It is a rare founder who has made all the right mistakes when trying to raise capital for their startup. In fact, most founders do not even realize the potential mistakes they are making until it is too late to fix them. Raising funds is hard and capital is plentiful, but avoidable mistakes can make all the difference between closing a check with a great investor and walking out of an office permanently excluded from further consideration.
Most mistakes have a predictable root cause, and as a founder you may be falling into the same traps over and over again. Understanding what goes wrong can help you avoid costly mistakes in the fundraising process. These five common mistakes in startup fundraising may be more damaging than you realize, but the fix is relatively straightforward.
Mistake 1: Raising Capital Too Early Without Product-Market Fit
One of the most common and potentially most damaging errors startups make when seeking funding is to go out too early. Founders are under enormous pressure to find capital as quickly as possible, and therefore often go out before they have achieved meaningful product/market fit, or even before they have rigorously tested and established core product hypotheses. As a result, the majority of their story is told before any evidence can be presented to counteract the inherent weaknesses of the idea.
Hastening too early can be detrimental for your startup because it eats away at your most valuable asset: the goodwill you have with VCs. When you go out with a half-baked pitch, receive soft rejections, and then return six months later with meaningful progress, VCs will remember the first version of your company. Deciding when it is the right time to raise is therefore critical, and the window in which you can do this is much narrower than founders give themselves credit for. Timing it well makes the rest of the process a whole lot easier.
Mistake 2: Poor Pitch Deck That Fails to Impress Investors
A weak pitch deck is a sign that the founder does not have a strong grasp of the business they are trying to fund. The investors at serious firms spend no more than three minutes reviewing a pitch before deciding whether to grant a meeting to discuss further. This means the underlying problems with your company need to be obvious within the first two slides.
Most pitch decks make common mistakes. The most prevalent errors are either making the same mistakes your competitors make or doing something so different that it raises eyebrows negatively. Some of the most frequent mistakes include starting the deck with a description of the company, over exaggerating with adjectives instead of using numbers, making the deck too long (typically 20+ slides), and putting the ask of the funding at the end of the presentation. In reality, a killer pitch deck should be brief and visually driven, answering the core questions that an investor would have and one or two supplemental questions after hearing your pitch. See here for a step by step guide on building a pitch deck.
For those interested in getting a better sense of what that looks like in practice, we put together a blog post on building a winning pitch deck for investors, covering the typical format of such a deck and a number of common mistakes that startup founders make. [Link to blog 3]
Mistake 3: Targeting the Wrong Investors for Your Startup
Sending your startup deck to all investors you can find is a surefire way to waste time. In all likelihood, those are the last people you ever want to meet. Why? Because every investor has well defined guidelines (mandates) for what they look for before even considering to meet with a startup i.e. stage, industry, geo, check size etc. Throwing something at a late stage growth investor who only invests in much later companies with huge running costs is absurd. Same goes for sending a deck to a consumer focused fund that only invests in B2B SaaS companies. People will find out if you’ve done your homework or not, and it probably won’t be good.
Most founders don’t make the critical mistake of casting too wide a net. Instead they rely on a targeted and research driven approach. Look for investors who have recently invested in companies similar to yours, at a similar stage. Look at what they have written about their thesis in recent press releases, articles and interviews. Make a short list of the relevant investors and then make some warm introductions and meetings. This will be far more valuable than sending out a long list of cold emails to strangers.
Mistake 4: Setting an Unrealistic Startup Valuation
Raising too high of a valuation for your startup can give off the impression that you’re not realistic or ambitious, but overly optimistic. When meeting with potential investors, founders would do well to remember that investors use comparable transactions, and revenue multiples to determine a fair valuation of a company. Raising a valuation that is outside of this range can immediately raise red flags and cause an investor to view the founder as inexperienced or otherwise credibility challenged.
For early stage startups valuation is as much art as it is science. The numbers should be grounded in ‘reality’ whether it’s comparable venture financings, industry benchmarks, your latest revenue or ARR (Annually Recurring Revenue) and a reasonable view of future growth over the next 12-18 months. Also, be careful not to start the conversation too high. Remember that the first number you toss out is likely to be your ceiling for negotiations. Do you really want to walk in and announce that you think you’re already a $20 million revenue ARR company?
You should have a good sense for the pre-money valuation (valuation before investment) and the post-money valuation (valuation after investment) for your company and understand the resulting dilution for founders and employees in future venture financings before walking in the door with a single investor.
Mistake 5: Weak Financial Model and Unrealistic Projections
For a startup, it is often the financial model created for due diligence that can most quickly undermine credibility if not developed well. Investors will scrutinize the unit economics of your business, stressing test assumptions behind growth projections. A startup that claims to be profitable in 6 months, when comparable businesses have taken 3 years to reach profitability, betrays overly rosy assumptions for growth or a gross misunderstanding of the business.
You don’t need to get it all right, no model is perfect. What you need is for investors to see that you understand the drivers of your business, that your assumptions are real data or clearly labelled, and that the amount of capital you are asking for is appropriate for the commitments you are making. Most of all, you need to demonstrate great intellectual honesty in creating your financial model. It is far better to have an imperfect, yet honest, model that has been stress tested by someone outside the founding team before it is presented to investors.
Frequently Asked Questions
1. What are common startup funding mistakes?
In order to avoid catastrophes when launching a startup for funding, it is best to avoid a few fundamental mistakes. Fundraising too early is a common failure for many startups. This is often caused by premature perception of readiness by founders and earlier investors. In addition to selecting the wrong investors to bring into your funding round, your pitch deck must be concise, well-understood, and clear to all stakeholders involved. It is also generally unwise to set a valuation with investors prior to discussions, and never go into due diligence without a robust financial model. However, these mistakes can be avoided with the right amount of preparation and self-awareness when entering the funding development process.
2. Why do startups fail to raise capital?
Startups fail to secure funding for a number of reasons. The most common reasons for this, in order, are: 1) a poor investor-founder match up (trying to get funding from investors who don’t typically invest in that stage or sector); 2) insufficient progress for the valuation being asked for; 3) poor storytelling for the company and industry; and 4) unfavourable terms of investment agreed to prior to talking to investors that then surface during the fundraising process. Lastly, timing (raising too early or too late for the company) adds complexity to the process as well.
3. How important is valuation in fundraising?
Valuation is one of the most important things that you get wrong or right in your fundraising process. Because the valuation determines the amount of equity that founders are going to give up in order to bring in the investment, it ends up determining the valuation of every subsequent investment, for better or worse. Valuation too high without appropriate justification will erode the investor base’s respect for you as a founder and limit your ability to negotiate upwards.
Valuation too low will leave money on the table and can indicate a lack of confidence or competence on the part of the founder / management team. This is why it is so important to come in with the appropriate analysis of comparable investments (in similar businesses, at similar stages), an accurate assessment of your current business progress / metrics / outcomes, and a reasonable understanding of the dilution that is going to occur as you add investors and pursue subsequent rounds of funding.
4. What do investors dislike most in a pitch?
A "shaky" presenter (67%). Venture investors look for startup pitches on behalf of LPs (Limited Partners) who have entrusted their capital to the general partners running the firm. I asked a group of them for their top bug bears and some of their responses were predictable and revealing. These included founders who don’t know their financials well and projections that fail back of envelope tests. Second, pitches that get the problem backwards — concentrating on warm and fuzzy details about the history of the organisation rather than confronting the underlying issue. And third, reluctance to explain how you plan to spend the capital and evasive answers about how you’ll use it once it’s in the bank. Visible disagreement between founders was a big red flag too. We back people as much as ideas and an investor who witnesses visible disagreement between founders will probably not invest in your firm.
5. Can advisory services improve fundraising success?
This is particularly true for first time founders. Advisory support can be extremely valuable as it enables founders to prepare in key areas that most founders, including those with significant experience, grossly underestimate. An experienced advisor can pound on your message to test it for holes, help refine your financial model, identify the handful of relevant investors and key partners that you should focus on, anticipate due diligence objections that you should address ahead of time, and open a handful of doors that can shortcut cold email outreach (which an experienced founder knows only achieves a hit rate of ~1-2% with the best email lists).
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Nusrat Ahmed
