that we’re going to benchmark you exactly to…”

It’s insights like this that point to another big advantage of your VC partner’s expertise: while everything is new for you, your VC firm has been here many times before and they have the ability to benchmark your startup against others in the market.

If they’re a global firm, they can even make going global much less complicated. “We pick up the phone to the team in America and we go, startups coming your way,” said Hui. “They’re landing on this date, just look after them.”

Find out more about BDO’s services for startups and scaleups here.