When it comes to business funding, it is very hard to raise capital than you may think it would be no matter whatever is the given condition of your business and the settings. It will always take longer than you think and will become even harder if you delay or not follow the proper steps to raise funds.
Therefore, follow the first and most basic tip of the experts: Plan for that and plan as early as you can. Experts also have a lot of other things to suggest that will help you to raise the required money far more easily and at a comparatively quick time.
- You will first need to know the business, startup and otherwise, funding basics during the initial stage and the early years of its existence.
- It is also required for you to know the several pros and cons of preferred stock offerings, convertible debts and others.
- In addition to that you must know the most important thing, the deal terms and what the things are that you should look for as an entrepreneur while looking for sources to fund your business.
All these are applicable to all, whether you are a founder or a startup CEO, first time startup CFO or any other. These facts and information will be very valuable for you to understand business funding in detail as well as its nuances, pros and cons and the process to follow to gain the maximum.
You will be better off when you know the key terms and aspects when you go for convertible debts from any source, traditional banks or private lenders or even when you make preferred stock offerings, as per your business requirements.
The seed stage features
Historically, the seed stage investment rounds are usually done with a convertible debt offering. The primary reason for conversion discount played the most important role in such preference along with a few other specific factors such as the:
- Rate of interest
- Duration and
- Deal terms.
However, with the Angel investors want to make a change in their loaning principles have made the seed stage investments and debt offering more complicated now. The Angel investors are now more willing to negotiate on a cap in the valuation process for such conversion. This approach effectively overthrows the tenacity of a convertible debt offering. This is because it implicitly sets a valuation on the company.
The consequences and changes
As a result, the convertible debt market has also experienced a negative influx which has eventually given rise to the “Series Seed” preferred stock offerings. This is a specific type of startup business funding wherein the key deal terms include liquidation as well as valuation preference. Ideally, this has resulted in the avoiding the other key deal terms by the business owners that need to be negotiated in a Series A financing.
When you look into the Series A financing that also happens to be the most traditional and the first institution round of financing, you will see that it will be typically lead by a venture capital firm. If you are a bit confused here, then you must look at the specific laundry list of such deal terms. It is important for all entrepreneurs to know and understand these that include:
- Anti-dilution or “ratchet”
- Corporate governance and board seats
- IPO threshold
- Liquidation preference
- Co-sale rights
- Participating versus non-participating preferred stock
- Blocking rights
- Voting rights
- Rights of first refusal on future financing rounds and
- Caps on participating preferred stock.
However, simply knowing about these basics is not enough to get what you want. You will certainly need the help of a good attorney to represent your company. Just make sure that the attorney has enough experience regarding all stages of startup business funding for entrepreneurship and private companies. It is also required that the attorney have a lot of experience in M&A transactions and IPOs along with it.
The term sheet basics
There are different types of financing available for startups. However, it is required to keep the cost of raising initial capitalvery low. This you can do is by bringing in the initial money from the angelsin a convertible note structure.
The most significant reason to do that is to keep the terms under your control because things tend to become much more expensive otherwise.
However unfortunately, things have gotten a little bit more complicated now because the angel investors have gotten more sophisticated. This makes the deals more expensive as the angel investors are willing to negotiate more freely around the terms of the convertible notes and shared equity.
- The reality of such a change in attitude of the angel investors is that there is a change in the market as well. Convertible notes are now no more the preferred first round of funding.
- As a result you will now see much more of Series Seed funding which is the very basic preferred stock that helps in the initial funding of a business startup.
- You can actually automate all the necessary documentation that will keep the cost of convertible notes low. You can generate a term sheet, note purchase agreement, and the note simply by filling this one page sheet with all the terms.
- With such a low cost, people are now negotiating more on caps on the conversion. This means that you can easily take away the real advantage of convertible note financing. That eventually means you will not have to negotiate on valuation.
- Moreover, when you negotiate for a cap you will be able to get even a bigger discount as compared to the financing that you are about to take.
As an entrepreneur, if you think that the investors will invest on a convertible note at a straight discount, you should go for that. This is the best thing you can do for your company and you will be better off with that as well. Things will be cheaper and the most important benefit that you may enjoy is that you will end up giving away much less of your equity.
Marina Thomas is a marketing and communication expert. She also serves as a content developer with many years of experience. She helps clients in long-term wealth plans. She has previously covered an extensive range of topics in her posts, including Money saving, Budgeting, Business Funding and start-ups.